Power Integrations Inc (POWI) 2003 Q4 法說會逐字稿

Thank you for holding. You're online for the Power Integrations fourth quarter 2003 and year-end conference call. At this time we're gathering additional participants and we'll begin momentarily. We thank everybody for their patience and ask that you please stay online. Please stand by. We are about to begin. Good afternoon, everyone, and welcome to the Power Integrations' fourth quarter and year-end 2003 earnings results teleconference. Today's call is being recorded. At this time, I would like to turn the conference over to the Chief Financial Officer, Mr. John Cobb. Mr.Cobb, please, please go ahead.

Good afternoon. Thank you for joining us to discuss Power Integrations third quarter and year end financial results. I am John Cobb, Chief Financial Officer, and with me is Balu Balakrishnan, President and Chief Executive Officer. Before I begin with an overview of the quarter and year, I would like to remind you that our discussion today will include forward-looking statements reflecting management's current forecasts of certain aspects of the Company's future business.

Forward-looking statements are denoted by such phrases and words as "will" "believe" "should" "expect" "outlook" "anticipate" and similar expressions that look toward future events or performance. Forward-looking statements are based on current information that we have assessed but which, by its nature, is dynamic and subject to rapid and even abrupt changes. We may also make forward-looking statements in response to your questions. Our forward-looking statements are subject to risks and uncertainties which may cause actual results to differ materially from those projected or implied in our statements. Risks and uncertainties affecting our business, which could cause actual results to differ materially, are discussed in our most recent reports on forms 10-K and 10-Q filed with the Securities and Exchange Commission. I will now turn the call over to Balu, who will take you through an overview of the business.

Thank you, John, and good afternoon, everyone. Today we are reported 2003 fourth quarter and year-end results. While our fourth quarter revenues are $32.3 million, we are below our expectations, we are pleased to have achieved earnings of 16 cents per share to meet the lower end of our EPS guidance. For the year we achieved revenues of $125.7 million, a record for Power Integrations. We are one of the few companies to have passed revenue levels from before the industry downturn. In addition, we doubled our operating income and achieved EPS of 57 cents, which is the midpoint of the 50 to 65 cents guidance range we provided a year ago. Demand for energy efficient integrated circuits across a diverse range of customers drove revenues to these record levels. We gained significant market share along with revenue growth of nearly 30% over 2002 in all of our market segments other than the cell phone market. At the same time, our operating efficiency and continuing reduction of manufacturing costs led to our strong overall financial performance. Heading into 2004, our market-leading products, coupled with an improving competitive pricing environment and increasing demand for energy efficiency, positions us very well for continued strong revenue and profit growth in 2004 and beyond.

Now, let me move on to fourth quarter results. Fourth quarter revenue is up 32.3 million, for the second highest in the Company's history. We were down 6.5% in the third quarter, but up 10.6% year over year. Despite the revenue shortfall in the fourth quarter, we achieved net income of $5.3 million or earnings of 16 cents per share. This represents a 48% increase in net income from a year ago. We also achieved an operating margin of 22% for the quarter. Our revenues in the fourth quarter of 2003 were below expectations due to lower shipments into cell phone markets. We believe this resulted from a combination of factors as largest cell phone OEMs including inventory issues, delays, and component shortages. Since we have a high rate of turnover business and short lead time, we felt the impact immediately while the impact to other companies might be delayed up to a quarter. We believe these customer-specific issues do not represent any fundamental change in our longer-term cell phone business. We were very pleased that our non-cell phone-related revenues grew 4% sequentially during the quarter. Now on to performance in each of our market segments during the fourth quarter. Revenues from our communications segment were down 25% sequentially. As I mentioned, our cell phone-related shipments were impacted by customer-specific factors.

For example, we believe one customer reduced its inventory; another customer had new product delays and excessive inventory; and several customers shipped less than they expected because of component shortages, especially color screens. It is unclear whether these issues have now been resolved at all of these customers. Revenues in the fourth quarter from the consumer segment were up 10% sequentially and 83% year over year. Set top box revenues were up 130% from the fourth quarter of 2002 and consumer appliances grew 71% over the same period. Our growth in applications such as home appliances and DVD players continues to be driven mainly by adoption of TinySwitch II and GX to meet new global efficiency guidelines. We expect market penetration in the consumer segment to continue. Revenues from our computer segment were down 7% sequentially but were 19% higher than revenues in the same quarter last year. LCD margins continue to be one of the strongest areas within the computer segment with fourth quarter revenues up 75% from a year ago. We expect continued strength in the computer segment primarily driven by further market penetration into LCD monitors and PC stand by. Revenues from the industrial segment were significantly higher sequentially and more than doubled year over year. We expect our market penetration in this segment to continue. With that summary of the fourth quarter, let me now spend a few minutes summarizing our performance in 2003. As I mentioned, we had an excellent year.

Our strong overall performance in 2003 was primarily driven by continuing acceptance of our products into diverse markets, our ongoing effectiveness in reducing manufacturing costs, and by our operating leverage. Strategically we maintained our -- for highly integrated power supplies. This was driven by several key factors, most notably the continued rampup of TopSwitch-GX and excellent execution on our diversification, market penetration, and cost reduction strategies. It is evidence that TopSwitch-GX and TinySwitch II continue to capture growing share of AC-DC supply market. TopSwitch-GX grew 230% over 2002 and TinySwitch II grew 65%. We expect the ramp to continue. The efforts to diverse fie diversify into new markets were successful. Through our expanded portfolio of markets and highly targeted marketing programs we further penetrated many existing markets, entered previous untapped markets like DC power supplies, and attracted many customers who elected to use our technology for the first time. As a result we have become significantly more diversified. Our revenues grew nearly 30% over 2002, as I mentioned earlier. Revenues from our consumer segment grew 40% and now make up almost 30% of our business. This was primarily driven by 43% growth in DVD players, the nearly doubling of our revenue in set top boxes, and an increase in our home appliance revenue of 37%. Revenues from computer segments grew 23% and now account for 22% of our revenues. Industrial segment revenues grew 59% from the prior year. Revenues in our communications segment, wisdom aided by cell phones -- which is dominated by cell phones, was relatively flat in 2003. This is the only market segment where we did not gain market share last year. This is primarily because we already have a high share of market and prior to ^ we could not address the lower end of the market. With the introduction of LinkSwitch, we have now started to penetrate the lower end of the market. Copper prices have risen significantly, increasing the cost of linear transformers.

