思佳訊 (SWKS) 2005 Q4 法說會逐字稿

Please stand by, we’re about to begin.

Good afternoon, and welcome to the Skyworks Solutions fourth quarter fiscal year 2005 earnings call.

At this time, I will turn the conference over to Tom Schiller, Investor Relations for Skyworks.

Mr. Schiller, please go ahead.

Thank you, Operator.

Good afternoon, everyone.

And welcome to Skyworks’ fourth fiscal quarter 2005 conference call.

With me today are Dave Aldrich, our President and Chief Executive Officer;

Allan Kline, our Chief Financial Officer; and Liam Griffin, our Senior Vice President of Sales and Marketing.

Dave will begin today’s call with a business overview, followed by Allan’s financial review and outlook.

We will then open the lines for your questions.

Please note that our comments today will include statements relating to future results that are forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially and adversely from those projected as a result of certain risks and uncertainties, including but not limited to those noted in our earnings release and those detailed from time to time in our SEC filings.

I would also like to remind everyone that the results we will discuss today are from our pro forma income statement, consistent with the format we’ve used in the past.

Please refer to our press release within the Investor Relations area of our Company web site for a complete reconciliation to GAAP.

I will now turn the call over to Dave for his comments on the quarter and fiscal year.

Thank you, Tom.

And welcome, everyone.

Today we announced our fourth fiscal quarter 2005 earnings which were consistent with the updated guidance we provided on October 10th.

Prior to offering our prepared remarks about the quarter and our fiscal year, let me first start by stating that we are clearly disappointed by our miss last quarter.

So, in addition to discussing our highlights, market position, and strategy against strategy as we normally do, we are also going to specifically address the action plans we have put in place to improve our operational agility and how we are managing our [cellular base band] product line moving forward.

Let me take a moment to clarify the two issues which impacted the quarter relative to our original outlook.

First, we elected to make a $3.2 million payment to a strategic customer.

Our decision was based on two factors.

One, we believe it was appropriate to support this strategic customer by helping to defray the cost of a potential warranty obligation with respect to an earlier generation Skyworks power amplifier.

And, two, we viewed it as an investment in our relationship.

Although we received considerations that will impact future periods, accounting guidelines stipulate that such payments be recorded as a current period reduction to revenue.

The issue with our amplifier has been corrected and, consequently, we view this as a onetime event.

Second, we experienced a late quarter product shift towards our highly integrated GPRS EDGE and [wideband] CDMA front-end modules.

Given that the signal was late in the period and required us to seek offshore assembly and test services where capacity at the moment is relatively tight, we were unable to meet this demand prior to the close of the quarter.

To resolve this issue we have taken aggressive steps internally and externally aimed at eliminating supply chain constraints.

To be specific, we’ve deployed capital for new assembly and test equipment to address our backend bottlenecks.

We increased the throughput of our existing lines to a variety of manufacturing techniques that improve equipment utilization and reduce our assembly and test times.

We’ve qualified subcontractors to handle surge requirements and provide flexibility during peak periods.

And longer term you may recall that we recently hired [Bruce Frayman] as our Vice President of Worldwide Operations.

Bruce came to us from a leading semiconductor packaging assembly packaging, assembly and test company, where he served as their President.

And Bruce brings a unique set of experiences, managing very high volume and low cost manufacturing facilities and production companies.

During Q4, also, we cut-over from a manual planning process to a state of the art SAP system.

This system will provide greater supply chain visibility and help us to optimize capacity.

So, as a result of all of these points we’re better positioned today to meet our customers’ changing demands going forward.

Okay, now, for a few specifics on the quarter.

We delivered $190 million in revenue which included the $3.2 million customer payment.

On a pro forma basis we recorded $9 million in operating income and EPS of $0.04, $0.01 better than our revised estimate.

We generated $10 million of cash flow from operations, and we increased our cash balance to $236 million.

Now, from a key account perspective, first, with Motorola.

In addition to supporting their highly popular GPRS, CDMA, and 3G razor models, their [IDON] and [Tetra] family of phones, as well as their highly anticipated [iTunes rocker] music phones, we continue to now work very closely with Motorola on new phone designs using our patented closed polar loop Helios EDGE radio.

