Semtech Corp (SMTC) 2009 Q2 法說會逐字稿

Good evening. My name is Brianna, and I will be your conference operator today. At this time, I would like to welcome everyone to the second quarter fiscal year 2009 Semtech Corporation earnings conference call. (OPERATOR INSTRUCTIONS). Thank you. Mr. German, you may begin your conference.

Thank you, operator. Good afternoon, ladies and gentlemen, and welcome to Semtech Corporation's fiscal year 2009 second quarter conference call. I'm Todd German, Director of FP&A and Investor Relations. We've just released unaudited results for our second quarter that ended July 27th, 2008; and for the next 45 minutes or so, Mohan Maheswaran, Semtech's President and Chief Executive Officer, and Emeka Chukwu, our Chief Financial Officer, will be discussing those results and answering your questions. Before I turn the call over to Emeka, I want to remind everyone of the following important information. This call is open to all interested parties in accordance with Reg FD. Any questions about our performance, operations, plans or our estimates of future financial results will be considered now. We are unable to say if there will be another Reg FD compliant opportunity for to you ask questions before the next quarterly conference call. Semtech reports results based on Generally Accepted Accounting Principles, commonly referred to as GAAP. The results today are preliminary, as the quarterly review by the Company's independent registered public accounting firm is still underway. As such, these results are subject to revision until the review is completed and the Company files its quarterly report on Form 10-Q.

This quarter, we have also made reference to certain non-GAAP measures. These non-GAAP items are provided to enhance your overall understanding of our comparable financial performance between periods. In addition, management generally excludes certain items in managing and evaluating the performance of the business. This conference call will include forward-looking statements. Forward-looking statements are statements other than historical information or statements of current condition, and relate to matters such as future financial performance, future operational performance, the anticipated impact of specific items on future earnings and our plans, objectives and expectations. Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those projected. Some of these risks are discussed in our most recent filings with the SEC on Form 10-K and 10-Q. Although a replay of this call be available on the Investor Relations section our website, we assume no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

For those interested in learning more about Semtech, CEO Mohan Maheswaran will be presenting at the CitiGroup Investment Research & Technology Conference in New York on Thursday, September 4th at 9:50 Eastern standard time. Additionally, Semtech will be ringing the opening bell on the NASDAQ stock market the following day, September 5th. A webcast link for the CitiGroup conference presentation, as well as a link to view the bell ringing ceremony via the NASDAQ website, are available through the Investor Relations section on the Semtech website. Thanks for your attention to this important preliminary information, and I will now turn the call over to Emeka Chukwu, Semtech's CFO.

Thank you, Todd, and good afternoon, ladies and gentlemen. As previously announced we had a fire on July 31st, at our manufacturing facility in Mexico. As previously announced, we had a fire on July 31st at our Reynosa manufacturing facility in Mexico. The Reynosa facility primarily supports our Power Discrete business unit. The fire affected operations in our fabrication facility and affected both the building and the fab equipment. While this did not affect second quarter fiscal year 2009 results, we do anticipate an impact to earnings during the third quarter of fiscal year 2009. The fire was contained to the fabrication segment of the facility, allowing backend processing to proceed. However, during the clean-up, retooling and retrofit of the damaged segment to the building, new start in material into the fab will be delayed, which will impact revenue and overhead absorption in the third quarter of fiscal year 2009. There will also be additional costs incurred related to the fire that will impact the third quarter; and while insurance claims should cover most of the increased cost, the payment of the insurance recovery may lag the quarterly expense occurrence.

At this time, our best estimate is that the third quarter revenue will be negatively impacted by approximately $1 million, and fully diluted earnings per share will be negatively impacted by approximately $0.01 to $0.02, and it is reflected in our Q3 guidance. We believe that our Q4 revenue will be impacted by 2 or $3 million. However, at this time, we cannot quantify the impact on Q4 gross margin or earnings per share. While we are disappointed with this setback at our Reynosa facility, we are pleased with the progress we have made in executing our recovery plan and feel we will be able to resume full operations by the fourth quarter of fiscal year 2009. Now to our Q2 results. Revenues for the second quarter of fiscal 2009 were $78 million, a 16% increase from the same quarter last year and up 5% sequentially. The increase in year-over-year revenue was driven by strength in sales of our Protection products and our Power Discrete products. As suspected, revenues increased sequentially due to strong demand for our high-end Consumer products. During the second quarter, 59% of our revenues were derived from customers in Asia, 27% from North America and 14% from Europe.

For the second quarter, OEM sales represented approximately 43% of total revenues, while distribution represented approximately 57% of total revenues. Orders were up sequentially in Q2, resulting in a book-to-bill above one. We saw strength in our high-end Consumer and computing end markets, driven by demand for our Protection and Power Management products. Net turns ordered accounted for 33% of shipments during the quarter. Our GAAP net income for the quarter was $11.7 million or $0.19 per diluted share, up from $9 million or $0.13 per share for the same quarter last year and up from net income of $8.1 million or $0.13 per share for the first quarter of 2009. We expect GAAP net income of $0.17 to $0.19 per diluted share in the third quarter of fiscal 2009.