We are also beginning to see indications of stabilizing discrete prices. As a result of these factors along with the ever tightening energy efficiency requirements we are expecting to gain market share in cell phones in 2004 and beyond. Revenue mix by market for 2003 was: communications 36%, consumer 28%, computer 22%, industrial 8%, and other 6%. We expect revenue mix by market for 2004 to be: communications 34%, consumer 30%, computer 24%, industrial 8%, and other 4%. Finally, 2003 was a year that our technical leadership continued and our rate of innovation accelerated. We increased our pattern portfolio from 56 U.S. and 48 foreign patents at the beginning of the year to 81 U.S. and 61 foreign patents. Now, let me turn to the status of our products. TopSwitch-GX and TinySwitch II continued to experience strong design activity in all of our markets. Both product families introduced approximately 3 years ago were the main revenue growth drivers in 2003. Revenues from TopSwitch-GX which addresses applications between 10 and 250 watts grew 230% over 2002. In the fourth quarter, TopSwitch-GX had a wide range of applications including set top boxes, LCD monitors, LCD TVs, audio amplifiers, DVD players, server standby, and a number of industrial and other consumer applications. We remain very pleased with the number and diversity we have achieved with TopSwitch-GX. TinySwitch II, which addresses applications between 2 and 20 watts, were ^ all four market segments. That included cell phone charges, PC standby, DVD players, PD A's, home appliances, and industrial applications. Revenues from TinySwitch II grew 65% over 2002. We anticipate the level of ^ for TinySwitch II and TopSwitch-GX to remain strong over the next several quarters, contributing significantly to revenue growth in 2004 and 2005.

Turning to our most recently introduced products, DPS switch and LinkSwitch. DPS switch, our first product family, designed for distributed power applications in the 300-watt range was introduced in June of 2002. In the fourth quarter, DPS switch had several low volume design segments in communications segment and one in the computer segment. Since we introduced DPA-Switch, it has been in our target areas, namely telecom, networking, digital phones, including Voice-over IP, service and industrial. We started production on the DPA-Switch in 2003. The market is highly fragmented and a relatively new market for us, so we expect DPA-Switch revenues to grow gradually in the next several years, similar to the rampup of TopSwitch-GX. LinkSwitch, which was introduced in September of 2002, is intended to help manufacturers replace bulky, inefficient linear transformers, also known as energy vampires used in the 0 to 3-watt range. We estimate this market to be more than 1 billion units a year. In the fourth quarter, LinkSwitch had ^ in our communications, consumer, and industrial market segments. In the communications segments, we had another high watt design with a cell phone OEM to replace linear transformers with highly integrated power supplies using LinkSwitch. We now have two major designs and have started production quantity shipments on both.

LinkSwitch design activity remains strong primarily in cell phones, home appliances, and industrial applications. The cell phone design activity includes several high-volume opportunities. As I mentioned earlier, copper and iron prices have risen significantly over the last six months, increasing the cost of linear transformers and making LinkSwitch an even more attractive solution. As a result of these factors, plus ever-tightening energy efficiency requirements, and the introduction of LinkSwitch-TN, which I will discuss in a moment, we expect significant growth in LinkSwitch product family revenues over the next several years. Two days ago, we announced availability of LinkSwitch-TN, the newest member, designed to address nonisolated AC-DC supplies. We expect these to further penetrate and diverse diversify our revenues and customer base. They are frequently used to power electronics that control many appliances -- home appliances such as dishwashers, washing machines, rice cookers, vacuum cleaners, and personal care products such as electric toothbrushes. They're also used in industrial applications such as utility meters, motor controls, and lighting. Even though existing products are capable of addressing nonisolated applications, LinkSwitch-TN is much more competitive. This positions us to more rapidly penetrate the nonisolated portion of these markets.

We are very encouraged by the high level of interest shown by manufacturers which have sampled LinkSwitch-TN. Revenue mix by product family in 2003 was: TopSwitch I and II at 19%, top FX and GX at 29%, TinySwitch I and II at 50%, LinkSwitch and DPA-Switch defined at ^. The mix in 2004 is: TopSwitch I and II at 12%, TopSwitch-FX and GX at 20%, TinySwitch I and II at 50%, and LinkSwitch and DPA-Switch combined at 8%. Now on to our outlook for 2004. In 2004, we intend to remain focussed on the long-term growth strategies that have been successful to date. Diversification of our end markets and customers, further penetration of key targets, product and design support innovations that enhance our ability to sell to customers, and a commitment to leadership in energy efficiency. We believe that energy efficiency standards will continue to drive interest in adoption of our products. For instance, the European Union standard already has a 750 milli watt limit on standby consumption of low external adapters. In 2005, this consumption level is being tightened to 3,000 milli watts for low power adapters.

