慧榮科技 (SIMO) 2009 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the first quarter 2009 Silicon Motion Technology Corporation earnings conference call.

My name is Shanelle and I'll be your coordinator for today.

At this time, all participants are in listen-only mode.

We will be facilitating a question and answer session towards the end of this conference.

(Operator Instructions).

This press release contains forward-looking statements within the meaning of Section 27A of the Securities Act 1933 and Section 21E of the Securities Exchange Act of 1934, as amended.

Such forward-looking statements include, without limitation, statements regarding trends in the semiconductor industry and our future results of operations, financial condition and business prospects.

Although such statements are based on our own information and information from other sources we believe to be reliable, you should not place undue reliance on them.

These statements involve risk and uncertainties and actual market trends and our results may differ materially from those expressed or implied in these forward-looking statements for a variety of reasons.

Potential risks and uncertainties include, but are not limited to, continued competitive pressure in the semiconductor industry and the effect of such pressure on prices, unpredictable changes in technology and consumer demand for multimedia consumer electronics, the state of and change in our relationship with our major customers, and changes in political, economic, legal and social conditions in Taiwan.

For additional discussion of these risks and uncertainties and other factors, please see the documents we file from time to time with the Securities and Exchange Commission.

We assume no obligation to update any forward-looking statements which apply as of the date of this press release.

I would now like to turn the presentation over to your host for today's call, Mr.

Jason Tsai.

Please proceed.

Thank you very much.

Good morning, everyone.

Welcome to the Silicon Motion first quarter 2009 financial results conference call webcast.

My name is Jason Tsai and I'm the Director of Investor Relations and Strategy.

With me here is Wallace Kou, our President and CEO, and Riyadh Lai, our Chief Financial Officer.

The agenda for today is as follows.

Wallace will start us with a review of some of our recent business developments.

Riyadh will then discuss our first quarter financial results and provide our outlook.

We'll then conclude with Q&A.

Before I get started, I'd like to remind you of our Safe Harbor policy which was read at the start of this call.

For a comprehensive overview of the risks involved in investing in our securities, please refer to our filings with the US SEC.

Please also note that we are using presentation slides for our webcast which offer highlights from the quarter, so I encourage anyone who has dialed into the conference call to click on the IR section of our website and view the slides there.

For more details on our financial results, please refer to our press release which was filed on Form 6-K after the close of market yesterday.

The webcast will be available for replay on our website, www.siliconmotion.com, for a limited time.

To enhance investors' understanding of our ongoing economic performance, we will discuss non-GAAP information during this call.

We use non-GAAP financial measures internally to evaluate and manage our operations.

We have therefore chosen to provide this information to enable you to perform comparisons of our operating results in a manner similar to how we analyze our own operating results.

The reconciliation of the GAAP to non-GAAP financial data can be found in our earnings release issued yesterday.

We ask that you review it in conjunction with this call.

With that, I'd like to turn the call over to Wallace.

Thank you, Jason, and thanks, everyone, for joining us today.

The challenging we faced late last year has continued into the first quarter.

The ongoing effects of global economic weakness continue to drive weak consumer demand, resulting in lower volume for NAND flash storage devices.

This, coupled with low NAND flash fab capacity utilization rate and the delay in mass production of the next generation NAND flash products, has significantly limited the availability of NAND flash components to our customers and thus lower overall demand for NAND flash controllers.

Also, sharply higher NAND component prices in recent months because of perceived NAND flash shortage have negatively affected affordability and overall demand.

We have also seen the reduction in availability of lower density NAND flash, which negatively affects the bundled memory card market.

Furthermore, competition for legacy controllers which carried over from last year continued to be intense.

While clearly this issue has significantly impacted our result this quarter, we believe that our strategy remains intact and our ongoing development and investments will allow Silicon Motion to maintain its market leadership as our end market begins to recover.

We believe there are some positive signs that our business may recover in the second half of 2009.

NAND flash bit growth should be stronger in the second half than the first half, as NAND flash chipmakers continue to increase their fab utilization rate and accelerate their ramp of next-generation products.

As many of you know, during the first quarter the NAND flash industry experienced one of the lowest bit growths in its history.