And based on recent customer feedback we fully expect to participate in their next generation EDGE radios, and we look forward to updating you on our progress in the current months.

Meanwhile, our Helios mini-EDGE radio solution is ramping into volume production now at Samsung.

And will soon complement our CDMA market position, plus our emerging business in supply and GPRS and wideband CDMA power amplifiers today.

A special note, this is the first time we’ve delivered standalone radio functionality at Samsung.

Likewise, at [LG] we are satisfying an increasing portion of their CDMA, GPRS, and wideband CDMA phones with power amplifiers, in addition to their initial line of EDGE models with Helios radios, highlighted by their [A710] and [A7150] models.

Now, finally, at Sony Ericsson we’re migrating from supplying standalone GPRS power amplifiers to complete EDGE front-end modules.

Of note, we are in their award winning family of GPRS and EDGE walkman handsets, with highly customized power amplifier modules and have now secured multiple wideband CDMA sockets, leveraging our load and sensitive power amplifier or LIPA technology.

We are also supporting their [D750I] imaging phone, which features a 2 megapixel camera with video streaming.

All the while increasing our dollar content per phone while reducing their overall cost in footprint.

This content captures strategy; this is our strategy to capture content by [full] network.

Now, with two top tier OEMs ramping our Helios EDGE radio, as we speak, and confidence that a third leading OEM will adopt our architecture soon, we look forward to a strong 2006.

I’d now like to spend a few moments discussing our performance during 2005.

For the fiscal year we delivered over $790 million in revenue, a record for our Company.

We generated cash flow from operations in every quarter.

We gained market share with our family of IPAC power amplifiers and [Intera] transmit front-end modules.

And, in fact, our last, our latest quarter front-end module unit chips more than doubled on a YOY basis to 20 million units in the period.

We introduced our Helios, our patented and highly innovative EDGE radio solution.

We entered the high growth bulk acoustic wave filter market.

And we introduced a suite of new solutions within our linear products business unit, including low cost high performance CMOS switches for satellite receiver market, a family of advanced game blocks, control semiconductors for BlueTooth connectivity, standard module and semiconductor solutions supporting medical, sensing, and infrastructure markets, to name just a few.

And, finally, we favorably resolved our legal dispute with [QualCom], and entered the technology cross licensing agreement that will generate revenue moving forward.

However, the true strength of our underlying business was somewhat masked by two disparate dynamics.

First, as you are already aware, our assembly and test services revenue declined by 63% on a YOY basis, from $38 million to $14 million, as we fulfilled our agreement with [Connectin] and ultimately exited the business.

Second, revenue from our cellular base band product area declined by 14% YOY, from $143 million to $123 million, as the addressable market for complete system solutions contracted, giving tier three handset OEM and ODM share loss.

Now, let me provide more detail regarding our cellular base band product line.

If you recall, when we launched Skyworks our goal was to apply our technology breadth and depth to offer a wide variety of solutions that would allow us to gain market share.

At that time there was a rapidly growing segment of tier three customers and emerging market entrants who valued our complete system solution, which allowed them to go to market quickly with limited R&D or RF expertise.

Therefore, we developed base band devices with the embedded software and multimedia interfaces to complement our core RF portfolio.

This is essentially a complete end to end development kit.

Now, as you’re all well aware over the last several quarters consumers and developing markets have shown they place a high value on brand.

And as a result, tier one OEMs who possess significant scale advantages, have gained share, resulting in substantial contraction in the addressable market for complete systems solutions.

In fact, according to market data compiled by JP Morgan, the world’s top five handset OEMs have moved up their aggregate market share a full nine points over the past couple of years, so roughly 71% of the worldwide market, with 80% exiting last quarter.

Now, this is predominantly at the expense of tier three suppliers and new market entrants.

This swing in market share has had an impact on our business, as on the one hand it plays to our strengths in our RF solutions business unit, while on the other hand it has reduced the size of our cellular base band business.

Now, given this dynamic we have made a strategic decision to further reduce our R&D investment and internally develop base band technology, and shift R&D resources to support programs at each of our tier one accounts.