The European Union has now proposed a further tightening of this limit to 150 milliwatts starting in 2007. In addition, for the first time, the proposal also imposes minimum efficiency standards during normal operation. We believe these requirements will, for all practical purposes, rule out the use of linear transformer based solutions for external adapters. The increasingly stricter global electrical efficiency appliances with the combined cost of colder technology, position our products for excellent growth over the next several years. Operationally, we are on track on our long-term goals to reduce manufacturing costs and provide additional capacity. We expect to transfer an increasing percentage of our products offshore for tests over the next two years. We are also on track with qualification efforts with our third foundry ^. In addition to these cost saving initiatives, we will continue to reduce manufacturing costs, silicon costs, and package costs. Also, as always, we will continue to pursue technical innovations that could provide additional cost savings. These efforts should provide us with continuous cost reductions for the foreseeable future, giving us pricing flexibility to continue our profitable growth.

Now on to our guidance. Because of the high level of terms business, our visibility continues to be limited and quarterly forecasting is very difficult. Historically, first quarter revenues are usually down from the fourth quarter. However, based on information available, including first quarter bookings to date, we estimate that the revenues in the first quarter will be flat to up 6% sequentially. We expect earnings in the range of 13 to 16 cents per share. For the year, we expect revenues to be in the range of $150 million to $160 million, and earnings between 70 and 80 cents per share. John will provide more details on guidance. I would like to take this opportunity to thank our employees, distributors, partners for their excellent execution and their help to make 2003 such a success. With well over 1 billion integrated circuits shipped to date, we believe that our products are positioned to become the standard for designing highly integrated and energy-efficient power supplies across a diverse set of markets. I have great confidence that execution of our diversification and market penetration strategies, along with a commitment to energy efficiency, will drive continuing growth in 2004 and beyond.

I will now turn the call over to John to review the financials. John?

Thank you, Balu. We are pleased that despite the sequential decline in revenues, we were able to increase our operating margin in the fourth quarter to product cost reductions and constraints on discretionary spending. Overall, 2003 was an excellent year as we grew our revenues to record levels and increased our net income 89% over 2002. We are well-positioned as we start the New Year.

Now on to the details. Net revenue for the fourth quarter was $32.3 million, an increase of 10.6% from the $29.2 million reported in the same period last year and a decrease of 6.5% from the $34.5 million reported for the third quarter. For the year, net revenues were $125.7 million, an increase of 16% from the $108.2 million reported in 2002. In the fourth quarter, our gross margin was 50.7% of net revenues. This gross margin included a 1.1% one-time benefit from the buildings purchase. Excluding that amount, our gross margin was 49.6%. This compares to 47.7% in the fourth quarter of 2002, and 47.2% in the previous quarter. The improved gross margin was a result of our continued focus on cost reductions. In the first quarter, we expect the gross margin to be in a range of 48 to 49%. We expect our gross margin to range from 47 to 49% for all of 2004. Income from operations in the fourth quarter was $7.1 million or 22% of net revenues. Excluding the $813,000 one-time benefit from the buildings purchase, the income from operations was 19.5% of net revenues. This compares to $4.7 million or 16% in the same period last year, and $6.5 million or 18.7% last quarter. For the year, income from operations doubled to $24.1 million or 19.2% of net revenues, from $12 million or 11.1% in 2002.

Net income after tax for the fourth quarter was $5.3 million, or 16.3% of net revenues. This compares with $3.6 million or 12.2% in the same period last year, and $4.8 million or 13.8% last quarter. Net income for the year was $18.1 million or 14.4% of net revenues, compared to $9.6 million or 8.9% in 2002. Earnings per share for the fourth quarter of 2003 on a diluted basis were 16 cents per share on approximately 33 million shares outstanding. This compares with 12 cents per share in the fourth quarter of 2002 and 15 cents per share last quarter. Earnings per share for the year were 57 cents, compared to 32 cents in 2002. Looking at operating expenses. R&D spending in the fourth quarter was $3.9 million or 12% of net revenues, compared to $3.9 million or 13.3% in the same period last year, and $4.3 million or 12.4% last quarter. For the year, R&D spending was $16.4 million, compared to $14.7 million in 2002. Sales and marketing expend turs, which include applications engineering, were $3.7 million in the fourth quarter, or 11.4% of net revenues, compared to $3.7 million or 12.8% in the same period last year, and $3.8 million or 11.1% in the prior quarter.

For the year, sales and marketing expenses were $15.5 million, compared to $14.5 million in 2002. G&A spending in the fourth quarter was $1.7 million or 5.3% of net revenues. This compares with $1.6 million or 5.6% in the same period last year, and $1.7 million or 4.9% of net revenues in the prior quarter. For the year, G&A spending was $6.9 million, compared to $6.2 million in 2002. Overall, operating expenses as a percentage of revenue declined to 30.8% in 2003, from 32.8% in 2002. In 2004, we expect our operating expenses to increase 5 to 10% as we plan to add sales and application engineering resources to support our revenue growth objectives. Moving to the balance sheet. Cash at the end of the fourth quarter was $115.3 million.

During the quarter, we paid $27 million for our buildings, and as a result, our cash decreased $14.8 million from last quarter. Cash increased $5.9 million from a year ago. Net accounts receivable were $10.3 million at the end of the fourth quarter, down from $11.9 million in the third quarter. Daily sales outstanding on net receivables at the end of the quarter were 29 days, compared to 31 days the preceding quarter. The reduction in DSO is a result of higher revenue being generated early in the quarter. Overtime, we expect our DSO to trend higher. Net inventory at the end of the fourth quarter was $23.1 million, an increase from the $15 million last year, and an increase from the $19.8 million last quarter. The inventory turns in the fourth quarter decreased to 2.8 from 3.7 last quarter. In the first quarter, we expect our inventory turns to be at the low end of our target range of 3 to 4.