For the second quarter, expenses related to equity-based compensation were $4.4 million or 6% of revenue. This is a decrease of approximately $400,000 from the first quarter of fiscal 2009. The decrease was due to unanticipated for future of equity compensation during the quarter. We expect equity compensation expense of approximately $4.7 million in the third quarter of fiscal 2009. During the quarter, expenses under the Company's previously announced restructuring plan was $140,000. Our GAAP tax rate in the second quarter of fiscal 2009 was 19%, compared to 22.3% for the first quarter of fiscal 2009. The lower tax rate reflects the impact of higher sales into regions with lower tax rates. We expect our GAAP tax rate for the remainder of the year to be approximately 19%, based on projected regional mix of income. The non-GAAP numbers discussed today exclude the impact of stock-based compensation, amortization of acquisition related intangibles, expenses and the recovery of (inaudible), certain insurance litigation, certain restructuring expenses, expenses related to the now completed stock option investigation and expenses related to ongoing option-related matters. On a non-GAAP basis, net income was $15.4 million or $0.25 per diluted share for the second quarter of 2009. Net income for the same quarter last year was $12.5 million or $0.18 per share.

For the first quarter of 2009, net income was $13.4 million or $0.22 per share. We expect non-GAAP earnings in the third quarter of fiscal 2009 to be between $0.23 and $0.25 per diluted share. Non-GAAP gross margin for the second quarter of fiscal 2009 was 55.4%, a 10 basis point increase from the first quarter of fiscal 2009. We expect non-GAAP gross margin during the third quarter of fiscal 2009 to be approximately flat to down 100 basis points, primarily due to the impact of the recent fire at our manufacturing facility in Reynosa, Mexico and unfavorable revenue mix. Non-GAAP Research and Development expenses were $9.4 million for the quarter, down $600,000 sequentially. This decrease was primarily due to timing of new product expenses. R&D spending in the second quarter was 12.1% of sales, compared to 13.5% in the previous quarter. We expect R&D spending in the third quarter of fiscal year 2009 to increase to $10 million, as we accelerate our new product development efforts.

Non-GAAP SG&A expenses were $15.3 million for the quarter, an increase of $100,000 from the first quarter of fiscal 2009. This represents 19.7% of sales, compared to 20.4% in the first quarter of fiscal 2009. We expect SG&A spending in the third quarter of 2009 to increase $500,000 to $15.8 million. The increase is mostly due to one-time severance expenses associated with the departure of our General Counsel and an executive in the Business Development office. Interest and other income was $1.2 million in the second quarter, compared to $1.7 million in the first quarter. This decrease is due to lower interest rates. For the third quarter of fiscal year 2009, we expect interest and other income of approximately $1.1 million. The Company's non-GAAP effective tax rate for the second quarter of 2009 was approximately 21.6%, compared to 24.5% in the first quarter of fiscal 2009. The lower tax rate reflects the impact of higher sales into regions with lower tax rates. We expect our non-GAAP effective tax rate for the remainder of the fiscal 2009 to be approximately 22%.

As a reminder, the actual rate can vary from forecast based on geographical mix of our income, fluctuations in currency exchange rates and changes in estimates of projected benefits from deferred tax assets and liabilities. The diluted share count for the second fiscal quarter was 62.6 million shares. We expect diluted weighted average shares outstanding to be sequentially flat in the third quarter of fiscal 2009. This forecast can vary based on the average stock price for the quarter and the level of stock option exercises and buybacks. Moving on to the balance sheet, our balance sheet remained very healthy. In the second quarter, we generated $18.3 million in free cash flow, which is approximately 23% of revenue; and we ended the quarter with approximately $240 million of cash and investments on the balance sheet. During the quarter, we repurchased approximately $10 million or 685,000 shares of our common stock under a program previously authorized by the Board of Directors. During the second quarter, the Company spent approximately $3 million on property, plant and equipment. Depreciation and amortization for the second quarter was approximately $2.1 million, including approximately $273,000 of intangibles amortization.

In the third quarter, we expect capital spending to be approximately $5 million. The higher level of capital spending is to support the expected production ramp of our newer product platforms and to get our Reynosa manufacturing facility back to full production. We expect depreciation and amortization to be approximately $2.2 million in the third quarter of fiscal 2009. The days sales outstanding and accounts receivable was 43 days in the second quarter, up slightly from 42 days in the first quarter. In absolute dollars, net inventory increased by $2.7 million in the second quarter as compared to the first quarter of fiscal 2009, and the days of inventory increased to 88 days from 84 days in the first quarter. Inventory at our distribution partners was down approximately seven days to 68 days. We believe that both our internal inventory and our channel inventory are at the right levels to support expected stronger demand for our products in the second half of fiscal 2009.

In summary, we are pleased with the Company's financial performance in the second quarter, where we grew our earnings almost three times faster than we grew revenue. I will now hand the call over to Mohan.