In fact, this trend began last year as we reduced our core base band development effort and forged key long-term relationships with [Star Corp] for DSP technology and [TTP Com] for protocol stack expertise.

This was accelerated during the summer following the completion of our linked edge multimedia system platform.

All of these efforts recognize the fact that our competitive advantage resides in the core analog RF and mixed single product competencies, and not in the highly competitive cellular modem market.

As we enter fiscal 2006 we are seeing strong demand across our RF solutions and linear products portfolio.

And, in fact, we expect these business units to be up considerably in the December quarter driven by the market adoption of our newest solutions.

Conversely, we anticipate that our cellular base band business will continue to exhibit volatility, and as a result we are providing investors increased visibility into its top line performance, while at the same time highlighting the growth of our core business.

We fully expect that the ramp in our radio business at the top tier OEMs, increasing share of the front-end module business, coupled with growth in the linear products segment to drive accelerating growth in 2006.

By reducing our investment in internally developed base band modems, where gross margins are inconsistent with our stated targets and competition is most intense, we will over time exhibit less volatility and improve profitability.

We remain intensely focused on strengthening all aspects of our business, realizing operational efficiencies, and achieving higher gross and operating margins.

We believe these efforts will allow us to create a sustainable competitive advantage and will ultimately translate into longer term shareholder value.

I’ll now turn the call over to Allan for his review.

Thanks, Dave.

Revenue for the fourth quarter was $190.2 million, which includes the impact of a $3.2 million customer payment we made during the quarter and capacity constraints, which Dave discussed earlier.

Gross profit for the quarter was $70.3 million or 37%.

Our gross margin performance was impacted by the following events: first, the $3.2 million customer payment with 100% impact to margin; second, the product mix shift late in the quarter which required us to go offshore for assembly and test capacity within supplier lead-times, and that’s basically stacked margins; and, third, the inventory reconciliation’s and charges as we went through an ERP conversion to SAP at certain facilities, as Dave mentioned, and we believe that will have significant benefits going forward to the operations.

Operating expenses of 61.4 million were lower than our original guidance.

We increased our bad debt reserve by $4 million during the quarter to cover the risks related to a subset of tier three cellular systems customers, and this was offset by reduced or reducing discretionary spending during the quarter; and we also reversed during the quarter incentive accruals as we did not achieve our bonus targets this year.

In turn, operating income of $8.9 million was in line with our revised guidance of $7 to $10 million that we provided to you on October 10th.

Interest expense for the quarter was $3.7 million with interest and other income offsetting that by 1.7, for net other expense of $2 million.

Our pro forma provision for taxes was $200,000, and this provision during the quarter reflected the benefit of alternate minimum taxes, tax credits, and foreign tax credits.

And that yielded net income of $6.7 million, $0.04 a share, $0.01 ahead of our revised consensus estimates.

Cash and cash equivalents and short-term investments during the quarter increased to $236 million.

Of note, as Dave mentioned, we generated $10 million of cash flow from operations.

We recorded $9 million of depreciation, and we invested $10 million in capital expenditures.

Now, to our business outlook for the first fiscal quarter.

To illustrate the growth trajectory of our core business we’re now providing a more detailed breakdown and outlook of our revenue going forward.

For the first quarter of 2006 we anticipate revenues from RF solutions and linear products portfolio to be up 10% to 12% in the aggregate, and that’s off a base of $164 million last quarter, so that’s between from $164 up to $180, to $183 million.

And that’s for the December quarter.

Meanwhile, we anticipate a sequential decline within our cellular base band product area, from $26 million in the fourth quarter last period to between $15 million to $18 million in the first fiscal quarter, as these tier three suppliers continue to lose market share.

Operationally, we expect consolidated gross margins to approach 40%.

Although this performance is above our peer group in the RF pure play space we remain committed to achieving higher gross margin performance, as we’ve previously outlined; particularly, as we ramp a number of more highly integrated RF products, as our linear product portfolio becomes a larger portion of the overall company, and as we begin to generate IP related revenue.

In the meantime, in the short term, our gross margin outlook includes the higher outsourcing costs I mentioned as we package and test certain front-end module products offshore in the current period, given the capacity constraints that we faced as we exited last quarter.