We completed the $30 million purchase of our buildings in the fourth quarter. As we mentioned last quarter, this provided a one-time benefit of $813,000, and ongoing -- an ongoing saving of approximately ^ thousand dollars per quarter. Our financial outlook for 2004 and the first quarter is as follows: in 2004, we expect our revenues to be in range of $150 million to $160 million. Our revenue growth will result primarily from increasing shipments at TinySwitch II and TopSwitch-GX. LinkSwitch and DPA-Switch will also contribute significant revenue. We expect to achieve earnings per share in 2004 in the range of 70 to 80 cents. In the first quarter, we expect our revenues to be in a range of flat to up 6% sequentially. The gross margin should be in a range of 48 to 49%. We expect our operating expenses to increase 4 to 6% sequentially. As a result of the above, earnings per share in the first quarter are expected to be in a range of 13 to 16 cents. That concludes our prepared remarks. Before we ask for questions, we would like to remind you that we plan to present at the Raymond Raymond James & Associates 25th Annual Institutional Investors Conference in Orlando on March 1st and the JP Morgan Chase Small Cap Conference in Denver on March 11th through the 12th. Operator, can you please open the lines for questions.

Yes, sir. Thank you. The question-and-answer session will be conducted electroniccally. If you would like to ask a question, please do so by pressing the star key, followed by the digit 1 on your touch-tone telephone. If you're using a speaker phone, we would ask that you please mute your phone to allow the signal to reach our equipment. Once again, star one to ask a question. We'll pause a moment to gather our roster.

We'll take our first question from Lee Zeltser with Needham & Company. Please go ahead.

Hey, guys. A couple questions. First, if you can talk a little bit more about the cell phone market and the dynamics you saw there? You mentioned some of the factors quality by quality that slowed down demand. Can you give us a sense of what was probably the most powerful factor that drove that? Secondly, we saw some pretty strong results, generally speaking, from the cell phone manufacturers. Were there dynamics from the supply that you saw?

First of all, you have to remember that there is a time delay between reshipping the product and the cell phone gets shipped. So if they ship more cell phones in Q4, that means that they actually purchased more products from us in Q3.

Sure.

The second issue is, as far as the problems we talked about in the cell phone market, it varied from customer to customer, and this happened in the largest of our OEMs, so one had an inventory reduction program, and so they didn't purchase as many products as they had originally planned. The second customer had a delay in the new product where we had designed in and were expecting to ship products, but because of the delay, they didn't buy, especially in November and December. And they also had excess inventory, this particular customer. But we have several customers who said that they could not ship as much as they wanted to because of a shortage of components, and the most prominent one appears to be the color display screen.

I think another key factor to look at is, while many of the cell phone companies had sequential growth, I think the key is, it wasn't what they had originally expected. So when they purchased their components in Q3 and early Q4, they had higher expectations, and as they went through the quarter, they realized that they weren't going to meet those expectations, and so they stopped purchasing parts. In one case, they already had excess inventory; and then in another case, as Balu mentioned, they actually made an effort to reduce their inventory during the quarter so, in their words, they could benefit future quarters.

Okay. You mentioned that there was not a huge amount of visibility going into the first quarter specifically from that market. What would your expectations be specifically in that end market for growth on a sequential basis?

Well, expect for one customer where we have seen some rebound, the rest of them, at least to date, seem relatively weak. Now, that could change any time if they have an inventory issue and that goes away. Obviously when we introduce the new product, that could change in February or March. But as of now, we only see one customer rebounding.

Whereas the others could be flat to down sequentially?

Yeah.

Okay. Thanks very much, guys.

Thank you.

Thank you.

We'll go next to Ryan Thibodeau with Maple Leaf partners.

I wonder if you go into the gross margin with the percentage of the building?

In purchasing our building, we had a lease on the building, and it was a 10-year lease. The way it worked in the lease was we had an escalation where each year the amount of the lease payment we would make what go up over time.

In accordance with general accepted accounting principle you have to -- the lease payment over the lease, so it is equal each year. So since you're paying less in the early years than you expense, you build up an accrual, a liability, and over time, in the building, we had been in the building about three years, we had built up this liability of $813,000, which we would have then paid through future lease payments. But since we purchased our building, then we no longer have that liability, so we reverse T and that's a one-time benefit. As I said, it was $813,000. About $360,000 of that was in our cost of sales was a credit and the remaining amount was in the operating expenses as a credit. That was a one-time benefit that we got in the fourth quarter.

And then as I also mentioned, the reason we purchased the building is it gives us ongoing savings of about $600,000 a quarter.

Okay. And also, I noticed that there was a down-tick in the R&D expense for the quarter, which wasn't the case either the fourth quarter of '02 or ten-. Could you give -- '01? Could you give a little more detail?

The operating expense declined from Q2 to Q4, and that was due to the building purchase. As I mentioned, about $450,000 of that one-time credit flowed through our operating expenses, and that was allocated between the three elements. And then, as I said, we get $600,000, approximately, a quarter savings. We closed on the building on November 1st. So we got about $400,000 in total savings of an ongoing nature. And about half of that $400,000 was in our operating expenses.

So essentially there is no change in R&D expenditures. Actually the allocation of the building into the R&D part of the expense that went down.

If you're gunning for a, you know, up to 6% increase in operating expenses for next year, would that be more so on the SG&A side than the R&D side?

The guidance for next year was 5 to 10%. It was 4 to 6 for the next quarter. And it will be predominantly in the sales and marketing. There would be increases in the other items, but sales and marketing more than the others.

Okay. As far as balance sheet items, the increase in inventory, and that just simply due to the fact of the miss on the revenue line?

Yes.

Okay. All right. Thank you.

Thank you.

We'll go next to Kevin Wink with Pallonius Capital Management.

Hello. I wanted to talk about your comment on gross margins for 2004 which -- there is a little bit of a range, but at the bottom end of the range, they drop about 2% from this year, and at the top end, they're about flat from this year. So if you could give us a little bit more color as to the factors that will affect gross margins that way this year?

