威騰電子 (WDC) 2002 Q3 法說會逐字稿

Good afternoon. Thank for you

standing by. Welcome to Western Digital's third

quarter financial results for fiscal year 2002. All

participants are in listen only mode. Later we will

conduct a question and answer session. As a reminder,

this call is being recorded. Now I will turn the call

over to Mr. Bob Blair. Thank you; sir. You may begin.

As we begin, I would like to remind you during the course of this conference call we will be making forward-looking statements in our comments and in response to your questions concerning conditions in the hard drive industry, product development, production and sales plans, eliminations of losses from our new ventures, growth and new markets for hard drive, impact of Hitachi-IBM hard-drive business merger and business and financial outlook. These forward-looking statements are based on current expectations and actual results could differ materially as a result of several factors including market acceptance, the company's products, our ability to execute to future production ramps and utilize manufacturing assets efficiently, overall supply and customer demand in the hardware industry, pricing demands and other competitive factors, changes in product and customer mix, business conditions and growth in the computing industry, our successful entry into emerging markets, overall economic conditions and other factors listed in our recent SEC filings and in our third quarter press release issued earlier today.

We undertake no obligation to update our

forward-looking statements to reflect subsequent events

or sixes I would now like to third the call over to

chairman and chief executive officer Matt Massengill.

Good morning, everyone.

Thank you for joining us. With me are president and

chief operating officer Arif Shakell and CFO Scott

Mercer. We're very pleased with the results we

delivered for the March quarter. This is the sixth

consecutive quarter of profitability for our hard-drive

business against backdrop of an extremely challenging

PC & IT spending environment. Our third term outlook

is cautious both on a macro economic level and

regarding PC demand. June quarter is typically a

sluggish time in our industry coupled this year with

the events related to industry's ongoing consolidation.

These include the final stages of MaxStore's

integration of the quantum HDD business and

uncertainties associated with IBM's desktop drive

business in light of their recently announced agreement

to merge drive businesses with Hitachi. We view any pricing pressures associated with these developments as events, not trends, that the industry will work through in a responsible manner by intelligently managing build plans. Longer term, we remain convinced that the

hard-drive industry will benefit from these

consolidation of steps. In the meantime we now have

the model and structure in place for Western Digital to

perform in uncertain times like these, remaining

profitable and focused. Just over two years ago this

team set some ambition goals regaining premier driver

supply status in PC industry, dramatically improving

the profitability of our new ventures or structuring

them improving our financial condition and

establishing ourselves in emerging markets for rotating

magnetic storage. We set additional challenges of achieving these goals with lowest operating expense structure in the hard-drive industry. Inaudible) on Q

3 financial performance will indicate we have made some

great progress in meeting these goals. Revenue, unit shipments, gross margins and operating markets in the March quarter all exceeded our original forecast. We achieved greater cost efficiencies in the core business through crisp execution of our 5400 RPM and 7200 RPM product sets and the 40 gigabyte per platter technology. 36789 C leaders, Dell and Compaq were our two largest customers both greater than 10 percent of revenue. Personal video recording markets (inaudible)

primarily to Microsoft for its X box, an opportunity

that did not even exist a year ago in the hard-drive

industry. In the PVR market we have been shipping

drives to Tivo, more recently we were qualified and

began shipping hard drives to Scientific Atlanta for

its new explorer 8,000 home entertainment server. In

addressing the consumer electronics opportunity, we

produced a low-cost, highly reliable device in high

volumes for a nonPC application. We leveraged this design to develop our most cost effective 5400 RPM value platform ever, enabling us to broaden our participation in a high-volume segment of the PC business. We are now participating in all segments and all geographies of the PC market for three and-a-half inch EIDE drives, a company first. At the same time we

have maintained our early leadership and focus on the

high performance, 7200 RPM space evidenced by 7200 RPM

drives, once again accounting for about half of our

total units. There seems to be a lot of discussion

regarding the 7200 RPM market. Our read is this. There's not an oversupply of 7200 RPM drives but rather one of the players who might be exiting the business is aggressively pricing these drives in the channel. We