Thank you, Emeka. Good afternoon, everyone. I will discuss our Q2 fiscal year 2009 performance by end market and by product group, and then discuss our Q3 fiscal year 2009 outlook. Q2 fiscal year 2009 was another outstanding quarter for Semtech. We achieved the highest Q2 revenues in the Company's history. This now represents our fourth consecutive record revenue quarter. Semtech achieved $78 million in revenues in Q2. This represents a 5% sequential increase and a 16% increase versus Q2 of fiscal year 2008. Non-GAAP gross margins were 55.4% and non-GAAP EPS grew on an annual basis by 39% to $0.25 per diluted share. We are very pleased with both our revenue and EPS performance in Q2.

In Q2, our high-end Consumer revenues increased and represented 39% of total revenues. Our high-end Consumer segment includes cell phones, multi-media handhelds, MP3 players, set-top boxes, digital TVs, games, digital video recorders, digital still cameras, Bluetooth headsets and other consumer equipment. Our high-end Consumer customer base is very broad and geographically well-balanced. We sell products from our Protection product group, our Power Management product group and our Advanced Common Sensing product groups into this segment. We expect our high-end Consumer business to increase again in Q3. Revenues from the Industrial segment increased and represented 27% of total revenues. Industrial revenues include revenue from automated meter reading equipment, military and aerospace equipment, medical equipment, automated test equipment, security, automotive, home automation and other industrial equipment. Our industrial business includes thousands of customers across many different applications. Revenues in this segment come from all four of our product groups.

We expect our industrial business to be approximately flat to slightly down in Q3. Our Computing segment revenues decreased and represented 17% of total revenues. Computing segment revenues include revenue from desktop computers, servers, notebooks, graphics, printers and other computer peripherals. Historically, most of our computing revenues have come from our Power Management products. Today, the contribution to our computing revenues is evenly divided between our Power Management and our Protection Products. We expect that Computing business to increase in Q3 due to seasonality. Finally, our Communications segment revenues declined in Q2 and represented approximately 17% of total revenue. Our Communications revenue includes revenues from base stations, passive optical networks, switches and routers, wireless LAN, voice over IP and other communications infrastructure equipment.

Revenues in this segment come from our Protection, Power Management and our Advanced Common Sensing Product groups. We expect Q3 revenues in Communications to be approximately flat with Q2. Now let me discuss the performance of each of our product groups. In Q2, our Power Management revenues declined sequentially by 1%. The demand in Q2 was driven mostly by the high-end Consumer and the computing markets. Our strategy of minimizing some of our participation in margin-challenged [[commoditized]] segments continues to play out as we had planned. In Q2, we also hired a new Vice President and General Manager, Simon Prutton, to run our Power Management business. Simon is taking a critical look at the strategy, products and focus of the business and is already fine-tuning the business accordingly. Simon has also recently hired a new Vice President of Marketing for the business.

Our Power Management business unit is becoming more balanced, with revenue contribution from the Communications, Industrial, high-end Consumer and the Computing segments. Our Power Management bookings in the quarter remained healthy; and in Q3, we expect our Power Management business to increase, driven by growth in high-end Consumer and Computing systems. In Q2, our Protection revenues increased sequentially by 12% and increased 32% on an annual basis, to achieve a new quarterly record. Not only was this a record for our Protection business, but it was also a record for any business in Semtech's history. Demand for our Protection Products remained strong in the quarter, driven by strength in the high-end Consumer market, Communications market, and the Computing market. The increase in demand for our protection devices is being driven by the increase in the number of ports requiring protection, the increasing bandwidth of these ports and the increasing need for small form factor, green, highly-efficient devices.

In addition, our Protection business services thousand office thousands of customers with many different products. The breadth of market that our Protection business serves includes smart phones, digital TVs, set-top boxes, ethernet switches, DSL line cards, notebook computers, industrial automation systems and voice over IP phones, as well as many, many others. Our Protection business unit continues to execute tremendously well, and strategically we are very encouraged by the design win momentum of our protection products across all our target markets. In Q2, we released a new protection platform for ADSL, VDSL and RS-232 interfaces, and a new protection device for fast ethernet and gigabit ethernet interfaces. In Q3, we expect our Protection revenues to increase again, driven by continued strength in the high-end Consumer and Computing segments. Our Power Discrete revenues in Q2 increased sequentially by 1%, and on an annual basis grew 33%. Once again, we are delighted with the execution within this product group and we continue to see opportunities to increase our penetration in this market. This business is driven by demand from the aerospace, military, industrial, and high-end medical markets.