While we are addressing the bottleneck issues and outsourcing costs it will take time to implement required actions including the installation of assembly and test equipment in our [Mexicali] Facility.

So, to summarize, assuming revenue of 197 million and using 39.5% for gross margins, along with 64 million of run rate operating expenses, we’re expecting operating income of $14 million, and that’s a 50% improvement on an as reported basis.

If you add back the $3.2 million customer payment to operating income last quarter, it’s a 15%, nearly a 15% sequential improvement on a run rate basis.

Below the line we suggest modeling net interest expense and other expenses of 2.5 million, and we suggest that pro forma tax provision of $1 million on a base of 161 million shares.

That completes our prepared comments.

Operator, let’s open the line for questions, the q and a session.

[OPERATOR INSTRUCTIONS.]

We’ll have our first question from Jeff Kvaal, Lehman Brothers.

Hi, yes, thanks very much.

My first question is on the magnitude of the revenue impact from not having the proper or for the mix shift in the September quarter.

It sounded as though the 3 million that you lost on the [contra revenue] account, I’m wondering could you quantify the revenue loss on the mix shift, as well?

Sure.

Well, the 3.2 is about 1.7%, and the mix shift was 2 million, and the other inventory items were about 4.

Okay.

4 million in total.

All right.

And all that stuff was primarily in the front-end module business, so I would have thought that some of it would have been onetime and that the sequential growth rate into December might have been on the higher end of the range?

You’re talking about the margin?

Just on the revenues, I’m sorry.

Oh, on the revenue it was – well, the revenue we had said the 3 million impact was 100%; and the revenue shortfall, if you’re talking from our original guidance, was $5 million.

Okay.

And then…

And just to jump in, this is Liam.

I mean some of that product we didn’t get it to the hubs in time, it wasn’t pulled.

If you look at our, you mentioned the revenue going into December, if you look at it – maybe it wasn’t clear in the prepared opening comments – but the revenue going into December for our RF business and linear products business is going to be up 10 to 12% sequentially.

Okay.

And to what extent should we expect the base band sales to decline during 2006?

Well, we’re not providing guidance for 2006, but I will say this that, you know, as we described in the prepared comments, I think that the available market, tier three, indigenous OEMs in China, for example, has contracted somewhat over the last couple of years.

If you look at the last couple of quarters, your last quarter was in the mid 20s, call it 26 or so; this quarter we think it’ll be 15 to 18 million.

I believe it will run fairly consistent to that, but it’ll be volatile.

I mean it can be higher, it can be lower.

The issue is that it has, it’s characterized by more volatility than either our linear products or our RF solutions business unit, which is why we’re giving more visibility, number one.

And number two, I know we, this is, as we talked about it in the comments, the second issue with that business is that we have already reduced our R&D and we will continue to do so going forward driven simply by the market dynamics.

We already have completed, we’ve completed our EDGE multimedia solution; that’s been designed in by customers, so we’ll continue to generate revenue there.

But we are going to dramatically cut-back the R&D investment in favor of areas where we have a clear competitive advantage.

We’ll have our next question from Daniel Amir, WR Hambrecht.

Thanks a lot.

Thanks a lot.

Can you give some idea of what the percentage of revenues was for linear components this quarter?

Well, we reported in the past that that was 15% of our business, 15 to 20% of our business.

It was this quarter.

And going forward, as Dave explained, we’re going to detail the RF and linear products and the sell systems separately for you.

But could we expect the percentage of sales to be increasing the next few quarters?

Yes.

For the linear products, Dan?

The answer is yes.

We’ll have our next question from [George Iwanek], CIBC World Markets.

Hello.

When you look at Motorola could you maybe go into a little bit more depth from a technology standpoint?

And when you estimate possibly seeing the EDGE ramp there?

Yes, absolutely.

Well, if you look at Motorola, you know, first of all, Motorola continues to be our largest customer.

We’ve had sequential record performance from Q3 and Q4, and even to the current quarter we feel our numbers at Motorola are going to be records for Skyworks.

So, we are very strong within the account.

We are the lead supplier for all GPRS product, including the full suite of razor phones.