believe this is temporary. It is early in the quarter

and we have a lot of confidence the industry will make

the right adjustments to build plans and address this

for what it is, an event, not a trend. The balance sheet continues to improve with $227 million in cash at quarter's end and debt has been reduced to below 90 million. Reflecting our focus on speed and efficiency,

we were able to build and ship volume hard drives in

our new Tai facilities throughout most of Q 3. We

continue to reduce losses from new ventures and we will

continue to aggressively manage the P & L impact of

thesis businesses. I can tell you today that all new

venture drag will be eliminated by the end of the

current quarter ahead of schedule. All of this has been accomplished while keeping our operating expense model at an industry low annualized run rate both in absolute dollars and as a percent of revenue and growing the business profitably. Our business model is highly leveraged to revenue growth. Growth that will

come from a number of new markets, including gaming

consoles, personal video recorders and serial ATA

drives in the enterprise, these new market

opportunities are an important part of the increasingly

positive hard-drive industry investment story. The

latest development in the consolidation of this

industry is the Hitachi-IBM announcement which I view

as a major positive for the industry. This transaction

will combine the hard drive resources of two diverse

technology companies into a single unit and this is

likely to contribute to greater industry rationality

and stability. This integration will be complex,

difficult and take a long time. It is clear the new

entity will focus on the enterprise, mobile and

consumer electronic market opportunities. It is less

clear how it will proceed in the desktop drive market.

The announcement has already created and will continue

to create uncertainty in the customer base which some

in the analyst community have suggested will mean

opportunity for the remaining drive suppliers. In the

mean time, the improving profitability of the

independent drive companies, Seagrate, MaxStore and

Western Digital in an extremely challenging market

demonstrates tremendous progress as evidence of a

healthier, more rational industry. Going forward we

will focus on the following initiatives. Executing to a broad product portfolio, offering time to market, cost effective solutions to the expanding market for locating magnetic storage. Converting relationships with personal video recording makers into profitable revenue, executing our plan to lead the adoption of serial ATA in the enterprise. Continuing to stage

technology for two and-a-half inch hard drives and be

prepared to enter these markets when they can be

profitable for us. Continuing our focus on customer satisfaction through product quality, flexibility and world class low Jess particulars to support existing customers and to win new business where possible. And

finally, continuing to manage our build plans

intelligently in the face of changes in the industry

supply demand dynamic. I will now turn the call over

to Scott Mercer.

Thank you, Matt. Good

afternoon, everyone. As we indicated in our prerelease

on April 3rd, our operating results were much improved

from our early prospective on the third quarter. In

addition, virtually all of our key metrics improved

sequentially and exceeded our expectations coming into

the quarter. DSOs, inventory turns and the cash conversion cycle all improved. We generated $50 million in operating cash flow. And as I will describe

later, we greatly accelerated the resolution of our new

ventures losses which have been dragging down our

operating results for so many quarters. We're

continuing to improve our financial strength with each

passing quarter.

Now let me take you through the third

quarter results and then I will give you a prospective

on our fourth quarter. Revenues for the quarter were

595 million, a sequential increase of 20 million or 4%

from the December quarter and an increase of about 83

million or 16% from the prior year. Unit shipments

adjust fewer than 8.1 million were up about five% on

sequential basis and 40% from the prior year. Average

selling prices were about $74 versus $75 in the

December quarter. The mix of our X box unit shipments

was about the same as in the December quarter at a

little over 10% of our volume. Revenue by channel was 64% OEM and 36% reseller. This compares to 62% OEM and

38% reseller for the December quarter, we had two

greater than 10% customers during the quarter, Dell and

Compaq. Our growth margin was 13.66%, up 1.3 points

from December quarter due to solid factory execution

and implementation early in the quarter of more cost

effective designs. Excluding X box desktop gross margin was in excess of 19% up a point of over the December quarter, total operating expenses were 63 million, up 2 million from the December quarter as a result of higher incentive accruals, sales commissions and new development programs. Operating income was just over 18 million for the quarter reflecting operating income from the drive business of over 22 million, offset by new venture losses of 4.3 million. Interest and other items consisted of a 1.4 million in interest expense offset by a nonrecurring gain on the sell of securities of $900,000. Netting to a reduction to operating earnings of $500,000. We recorded a net

