Power Integrations Inc (POWI) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Power Integration Q2 2011 financial results conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session.

(Operator Instructions)

As a reminder, today's conference call is being recorded. I would now like to introduce your host for this conference call, Mr. Joe Shiffler, Director of Investor Relations. You may begin, sir.

Good afternoon. Thanks for joining us to discuss Power Integrations' financial results for the second quarter of 2011. With me on the call are Balu Balakrishnan, President and CEO of Power Integrations, and Sandeep Nayyar, our Chief Financial Officer. During today's call we will refer to financial measures not calculated according to generally accepted accounting principles. Please refer to today's press release available on our website at investors.powerint.com for our explanation of our reasons for using such non-GAAP measures, as well as tables reconciling these measures to our GAAP results.

Also, our discussion today, including the Q&A session, will include forward-looking statements reflecting management's current forecast of certain aspects of the Company's future business. Forward-looking statements are denoted by such words as will, would, believe, should, expect, outlook, estimate, plan, goal, anticipate, project, forecast and similar expressions that look towards future events or performance. Forward-looking statements are based on current information that is, by its nature, dynamic and subject to rapid and even abrupt changes. Our forward-looking statements are subject to risk and uncertainties which may cause actual results to differ materially from those projected or implied in our statements. Such risks and uncertainties are discussed in today's press release, and under the caption Item 1A Risk Factors in Part 2 of our most recent Form 10-Q filed with the Securities and Exchange Commission on May 5, 2011.

This conference call is the property of Power Integrations and any recording or rebroadcast of this conference call is expressly prohibited without the written consent of Power Integrations. With that, I will turn the call over to Balu.

Thanks, Joe and good afternoon. This was a record quarter for Power Integrations. As we surpassed $80 million in sales on the strength of linear growth in LED lighting applications, the continued ramp of our new high-power product families, and continued market penetration driven by energy-efficiency. These growth drivers enabled us to overcome a decline in revenues from the cell phone charger market, where three of our top four end customers have recently announced weaker than expected sales. All in all, our revenues grew 4% sequentially, to an all-time high of $80.2 million.

We had an outstanding quarter in terms of cash flow, generating $35 million in cash from operations, and increasing our balance of cash and investments by $27 million. We're also on track with our efforts to offset the recent pressure on our gross margins resulting from rising input costs. Most notably, higher wafer costs due to the decline of the dollar versus the yen, as well as higher price of gold bond wires, and copper lead frames. We have achieved significant reductions in our cost of silicon through the implementation of a new higher density process technology. The ongoing wind down of our last five inch fab and more recently improved wafer pricing that offsets some of the recent impact from the less favorable dollar/yen exchange rate. We also continue to make good progress on the conversion to less costly copper bond wires in our assembly process.

These cost reductions have already taken affect to a large extent and should begin to impact our results in the fourth quarter as lower cost units begin to flow through inventory. As a result, we expect our gross margin to increase meaningfully in the fourth quarter with further improvements likely in 2012. We have also taken steps to reduce our sensitivity to the yen, including a new foundry partnership with Renesas, which began ramping last month, and will gradually increase the proportion of our wafer purchases transacted in dollars.

Returning to the highlights of our second quarter results, we are very pleased with the contributions we got in Q2 from two of our key strategic growth drivers, LED lighting and high-power applications. Revenues from LED applications grew 40% sequentially, which helped drive mid-teens growth in our industrial end market. LED lighting continues to generate more design wins for us than any other application. We won nearly 100 new LED designs in the second quarter, spanning a wide range of applications, including traditional (inaudible) style bulbs, dome lights, fluorescent tube replacements, signage, and street lights.

About a third of the designs, incorporate our new LinkSwitch-PH and LinkSwitch-PL products, designed specifically for lighting applications, which is a strong indication that customers value the simplicity, reliability and efficiency benefits that these products bring to the market. We believe LinkSwitch-PH and PL are the most highly integrated LED devices available, incorporating power conversion, power factor correction, and the high-voltage switch into a single chip. Combining power conversion with power factor correction into a single stage is not only simpler than traditional two-stage topologies, it also eliminates the need for electrolytic bulb capacitors which are the components most likely to limit the lifetime of an LED lamp.

Single stage approach also results in higher efficiency as we have demonstrated with LED driver designs delivering better than 90% efficiency. A highly efficient driver allows designers to select less expensive, less efficient LEDs, and still meet their overall targets for light output per watt. Because the cost of reducing an LED lamp tends to be dominated by the cost of the LEDs themselves, the ability to use lower cost LEDs can be a major advantage for our customers.

