威騰電子 (WDC) 2008 Q1 法說會逐字稿

Welcome to Western Digital's first quarter financial result for fiscal year 2008.

Later we will conduct a question and answer session.

As a reminder this call is being recorded.

I will turn the call over to Bob Blair.

You may begin.

Thank you.

As we begin, I would like to remind you we will be make being forward-looking statements in our comments and in response to your questions concerning our expectations regarding supply and demand conditions in the hard drive industry, growth in the market for hard drives and growth opportunities for WD.

The effects of strong seasonality in the December quarter, our plans to continue investing in new technologies and product road maps, our beliefs regarding the benefits of a vertically integrated hard drive business.

Our capital expenditures plans for fiscal 2008, and our current financial outlook for the December quarter.

These forward-looking statements are based on management's current expectations and are subject to risks and uncertainties that could cause actual results to differ materially, including those listed in our Form 10-K filed with the SEC on August 28, 2007, as well as the additional risk factors reported in the press release included as Exhibit 99.1 in the Form 10-K we furnished to the SEC today.

We undertake no obligation to update our forward-looking statements to reflect new information or events, and you should not assume later in the request are the that the comments we make today are still valid.

In addition, references will be made during this call to non-GAAP financial results.

Investors are encouraged to review these non-GAAP financial measures as well as the reconciliation of these measures to the comparable GAAP results on the last page of our press release, financial statements, included as Exhibit 99.1 to the form we furnished to the SEC today, a copy of which can be found under the SEC filings link in the investor relations section of our web site at www.westerndigital.com.

I would now like to turn the call over to Western Digital President, Chief Executive Officer, John Coyne.

Good afternoon and thank you for joining us.

With me today is Tim Leyden, Executive Vice President and Chief Financial Officer.

After my remarks, Tim will provide the financial report on our first quarter and our outlook for the second quarter.

Our financial results for the first quarter reflect a continuation of our profitable growth in a strong market environment throughout the quarter.

The September quarter was unusual in that we saw strong industry demand emerge early in the quarter and sustain throughout.

This was true in all geographic regions, markets and channels that we serve.

With public reporting of quarterly financials and the hard drive industry now completed it is clear that improved demand combined with discipline production increases, more stable pricing which resulted in an improved industry-wide financial performance.

Through October industry conditions have been seasonally strong.

We believe that growth of 12 to 15% year-over-year and 4 to 5% quarter-over-quarter is likely in the December quarter.

Distribution and manufacturers inventories combined are down year-over-year by some 11% exiting October.

Based on current demand and factory build rates, we believe that the industry will be much better positioned entering the January to March quarter than in recent years.

At WD, our capacity is constrained relative to current demand.

As a result we are working diligently to treat all customers fairly in this constrained environment.

We expect that we will see allocation on certain capacities continue throughout the quarter.

In the first quarter, our investment strategy, product portfolio, and execution in all market segments enabled us to address robust demand for mainstream and high capacity hard drives in both consumer and commercial applications.

We posted year-over-year hard drive growth of 37% in revenues and 29% in unit shipments.

Combined with our solid performance in the March and June quarters, the WD business model has demonstrated our ability to deliver strong results in both good times and in the periods where we face industry head winds.

Each of WD's businesses - desktop, consumer electronics, branded products, mobile and enterprise data turned in strong performances in Q1.

As a result of our multi-year diversification strategy, for the first time we derived more than half of our quarterly revenues in the hard drive space from non-desktop applications 53% up from 35% in the year ago quarter.

This diversification of our revenue base is a result of the investments made and our execution of the new product plan over the last several years.

During which time we have become the world's second largest maker of hard drives.

The breadth of applications for hard drives is a major benefit for the industry and especially for those of us who have the ability to continue investing in future technologies and product road maps.