There's a couple factors, one that we've talked about quite a bit over the last few quarters is we have engaged in what we call proactive pricing in strategic situations where we get a little more aggressive on pricing with strategic customers and in high-volume situations, which means we would sacrifice gross margin percentage points to increase our revenue and increase our gross margin dollars. So we have done that over this last year, and as the conditions warrant, we will continue to do that in 2004. In addition, we do purchase our wafers in yen from our Japanese foundries. We have a relationship with them where we share the currency fluctuation, but that is going to have a 1 to 1.5% impact on our gross margin, assuming the yen doesn't weaken in the near future.

Okay. John, the 10 million increase in paid-in capital in Q4, is that all from options exercises, or was there anything else going on in there?

Well, option exercises and the tax benefit related to the exercises.

Okay. And then one other comment I wanted to get into a little bit, is I feel like the growth story that I've heard in Power Integrations over time is a 20 to 25% secular grower, but I was struck by the 5 to 10% operating expense increase projected for 2004. I would think you would want to invest more at this point, you know, if you really do see the 20 to 25% secular growth rate over time. So any comments or color if you have by contrast of that would be helpful?

Well, one of our advantages of our model is that we don't have to bring out hundreds of products, new products, as many other companies do, to keep the growth going. We, on the average, bring out one or two new products a year. So we fundamentally have an operating leverage, so we don't have to grow our operating expenses as much as our revenue. Having said that, we are investing quite heavily in sales and marketing because our challenge is really to grow our market share. As you know, we have a very, very large market with the products that we already have. Obviously we'll introduce more products as we go along. But how do we grow our market share as quickly as possible? So the incremental dollars are essentially going, to a large extent, into sales and marketing. The other reason, of course, is that we don't own our fabs, we don't do any assembly of our own, these are contract assemblies, and we have already started shipping test overseas. So within the next few years, we will be doing more of our testing overseas. That again reduces significant operating leverage because our operating expenses don't have to go up as much. So we are not really cutting back on any expenses that we believe are necessary to maximize our growth, if that's your concern.

Okay. Thanks for your comments.

You're welcome.

We'll go next to Tore Svanberg with U.S. Bancorp Piper Jaffray. Please go ahead.

Yes, good afternoon. Could you just take us back to last quarter and sort of on a linear basis just help us understand what happened each month as the quarter progressed?

I think we talked about it in the last conference call that, you know, our revenues were relatively linear in Q3, more linear than usual, and also Q4, our forecast was more linear than usual. You know, we spent a lot of time understanding that, to make sure that is the case. But the way it turned out was that it was much more typical of our historical linearity. That is, we had a strong October, a weaker November, but a much weaker December. And it was not as much because of our forecasts -- obviously the forecast was inaccurate -- but things changed in the marketplace that we did not anticipate. We did not anticipate the cutback in the demand due to factors that really were totally outside of our control.

Tore, just toed add something, if you look at our forecast, we were actually ahead of our forecast through the end of October, and then through the end of November, when you add October and November, we were pretty much on our forecast, and where we fell short was in December.

Okay. Very well. If we then look at the March quarter guidance, you know, what conviction level do you have at this point for that 5 to 6% guidance? Is this a conservative number? Are you assuming some of these cell phone customers coming back? Help us understand a little bit the conviction there.

First of all, we have looked, in all of the information available to us, and of course the most important one is our bookings to date, which is fairly good, it turns out. It is better than we expected to date. So that gives us a positive feeling. And also in spite of the weakness in the cell phones, we are seeing relatively strong growth in all other areas, and the reason we're given such a wide range is the question mark on the cell phones. We don't know how much it's going to come back. And on the low end, we're assuming that it is not going to come back very strong. In the high end, we think there is a market pickup in the cell phone business. And that's basically how we have come up with it. And then also, if you look at it historically, we usually go down in Q1. However, for factors we mentioned, Q4 was lower than Q3. And if you average Q3 and Q4 and look at that with respect to Q1, we are pretty much in the historic range.

Okay. So given the bookings, for instance, so far in this quarter, would that mean that your terms requirement for this quarter, where we are right now versus where we were at the same time last quarter would be lower?

Yes. We are expecting approximately 70% terms this quarter, whereas we needed low 70 in the last quarter.

Talking about your pricing strategy. Last year you obviously were pretty aggressive there. Now you mention you're seeing signs of pricing stabilization. How is that going to progress throughout the year and, you know, would you potentially change that strategy if you see pricing really strengthening in some of the competitors' components?

Obviously, you know, we will not reduce prices unless we have to. Q3 and Q4 were pretty strong declines in the components contrary to the reports that were saying basically that the discrete components were settling and possibly even going up. We didn't see any of it through Q4. So we continued to make proactive pricing changes or adjustments in Q3 and Q4, and that's one of the reasons, you know, we are projecting slightly lower margins going forward. But if the pricing of a competitive solutions firm up, then it certainly gives us a significant advantage. And what we are hearing now, our customers are not saying that the discrete components are actually going down, but for the first time, they are beginning to tell us that it may not go down any further in 2004. That's a big change. Now, obviously our customers don't have a lot of incentive to tell us that the pricing is going up. But of course if you look at the reports that you read, there are certainly indications that many of the companies are raising prices.

Very well. Thank you.

You're welcome.

We'll go next to Shawn Slayton with Ferris Baker Watts. Please go ahead.

Hi, gentlemen. Good afternoon.

Hi, Shawn.

Balu or John, could you remind us what the correlation is between unit shipments for PCs and your components for power supplies within those boxes?

First of all, the only play in the desk top PC market --

Right.

-- and our main is PC standby, and that is one chipper desk top PC.