We are seeing our diversification strategy beginning to take hold, with solid progress in both our SSD controllers and our mobile communications businesses.

While the timing of when these new products will become a more material portion of our business remains unclear, we believe we are moving in the right direction.

We are confident that our long-term prospects are largely intact and remain promising.

Riyadh will take us through our financials in more detail, but before that I would like to take a moment to provide a very brief recap of first quarter performance and fourth quarter restatement.

Our revenues declined, as expected, to $21.5m for the first quarter, which was around the midpoint of our revised guidance.

Net income was a loss of $0.8m, a loss of $0.03 per diluted share.

Our gross margin was 44%, which is the high end of our revised guidance.

When we reported our fourth quarter result in February we reported unaudited results, as we normally do.

After we reported these results, new material information about certain customers as well as more limited growth prospects for some of our products as a result of ongoing global economic weakness came to our knowledge.

These two issues and the restatement are largely related to our mobile communications business.

After extensive analysis and examination, we prudently increased our bad debt reserve as well as increased our reserve for obsolete inventory.

Riyadh will go into further detail regarding the restatement later on the call.

For the first quarter, we faced a few different challenges.

I would like to reiterate that our key growth drivers remain intact.

We took proactive stance, in order to maintain our industry leading position despite a weak demand outlook.

And we continue to invest strategically in next-generation products, to better serve our customers and partners.

NAND flash is still very much a growth industry and one that is far from maturity.

But as we have said, bit growth this year will be significantly less than in the past years because NAND flash suppliers have significantly reduced fab utilization rate, retired older facilities, delayed the introduction of new capacity and delayed the ramp of next-generation products.

We believe NAND flash bit growth should begin accelerating again perhaps later this year, while revaluing NAND flash supplies will help our business.

We are also focused on value add ways to improve our growth and profitability.

We are working hard to help drive expansion of NAND flash beyond the traditional flash memory card and USB markets, and looking for new devices to embed solid state memory and controllers.

New devices with SSD, in addition to netbook and PC, include in-car navigation systems, consumer electronics, industrial applications.

It is important for us to continue working closely with our partners and our OEM customers to further expand the total addressable market for NAND flash and flash controllers.

Our SSD controller business, while still relatively small, continued to gain solid traction.

This quarter we began shipping our SSD controllers to Samsung with high-definition camcorders, a design win that we had announced last quarter.

We are also pleased to announce that we have a design win with a global tier one hard drive vendor for their new SSD product.

That's expected to ship later this year.

And the SSD controller design wins for automotive telematic systems, with combined navigation plus entertainment functions.

We also received a design win for our SSD controller for a new and innovative MSI netbook that offers dual SSD and HDD storage solutions.

Our Hybrid and TurboMLC SSD controllers have been well received in the market.

And we believe our solutions will help accelerate the adoption for SSD in new markets by bringing down the cost of SSD products.

We continue to be aggressive in expanding the market for SSDs and we are optimistic about the long-term prospects for the market, as well as our controllers for these devices.

Sales volume for our core flash card and USB controller business declined in the first quarter, as the ongoing effect of global macroeconomic weakness continued.

Weak consumer demand as well as the weakness in our bundled business reduced sales units in the quarter, thus impacting our revenue and profitability.

The NAND flash chip industry remains supply constrained, as older facilities are taken offline, new capacity expansion delayed and mass production of next-generation products pushed out.

As previously mentioned, we believe NAND flash component supply will increase in the second half 2009.

With a continued ramp of new smaller geometry ICs, we continue leveraging our strong R&D and sales capabilities, as well as some parallel relationships with a car maker and a NAND flash business partner to aggressively support the current ramp of the next-generation NAND flash components with a portfolio of the best-in-class controllers.

We also continue to make progress towards developing and introducing new products for next-generation products such as TLC NAND (inaudible) and controllers to utilize faster interfaces such as USB3.0 and SDXC.

Now I would like to turn to our mobile communications business.

Since our transition to SoC products late last year, we have made good progress with our customers.

We have increased the shipment of our T-DMB SoC solutions to all the major handset vendors in Korea, including Samsung, LG and Pantech & Curitel.

Our strategy for our mobile communication products is to expand beyond T-DMB and the Korean market.

We believe we are making good progress on this front as well.