We’ve now moved into our 3G model of razor.

We’ve moved into the razor CDMA.

As the transition for EDGE evolves, and we know that that’s upon us today, there have been a suite of phones that we are not participating on.

I think that’s been well understood in the market.

Having said that, we feel very confident that we will secure new EDGE business with our Helios [digi RF] solution, and we will now sit your business in both a power amplifier and the transceiver which, in effect, provides more than a 2X increase in ASP.

And we fully expect to be able to announce that shortly, and start to see revenue late ’06 into ’07.

And at that time it’s really up to the customer launch, but we feel very good about securing that.

Okay, and just following up on that, what trends do you see on the dollar content per phone with, you know, the system solution moderating, and Helios, and the transceiver ramping?

Well, I mean certainly the systems business had a disproportionately higher ASP for our Company, but we haven’t really run through the math on that.

But the ramp of Helios is absolutely occurring right now.

We’ve talked about Samsung and LG.

We expect to add a third customer real soon.

The ASPs of Helios are well north of $5, so we’ll definitely see improvement in the radio portion of our total available market and phone content.

We’ll have our next question from Brian Modoff, Deutsche Bank.

Hi.

This is [Visitar] for Brian Modoff.

A quick question, a follow-up on the previous question around Motorola and the EDGE.

You did mention that you see this product ramping up possibly in late ’06 to ’07.

What are the lead-times around this, around qualifying?

You know, Helios product with about – is it two quarters, is it a quarter, or a quarter-and-a-half?

Well, we are, you know, everything short but calling this a design win.

We’re working very closely with Motorola, so there’s a lot of iterative work in terms of qualification and working on specs.

That will not be a limitation.

You know, we fully expect to get a signal, a green light signal.

That gives us plenty of time to prepare for the production ramp late ’06, early ’07.

All right.

And another quick question is are you having any issues with, in general, it’s back on EDGE?

Is it a systemic problem that a lot of the transceiver folks are missing the specs, and do you guys think you’re ahead of the competition?

Yes, I mean, first of all, we’re in production right now with two lead players, as we mentioned.

We really enjoy the collaboration that we have with a player like Motorola.

There’s been a lot of back and forth between our companies, and collectively we’re developing a solution in DGRF which is ver different than the current analog architectures.

So, it’s a digital interface, it leverages our closed [full] loop advantage.

So, we’re very confident, and we don’t anticipate any problem.

And, you know, let’s recall here that Skyworks has been a GPRS transceiver player for quite some time, and we’ve leveraged that technology and just step into the EDGE architecture, and we feel like we’re going to be very strong.

We’ll have our next question from Shawn Slayton, SG Cowen.

Hi, gentlemen.

Good afternoon.

Hi.

Hi, Shawn.

A quick one for Allan.

Allan, we didn’t quite get the running start that we expected into the current fiscal year as it relates to gross margin.

You guys had previously articulated 45% gross margin goal for the current fiscal year.

Can you help us maybe with maybe the new thinking if there is new thinking in that regard?

Thanks.

Sure, well, I think if you take where we ended up with the 37, and if you add back the payment, and you add back the mix, you’re between the 39 and 40 we’re guiding to.

And then it’s a question of the capacity in the backend [Mexicali], then we’re back to where we were.

And then as you see us ramp linear products and toward the backend of the year I think you’re going to see us, you know, moving up to where we told you our targets were at 45%.

Yes, let me further that comment.

What we are doing this quarter and began the end of last quarter is we are rapidly adding internal capacity which dramatically improves our margin on some of the module products.

In the meantime, as we bring that equipment in, qualify it, we have stepped our, the amount of our business that we are acquiring through subcontractors.

So, assembly and test subcontractors, for example; so we stack margin for short period of time as they help us with this capacity ramp.

That’s a short-term event.

In addition, in fiscal ’06 you’ll start to see us dovetailing more IP revenue.

We started a bit last year.

We have more coming.

And we have absolutely remained committed to expanding gross margin and getting to that 45% target; which, incidentally, if you look at our corporate averages, the [modem] products are well below the corporate average and they have much higher R&D investment.

Okay, that’s helpful.