While the recent fire at our Reynosa manufacturing facility is a setback to our momentum, we do not believe that it will have a significant long-term impact. Our focus continues to be on improving our supply throughput and improving cycle times in order to service unfulfilled demand in these market segments. We expect our Power Discrete revenue to be down in Q3 due to the impact of the fire. Revenue for the Advanced Communications and Sensing business decreased 4% sequentially. Progress with our wireless and sensing platforms was somewhat offset by a continued decline in our ATE business and lower than expected Communications revenues. The decline in our ATE business and the softer Communications business also somewhat negatively impacted gross margins in the quarter. Excluding our Test and Measurement business, our Advanced Common Sensing business would have been up 15% on an annual basis. Our Advanced Communications and Sensing business momentum is beginning to accelerate as we introduce new, exciting wireless sensing and consumer analog platforms to the market.

Solid development execution on our new road maps is critical to the future success of our Advanced Common Sensing business, as we expect these new platforms to positively accelerate the top line and drive further operating leverage. In Q2, we announced our new Timing Synchronization platform, ToPSync, which is already gaining design win momentum. We also have design wins at two tier one communications infrastructure manufacturers, and we are close to design wins at several tier one WiMax infrastructure manufacturers. ToPSync is the result of over five years of R&D investment by our Advanced Common Sensing business unit. We expect the first material revenues for ToPSync to begin in fiscal year 2010. In Q3, we expect revenues from our Advanced Common Sensing business to increase modestly. From a distribution POS standpoint in Q2 fiscal year '09, we saw total POS for the Company increase by 6%. The POS increase was driven by Asia and Europe. Distributor inventory declined in the quarter as expected.

Moving on to new products, we released 18 new products in Q2. In addition to some of the platforms mentioned earlier in the call, we also released several new leading-edge Protection, Power Management and Advanced Common Sensing platforms. New product development continues to be an area of focus for us as we try to change our mix and address new market segments. Revenue from new products is now increased for three consecutive quarters. Turning to design wins, we recorded over 640 new design wins in Q2, which represents another good design win quarter for the Company. This quarter, the forecasted future revenue from these design wins was the highest in the Company's history. With the new platforms we have recently released, we expect to see a continuation of this strong design win momentum in the future. Now let me discuss our outlook for Q3. While the market environment is challenging due to macroeconomic factors and many customers have reduced their overall build plans for the year, we believe that Semtech's breadth of customers, market and products, does put us in a unique class of company in our sector.

We also believe that as we continue to expand our FAM with new product families, that we should be able to grow at a faster rate than the overall market if we execute well. Our book-to-bill going into Q3 was above one. We also entered Q3 with very strong backlog, and and there is positive momentum in all four of our product groups. Despite the impact of the fire on our Power Discrete business, we expect our Q3 revenues to be flat to up 4% sequentially. If we achieve the midpoint of our guidance, or approximately $80 million, Q3 revenues would again be the highest in the history of the Company. To attain the mid-range -- midpoint of our Q3 guidance, we needed net turns orders of approximately 34% at the beginning of Q3. I will now hand the call back to the operator, and Todd, Emeka and I would be happy to answer questions. Operator?

(OPERATOR INSTRUCTIONS). We will pause for just a moment to compile the Q&A roster. And your first question comes from the line of Shawn Webster with J.P. Morgan.

Yes, thank you for taking my questions. Good afternoon. Can you give us an update on where your lead times were at the end of the quarter, maybe some commentary on the linearity of your backlog? And then I have a follow-up or two.

Supply lead times in the 6 to 12 weeks, varies from fab operation and back end. But in that range. Obviously, our Power Discrete business, the lead times are a little bit longer and orders are coming in in about 6 to 8 weeks.

Okay. And the linearity of your orders?

In Q2, the linearity, the bookings were higher in the second half of Q2, as what we had expected. And kind of that's the same profile we would expect for Q3 as well.

Okay. And for the fire -- so you have $1 million of revenue impacting roughly in Q3 and then 2 to 3 in Q4? Is that versus your plan or is that -- should we think about that as sequential declines each quarter in that business unit?

$1 million of impact is obviously versus our plan, our internal plan.

Okay. Were you expecting growth in the back half of the year for this segment?

Yes, we were expecting that business to continue to grow as we increased our manufacturing capacity over there.

Okay. And is there any color you can provide on the Communications segment weakness in terms of specifics or geographies?

Communications was really our historical Sonnet-based Communications product, what used to be our Acapella product line. You know, it's really the historical infrastructural communication stuff versus the newer base-station type of products we have designed into, so that's really where most of the weakness was.

Okay. And I'm sorry, last one. On the gross margins flat to down 100 basis points, what are -- is it mostly the recovery from the fire that swings that 100 basis points around in terms of what you're expecting for Q3, or what are the moving parts that will move it to one side or another of that?

Well, I think the best way to answer the question is out of the 100 basis point reduction, I think 70 to 80% of that is because of the fire and the remainder is just due to revenue mix.

Okay. Thank you very much.

Your next question comes from the line of Rick Schafer with Oppenheimer.

Yes, hey, guys, I just had a couple questions. First one, just back on the fire for a second, I guess what's your level -- or can you give us an idea of your level of confidence that the fire is only going to have a real second half impact on revenues and margins here? And then maybe give us a little more color on why the impact is actually bigger in the fourth quarter. Is that inventory being bled off or what's going on there?