We are pleased to announce a design win for our ISDB-T product that will ship in a tier one handset for the Brazil market later this year.

And we are deep in discussion with several Japanese customers for our best-in-class ISDB-T SoC products for their sophisticated domestic handset market.

For our CDMA transceiver products, we have also received several design wins from OEMs for China's large domestic market.

Let me summarize by emphasizing that our long-term prospects remain on track.

With a first quarter that was challenging, we believe that the foundation of our business remains solid and the building blocks for growth remain in place.

NAND flash bit growth will rebound and the vast majority of analysts expect relatively healthy growth of NAND flash for the foreseeable future, driven to a large extent by SSD, memory card and USB growth.

We're confident mobile TV will grow rapidly in the years to come and will expand geographically beyond just Korea and Japan to include China and other countries.

We believe we have been executing well an innovative strategy for SSD controllers and mobile TV IC solutions, leveraging on our strengths and competencies.

Our recent design wins are testament to our winning strategy.

While the global economic weakness has clearly resulted in a short-term weakness in our business, we believe our new products, technologies and market focus will help to drive long-term growth.

I will now turn the call to Riyadh.

Thank you, Wallace.

First I will discuss our fourth quarter 2008 restatement and then outline our financial result for the first quarter and provide our guidance for second quarter 2009.

After we announced our unaudited result for fourth quarter 2008 in early February, new material information came to light regarding two specific issues - financial viability of some of our customers, as well as saleability of some of our older inventory.

After careful examination, we concluded that we needed to increase our reserves for both doubtful accounts and obsolete inventory.

Let me note that while our quarterly results are unaudited, they are reviewed by our auditors in accordance with requirements specified by the PCAOB, the Public Company Auditing Oversight Board.

On the first issue, financial viability of some of our customers.

While we made full and partial reserves for doubtful accounts involving several customers in Korea and China, a large majority of these incremental reserves were for one particular mobile TV customer in China.

Although this customer continues to be solvent and continues to believe they are well positioned to be the market leader in designing T-MMB, one of China's anticipated mobile TV standards, recent material information that we have received has led us to question their financial health and specifically their ability to pay our already overdue receivables, especially since expected decisions by the government on mobile TV standards continues to be delayed.

We therefore revised our operating expense for fourth quarter of 2008 to $16.5m, an increase of $4.3m from our previously reported operating spend of $12.2m.

$4.3m is the incremental reserve that we had made for doubtful accounts.

Our revised operating margin was reduced to a negative 12.5% from a positive 12.4%.

Moving on to the second issue, saleability of our old inventory.

We had built inventory in expectation of a certain volume of sales.

Our internal sales outlook, however, had weakened since the start of the year.

While there may indeed be green shoots springing up in the global economy, we also believe we need to be prudent.

Since most of our products are used in mobile phones and other consumer electronics applications where technology changes quickly, we do not believe prospects of near-term consumer demand recovery will be sufficient to outrun the risk of obsolescence relating to our excess inventory.

Almost half of our incremental $3.8m of reserves for obsolete inventory in the fourth quarter related to our multimedia products, with the majority of the rest from our communications products.

Because of the incremental $3.8m of reserves for obsolete inventory, our revised fourth quarter gross margin was reduced from 50.3% to 38.5%.

While we are disappointed by the need to restate our fourth quarter results, we believe that these actions are the prudent and appropriate ones and put our Company on a stronger financial footing.

We are tightening our operational controls to minimize occurrence of these issues.

Turning to our first quarter results.

For first quarter 2009, our revenue of $21.5m declined 33% sequentially.

Mobile storage products accounted for 69% of sales, mobile communications 22% and multimedia SoCs 9%.

The significance of our mobile storage revenues declined from 76% of our total revenue in the fourth quarter to 69% in the first quarter because of limited availability of NAND flash components to our storage customers.

Mobile storage controller shipments decreased 21% sequentially.

Revenues decreased a faster 40% sequentially because of rapidly declining ASPs.

ASPs declined 24% in the first quarter compared with 14% in the fourth quarter.

Mobile communications revenue increased 2% sequentially.

While our mobile communications business did see sequential growth in the first quarter, mobile communications continued to be negatively affected by economic slowdown.