tax benefit during the quarter of 1.6 million dollars. This represents year-to-date tax expense of 1.5 million dollars offset by a one-time tax refund of $3.1 million available to us as a result of tax law changes during the quarter. Net income was 19.2 million or ten cents per fully diluted share. Excluding investment gain and tax refund described above, net income would have been 15.2 million or eight cents per fully diluted share. Fully diluted shares outstanding increased to 198 million to 192 million in the December quarter primarily because of our higher average stock price during our third quarter. Turning to the balance sheet our cash balance ended the quarter at 227 million, up 33 million from the December quarter. Consolidated cash from operations was about 50 million for the quarter, up 44 million from December. Capital expenditures were about 13 million for the quarter, about equal to our noncash charges for depreciation, amortization and interest. Proceeds from option exercises in our employee stock purchase option generated about six million in cash while we spent seven million in cash and issued 1.1 million shares to retire 14 million of book value of our convertible debt. As of quarter end we had 90 million in convertible bonds outstanding, cash conversion cycle was a negative 11 days, current period conversion cycle consisted of 28 days outstanding receivables, 15 days of inventory or 22 turns and 56 days payables outstanding. That was a look back the

our third quarter.

Now I will move on to expectations for June

quarter. Although March was a stronger month than we

had originally anticipated, April PC drive demand has

not quite kept pace with March, and we anticipate

somewhat lower X box volume in the quarter given the

recent announcements by Microsoft. Accordingly, our

indicators tell us that as of today we expect our June

results to be influenced by slightly lower unit volume. We expect revenue of between 550 and 565 million had and shipments of between 7.6 and 7.8 million units. Our gross margin is expected to be about 13% down slightly from March as we're anticipating a more competitive pricing environment during the quarter because of market dynamics driven by industry consolidation activity. Our operating expenses should decline about two million on a sequential basis to about 61 million as we decrease our new venture losses. The hard-drive business' operating income is expected to be between 13 and $15 million. We expect ongoing new venture

operating losses to be down to about 2 million, a

decrease of over 2 million from the March quarter. Net interest and taxes are expected to be about 2 million.

Accordingly, we expect our consolidated results to be a

profit of between 10 to $12 million. And earnings per share between five and six cents. Our share account is expected to be slightly

above 200 million of the June quarter with a modest

increase for exercise or make their way into the

diluted calculation as our average stock price moves

up. Regarding our convertible adventures we plan to

continue to retire these bonds as opportunities are

presented to us. However, we expect that these will be all cash transactions for the foreseeable future and we do not plan to issue any more shares to redeem bonds this calendar year. Lastly, I would like to comment on

our new venture operations. We committed to you during

our last call that new venture losses will be zero by

the end of the calendar year. As Matt indicated in his

remarks, our plans are to divest and restructure these

businesses are running ahead of schedule and we now

expect that June will be the last quarter that any new

venture losses will be included in our consolidated

results. Let me turn the call back to Matt to open it

up for questions.

Thank you, Scott. Operating

if you could open it up for questions now.

Thank you ladies and gentlemen.

We will now begin our question and answer portion of

today's call. If you have a question please press star

won on your touch tone phone. Questions will be

answered in the order they are received. If you would

like to withdraw your question, please press star 2.

One moment please for the first question.

Thanks, it's

Prudential. Two clarifications and two questions.

Clarifications are trying to get a better handle on the

head count increase when I think was nearly 30%. I'm

assuming that's the assumption of the Jujitsu employees

but if you could sort of talk about what's going on

there and whether or not there's some room to drive

greater efficiencies in those facilities, if you are

going to grow into that, where you stand in utilization

of the second is just inventory levels, if you could

just quantify where you stand and where you think the

industry stands right now and then I have one or two

follow-up.

Sure, on head count

increase, Kimberly, that is, in fact, a result of our

Tai facility and remember we're doing some stacking now

that we weren't doing in the December quarter. So

we're very nicely utilized, and I think that that

represents the business that we're doing today.

Obviously it is hard to find that increase in gross

margin or any other measurement other than positive.

As far as inventory goes, you know, we think things are

in pretty good shape. We have about five weeks of

inventory on the shelves. We heard from others that

that's about the same as what our competitors seem to

have. So we don't think inventory is a huge concern.