Turning to the high-power market, which includes applications ranging from 50 to 500 watts, you may recall that we recognized our first significant high-power revenues in the first quarter with sales of just under $1 million. The ramp continued in the second quarter with revenues growing more than 50% sequentially. And we are on course to achieve our goal of $5 million to $8 million in revenues for the full-year. The majority of these revenues came from the computing market, where our HiperPFS and HiperTFS products are currently ramping at two of the largest vendors of power suppliers for desktop PCs. We won new designs at each of these new customers during the second quarter, as they continue to propagate our new technology into their respective product offerings.

We also won about 20 designs with our new high voltage diode products which came with the Qspeed acquisition in December. And more than half of these were for the desktop and server markets. While it's not generally thought of as a major growth market these days, desktop PCs represent a sizeable opportunity for Power Integrations because of the much higher dollar content now available to us in machines where we already have a footprint thanks to our high share of standby power supply market. We can now sell as many as five products into a desktop PC, giving us dollar content five to ten times better than what we have in the standby power supply alone. The opportunity is magnified by the relatively fast pace of the redesign activity going on in the PC market as OEMs are pushing for higher levels of efficiency under the AD plus labeling program.

TV market is another key opportunity in the high-power area that we won our first high-volume design for a TV main power supply during the second quarter. Our energy saving CAPZero products also won multiple TV designs, again demonstrating the increased content opportunity we have in the higher-power applications. TVs are another application where energy-efficiency standards continue to tighten, creating design churn in the power supply market, and giving us many more opportunities to compete for sockets.

Before I turn it over to Sandeep, I will just comment briefly on the third quarter outlook. While design activity remains healthy and our growth initiatives are on-track, we have not yet seen evidence of a typical seasonal upturn in demand. Like other companies in the industry, we believe we are seeing some combination of macro-driven demand softness, and perhaps, the effects of a minor inventory build-up in the supply chain, following the natural disasters in Japan. Our outlook is also tempered by the softness at several of our key end customers in the cell phone charger market. As indicated in the press release, we're expecting third quarter revenues of between $74 million and $80 million. However, even after a sizeable reduction in inventories during Q2, we are very well-positioned to respond to higher demand should it materialize. And with, I'll turn the call over to Sandeep.

Thanks, Balu, and good afternoon. Our revenues for the second quarter were a record $80.2 million, up 4% sequentially, led by strong growth in the computing and industrial end markets. Computing revenues led the way with growth of approximately 20%, driven by desktop PC applications, including both standby power supplies and the increasing contribution of our high-power products in the PC main power supplies. Industrial revenues grew in the mid-teens, sequentially, driven by the strong growth in LED lighting applications. Revenues from the consumer market increased slightly as the growth in consumer electronics offset weakness in the appliance market.

Communication revenues declined mid-single-digits as a result of the weakness at several key end customers in the handset market, as Balu mentioned in his remarks. Distributors accounted for 70% of sales during the quarter, while direct customers made up 30%. Inventories in the distribution channel declined for the third straight quarter, to 5.5 weeks down from 5.8 weeks at the end of the prior quarter. Average selling prices for the quarter were $0.29, unchanged from the prior quarter.

GAAP gross margin was 46.9% including the impact of stock-based compensation as well as amortization of acquisition-related intangibles and inventory mark up. Excluding these items, non-GAAP gross margin was 47.5%, down 50 basis points sequentially, driven by the continued decline of the dollar versus the yen and also by product mix. LinkSwitch product family accounted for 43% of revenue during the quarter, up 3 points from the prior quarter, driven by the strong growth from LinkSwitch-II, whose gross margin continues to improve, but remains below the Company average. LinkSwitch-II is a significant beneficiary of the silicon cost reductions in our pipeline, which should have a positive impact in the fourth quarter, as Balu indicated.

Operating expenses were $24.4 million on a GAAP basis, down about $300,000 from the prior quarter. Non-GAAP operating expenses, which exclude stock-based compensation, as well as the amortization of acquisition-related intangibles, were $22.2 million, down from $22.5 million in the prior quarter. The decrease was mainly in G&A expenses as we saw the roll-off of transition expenses related to the QSpeed acquisition, as well as a slight reduction in patent litigation expenses.