Multimedia SoC revenue, on the other hand, decreased 28% sequentially.

Our graphics processor business was also affected by economic slowdown.

Gross margin was 44% and improved from the 39% in the fourth quarter.

Gross margin improvement in the first quarter was a result of lower obsolete inventory reserves compared with the fourth quarter.

We continued to face rapid ASP degradation caused by continuing competition from the legacy 50-nano controller market.

This ongoing intensive pricing pressure has resulted in lower gross margin than our historical 50% norm.

We believe that as industry moves to sub-50-nano flash products the level of ASP pressure should subside somewhat.

We believe that this transition will not be meaningful until the second half 2009.

In order to improve our competitive position, we have, in addition to having already developed next-generation flash controllers, also a need to aggressively reduce production costs, both in terms of manufacturing costs as well as introducing redesigned lower-cost solutions.

Operating expenses were $10m in the first quarter, which was lower than in the fourth quarter largely due to the reduction in reserves for doubtful accounts, as well as delayed R&D expenses.

Operating margin was a negative 2%, an improvement from a negative 12.5% in the previous quarter.

Net total other income was $2m -- $0.2m, I'm sorry, down slightly from the $0.3m in the previous quarter.

Net loss of $0.8m was an improvement from the net loss of $3.9m in the fourth quarter.

Diluted loss per ADS of $0.03 was an improvement from the diluted loss per ADS of $0.14 in the fourth quarter.

I'll now move to our balance sheet and cash flow.

Although we reported a GAAP net loss of $1.4m, we generated $12.6m in terms of cash flow from operations and improved our overall cash position by $5.6m to $57.5m from the fourth quarter.

We spent about $600,000 dollars in capital expenditure and took a $4.6m foreign exchange translational loss.

We did not repurchase any shares in the quarter.

Our inventory days increased from 94 days in the fourth quarter to 127 days in the first quarter.

Our actual amount of inventory decreased by $4.7m in the first quarter, but due to our lower revenue run rate our days inventory outstanding increased this quarter.

Our AR days increased from 93 days in the previous quarter to 105 days in the first quarter.

Again, this is mathematically the result of reduced revenue in the first quarter.

Actual dollar AR declined by $6m sequentially.

I will now move on to our guidance.

As Wallace has previously discussed, we continue to face challenging times but we believe that our long-term growth prospects remain intact and that our strategy of diversification is beginning to take hold, whether on next-generation flash controllers, SSD controllers, or mobile TV IC solutions.

We're optimistic about the long-term growth potential of our business but are cautious on the short term, as the operating environment continues to be challenging.

We therefore expect first quarter -- second quarter revenue to increase 5% to 15% sequentially.

We believe our second quarter gross margin will remain relatively stable, within the 44% to 46% range.

We are targeting operating expense, excluding stock-based compensation, acquisition-related charges and other one-time items, to be in a range of $12 to $13m.

We will now open the call for your questions.

(Operator Instructions).

Your first question comes from the line of Gary Hsueh of Oppenheimer & Company.

Hi, good evening.

Thank you for taking my questions.

This is Wen Jiang for Gary.

The first question's obviously regarding your core products.

What is the main reason that's driving the low end of the business in Q1?

I'm sorry.

Could you be more specific about your question?

Okay.

So we actually see some rebounds in handsets in China and the new demand on microcontrollers, so people think that the microcontroller business should start to pick up instead of going down even further.

So what do you think is the main reason driving your microcontroller business actually lower than expected in the (multiple speakers)?

Yes.

Recently, in the first quarter, although the China handset market rebound after February, however, due to a lower density NAND flash supply shortage so majority of these handsets in China did not have a bundled card.

So we did not see strong demand for the bundles in China market for micro SD cards due to the shortage for lower density NAND flash.

Okay.

So basically there is actually less bundling of Micro SD cards that drive the lower volume, right.

That's correct.

China market requires lower density bundle cards.

Okay.

The next question is regarding the NAND price.

Obviously we see the NAND price picking up in recent months.

Is that putting more pressure on you actually to lower your price, so the total market price will be kind of stable in terms of for your customers?

I believe the price increase for the NAND components, that's the in-car business.

It's not direct for ASP.