We have to remember too that April is traditionally a

very soft month relative to the entire quarter, so I

think we just need to be patient here and see how

things unfold.

Then follow-ups

are related to that. You mentioned, you know, the

March quarter being a little better, April being

seasonally soft. When you look at some of the dynamics as it relates to demand and pricing separately, does demand, first of all, look somewhat seasonal entering the June quarter excluding some of the X box seasonality and does it look at the end of March and early April it started to heat up, if so why do you think that is with the inventory thing under relative control?

I would characterize that

this quarter looks like they have in the past. April

has always been tough, and we don't think this will be

a whole lot different based on everything we're reading

and hearing about forecasts for this particular

quarter. And I think, you know, some of the pricing action that we've been hearing about are specific, I think, to a supplier that is working through some strategy. And having an effect on pricing on 7200 RPM drives which again we think is an event that we can just work through this quarter.

Great. Thanks a

lot.

Thank you, next question is from

Eric Strongquist. Please state your company

name.

Hi.

Wellington Management. A couple of things. First of

all, I guess Jujitsu would be explicit about the names.

It makes sense that IBM would dump some of their

exiting desktop stuff into distribution but what about

the other events which is MaxStoreand old

MKE production. Do you see out there in the

marketplace that MKE-built drives are being sort of put

out there in distribution at the end of life at

aggressive prices or is the phenomenon really only the

first one, which is more the IBM? Then the second

question is I hear that Read-Writewhen I

think is still a supplier of yours is having more

technology and manufacturing problems. I just wonder

if that affects you at all.

Sure, I will take the IBM

industry and asking Arif to comment on Read-Write

the event as I call it seems to be 7200 RPM centric. I

don't think that MaxStoreis having a great

deal of issue relative to their MKE situation. I think

it is good news for the industry that these guys will

be in control of our own build plans, you know,

completely and totally with our own manufacturing

facilities as we move through the year, but I don't

think there's any extraordinary issue associated with

that right knew and arrest receive, do you want to

cover.

On Read-Writeas

you rightly pointed out they are one of our suppliers,

as everybody knows they were having difficulty with

on our supplier issues. They are still our suppliers and shipping products to us.

Regardless of

who the supply comes from, are you feeling good about

component supply for yourselves?

Yes. Absolutely. We feel

comfortable even in the area of silicon. We feel very

comfortable at this moment.

ERIC STRONGQUISTthank you.

Thank you. Next question is from

Bill Lewis. Please state your company name.

J. P. Morgan H&Q.

Hi there. A couple of things, if I could. On the

guidance, could you tell us a little bit about what

assumptions you have built into that, specifically

between the percentages for PC's and for X box, if you

can kind of tell us what your assumptions are there?

Then back on IBM and this issue that we've talked about

with them in the desktop, have you been able to at all

size perhaps with the inventory their drives might be

out there or what the impact would be both, I guess in

the number of drives and as well as how much time you

think it might take for those to work their way through

the system? Thanks.

Let me take the drive

question first and Scott maybe can work on the

assumptions and I will give you a little flavor for our

expectation in the PC industry through the year. On

the IBM front, we don't really know. Again, it is

uncertain to any of us what the long-term strategy for

the desktop business is with this merged entity. It would just appear to us that there's a sense of urgency to move some product through and we don't get the sense that it's in preparation for a big reload or anything.

I don't know how long that will take, whether it's a

month or two. Certainly we would certainly expect it

to sort of be through this quarter. But we'll just

have to kind of monitor that and make rational

decisions as a result of that. From a PC market

perspective, our expectation is that this quarter will

be down to small single digits, overall PC digits will

be slightly negative quart other over quarter from the

March quarter. Entire PC market should be up year over

year, a small single digit amount which will see some

growth as we get back to the end of the year. Scott I

don't you want to comment any on the PCX box.

The way I characterize it we

expect our X box mix to decline very modestly but to

decline in the upcoming quarter.

On that note, do you

think you gained share or lost share at all during the

quarter in X box?

We don't know. What we've

been told by Microsoft, business is divided equally so

we don't really know.

Thanks.