Well, so let me answer the second part first, Rick. I mean, the fire was mostly in the fab area. In fact, pretty much contained to the fab area. So the back end operations were pretty much unaffected; which means, obviously, that we have to get the building -- fab building back in operation and get new equipment back in operation, so there's an impact to the Q4 number, which is greater than the Q3 number, obviously, because we had material already in there, in the back end. So that answers the second question. In terms of confidence level, you know, we are making good progress in terms of the recovery; it's going very well. It's on schedule. And we almost have the building that was impacted pretty much 80%, I would say, redone now. So it's a question of getting the new equipment in there, reinstalled and material flowing again; and so we expect by the end of this quarter that we'll be back with a fully functioning operation. And then the question is, you know, how -- what are the yields like and all of that sort of stuff, which we'll really only be able to quantify in Q4.

Okay, but you still feel pretty good that it's just going to be limited to about a 3 or $4 million total impact?

Yes. At this point, yes.

Okay. And is it possible -- I mean, I know this business is pretty sticky for you guys. I mean, is it possible to lose some share, I guess, in the third and fourth quarter? I mean, could you lose some sockets or lose any business there?

I don't think we'll lose sockets, but the revenue we had planned on, it's likely that that will be lost.

Okay. And then just second question, you know, I know you talk about Protection as a primary top line growth driver for you guys. I think you're also pretty open that it's one of your lowest margins, if not your lowest margin business. I guess everybody's kind of looking at your story like for next year as a margin expansion story. I mean, I guess the key part of that would be getting Power Management margins up. I mean, can you give us any color on how that's going to be accomplished, or am I even on target there?

So let me clarify, Rick. You said Protection. But I think you meant Power Management, right?

Oh, I apologize. Yes, Power Management, sorry.

Yes, Power Management -- yes, I mean, the story with Power has been clear ever since I joined the Company, really. The Company has focused a lot of its Power Management products on the computing space and I didn't think, as I came into the Company, that that was a great space for us, especially the desktop computing and the notebook computing. And we have had a strategy over the last couple of years to kind of de-emphasize that, put more of the investment into general purpose products and to other segments, which I believe will generate higher gross margin for us. You know, you get your general purpose power products that fit quite well with some of the computing requirements, but in general they can be targeted to many other different areas. So I think that as we get those new products out and they start to gain traction -- which they are now -- and when they really start to generate revenue, we will see both gross margin expansion and revenue growth from the Power business.

In addition to that, I expect Protection business to continue to grow, as I mentioned. Our Advanced Common Sensing business, as most people know, was three acquisitions we brought together, and we have a lot of new product platforms coming out there which will not only enable us to get more traction in the consumer analog sector, which we haven't historically participated in, but in some new areas like the Timing Synchronization and (inaudible) based networks, for example, that should also drive gross margin expansion and growth. And once we get our Power Discrete operations back in line, I expect to continue to gain share in that market. So those are all areas that I think will help us grow both the top line, expand gross margins and get leverage on the bottom line.

Got it. And then a follow-up on the Power Management question. I mean, is it safe to assume that we're sort of at the bottom here, or we've kind of bottomed out on Power Management margins and maybe we should be thinking about possibly this being a 50% margin business going forward at all, or -- ?

Well, it does take time to get the new products, which are getting design ins now into real revenue and generating the type of revenue that can offset the notebook and desktop revenues that are a little bit larger because of the volumes. But I think we have probably reached a low point in the second half here of Power Management gross margins, and my expectation is that we will start to see that increase. As I mentioned in the script, our Computing business now, which is about 17% of revenue, our -- that's kind of divided evenly between Power Management and Protection. So Power Management is actually -- is a relatively small part now of the total Company, the Computing part of that.

Got it. Thanks.

Your next question comes from the line of Steve Smigie with Raymond James.

Great. Thanks for taking my call -- my question. Just a question on the Acapella weakness in the quarter, what used to be the Sonnet. How long would you expect to see that weakness continue? Could we see that going to future quarters as well or is it more of a one time thing?

On the (inaudible) side, Steve?

Yes.

I think that was more just related to the marketplace. I don't think there's anything specific, no design losses or any of that type of thing; it's just the market was a little bit softer in Q2. We don't anticipate it to be a major issue for us. Secondly, Q3 is typically a little bit softer, I think. But we expect it to come back.

Okay. All right. And then just as I look out to the fiscal fourth quarter, excluding the impact of the fire, would you characterize that as being -- or what would you characterize as being seasonality typically for that quarter? You have a launch of new products. So I'm just curious how you see seasonality in that quarter.

Well, Q4 -- well, typically what we would see is that Consumer would still be quite strong, and then because our quarter goes into January, there may be some pick-up in Industrial and Communications in that quarter.

Okay. So it should be -- excluding the impact of the fire, should be a growth quarter?

That's our current expectation. We don't want to give you guidance for Q4 at this point.