The company's unit shipments for the first quarter included approximately 5.9 million 2-1/2 inch mobile hard drives, up 175% year-over-year and approximately 3.7 million 3-1/2 inch hard drives for use in digital recorders, an increase of 51% year-over-year.

Branded products revenue which increased 133% year-over-year accounted for 18% of the Q1 total, continuing to demonstrate the strength of WD's global brand.

We addressed strong demand for higher capacity points in each of our segments with hard drives based on our own PMR technology.

Most notably are 2-1/2 inch 250 gigabyte WD Scorpio hard drives and our 3-1/2 inch WD GreenPower one terabyte drives.

Both of these drive families are based on our industry leading 200 gigabyte per square inch PMR technology platforms.

Earlier this week we began shipping another industry-leading product our third generation PMR WD Scorpio mobile drive based on our own 250 gigabit per square inch PMR technology in capacities up to 320 gigabytes.

Turning to our media acquisition, integration of the media operation is proceeding smoothly according to plan.

We recently complete our first worldwide operations review in Asia involving the media team along with the rest of the WD operation and engineering teams.

We're very excited about our ability to capture the synergies and advantages of a vertically integrated hard drive business, thus enabling us to compete even more effectively on the basis of our quality, reliability, customer service, technology and execution as we address the tremendous opportunities for profitable growth in the storage marketplace.

Tim Leyden will now provide our financial report and outlook.

Tim --

Thanks, John.

Western Digital's execution and revenue diversification strategy coupled with strong hard drive demand and stable pricing enabled the company to deliver outstanding financial results.

Revenue for our first fiscal quarter was $1.766 billion.

This includes $40 million of revenue from external sales of media and sub straight components shipped in the period between September 5 and September 28.

Total revenue was up 40% from the prior year and hard drive shipments totaled 29.4 million units, up 29% from the prior year.

Average hard drive selling prices were approximately $59 per unit, up $3 from the year ago quarter and $4 from the June quarter as a result of firmer pricing and improved product mix.

We shipped 5.9 million 2-1/2 inch mobile drives in the September quarter as compared to 2.2 million in the year ago quarter and 3.8 million in the June quarter.

Our growth in this important segment demonstrates a continued acceptance of our leadership products by notebook PC manufacturers together with increasing demand in the mobile storage appliance market.

Turning to consumer electronics.

We shipped approximately 3.7 million three and a half inch drives for use in digital video recorders in the September quarter versus 2.5 million in the year ago quarter and 2.7 million in the June quarter.

This market continues to be a long-term growth opportunity for WD and the industry.

Channel revenue was 51% OEM, 31% distribution, and 18% branded products versus 52% OEM, 37% distribution and 11% branded products in the year ago quarter.

And it was 47% OEM, 36% distribution and 17% branded products in the June quarter.

The Q1 OEM revenue percentage includes $40 million, or 2%, from external sales of media and sub straights.

Revenue for each of our top five customers increased from the June quarter.

However, because of the increased diversification of our revenue base, no single customer comprised more than 10% of the total.

Q1 geographic split of our business was 33% Americas, 32% Europe and 35% Asia as compared to 35% Americas, 28% Europe and 37% Asia in the year ago quarter.

And it was 40% Americas, 26% Europe and 34% Asia in the June quarter.

Revenue from external sales of media and sub straights is included in the Asia percentage.

Our growth margin percentage for the quarter was 18.3% versus 17.3% in the year ago quarter and 15% in the June quarter, reflecting improvements in pricing, mix, and cost.

Operating expenses totaled 188 million including a 49 million charge for in process research and development related to the (inaudible) acquisition.

Operating income was $135 million or 7.6% of revenue.

Net interest and other income totaled approximately $3 million.

Income tax expense was $69 million for the September quarter, including net nonrecurring charges of $60 million.

Absent these charges, our tax rate was about 6.5% for the quarter.

During the September quarter we had a $3 million favorable resolution of certain foreign tax contingencies.

Also during the quarter, we licensed certain intellectual property to one of our international subsidiaries.