Lower expenses combined with higher revenues enabled our GAAP operating margin to expand by 120 basis points to 16.4%, while non-GAAP operating margin improved by 110 basis points, to 19.8%. Looking at the tax line, we now expect our 2011 effective tax rate to be 21% on a GAAP basis, and 19% non-GAAP, each about 1 point higher than the prior expectation, due to shift in geographic distribution of income. Our second quarter tax provision includes a catch-up to bring the six-month effective tax rate in line with our revised full-year expectations, giving us second quarter GAAP and non-GAAP rates of 22% and 20% respectively. GAAP earnings came in at $0.35 per diluted share, while non-GAAP EPS was $0.43, up $0.03 from the prior quarter.

We had an exceptional quarter in terms of cash flow, generating $35 million in cash flow from operations. Capital expenditure net of dispositions totaled $3 million. We bought back approximately 120,000 shares during the quarter for $4.4 million. This leaves about $46 million remaining on our repurchase authorization at quarter-end. Dividend payments totaled $1.4 million during the quarter. Overall our cash and investment balances increased by $27 million, ending the quarter at $234 million or nearly $8.00 per share. A major driver of the strong cash flow was an $8.9 million decrease in our inventories, which fell to $54.1 million, or 116 days of inventory. That is a drop of 27 days, which gets us back in line with our targeted range.

Turning to the outlook, as Balu indicated, we expect third quarter revenues to be in the range of $74 million to $80 million. We expect third quarter gross margins to be flat to slightly lower than the second quarter levels, with some modest benefits from our cost reductions being offset by further pressure from the weaker dollar, as well as higher gold and copper prices. We then expect to see meaningful gross margin improvements in the fourth quarter as the cost reductions start to flow through the income statement. GAAP operating expenses for the third quarter should be in the range of $25.2 million, plus or minus $0.5 million.

Excluding about $2.6 million of stock-based compensation and a small amount of acquisition-related amortization expense would bring our non-GAAP expenses to be in the range of $22 million to $23 million. I expect the third quarter tax rate to be around 21% on a GAAP basis, and 19% on non-GAAP basis, consistent with our revised expectation for the full-year effective tax rate. With that, I will turn it back over to Joe.

Thanks, Sandeep. We're ready to open it up for questions. And in the interest of time, I would like to ask each caller, please, to adhere to one question and follow-up. And time permitting, we'll be happy to come back around for another round if you have more questions to ask. Operator, would you please open up the lines for Q&A.

Stephen Smigie; Raymond James.

Great, thank you. Congratulations on your record June quarter. With regard to the outlook for September, I think you indicated you were not seeing the seasonal up tick in orders. I was hoping you could talk a little bit about, do you think that is people just being cautious because of the macro stuff that there is still chance for catch-up later in the quarter? Or is there some fundamental issue that will maybe keep that from happening? And, to tie onto that, as we get into summer, can you talk about the magnitude of the gross margin improvement that you think you will see in the December quarter?

Thank you, Steve. In terms of the forecast, we are seeing a slowdown in bookings over the last few weeks. And based on the best data we have to date, and assuming turns similar to last quarter, we have given you the range that we have. Now, is it possible that the turns will improve through the rest of the quarter and we could do better?

The answer is yes, but we just don't know. It's not clear to us, what is exactly causing this issue. I mean a lot of companies have talked about a macro slowdown. That could be part of it. It could also be a little bit of inventory build-up resulting from the disaster in Japan.

It is really hard to tell the difference between the 2. I think you had another question on the magnitude of the gross margin, and Sandeep, maybe you can answer that.

Yes, Steve, I think we're looking at external factors. We expect the improvement to be somewhere in about the 200 basis points.

Great. Thanks a lot, guys.

Tore Svanberg; Stifel Nicolaus.

Thank you. And congratulations on the record revenue. First question, and maybe it's a follow-up to Steve's question on the quarter. How much turns would you require and maybe you could distinguish between sort of turns at the beginning of the quarter and where you stand right now?

So, the turns, as you know, are not meeting we recognize revenue on a sell through, but if you assume shipping equals to sell through, just like Balu indicating at the beginning of the quarter, somewhere in the mid twenties.

Okay. Where would that stand today?

Well, we don't give interim data because it's very misleading we noticed. Because, again, bookings do not necessarily translate into POS. We can ship a certain amount and the ship-through could be higher or lower than that. So, even turns is a very, very approximate number, because we just don't know what the ship-through is.

That is fair. And you talked about now coming Renesas coming on line as a new foundry and it looks like you've negotiated the pricing there in US dollars. Can we expect some similar negotiations with your other foundries? And at what point could you potentially have the bulk of your currencies flirtations behind you?