And then just maybe for you, Dave, can you just give us a little more color on this unanticipated demand for front-end modules?

And how that came about?

And, also, you guys mentioned several times that you’re taking share in the front-end module space.

Can you give us your thinking as to what leads you to that determination?

Thank you.

Okay.

Well, now again, you’re asking specifically the front-end modules, so we love that question.

You know, the front-end module is a significantly higher dollar content than your run of the mill power amplifier, and this last quarter, to give you a sense, we shipped 20 million front-end modules.

A year ago that was under 10, so we’re 100% YOY in front-end modules, and we’ve had that customer transition going on now for few quarters.

It is accelerating, so we’re seeing that, for example, if Sony Ericsson throughout Taiwan, at Motorola, and elsewhere.

And what we look forward to now is taking that very experience of moving up the food chain and the front-end module to couple it with a transceiver.

And we think that the EDGE, or we know because our customers tell us, that EDGE and multimedia and moving towards multi-mode is when customers really begin to struggle, mixing and matching a front-end module and a transceiver.

So, when we talk, so you hear us talk so much about Helios, it’s because in each and every one of these lead accounts, every one, the design on the table for ’06, mid ’06, late ’06, and ’07, every one is a combined, tightly coupled, radio transceiver, front-end module sweeping in filters and passes, oftentimes with a digital interface which means there’s a software and systems content which, of course, we had that expertise to our systems business.

So, we think that trend of higher ASPs will increase and less mix and match opportunities, which is why we’re so excited about coupling that radio with our [FDL].

We’ll have our next question from Randy Abrams of CS First Boston.

Yes, good afternoon.

I wondered if you could talk a little bit more about the full system EDGE solution?

Maybe talk about the customer interest you’re seeing in that, the timing of the ramp, and then price points relative to GPRS?

And how that would equate to gross margins as that product ramps up?

That’s a great question.

And, also, let me clarify that what our customers are telling us, and what we’re experiencing in the design labs of our customers is that as customers have made, are making the leap from an EDGE to an EDGE multimedia, but then the big, the leap to EDGE or wideband CDMA, call it multi-mode, they’re increasingly looking for the flexibility to mix and match the base band and the transceiver.

The reason for that is technological, for example.

I think it’s very hard to integrate a transceiver in multi-mode operation and wideband CDMA, that’s one issue.

Second is a pretty broad range of applications that customers are supporting with multi-mode and wideband CDMA.

So, we think it’s a very logical time at this point to de-emphasize investment in core modem technology once we’ve moved beyond EDGE multimedia, and that’s what our [links] platform is.

So, we went from GPRS, GSM to GPRS, to EDGE, to EDGE multimedia.

We think that’s the point at which we can then say, okay, now let’s focus on mixed signal analog and integration of things, RF and front-end.

So, that’s the strategic decision that we think makes a lot of sense.

Having said that, the customer traction for EDGE is very much what it was in GSM and GPRS.

It’s heavily China; and we also have a couple, one top tier OEM at the moment who it looks like they very well may give us some of their business as we enter ’06, and into the midpoint of ’06 for this new design.

It is a very, very highly integrated analog base band power management device.

It’s front-end module radio solution that’s highly integrated.

And a base band that has a lot more horsepower than the prior version.

It’s a smaller IC developed in smaller seamless geometry.

It has higher margin.

So, we think this is the time to make the break and focus on our core strength analog mixed signal, RF, but continue to exploit the advantages of this EDGE platform.

And a follow-up, on the backend capacity tightness, just wanted to see if there’s any excess capacity available now that the Connectin business has wound-down?

And maybe just broadly talk about where utilization is now in the front-end and the backend?

Well, let me be clear, the capacity bottleneck this last quarter was primarily in dye attached, some tests, and singulation.

So, really, it’s the process that occurs from the actual assembling of the module to the backend shipment to the customer.

That’s where the bottleneck was.

Relatively short lead-time, equipment relatively inexpensive – I say ‘relative,’ relative to a fab, for example.

And so we have that, we’re bringing that capacity online as we speak.

The lead frame business of Connectin is a different technology, so we’ve taken obviously brick and mortar capacity and square footage, people, resources, engineering support towards multi-chipped modules, transceivers, and the like.