Right. And you said -- oftentimes you guys are shipping one quarter before the actual handset ships out the door from the OEM. Is that similar to the PC?

Yeah, I believe -- I mean, it's hard to say. We don't have a direct correlation. But if you look at it historically, our strongest shipment months are September and October, and sometimes September is stronger and sometimes October is stronger, so that's where the peak occurs, just between September and October. Whereas most companies have a very strong Q4, we get most of our growth in Q3. And Q3 to Q4 is usually flat, plus or minus.

Okay. The LinkSwitch, can you talk about which handset OEM is the most likely candidate for adoption of that? I think I recall that Nokia was maybe a prime candidate for adopting that product. Is there any attraction with that particular customer?

Yeah, we are working with all of the cell phone customers to replace linear transformers. So far we've been able to convert two of them. One we mentioned, what happened in Q3, in fact we started shipping in Q3, that was a high-volume customer using our technology for the first time. The second one we got in Q4 and we started shipping in high volumes to this customer. They are very sensitive about we mentioning the name to our investors. But I can tell you it's not Nokia. We haven't been able to address Nokia yet.

That's fair. I apologize if I missed this. 10% customers in the December quarter?

10% customers were just the distributors, Memec 25% and Synex at 21%.

If I recall, Samsung has kind of fallen off the list because you're shipping more to their merchants who are shipping to Samsung; is that correct?

That's correct. Last quarter, in Q3, they were about 11%, and in Q4, they fell just below 10%, direct shipments to Samsung.

Okay. Thanks, guys.

Uh-huh.

You're welcome.

We'll go next to Brian Wu with Bear Stearns. Please go ahead.

Yeah, a question on the full-year guidance. Although you kind of mentioned that you're starting to see some price stable stabilization. Is any of that kind of baked in or factored into your full-year guidance?

Yes to the extent that that would give us a boost, we have factored that in. You know, if you translate the numbers into growth, we are talking about 19 to 27% growth. That assumes that we have both the market share growth and an end market growth.

Okay. And also if pricing is increasing for the discretes -- I mean, I guess it's a follow-on to a previous question, but could there be, I guess, upside to margins, or you don't think so?

Well, there is upside to margins if the prices increase. Again, it's really hard to give an accurate number because we want to have the flexibility of being aggressive in certain situations to maximize our growth. You know, I just don't want to lose that flexibility because I think it's important for us to grow our revenue and our profit dollars rather than maximize the last bit of gross margin.

All right. Thanks a lot.

You're welcome.

Our next question is from Andrew Huang with American Technology Research. Please go ahead.

Hi. Just two quick questions. First with respect to the LCD monitor or T.V. market, can you somehow quantify your progress in '03 and then your expectations for '04?

In terms of growth?

Yeah, in terms of your revenues or sales to those specific end markets.

Well, we mentioned that our LCD monitor revenue grew 73% from Q4 to Q4, so we've gained significant share in that market, and at this point, we believe our market share is somewhere between 15 to 20%, which is about double where it was a year ago.

That's specifically for monitors?

Yeah. LCDTV is still relatively small in terms of the end market, in terms of units, it's relatively small, and in terms of our penetration, we're still very early.

Okay. And do you have an ASP for the quarter?

51 cents.

So it actually ticked up a slight bit.

Yes. One thing that happened in the quarter is because the cell phone market was so weak and TinySwitch II was softer than normal, but TopSwitch-GX had tremendous growth in the quarter, and that that has a higher ASP. So that drove our average ASP up in the quarter.

Then one last question. It looks like the tax rate for the quarter was 28%. Can you give us an idea of what we should use going forward?

We're expecting 28% for '04.

Thank you.

You're welcome.

Our next question is from Steve Smigie with Raymond James. Please go ahead.

Great. Thank you.

Hi, Steve.

Hi. My first question is, could you give a breakout of the actual mix of FX and GX and the other product categories in the quarter as a percentage or dollar amount?

We usually combine FX and GX.

Yes, that's what I mean, and TinySwitch for the first quarter.

We just provide the annual numbers.

Okay. And then sort of following on from the other -- you maybe mentioned it already. In terms oflin lin yart, did you discuss --

January is based on our orders and shipments, January is stronger than December.

And then in terms of the LinkSwitch, the new LinkSwitch products that you mentioned, what sort of time frame would you expect to see for rampup on those products.

Generally it takes a year before we see meaningful revenue, so you shouldn't expect very much revenue at all for this year. However, the interest level is so high, I wouldn't be surprised if we get some revenue in Q4, but it won't be very significant. I'm talking about the latest product that was introduced two days ago, the LinkSwitch-TN.

I guess part of the question is related to looking at, say, DPA-Switch versus your LinkSwitch, existing LinkSwitch product, where the existing one seems to have ramped much faster, and I wondered whether you might see a repeat with the other one as well.

I'm not sure I understand your question. Could you repeat the question?

Well, it seems that, for example, the existing LinkSwitch product ended up ramping much faster than you expected, at least relatively to the DPA-Switch which were relatively similar time frames, and I was wondering if that was a possibility with the recently released LinkSwitch product.

Yes, it is ramping fast for the reasons we mentioned. LinkSwitch-TN will have a similar type of ramp but it will still be delayed because the appliance market is relatively long design psych cycles, so it does take a year before it goes into production.

Okay. Thank you very much.

You're welcome.

We'll go next to Gus Richard with First Albany. Please go ahead.

Hi, guys.

Hi, Gus.

Could you guys just repeat real quickly the mix of FX, Tiny I and II for '03, just as it closed the year?

Yes, we will.

Just a second. For '03. So TopSwitch I and II were 19, FX and GX were 29, Tiny I and II were 50, and Link and dap were 2% -- DPA were 2% combined.