Okay. And then in terms of the overall opportunity for gross margin expansion, I'm just curious, you know, your thoughts over the next year as these products roll out, what's maybe a range of potential gross margin expansion you could see? Obviously, there's certain products that may work versus certain that won't. I'm just curious on that.

Well, Steve, our expectation here is that a lot of the new product design wins that we are seeing right now should really be producing revenue fiscal year 2010. So it's kind of hard for me to quantify the range of gross margin expansion; but I would really expect us to really see some decent expansion of gross margin, something in the order of 100 basis points and above.

Okay. Great. All right. Thank you very much.

Your next question comes from the line of Sumit Dhanda with Banc of America Securities.

Yes, hi. A couple of questions. Just so that I'm clear on this, Mohan or Emeka, there's a cumulative impact from the fire in Q3 and Q4. Is the 2 to $3 million in Q4 incremental to what you see in Q3? That's the first question. And then secondly, do we expect a diversion back to the levels you were running at in the April quarter, you know, as you head into fiscal 2010, given the supply constraints in the business? Or does the loss of business in the back half of the year flow through in subsequent quarters in fiscal 2010?

So the answer to both your questions is yes, Sumit. First of all, the Q3, Q4 impact is cumulative. So $1million in Q3 and than additional 2 to $3 million in Q4. And then going forward, once we have the operation back and running, because it's supply constrained, our expectation is we'll get back to the type of revenue levels that we were at and, you know, my expectation is will still be able to continue to grow that business and gain share, which is what we were doing in the first place. So that's the expectation.

Okay. Second question I had for you or Emeka, your margin targets were 55 to 60 in the back half of this fiscal year and 25 to 30 on the operating margin side. Even if we account for what's happening within your Power Discrete business because of the unfortunate fire, it doesn't seem like you are close to that target; and so I guess my question is, you know, is your new product ramp unfolding slower than anticipated, and if so, what's really the reason for that?

So the gross margins, you know, we had set a target of exiting this year at the mid-range of our gross margin model and at the lower end of our operating margin model, so 25% operating margin and then mid-range of the gross margin model. I think we still today look at it and say well, had we not had the fire, we would have been maybe not quite there at the midpoint of the gross margin model but maybe 56%ish; and so we would have still exited the year at a pretty good gross margin, and we still feel and continue to feel that the low end of the operating margin model is achievable. So the product traction and new platforms, I think where the disappointment is is in the new platforms in new markets. So markets like WiMax and GPON and some of the 3G, 4G infrastructure, I view that as more of a macroeconomic issue versus a product issue. In Power Management, I think we recognize that we can still do better from an execution standpoint. It's one of the reasons I've hired a new General Manager, and I do think we can do better there. But in general, I would say that we're quite pleased with the new product platforms coming out and they're gaining design wins, and design win momentum is quite good. It's those design wins turning into revenue that hasn't yet materialized.

Okay. And then perhaps my last question here, on inventories, I think, Emeka, last quarter when the inventories had gone up you'd said that entering the July quarter they would be flat to down on a sequential basis in the July quarter. And that's on a days basis. Seems like they were up slightly. You know, can you help us understand, given that you hit your sales target, why that inventory profile didn't match your initial expectations?

Well, Sumit, if you look at our demand forecast for the second half, it's typically been a very strong second half for us; and as we went through the quarter and continued to look at the demand, and we felt that we needed to have inventory in place. I think the one thing to observe is that the inventory increase in the second quarter was much lower than the increase in the first quarter. So I think we did make a reasonable effort to bring inventory down. Our expectations are as that we go through the end of the October quarter that we should start to see inventory come down.

Maybe just one follow-up on that. You know, I know you're saying that the build is in anticipation of demand; but even if we adjust for the $1 million loss in the October quarter because of the fire, it doesn't -- you know, you would have been up 3% at the midpoint of your guidance. While that's not bad, it's certainly not suggestive of a very strong demand trajectory. So I'm having a little bit of a hard time reconciling your opinion that for two consecutive quarters you've said that partly the increase in inventory outside of the supply disruption that you saw in the previous quarter is in anticipation of better demand, but it doesn't seem to be reflected in your outlook for at least the October quarter revenues.

Well, as you build inventory, you're not just looking at one quarter. You're looking at more than a quarter, right? And if you look at our demand, you also have to be aware of the mix of where the demand is coming from. You also have to take into account the supply lead times. So taking all those into account and the history that we've had in the past with delinquencies, we felt that we needed that inventory at the right level where we want it to be. The other thing you also need to take into account is the fact that our channel inventory is down sequentially. So if you look at it in the aggregate as just one pool of inventory, you probably can see our overall inventory channel, both the channel inventory and our inventory, is actually flat to down as of the July quarter.

Okay. Thank you.

Your next question comes from the line of Harsh Kumar with Morgan Keegan.

Hi, guys. Couple of questions. Mohan, if I heard correctly, I think you said your PC business was slightly down, a percent or so. This seems to me a little bit contrary to what we're hearing in the marketplace from some of the other vendors. Could you maybe clarify what's behind that, just maybe mix of products and anything special that's special going on with your business relative to the market?