The lead frame equipment, unfortunately, doesn’t help us.

It’s a different technology.

We don’t have a bricks and mortar constraint in Mexicala, just the equipment.

We’ll have our next question from Jeremy Bunting, Thomas Weisel Partners.

Hi, good afternoon.

This [Jennie Sheay] calling in for Jeremy.

I just had a question, you know, given that you’re going to focus more on the front-end and your core transceiver technologies, I was wondering if you could discuss a little bit about some of the base end partners that you may be working or developing stronger relationships with at this present time?

Well, the partnerships on a technology front, we have talked about it.

It’s really, we are now working with [Star Corp,] we are a licensee of that technology.

We’re working with [TTP Com,] adapting our own software as well as their protocol stack.

We’re an on processor company, [on 9] moving eventually, that has migrated upward.

And so those are the, so the technology building blocks that allow us to not do core DSP development and core development, it gives us a great deal more flexibility.

We are working with base band suppliers, as well, to basically couple a very flexible, and as Liam mentioned, a digital interface.

Today it’s mostly analog.

We think it will often move to a digital interface.

There’s analog and mixed signal content.

And so what we’re looking to do is essentially work very closely to couple this whole multimedia front-end and all the hooks to our radio and our transceiver with different base band partners.

We haven’t announced those, we will going forward.

And we think it’s a better approach to giving our customers flexibility, higher ASP for us, without having the drain on our investment to try to reinvent the wheel on core modem technology.

Okay.

And then moving forward, on the front, do you think you might be able to or are considering integrating additional wireless technologies into your front-end solutions?

The answer is yes.

We’re working now very closely with BlueTooth, with GPS, 802.11, wireless LAN.

Our customers are working with us to integrate both audio and video functionality with our transceiver and our system solution.

So, this is a multimedia friendly environment with all of the hooks, both software and hardware, to enable those technologies.

We’ll have our next question from [Ed Schneider], [Schneider Equity Research].

Thank you.

Just by way of clarification, the $3.2 million payment was that the problems with an EDGE product or a different amplifier?

No, it was not EDGE, it was GSM.

Okay.

And then shift to module products, was that done at third tier customers in lieu of cellular products, or was it a different group of customers all together?

I’m sorry, I didn’t understand the question, Ed?

In the last, the shift towards different capacity, that gave you capacity issues towards the end of the quarter and away from cellular, was this the same set of customers?

In other words, are they shifting from a complete solution, your cellular products too?

No, it was tier one customers.

We had product in hub that didn’t get pulled, we received backlog, the book to bill was fairly strong, it was strong last quarter, greater than one.

And it was primarily a tier one phenomenon, certain product wasn’t removed from the hub.

The backlog was in products that we simply couldn’t execute too quickly enough.

We’re not happy with that, at all, and we’re fixing that problem as we speak.

That can’t happen to us.

We view operational agility, short lead-time as a competitive weapon.

We’ve used that in the past and won.

We messed it up this quarter and that, we need to make sure that never happens again.

And this was just coincidental that the cellular products started to slow?

Absolutely unrelated.

Okay.

And then razor phone going to EDGE, will you be in that solution?

The razor phone, the EDGE solution that we’re developing with Motorola is a mid ’06 to late ’06 transition.

So, if that’s the platform they choose to use it then the answer will be yes.

We’ll have our next question from Satya Chillara;

American Technology Research.

Yes, hi, Dave.

Just one clarification, during your prepared remarks did you say the big band revenue was from 143 million going down to 122 million?

Yes, that’s correct.

Okay.

So, the question is in terms of if the base band revenue is going down this quarter why are the margins not improving based on the fact you said the modem products are below the gross margins?

Okay, I think I get it.

So, this is a gross margin question based upon the changing mix as cellular systems is a smaller piece of the business, is that the question?

Yes.

Okay, I think, Allan, I’ll try to restate it.

The gross margins are improving, they’re improving over the last quarter.

They’re not to where we want them to be or expect them to be as we move through ’06.

And the reason is primarily that we are experiencing an up tick in the module, the transceiver, the relatively high part content, high dollar content items.