Thank you. Next question is from

Clint Vaughn. Please state your company

name.

Solomon Smith Barney. While we're on the X box topic, could we go out further than just this quarter and Microsoft seemed to talk about a pretty linear ramp with that product. It seems

that it's quite seasonal as it turns out. Could you

tell us a little bit about what your thinking is in

building your model, you know, going out, you know,

throughout the end of the year and then kind of the

general ebb and flow of the business there. Then I

just have two questions.

I just think in general that the X mass is consumer electronics device, our expectation and this isn't because we're experts in consumer electronics but using rationality logic is that December quarter will be a big quarter for that category of product. If we look at how the Sony play station has done quarter to quarter through the last several years that is pretty a good surrogate for a product that is mature in the business that would look like. I think we would expect the largest quarter to

be that quarter and then it sort of tapers off through

the middle of the year and picks up again through the

end of the year. That's about as much color as we can

provide for volumes on X box and if Microsoft wants to

give you some more detail we'll let them do that.

Two other quick

questions. You said you would like to be on the

forefront of the rollout of serial ATA trying to move

up in the special enterprise, could you tell us where

your current development process and when you expect to

deliver those drives. Can you update us on the 60 and

80 gigabyte migration, please. Thank you.

Let me answer that. This is

Arif. As you know we demonstrated newly functioned ATA

drive last November we're. At this moment in the

process of sampling those drives. We expect the

qualification and volume production to start towards

the end of this calendar year. On the 60, 80 gigabyte

that's the next point. Some will have 60 gigabyte,

some will have 80. Expectation is 60 will occur

towards the middle part of the year and 80 towards the

end part of this year. We haven't announced either one of those products, and I would avoid making that announcement at this particular meeting.

Thank you.

Thank, next question is from Rich

Kugal. Please state your company name.

Needham & Company. I

was just wondering if you could give us any color if

there's anything about this raw materials increase

during the quarter?

I'm sorry.

Raw materials

increase. Inventory seems to have gone up to 13 from

four last quarter and I was just wondering if you could

give a little color, if there's anything beyond that or

if that's a nonissue.

Normal logistics activity.

Thanks very much.

You know, it trends up and

down a little bit if you follow this every month or

every quarter rather.

Thank you. Next question is from

Mark Miller. Please state your company

name.

It is Mark Miller

with Hoe Fennert. I was wondering why

desktop were 48 per platter this quarter.

We don't break that out but as

we left last quarter the month of March virtually all

our drives were of the 40 gigabyte for desk technology.

As you left the

quarter.

That is correct.

Microsoft has

brought down to protections for X box. Do you think

the projections have in them concern about Sony's

introduction of a new play station as well as Nintendo

game tube, is there further downside coming there?

I don't think we really

know. I think that they moved pretty quickly to lower prices with their X box in Europe and some parts of Asia. I think we're going to have to wait and play

this thing out. I think, you know, it is good for us

to take sort of a long view on this thing, we're

excited about the fact that there's a desk drive and a

game box now that's demonstrating very useful

functionality. So I still remain convinced that over

the long haul we're going to see more disk drives, more

gaming consoles moving forward, whether they are X

boxes, play stations or game cubes or whatever. And whether or not Microsoft has hit the numbers that some had expected, let's not lose sight of the fight that they have shipped many multi millions of these in the first six months of the product being on the shelf. I think by any measure we certainly look at this as a commercial success and I think it's very difficult for us in particular to speculate how Microsoft may or may not do with that product as they move through the year and what Sony is likely to respond to it.

More of the -- it is

a two-pronged question. I guess I'm getting a little

concerned what's going to happen in the enterprise

market. I'm wanting your opinion. You have one term

that is dominant, IBM has joined with Hitachi. One of

the focus is going to try to regain some of the share.

Master definitely projects they want more share. You have got people like EMC and network compliances getting squeezed by their margins and alternative technologies maybe penetrating the low end of the server market. Is this a recipe for concern or do you

think everyone can live together under those

circumstances?