However, it really impacts customer demand regarding orders for the controllers.

I think the current price trend really makes controller vendors in a non-favorable position, so we believe the price trend is not sustainable.

After supply becomes more and more, we believe the price might go down a little bit from the current situation.

Okay.

A couple of quick ones.

One is the recent ITC ruling that favors (technical difficulty).

Do you see any market share gain after this ruling against SanDisk or in other fields?

We can't comment more than the press release that we had previously put out.

The ruling is not the final determination, so we still have to wait for the final determination before we can have a clear view about the outcome.

Okay.

So you took some inventory write-offs and also account receivable write-offs in Q4 of '08.

So, for Q2 guidance is there any possibility that those write-offs can be resold at healthier gross margin or do you think those write-offs will be gone permanently?

These we believe are permanent write-offs.

Okay.

Thanks.

Your next question comes from the line of Quinn Bolton of Needham & Company.

Hi, guys.

I just wanted to ask a little bit more about these write-offs.

When did you -- when were you informed of this material information from particularly the China customer that led to the provision for doubtful accounts, and a similar question for the need to increase your reserves for excess and obsolete inventory?

It's May now.

I'm just kind of wondering why you waited so long to announce these write-offs.

You had a negative preannouncement a month ago.

My guess is you've probably known about this for some time, so why wait until now to announce these charges?

With the charges, we first began to have questions about our inventory as well as our receivables some time in February, after we had put out our fourth quarter results.

The market is changing quite rapidly and with the poor economic outlook we increasingly need to verify the strength of our customers, if we had given credit to them, as well as validate whether inventory we have remains sellable.

Through more careful examination of our business, our customers and our inventory, as well as our sales outlook, it was determined that, as I previously discussed in my remarks, that one particular customer which accounted for the vast majority of write-offs, their financial health was rather weak, a lot weaker than we had originally anticipated.

Confirmation of this weakness was not received until the quarter was well advanced and so this is not a decision that we could have done any earlier.

In terms of the inventory, as the quarter progressed we got better and better visibility about what we could potentially do or how our business could potentially do.

And based on our careful analysis, we had determined that some of the inventory, some of our older inventory, especially relating to MP3, was no longer sellable.

Okay.

That was sort of the second question.

Can you just be a little bit more specific with which inventory was written down?

It sounds like it was about half in the mobile side and maybe I have this wrong.

Could you -- you had some comments in the prepared script.

About half of it was mobile comm and half of it, was that multimedia SoC or mobile storage?

And then specifically what products were actually written down?

Sure.

Approximately half of the inventory write-offs involved are multimedia SoC products, a big part of it MP3, as well as some PC camera products.

And then we also -- the bulk of the remainder are mobile communications products, so including both some mobile TV ICs as well as some of the other products.

And on the mobile TV side, is this either T-MMB receivers or the discrete T-DMB now that you have the T-DMB SoC out?

Or can you be a little bit more specific on that mobile comm side where the --?

Yes.

These are discrete products that are no longer sellable.

Okay.

And then, just staying on the mobile TV business, you've mentioned the ISDB-T win for a tier one handset in Brazil.

Is that the new SoC or is that a receiver or --?

New SoC.

It is the SoC?

All our new products for mobile TV will be SoC.

Okay.

Great.

And then, just a clarification on it.

You'd mentioned that you were working or speaking with a number of the Japanese handset manufacturers for the ISDB-T SoC.

I thought you had an arrangement with MegaChips where you have partnered with their demodulator your tuner, but part of that agreement was that MegaChips would be able to sell in Japan and you've got territories outside of Japan.

Has that arrangement changed or was I mistaken with that arrangement?

I think the arrangement has been changed since early this year because we have a better opportunity to penetrate Japan domestic market to sell SoC directly, not only because we have positioned since on LG selling in Japan market, but also directly with a module maker in Japan to sell through the -- such as the DoCoMo and others carrier.

Okay.

So the bottom line, you now have the ability to sell directly into the Japanese ISDB-T market?

That's correct.

Great.

The other question I had was you'd mentioned a new HD -- a tier one SSD controller win with a hard disc drive manufacturer.

Can you just give us a little bit of details as to the intended application?

Is that going to target netbooks or notebooks?