Got it. Typically you guys lead the other components sold into handsets by about a quarter, if I'm not mistaken; is that right?

That appears to be so, looking at the history.

Okay. And then the customer that came back, is that the one that was having product delays?

No. It's the one which was doing inventory reduction.

Got it, got it, got it. Okay. And I think that covers it for me. Thanks.

Okay, thanks.

Thanks.

We'll go next to Clark Fuhs with Needham & Company.

Thank you. Can you hear me?

Yes.

Okay, great. The gross margin guidance for the year is 47 to 49; did I hear that correctly?

Yes.

And the guidance for the first quarter was 48 to 49.

Correct.

That's actually down from the fourth quarter, even if you take out the -- even if you take out the one-time impact. What is the reason for that?

There's two reasons. One, as I mentioned on an earlier question, we are going to have an impact from the yen strengthening. We purchase our -- wafers in Japan, we purchase them in yen, we purchase them and they float through our inventory. So that will have an impact on us. In addiction, as we've -- in addition, we've done proactive pricing. As I mentioned we've done the proactive pricing and we do cost reductions and we try to match them up as well as we can but the two main reasons are impact from the yen and some of the pricing that we did.

The gross margin came in a little bit higher than you originally guided, even with that benefit for Q4, and the reason for that was mix?

It was due to some cost reductions that were made in the quarter and the mix. Our mix because we shipped much more GX than we had originally forecasted and much less Tiny II than we had originally forecast, even though their margins are relatively close, it was enough to swing it from about half a point from where we had originally guided.

And you used to have a model of gross margin of 50% overall. Is that still your model, or have you gone away from that?

Our model, long-term model, has been 45 to 50%. And in good times we have been well above 50%; in some really bad times, we've been below 45%. So going forward, we'll obviously try to maximize the gross margin, but not at the risk of slowing the revenue growth or not at the risk of not getting -- not maximizing the EPS. So our goal is to maximize profit dollars, which obviously means you've got to get the good gross margins, but sometimes sacrificing gross margins a little bit, that can lead to more profit dollars and higher top line. That's what we'll do.

Yeah, actually, I understand all that. I'm actually kind of pointing to the predictability of this line item. It seems like it's, you know, a pretty wildcard factor from quarter to quarter. A lot of little knobs that can turn it one way or the other. That's actually kind of what I'm pointing at. Do you think your gross margin is predictable?

I think it is. I think the last quarter we were a little short. This quarter we're a little up. Prior to that, we've been pretty close. You know, we can never predict things exactly. We can never forecast exactly.

Right.

So we do our best and we're pretty close, but we can't always be exact.

One other question on another topic. You mentioned January was up from December, but that doesn't sound like it's very hard to do. How is it comparing so far with October?

I think it's probably at this point it will probably be, based on the orders that we have and the bookings, it will be pretty close to where we were in November, just to give you --

The run rate.

Yeah.

Okay. Great. Thank you very much.

We'll go next to Lee Zeltser with Needham & Company.

Hi, guys. Sorry if I missed this earlier, but if you could remind us what lead time trends and ASP trends were?

Lead-times wise, it is officially four weeks on pretty much all of our products. In reality, we are much better than that. We have almost no lead time on many of our products. That's one of the reasons, when some demand changes in the marketplace, we see it immediately because people don't order until they need the parts. Some of them only order a week ahead of time. That's in a way good and bad news. Good news as we know it immediately. The bad news is it happens and there's nothing you can do about it. What was the other question? You had a question on ASP?

Yes, on a sequential basis, or actually if you can tell us the absolute number.

Well, the ASP in the quarter was 51 cents. During Q3 it was 50 cents. So it actually went up because of a mixed shift towards GX.

Okay, great. You wouldn't have it on a mixed adjusted basis?

No, I don't have that.

All right. Thanks very much.

Okay.

Thank you.

We'll go next to Sanjit Pureli (ph).

Hi, guys. A couple of questions. I guess there were reports recently about order cancellations at Fahong (ph), etc. Does that relate to customers delays you were talking about or were those reports inaccurate?

The report was false, actually.

All right. So that wasn't the case.

In fact, we got two separate communications from Fahong saying that, you know, that is totally wrong and it is definitely not the case.

Okay. Great. And then can you help us out in terms of the yen affecting currency, you know, what percent move in the yen affects your gross margin, to what level, and are you incorporating a hedging to offset that?

As we discussed before, the arrangement we have with our two first down drys in -- first down drys in foundries in Japan. It is at a different peg rate one to the other but we split the difference to the extent the exchange range fluctuates. So we only get half of the upside or downside. When you go through the math, looking at what percentage of our cost is wafer and such, in general about a 10 point swing in the yen represents about a 3-point change in margin, either benefit or not the ait goes.

Does it help to hedge or not?

Probably not. Hedging is not a cheap thing to do and there's a lot of risk in hedging. A 10-point swing, which historically has, over a shorter period of time, has been fairly significant, so it's a bit unusual. Also, if there are fairly dramatic swings, then we will renegotiate the base rate either way.

I see. Okay. In terms of the cell phone weakness that you saw, how are you sure that it wasn't, you know, market share loss? I guess there's always talk about guys like Fairchild, etc., entering this market, and there hasn't been that many companies so far that have really talked about big weakness in the cell phone market, so it seems a little bit hard to understand.

Well, we've done a fairly thorough analysis, and as we said in the comments, one of our largest customers -- and they mentioned it on their conference call -- reduced their inventory during the quarter, and then the -- another large customer indicated that they were late in shipping product and their growth, in terms of what they shipped sequentially, was only about half of what they expected and their inventory levels are higher than they want and they plan to reduce their inventory levels. So while the cell phone shipments to the end markets grew sequentially, it's clear that there was lots of different issues within the cell phone manufactures themselves and -- manufacturers themselves and I think what was actually shipped in the fourth quarter relative to what people had expected in September and October when they were ordering their parts, I think the fourth quarter was not quite as strong.