I think that over the course

of the next several years there's going to be

tremendous pressure put into the enterprise storage

market arena. The CIO -- let's get back to the main

problems is CIO's need to spend a lot less for storage

than they are spending today. That's going to

necessitate technologies and solutions that solve that

problem. Whether it's from competitive fronts as in

regrouping companies, merged entities or in refocused

companies. Inaudible) at the end of the day there is

going to be an awful lot of pressure on the enterprise

side of the business.

As kind of

historian, I'm wondering what your take is if we do see

a lot of pressure I think I've seen in the past when we

do see a lot of pressure in the enterprise it kind of

migrates over to the desktop. Is that an invalid

assumption or concern?

I think given what is

driving it in this particular case with an end market

demand that needs to solve some problems I think that

it is difficult to draw any connected solutions to that

or any kind of connection between the two of them. So

I don't think that that makes -- I wouldn't make that

assumption.

Thank you.

Thank. Next question is from

Navraneen Boba. Please statement your

company name.

Sterns. You

seemed to have referred to the third quarter as not a

trend. What gives you the conscience that it won't

stay that way? Inaudible).

You have to look at what's

causing it? We've gone through as an industry now six consecutive quarters where while pricing is competitive and I expect it to be competitive forever in this industry, we all seem to be managing our build plans rationally relative to end market demand and I think what we have here is an instance where there's some, what appears to be more immediate pressure to move through what's in inventory on the distributor shelves as opposed to an overt strategy for someone to gain share or to reposition themselves so that's why I think that there's a higher degree of likelihood that this is an event, not an ongoing trend for pricing in the 7200 RPM arena forever. Not to say they won't be in effect from this pricing for this quarter but I don't think it's something that we're going to struggle with through the rest of the year as an industry.

You mentioned

that April PC demand has not kept up with the match.

It is really hard to break

out. I just think in general the PC marketplace is

going to be off this quarter versus the March quarter

and again it looks like it is going to be down small

single digit percentage points. April tends to be the

slowest of the three months.

Once again as a reminder if you

would like to ask a question, please press star one.

Our next question comes from Brian Horry.

Please state your company name.

Equity Growth

Management. Can you talk about -- can you try to

characterize the state of your two and-a-half inch

development project and, you know, set some kind of

guess as to when that might get commercialized? You

know, what are the factors that would lead you to

decide to go into that market?

I think that first of all,

it is important to understand that as a company we've

participated in small form factor business in the past.

So for us it's less of a technical challenge and more

of a commercial issue. So as we see the noncaptive

notebook manufacturers continue to grow their market

presence and in some cases share, it provides a broader

and more lucrative market for an independent supplier

to participate in. I would say we're just now getting

to the point as an industry where that's becoming

attractive. I still think we're a ways out before we

were and just sort of for competitive reasons we

certainly don't want to discuss what we may or may not

be doing there. Suffice to say we're spending some time with technology, we're preparing ourselves for what types of products we would want to do and when we would want to do them and again we will -- we understand that market is growing more rapidly than desktop market. Sometime in the not too distant future

we'll undoubtedly left that market. For now we'll

leave it as we discussed.

So it is effectively

a function of share shift amongst various notebook

manufacturers that there's a big enough target to shoot

at?

Exactly. Say three or four

years ago with Toshiba, IBM, Jujitsu and Hitachi very

dominant in the notebook marketplace there was very

little noncaptive share to be gained by any of the

independent. Now that that's shifting with Delaware and Compaq, HP, Gateway doing better in that marketplace there is more opportunity and I think there will continue to be more opportunity as we move forward.

Thanks.

Next question is from Uzi

Zimmerman. Please state your company name.

James Capital. I

apologize. I joined late. Depreciation, amortization for the quarter.

13 million.

Number of units

shipped?

8.1.

What did you pay

for the 14 million bonds retired?

That was basically what we

paid for them. That was book value, not face value.

I understand. Was

it six for 1.1 million shares for breakdown?

Seven million in cash and 1.1 million in shares. That's correct.

Thank you.

Are there any additional

questions?

At this time, sir, I show no

further questions. I would now like to turn the call

back over to Mr. Massengill.

Thank you, operator. We

appreciate you all listening in our call. Looking

forward to bringing you up to date in our next

conference call and thanks again to everybody in the

drive team for doing such a great job last quarter.

Bye. Bye.