We have negotiated a more competitive pricing over the last couple of months. Which is something that we do on a regular basis. Obviously, getting a new foundry on board is a little bit helpful in doing that.

In terms of converting the existing ones into dollar base is going to be challenging in the near term. Our goal over the long-term is to gradually move to dollar-based pricing and Renesas is the first step in that regard.

Thank you.

You are welcome.

Ross Seymore; Deutsche Bank.

Hi guys. What's your view on channel inventory? I know you talked about it come down sequentially to 5.5 weeks. How does that compare to normal? And to the extent that there is any inventory burn going on in your in the third quarter guidance, what do you expect the duration of that burn to be?

We think that the channel inventory is within the range of our lead times. The lead times currently stand between 4 and 6 weeks for pretty much all of our products. If you remember a couple of years ago, our lead times were 4 weeks and distributors were carrying about 4.5 weeks of inventory. Now it's 4 to 6, they are carrying 5.5 weeks, which is very reasonable.

We think it's kind of reached a stable level. And I think your follow-up question was, what we expect in terms of inventory in the third quarter, the end of the third quarter? And Sandeep probably can answer that.

It's hard to predict what order is going to be, you know? I mean, if you believe that the turns would go up and increase, which is something that we have been thinking it could, but are not certain and with the uncertainty that we are seeing, then you could see some adjustment there. But it is something which is very hard to predict.

Thank you.

Vernon Essi; Needham & Company.

Thank you. I wanted to focus on 1 of the bright spots here in the LED market. I think in the past you have given some benchmarks as to what you thought your target could be for 2011. It looks like you are on track to beat that.

Do you care to revisit how you see the market developing? And just discuss, I guess last time around you said there was a correction going on in LED. And what has changed there? And just more color on it would be helpful.

It looks like the inventory that was there in Q1 has basically gone away. The bright spots within the LED market are the decorative lamps, which are the low-power lamps, the street lights, the building called industrial and commercial lighting. Those are the areas that we're seeing significant growth.

As far as the yearly forecast, to the best we can determine, I think this year the growth is going to be in the 50% kind of range versus what we had last year which was 100%. But, it's still a pretty healthy growth. So, we are very pleased that LED is growing very well now, especially with the new products taking 1/3 of the design wins.

That is sort of a little bit better than I think you had sort of last given us on a 2011 target. My follow-up question, if you could discuss and I apologize if you hit this in your prepared comments, but the transition in LinkSwitch, too, obviously a great additive to the gross margin. Where are we in terms of your product pipeline, if you will in that transition. What inning are we in, if you want to use that analogy?

Translation from LinkSwitch-I to LinkSwitch-II?

In terms of percentages, Vernon, if you look at what percentage of revenue came from the LinkSwitch family, I think it was 43% in the quarter. I believe well over half of that is now coming from LinkSwitch-II.

So, I guess that's a reasonable point. I mean I'm just trying to figure out how much LinkSwitch-I is still in inventory that you have to drag through that could be a drag on margins.

I don't think we could characterize remaining LinkSwitch-I inventory as any kind of a drag on margins, necessarily.

We don't have any inventory issues at all with LinkSwitch-I. We carried just the right amount of inventory.

It is not an obsolete product, if that is the thrust of your question, Vern.

No, no. I apologize. My understanding was that it was made at a cost disadvantage. You were still having customers pulling that, which was a headwind to your gross margin in prior quarters.

No, I think the LinkSwitch is an older product, so usually the older products carry higher gross margin. It is the newer products that start out at lower gross margin until we get the costs under control through high-volume manufacturing.

Okay. I apologize then. I am all set. Thank you.

Arnab Chandra; Roth Capital.

I have 1 question, when is it normally that you see the kind of seasonal improvement you should see in bookings occur in Q3? And what will the kind of qualitatively higher bookings progress during Q2? Did it weave all through the quarter? Or did it change sometime in the quarter when you realized there would not be a seasonal uptick? Thank you.

The decline started in June, but for Q2 our book-to-bill was approximately 1. But in July, the bookings declined further, which is very unusual. Usually July is a strong bookings month for us, because it is going into Q3. And Q3 is a growth quarter for us, usually. So, we were a bit surprised with the weakness in the bookings. But, then we realized that most companies are seeing the same trend.

Thank you.

You are welcome.

Sumit Dhanda; Citadel Securities.