Is that a 64-gigabyte capacity or smaller capacity?

Just some of the general details around that win.

At the moment, we cannot reveal the detail to you.

We believe that it's used for probably industrial applications, not for the standard notebook or netbook applications.

Okay.

And then, just lastly, you'd mentioned the pretty aggressive price environment, down about 24% quarter over quarter.

Can you give us any sense what type of pricing that you're looking for in the second quarter, as you build up to that up 5% to 15% guidance?

Because we see some new programs kick in and because we have certain new OEM programs start to move production in the second quarter.

So we have better visibility compared with the Q1 regarding the Q2 outlook.

But are you assuming that revenue growth is driven entirely by increased unit shipments and that pricing continues to come down?

Or will you see some of these new programs coming in at better pricing than what you were seeing in Q4 and Q1?

We're seeing some new programs with better positions, such as [chipset] designs for certain OEMs that have a price protection.

Okay.

Great.

Thank you.

Your next question comes from the line of Daniel Amir of Lazard Capital Markets.

Thanks a lot.

Thank you for taking my call.

A few questions.

First, on the inventory level, you're mentioning 127 days and it seems like that's largely due to some of the lower revenues this quarter.

What is the normal inventory level that you feel comfortable with?

And when do you think you'll get there?

We typically target about three months of inventory.

Inventory is still higher than what we need.

As you know, it takes a couple of quarters for us to turn our ship around.

There are inventories that are still -- that were put in order from many months ago that we're still taking delivery.

We are selling inventory, selling down our inventory.

But because of the lower revenue, inventory levels still remain higher than expected.

So by the second half it would be of a more normal inventory level, you think?

It'll probably take a few more quarters.

We're working to reduce our inventory but it will not be that rapid.

Okay.

Then can you comment a bit about the sub-50-nanometer controller market?

It seemed like that was part of the reason for the margins issue, as the transition seems to be a bit slower.

What's your take in what the major component vendors are doing right now, that you feel that the market is going to finally transition into that level?

And what edge do you have there compared to the competition in order to attract better margins there?

I think the first quarter we suffered challenge, not just the availability about the NAND flash components, but also inventory from competitor our controller inventory is very high.

That's why there's a lot of price pressure.

But going forward, we see from second quarter -- from late second quarter, high-end portion, they're going to ramp up 34-nanometer 256-page NAND flash.

That's probably going to help the supply portion of the NAND component.

We believe that maybe in the second half of 2009 Samsung is going to ramp the 35-nanometer and Toshiba not only they are in 43-nanometer today, they might ramp up 32-nanometer, Hynix moving to 41-nanometer second half of '09.

All this is the new generation NAND flash, requiring new controllers with intensive ECC engines and with better wear-leveling technology.

Some also need a randomizer to reduce energy, to avoid distortion and disturbance for the NAND flash.

So that potentially can hurdle ASP by increased ASP portion in products.

Okay.

And in terms of product breakdown, what portion of your business was USB drives this quarter?

The total unit shipment for flash controllers is about 25% in the first quarter.

25% of total units was USB?

Total flash controllers.

Okay.

And then, on the mobile TV side, has anything changed in terms of the pricing environment?

It seems like demand was low but it's starting to pick up with some new design wins.

How's the pricing environment there?

Because we are transitioning from tuner only into the SoC, SoC meaning tuner plus demodulator.

So the ASP is higher, but the margin also challenging.

But we try to maintain better margin compared to pure tuner solution.

So the margin's below corporate gross margins?

It depends for the product.

Certain products have a better margin corporate average, certain products is below corporate average.

And that's for the SoC or that's just for the tuner?

So, for today's Korean market, T-DMB, our SoCs they have a very decent margin.

But we foresee ongoing we'll see more competition coming to the market.

For some new markets such as China C-MMB and Japan ISDB-T, Japan has more competitors so margin is lower than corporate average.

But China market we have better margins than corporate average.

Okay.

Great.

Thanks a lot.

Your next question comes from the line of Dunham Winoto of Avian.

Hi.

Thanks for taking my call, guys.

First question, I was just wondering if you can maybe give us your insights.

With NAND-compliant pricing been going up, I would assume that that would have an impact on finished products as well.