We’re adding capacity internally, which is really where we have a great deal of contribution margin leverage or gross margin leverage, if you will; but that equipment is being deployed during the quarter, so we will spend more outsourcing, assembly and test services, and stacking margins than we have in the past.

And then we intend to moving forward, that has a short-term negative impact on our margin.

Okay.

In terms of a follow-up question, R&D you talk about base band development going down, so how should we be thinking about R&D dollars for fiscal ’06?

I think in the short term, I’ll let Allan answer the financial aspect of it.

But I think in the short term you should think of it in terms of we are not at all demand constrained for new programs that utilize a lot of the same resources that were successful in developing the [links] product line, the Pegasus product line.

So, we have taken many of our customer engineering support locations and they’re continuing to support these customers, as well as new customers, and these new complex front-end modules and radio solutions.

Our software people, many of them are developing driver support in the digital interface for this next generation. [Brady L] products.

So, I would look at it in terms of taking much of those R&D dollars and, indeed, some of the same resources and applying them to mixed signal, analog, RF, and linear products.

The R&D, having said that, will come down, the net affect on R&D will come down but it won’t be as dramatic as simply, you know, taking all those resources and taking the dollars away.

Yes, I think, you know, we only guide one quarter out, but the implication of the OpEx guidance is that we’re still at a similar run rate for R&D.

And as Dave mentioned, as we’re shifting R&D resources, but I think as we ramp the tails over the quarters of the base business and if salary continues to go down, you’ll see it over time as a smaller percent of sales.

[OPERATOR INSTRUCTIONS.]

We’ll have our next question from Shawn Slayton, SG Cowen.

All of my questions have been answered.

Thank you.

[OPERATOR INSTRUCTIONS.]

We’ll have our next question from Amit Kapur, Piper Jaffray.

Great, thanks a lot, guys.

A lot of my questions have been answered.

But more kind of a strategic question, you know, if you’re demand or demand for the cellular platforms rebound next year, would you consider increasing R&D again?

Or is this more a strategic decision to refocus the Company around PA’s transceivers and some of the combined solutions you have right now?

As well as linear products.

I think, let me say it a different way.

The base band products that we have developed, this links platform and multimedia hooks, are being supported, are just being introduced in the market.

The platform is on time.

It has a very competitive cost point, very competitive feature set.

We think that that product as a generation is going to be the engine that drives multimedia EDGE based phones and development in this market for the foreseeable future.

We were de-emphasizing, or the reason we’re de-emphasizing now, the digital based band investment is that we are finding that the multi-mode wideband CDMA, multi-mode wedged architectures are doing much more of a mix and match approach, and we think it’s appropriate to partner and not develop the core base band technology ourselves.

So, it is strategic in that sense, and it is very possible that you will see spurts of growth and new customers lining up for this links product.

We think it’s a very competitive product but it’s done.

It’s essentially done.

Okay, great.

Thanks.

You’re welcome.

We’ll have our next question from [Naraj Patelle], [Russell Via Securities].

Yes, hi, thanks.

Just wanted a quick perspective on the EDGE ramp in ’06.

From your design win activity at two major customers are you anticipating these customers catching up with the current market leaders in ’06, you know, Nokia and Motorola?

No, that’s a great question.

Well, I mean certainly the firms that we’re talking about are significant players.

They’re top five in the OEM space.

They have ambitious goals.

They recognize that they are behind Nokia and Motorola.

And we’re confident that they’re going to pickup some share.

But along the way we’re still moving forward with that one other tier one that we hope to put into production by late ’06, early ’07.

So, to recap, you know, we expect to secure Motorola as a customer in ’06;

Nokia is a customer of ours for RF, for CDMA, and we have two of the top five.

So, we have four of the top five.

We believe, thought ’06 buying RF in one form or another in addition to all of the buying PH.

Okay, thanks.

You’re welcome.

And that is all the time we have for questions.

I’ll turn the conference back over to Mr. Dave Aldrich for any additional or closing remarks.

Okay, well, thank you, everyone, for attending this call today.

And we look forward to updating you on our progress next quarter.

Thank you.

That does conclude today’s conference call.

You may disconnect at this time.

We do appreciate your participation.