Okay. It makes sense. And remind me again how much cell phone shipments were down for you guys in the fourth quarter and what's the expectation for what that portion of your revenues does for the first quarter?

From the third quarter to the fourth quarter, it was down 25%.

Okay.

But we had a very strong quarter, third quarter, for cell phones.

Okay.

So, you know, a lot of people purchased a large number of components based on what they thought they were going to do in the fourth quarter.

Okay.

Which, even though many companies did well, they obviously didn't do as well as they thought they were going to do.

Okay. Makes sense. And into the first quarter, what is your guidance -- what does your guidance kind of incorporate to what the cell phone market will do for you?

As I mentioned earlier, so far we've only seen one of the customers rebounding. The rest of them are still at relatively low levels of procurement, so what we have done is we've given you a range of flat to 6%. In the flat end, we are being pessimistic about the cell phone market, and at the 6% end, we are assuming a moderate comeback on the cell phone market.

Okay. So the main delta in the guidance between 0 and 6% is the cell phone market then?

To a large extent, yes. Obviously we don't know the other markets for certainty anyway. But I'm saying that's a big factor.

Okay. That makes sense. And Motorola, I guess they're typically a 10% customer or plus through distribution. What were they in the quarter?

Well, typically, we don't ship to Motorola directly, but even if you combined what we do ship indirectly, they're generally less than 10%.

Okay. Is it pretty close to that level, or are they a very modest customer at this point?

It's in the mid to high single digits.

Okay. Thank you.

Thanks.

We'll go next to John Lopez with Minnow Capital.

I wanted to ask you a question on the full-year guidance and trying to understand gross margin as a lever. If the margin is between 47 and 49, I'm assuming you're using price, yet the midpoint of the full guidance is up 24% year on year which is kind of dead in line with which most industry forecasts are looking for in terms of industry growth. So I guess my question to you, to the extent you're using margin for pricing, I would think you would be outgrowing industry more than the guidance assumes, so could you walk me through what that contemplates? Is it conservativism or what am I missing?

Our revenue guidance was $150 million to $160 million, which is 19 to 27% growth, and you have to look at it relative to the growth in our end markets. Again, our primary end markets are communication, computer, and consumer, and we ship one chip for one unit. So if you look at the growth in those end markets in terms of the unit growth in those end markets, it's somewhere between the 5 to 10% range in the unit volume of the devices in the end market. So 19 to 27% indicates that we're gaining sizable share across those markets.

Okay. So just to go back to a reference you made earlier. Gross margin tends to get above 50% when times are really good. What about your expectations for calendar '04 makes this year not really good? Why wouldn't gross margin move above that 50% threshold?

I said really good is not just the growth of the end market it's competitive positioning. So it really depends upon where our competitive solutions are in price at any given time.

Okay, great. Thanks for the help.

We'll go next with Andrew Huang with American Technology Research. Please go ahead.

Hi. I just had one follow-up question. On the DPA-Switch, can you give us a sense of the progress you're making? I'm curious to find out if the progress you're making is with OEMs or with power supply companies.

We have designs with both OEMs and power supply companies and we have design activity in both of those areas. When I say OEMs, these are the telecom and networking companies, you know, the Nortels, the Siemens, the Ciscos of the world and so on. Some of the early designs we've got are in Asia because what's happening in AC-DC power supplies or what has happened is beginning to happen in DC-DC where many of these power supply designs are going to Asia, and so we are working with them also. It's both.

Okay. Thank you.

You're welcome.

For our last question, we'll go to Clark Fuhs with Fulcrum Global Partners.

Yeah, thanks. Just one or two follow-ups. The operating margin -- what operating margin do you expect in the first quarter?

It's based on the guidance we gave.

If that's what it is, then I can figure it out. And the operating expenses 4 to 6% sequentially is based on the actual reported numbers that include the credit, right?

Yeah, 9.3 million. It would be off of that.

That's good. So you're not quite coming back all the way to Q3 operating expense levels?

Correct. Just to be clear, and that's because we get these ongoing benefits from the building.

Right.

So the operating margin for Q1, using the numbers that we gave you, should be somewhere in a range of 18 to 21%.

Okay. You usually give, on the annual reviews, you usually give some status of the penetration you are in various markets, what your estimated cell phone penetration is, it was 26% last year, and then PC standby and service standby and so on and so forth. Have you got estimates for those as of yet?

The larger ones we do. Cell phones we believe we're about flat, so the same percent -- you said 26%, which is I think what we've said before, so we still believe we're at about 26%. PC standby, I believe we're at about 40% share right now.

Service standby has always been high, about 90%; right?

80s and 90%, very high.

And LCD you gave earlier, 15 to 20%.

Correct.

Consumer white goods?

That's probably in the mid teens somewhere.

That's been 15% before. So that's kind of stayed steady? That hasn't increased much?

Well, I think the numbers we gave you before were probably 3 or 4 months ago, so those weren't -- the 15% on consumer appliances, that's higher than where we were a year ago.

Where were you about a year ago?

Probably around 10%.

And in the DVD, do you have any idea of the penetration of the DVDs yet?

That one we don't have right now.

Okay. Any category I'm missing?

I think those are the big ones.

Okay. Thanks.

Okay, thanks.

Ladies and gentlemen, this does conclude today's question-and-answer session. At this point, I would like to turn the conference back to Mr. John Cobb for any additional or closing remarks.

This is Balu. Thank you for joining us today and we look forward to seeing some of you at upcoming conferences. Thank you.

This does conclude today's discussion. You may disconnect at this time, and we would like to thank everybody for their participation. Have a nice day.