Well, I think it's partly our strategy, Harsh, which was to turn away some low -- very low margin desktop and notebook business in some new platforms. We made a very specific attempt to do that and that's probably why the Computing Power business in Q2 was a little bit lower than one may have anticipated. But I think it's not a huge decline. It's relatively modest and I think Computing for us will still be strong in the second half.

Okay. And I think that actually leads me to my next question on Power. It seems like it's a little bit more delayed than we had previously thought, Mohan. Could you maybe try to solidify for us when you think it might come back for you? I know you've sort of (inaudible) threw out the 2010 estimate, but is there any indication either ways, earlier or back half, first half, anything like that?

Well, I think we should see improvements in the -- both the top line in specific markets in the first half, and that should help us on the gross margin front. But again, it depends on which segments within the Power area, which markets that we've attacked that kind of take off. So for example, WiMax infrastructure and GPON infrastructure and some of those new markets that we have got design wins in -- UMPC displays -- how they roll out in the year is the question. I would say that I think that many of the new products we have are very good, and I think that the design win momentum is very encouraging.

Okay. That's helpful. And then once you get past -- let's say you get to the January quarter and you're at the end of that and you're past the Reynosa impact and you're still sort of growing revenues at the market base or better, would you then think, Mohan, that your gross margin target and operating margin targets are then achievable next year, perhaps, once you're past all this sort of one-time fire issues?

Yes, absolutely. I mean, I think if we look at our Advanced Common Sensing products and the momentum we have there, that should be well within the range of our target model and at the high end of that. I think our new Power Management products will be in the range -- perhaps at the low end of our target model, but in the range. Protection continues to be in the range and Power Discrete certainly will be in the range; obviously, once we get that back and growing, I think we'll expect that that will be the expectation. So yes.

That's helpful. Thanks, guys. That's it for me. Thank you.

Okay.

Your next question comes from the line of (inaudible) with [Chip Investment Group].

Hi. Good afternoon, and congratulations on a solid quarter and record results.

Thank you.

Yes. Can you please give more color on the end markets where you're seeing growth for your Protection and Power Management businesses, just kind of recap for us?

The end markets within Consumer, high-end Consumer, Protection Power and -- Protection and Power are doing very well in the handheld space, and then other high-end Consumer products like TVs, set-top boxes, general purpose consumer equipments -- there's a very broad range of equipment. And even within handheld, actually, there's a lot of different sub markets within that category, including cell phones and smart phones and media players, and we are really getting very good traction in all of those areas, both in Protection and then increasingly so in Power as well.

Okay. So the strength that you are seeing in the Protection business, is that primarily because your available market is growing, or you think you're gaining share versus competition?

Well, I think it's a little bit of both, but I think it's mostly the first statement you made. The Protection business, what's happening there is that the demand for high-end, very, very good, robust protection in different equipment is increasing. More ports -- you know, you have USB parts and HDMI ports and ethernet ports. The number of ports is increasing. And then as I mentioned, bandwidth in those ports is also increasing. So you go from fast ethernet to gigabit ethernet, to 10-gig ethernet, HDMI 1.2, 1.3, USB to USB2 -- each time there's that bandwidth increase, it puts more of a burden on the protection device, and that also is the opportunity for us and we're seeing that; and then the green factor and the fact that we have very small protection devices and highly efficient protection devices is also helping us.

Okay. And regarding your wafer output, a majority of your wafers are finished wafers, I should say; they come from fabs in Asia. Is that right?

We have foundry partners in Asia and Europe, mostly, yes.

Okay. So this Mexico facility, that's only a small portion of your total output?

Yes -- well, exactly. But the Mexico facility is the only one that we own. We run that. We manufacture our own -- that's our own manufacturing there -- our own wafers and our own back end.

I see. Okay. Well, again, congratulations on a solid quarter.

Thank you.

Your next question comes from the line of Craig Ellis with Citi.

Thanks for taking the question. Just two clarifications. One, on the gross margin impact of the fire, given that the revenue impact is increasing about 2 to 2.5-X in the fiscal fourth quarter, is the gross margin impact increasing commensurately, or is there no real incremental negative impact in the fourth quarter?

Craig, this is Emeka. Yes, we do not expect any incremental negative impact in the fourth quarter and the reason is that we are seeing some benefits from the traction from some of our new products; so we're expecting to get some help from the mix of new product revenues in the fourth quarter, and we're thinking that that should be decent enough to offset any lingering effects of our -- of the revenue that we're losing from the Power Discrete. Also, in addition, because the Power Discrete facility is going to be back up to full operations we believe by the end of -- by the start of Q4, the absorption that we're going to be losing in Q3, we should not have that reoccur in Q4. So a combination of all those moving parts allows us to believe that we should not see any incremental negative impact on our gross margins in Q4.