What do you think is the opportunity or perhaps OEMs going towards lower-density cards and how that might impact your business?

Seems that the real issue is the end demand from the market is still soft.

So flash makers, they are unwilling to produce lower-density NAND.

When they cut capacity from legacy staff, they cut lower-density, older-generation NAND flash.

That's the impact for our bundled business in the flash memory cards.

But the OEM side, only certain -- we only see very few.

They have a better growth rate in second quarter.

As of today, I think it's still very unclear to see the lower-density bundled business can be recovered in second quarter.

Okay.

But what I'm saying is what do you think is the possibility that instead of bundling 4 or 2-gigabyte cards, OEMs bundling 1-gigabyte density cards instead and how that might impact your business.

It's very hard to take comparisons region by region.

For example, there are certain OEMs when their bundled business was for US/Europe, they may need a higher density such as gigabyte or 2 gigabytes.

But in China, majority require lower than 1 gigabyte.

Okay.

Let me also add, as much as OEMs may want to bundle lower capacity, one of the issues that Wallace pointed out was that the lower capacity components are scarcer, are more difficult to find.

So as much as they'd like to bundle lower capacity, they just aren't available.

Okay.

Got you.

Next question is can you talk a little bit about margin?

I know that the margin over the past couple of quarters has been lower and that's because of the general overall market conditions.

But can you talk about, going forward, what are you doing from maybe a unit cost perspective, what kind of opportunity you might have in that regard in trying to get back to the kind of margins that you have seen in the past?

We're doing a couple of things in order to reduce our costs, our cost of sales, two things specifically.

We're trying to reduce our manufacturing costs, so negotiating better terms from foundries as well as testing and packaging partners, as well as redesigning our ICs so that they're more cost-competitive than earlier generation versions.

So those are the two general approaches we're taking to reduce our costs.

In the really weak market demand, our main strategy, try to improve gross margin helped by selling the mixed product.

So we need to offer broader, high-end, higher-performance controllers and that can raise the mix margin.

For example, we are delivering four channel compound flat controllers, and that product will be leading position for highest performance.

Then that will help to balance our gross margin.

Okay.

A final question for me.

If you can share with us some of the feedback that you've been getting from your customers, and particularly those channel inventory for finished products, such as cards, what's the trend there lately?

Up or down?

We do not have a very sound feedback on it, but as far as we know, for the first check in end of April, the channel inventory I think is okay.

It's not a high inventory level compared to last Q4.

Okay.

So it's lower than Q4?

It's better than last year Q4.

Okay.

But maybe it's a little bit higher than what's normal seasonality?

I think the major issue is really the demand.

The end demand is still not very strong.

So the flash makers really cut production of the capacity for NAND and raise the price up.

So the price up, that also decreases the demand for the card, so that really puts a controller maker into a difficult position.

Got you.

Okay.

Thanks for taking my questions.

That's all I have.

Your next question comes from the line of Mike Crawford of B.

Riley & Company.

Thank you.

So you mention in your comments you think that you expect Samsung, Hynix and Toshiba to ramp up to 35 to 42-nanometer production in the second half.

The second half is seven weeks away.

Can you be any more specific on when you (multiple speakers)?

I cannot comment.

All we can say officially, Samsung have announced they're going to ramp up 35-nanometer in second half.

It could be late second half or could be late Q3.

So I cannot comment for Samsung.

Toshiba also officially announced they will move 32-nanometer into mass production in the second half of 2009.

Right.

So -- and when did -- when had you originally expected this transition to occur?

I think the -- I think, according to last year, maybe Samsung should be in mass production around late second quarter.

So they're not too far away.

Right.

So -- then when -- I imagine when you sell a controller -- a more advanced controller for these smaller geometries that these are some of your best gross margin products.

In more advanced NAND flash, because endurance is weaker.

So controller has a lot of functions to cover the endurance issue for the end products.

So controllers have much stronger error correction engine and much better wear leveling, much bigger internal buffer, so when like -- for example, when program error, we need to revise the data into the NAND flash.

So the cost of the controller is higher and the ASP is higher than when we are better positioned to sell with higher margin products to our end customers.

And so how much is this delayed transition affecting you in terms of your competitors coming up with viable products that are going to be able to compete with yours on price, sooner rather than later?