The first question I had was on gross margins. Sandeep, I think you mentioned that in addition to the pickup that you expect in Q4, you expect continued increases through 2012. Are the drivers the same? Can you quantify the magnitude of improvement you might see in 2012? And then your Q4 target, which is at 200 basis point sequential improvement. Is that still roughly in the original range, which is about 50% by Q4? Or have you dialed that down a little bit?

Hi Sumit. We originally were projecting 50% gross margin for Q4. That is before the yen started getting stronger over the last two or three months. And, in addition to that, the gold prices went up quite significantly over the last few months. And also the copper prices have gone up.

So, the combination of those 3 factors will make it very difficult for us to reach the 50% mark in Q4. However, our current forecast and belief is, unless the external factors go crazy on us, we should be in the normal range for 2012, which is 50% to 55%. So, we think for 2012 we'll be about 50% range.

Okay. And the drivers are the same things you are working on currently?

Yes. In fact, most of the cost reductions are already in place, but it has to flow through the inventory. And we'll get a significant impact in Q4, but gross margins should continue to improve beyond that into 2012.

And second question I had was on lead times and distribution inventory. You know, you mentioned that the distribution inventory in the channel is consistent with the lead time, just 4 to 6 weeks. You know, any reason why lead times in distribution inventory won't revert back closer to the 4-week level as I recollect it used to be?

Yes, there is a reason for it. We have a lot more products now and so it is harder to maintain a 4-week lead time with the number of products we have at this point. So, what we're doing is on the highest-volume products, we try to maintain more inventory and so it's closer to 4 weeks. But in general, we meet 4 to 6 weeks.

Okay. Thank you so much.

You are welcome, Sumit.

Brian Piccioni; BMO Capital Markets.

Most of my questions have been asked and answered. With respect to the cell phone charger market, if we can imagine the major customers, if their situation reflects a loss of share, is there any likelihood of new design wins finding their way into the more successful companies? Or has that die been cast already?

Of course, we are always working towards getting additional companies, especially the successful ones. And when we do get in, we will certainly give you a qualitative feedback on that. But, at the moment, the full lodge customers that we have, which is Samsung, Nokia, RIM and LG. 3 out of those 4 are somewhat challenged in certain areas of the market and that's certainly impacting us. So, even though we haven't lost share within those customers, if they lose share to other cell phone companies, that obviously has an impact on our cell phone revenue.

Okay. And there has been a fair bit of excitement over the whole tablet space, over the past year or so. Can you give us a sense for how you are doing in that market? Because there is presumed to be a substitution between lower-end PCs and tablets, so, it might be an opportunity and a threat. Thank you.

Yes, we do have a couple of tablet designs in production, but it's not a very significant revenue relative to the cell phone revenue.

Okay, thank you.

Andrew Huang; Sterne Agee.

First, on the results. Historically, your business has tended not to flow with the handset market in the current quarter. So, maybe, could you talk a little bit about what happened there?

I don't think it follows exactly. So, sometimes there is a time delay. As you see, we did see a decline in the communications market in Q2, and we think there might be additional decline in Q3. Again, it's just a forecast at this point.

We're trying to do the best we can to estimate that. I don't know how to answer that question. I mean, we're just telling you what we see.

I understand. Okay. And then just to follow on to that cell phone question. When you are talking about those 4 handset makers, where you have pretty good share at, and you were kind of alluding to the fact that they may be losing share. Is it because you don't really have much penetration at the fruit company? (laughter)

I think that we have very little exposure to the other 2 big companies that you might be alluding to. Again, I would say they are having challenges in certain aspects of their markets, like smart phones is where they have lost some share with existing customers.

Okay. Then my second question was on the recent slowdown in bookings that is kind of leading you to the conservative guidance, or the below seasonal guidance for the September quarter, are you seeing that slowdown in bookings where you had the strength, which is, I think, in both LED lighting and high-power?

No. I think LED lighting and high-power to the best we can estimate is going to continue to do well. Unfortunately, the offsetting factor is the cell phones. So, you have to remember that even though LED and high-power are doing well, it is still a small portion of our overall revenue.

Right. And I guess historically, your Q3 does tend to be very strong for cell phones, correct?

That is correct.

Okay. Thank you.

Thanks, Andrew.

Operator, do we have any further questions?

I'm not showing any further questions at this time.

Okay. Thank you. We'll conclude the call there. There will be a replay of the call available on our website at investors.powerint.com. Thanks for listening and good afternoon.

Ladies and gentlemen, that concludes today's presentation. You may now disconnect.