Okay. And then somewhat relatedly, with regard to the potential insurance recovery, what do you need to do to capture that? And when you get it, where is that booked?

Well, in general, when you get insurance recovery you book it into the same line where you book the expense, and we are definitely -- the ideal situation is for us to get the insurance recovery as quickly as possible. We've modeled some recovery in Q3. We should also see some in Q4. But the one thing to just emphasize is that impact of -- the impact of the fire both in terms of insurance expenses and the additional expenses and the insurance recovery has been modeled into the guidance that we gave.

Can you quantify how much insurance recovery you're expecting in the guidance that you gave for the third quarter?

No, I can't quantify the amount of the insurance recovery that I'm expecting. I do believe that there's going to be a net -- I don't expect that insurance recovery is going to completely offset the additional expenses that we're going to see this quarter because of the fire.

Got you. Thanks, Emeka.

You have a follow-up question from the line of Sumit Dhanda with Banc of America Securities.

Yes, hi, just a couple of quick follow-ups. Mohan or Emeka, so in light of what has occurred, both really mainly on the fact that some of the new markets haven't panned out as quickly as anticipated plus the Reynosa fire, if you had a reset when you would be hitting your target margin models, would you say that's first half of '09? Is it second half of '09? Are you willing to put sort of a stake in the ground on that?

Well, Sumit, I know we've -- I've looked at that situation and I don't want to put a stake in the ground as of now until we see everything in Reynosa come back to full operations, like Mohan indicated before. We feel very good about where we are, about the recovery efforts; but until you start getting material through the fab and get (inaudible). But let's assume that everything works out and we get back on course and with the revenue traction that we're seeing with the new products, we feel very good about seeing margin expansion in the first half of next year. I don't know that I'm willing at this point to put a stake in the ground.

Okay. And then Mohan, maybe for you, some of the new markets like you said have been slower to pan out -- WiMax, and maybe your GPON traction has been slow to materialize. How much of the new product growth that you've been banking on is a function of new platform acceptance in existing markets versus new platform acceptance in new markets? In other words, what's sort of realistically in your control versus out of your control?

Well, I think it's difficult to quantify, Sumit. I would say we have a lot of good traction in existing markets as well. I don't want to give the impression that it's all coming from new markets. So in handhelds, we've got good Power Management traction, good Protection traction. But I think the real difference makers in terms of getting acceleration of the top line -- I mean, you know, you mentioned we get 3 to 6% growth here and there, but to really move the top line and to really move gross margins, I think we also need the additional emerging applications to come home for us. ToPSync timing synchronization is an example of that, where we have very good product technology. It's designed in to very good customers and well above gross margin -- our average gross margins. And we would expect to see that start to drive some revenue; and if that materializes, then I think the gross margin expansion will be clear.

One last follow-up for you, Emeka. You noted that your distribution inventory was down seven days to 68. Concurrently, it seems like your deferred revenue or income line was up modestly. Is the counter trend there explainable because you are carrying higher margin products in distribution inventory, and hence the deferred margin or the deferred revenue -- really the deferred margin number looks higher despite a lower inventory base per your assessment?

Yes, I think it is very simple, when you look at our distribution inventory we account for it differently, right, depending on if it's going to Asia we recognize revenue upon selling. So we don't defer anything. And if it's going into North America or Europe, we do defer the revenue. So if you have seen an increase in deferred revenue probably because of high margin products, but more importantly just means that we do have a little bit more inventory in the North America and the European channels. So when you look at the decrease in the days of inventory, you can make the assumption that a lot of it probably came from the Asia channel.

Okay. I understand. Thank you so much.

(OPERATOR INSTRUCTIONS). I do have a follow-up question from the line of Steve Smigie with Raymond James.

Great. Thanks. I was hoping you could comment a little bit on what parts you're attacking in GPON?

We have Protection, Power Management products and also some Communications products. But mostly Power Management and Protection.

Okay. And then on the ramp of ACNS, particularly on the ToPSync products, can you talk about, are there specific regions where you expect to see growth sooner or expect to see more growth and -- both in terms of customers and then in terms of, say, the networks where those customers might roll out those products?

Yes, I mean, the customers are mostly in Asia and Europe and the end customer, the service providers are pretty global, actually -- North America, Eastern Europe as well as Asia.

Okay. Great. Thank you very much.

And at this time, there are no further questions.

Okay. Let me summarize by saying that Q2 fiscal year '09 was another outstanding quarter for Semtech. We increased revenues annually by 16% to achieve a Q2 revenue record in our 48 year history, and increased non-GAAP EPS by an outstanding 39%. We also achieved a book-to-bill above one and saw two of our core product groups grow by double digits on an annual basis. We also increased our cash balance by $11 million and we purchased another $10 million of our stock. Finally, we are confident that we can continue to grow our earnings at a faster rate than revenue, as new product revenues gain traction and as we focus on improving the return on our R&D expenses. With that, I would like to thank everyone for participating in our second quarter conference call, and look forward to updating you all next quarter. Thank you.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.