At this moment, we cannot tell.

But we are in a very good position to wait for the Intel Micron 34-nanometer, especially 256 pages per block product into mass production in June.

Okay.

All right.

Thank you.

And then, in your earlier comments you mentioned that you had pushed back some R&D spending, so that's why R&D is down now.

What's been delayed and what should we think about R&D going forward?

We -- there's been some delay in terms of tape-out spend, tape-out spend of over $1m, spend that could have taken place in the first quarter but because of the timing of our product launches and so forth it's been pushed out.

So this incremental spend will now take place in the second quarter.

So you think R&D goes back up into the $7m a quarter range, $8m?

Well, our total operating expense, as we provided guidance, is $12m or $13m in the second quarter.

This is higher than the $10m that we had in the first quarter.

So a big part of the increase in operating expense in the second quarter is coming from the incremental R&D spend that did not take place in the first quarter but will take place in the second quarter.

But it's much lower than last year.

Right.

If your revenues continue at a 50% to 60% pace of last year, when do you think management is going to make decisions to further right-size the business, because you can't be spending $30m on R&D if you're only doing $90m in revenue for very long, can you?

Well, we have certain discretion in terms of our business.

There's a lot of variable cost elements to our business.

There are also products that if the end markets are no longer there we can cut back.

Last year we did -- we terminated quite a few of our product lines because they were no longer economically viable.

We can continue doing that.

There are certain products that no longer demonstrate economic viability.

They are products that may not make sense for us to continue investing in, and by doing so will allow us to reduce our cost.

But certain products demonstrate -- represent future growth opportunities, such as SoCs in mobile TV and so forth.

These are products that we intend to invest in because these are products that will drive our future value creation.

So some of the incremental spend that we have planned this year relates to these products that will add value to our Company.

Okay.

Great.

Thank you.

Your next question comes from the line of Quinn Bolton of Needham & Company.

Hi, guys.

I just wanted to follow up and see if you could give us any sense of mix between the 50-nanometer controllers in Q1 and the sub-50-nanometer controllers, and how you think that mix might shift, say, by the fourth quarter of 2009.

We cannot predict.

It's very hard because it all depends when the flash makers can move -- can ramp up into higher volumes.

Okay.

Well, let me then maybe ask, I'm assuming then that sub-50-nanometer controllers in Q1 was a very small percentage of the mobile storage business?

About 40%, 40%/50%, 40%.

It's less than half of our segment revenue.

Okay.

So something in the 30% to 40% range and then depending on the timing of the Samsung and the Toshiba ramps it probably goes higher, and sounds like it could be the majority of the business by the end of the year.

I think every flash maker has their plan and strategy how to make a better profit.

So I think we cannot predict what they plan to do.

But we have prepared.

We will be ready when they start to ramp.

When they start to ramp, we want to take advantage of the position.

Okay.

And then --

When flash makers ramp their sub-50-nano products, by the end of the year the vast majority of products should be sub-50 level.

Okay.

And again, just back to the pricing issue, as you mix to the sub-50-nanometer controllers, are you getting, say, a 10% or 20% premium versus the pricing you're seeing today for the older 50-nanometer controllers?

Is it a meaningful up-tick in pricing as you get to that sub-50-nanometer controller?

It really depends on, I think, Quinn, is -- but fundamentally for our business we really do not like to see shortage.

When the NAND flash is in shortage, that's against our business model.

But first, we do not like to see shortage.

Second, the current price increase for NAND is artificial.

It's not real, because of strong demand from end market.

So if, when market rebounds, demand becomes stronger then flash can only become a variable.

We definitely will see strong rebound for our demand for our NAND controllers.

Okay.

Great.

Thank you.

(Operator Instructions).

And at this moment I am showing no questions.

I would now like to turn the call back over to Mr.

Jason Tsai.

I would like to thank all of you for joining us today.

We will be attending the Oppenheimer 3rd Annual Dragon Call Conference in May and the UBS Global Technology and Services Conference in June.

Thank you again for your interest in Silicon Motion.

Goodbye for now.

Ladies and gentlemen, that concludes the presentation.

Thank you for your participation.

You may now disconnect.

Have a great day.