This resulted in a tax charge of $63 million.

We now expect that our future book tax rate will be in the 5% to 7% range.

However, I would highlight that our cash tax rate will continue to range between 2 and 3% for the foreseeable future.

During the quarter, we adopted FEN48 which prescribes the method by which companies should calculate reserves for tax contingencies.

The impact of that adoption was not material to net income or shareholder's equity.

However, it did result in balance sheet reclassifications between deferred tax assets and liabilities.

GAAP net income totaled $69 million, or $0.31 per share.

Excluding the $60 million net tax charge, non-GAAP consolidated net income was $129 million, or $0.58 per share.

Excluding the net tax charge and the combined impacts of the acquisition, non-GAAP HDD net income was $182 million, or $0.81 per share.

Our reconciliation of non-GAAP to GAAP results is on the last page of our press release financial statement.

Turning to the balance sheet, our cash and short-term investments at the end of the quarter totaled $851 million as compared to $907 million at the end of June.

The decrease is primarily the result of the net cash used for the acquisition.

As of the end of the quarter, we have drawn down $750 million of our $1.25 billion bridge facility.

Cash generated from operations during the quarter totaled $219 million.

Capital expenditures for the quarter were $163 million.

Non-cash charges for depreciation and amortization expense totaled $78 million.

Following a recent review of demand capacity, technology and efficiency road maps, capital expenditures for fiscal 2008 are now expected to be around $700 million, at the lower end of our previously estimated range.

This includes about a $100 million for our media operation.

Depreciation and amortization expense for fiscal 2008 is expected to be about $400 million, including about $100 million dollars for media operations.

We have completed the preliminary purchase price allocation related to our $1 billion acquisition of (inaudible).

We recorded a $49 million charge for in-process research and development.

In addition, we increased the book value of the media fixed assets by about $130 million and recorded approximately $100 million dollars in net deferred tax assets, $90 million of amortizable intangibles and $85 million of goodwill.

The asset evaluation assessment indicated longer useful lives than we had initially estimated.

As a result, the incremental depreciation and amortization resulting from these fair value adjustments will be about $5 million per quarter.

This is included in the $100 million dollars fiscal 2008 estimate of media depreciation and amortization referred to above.

During the quarter, we repurchased 841,000 shares of stock at a total cost of about $16 million.

Since May 2004, we have repurchased 15.1 million shares at a total cost of $204 million.

$46 million remains under our existing stock repurchase authorization.

Our cash conversion cycle was a positive ten days consisting of 51 days of receivables, 29 days of inventory of 13 turns and 70 days of payables outstanding.

Excluding the impact of the acquisition, our conversion cycle would have been a positive one day consisting of 48 days of receivables, 17 days of inventory, or 21 turns, and 64 days of payables outstanding.

Now I will move on to our expectations for the second quarter of 2008.

It is our intention to break out revenue from media sales for the December and March quarters until our external obligations are complete.

All other operating results will be reported on a WD consolidated basis.

As we indicated on our last call, we expect the media acquisitions to become accretive in the June 2008 quarter.

Longer term, from the end of calendar 2008, we expect our blended media internal and external supply model will enable us to realize cost improvements at the gross margin line of up to 300 basis points.

We expect demand for the December quarter to be seasonally strong.

Accordingly, we estimate revenue for the December quarter to be between $1.875 billion and $1.925 billion, including approximately $100 million from external sales of media and sub straights.

Gross margin for the December quarter is anticipated to be in the range of 18.5% to 19%.

Operating expenses are projected to be approximately $163 million as we continue to integrate media operations and invest in expanding our product and technology portfolio.

Net interest expense is projected to be about $11 million.

We anticipate a tax rate of between 5% and 7%.

And our share count will be about $225 million.

Accordingly, we estimate earnings per share of between $0.73 and $0.77 for the December quarter.

Operator, we are now open for questions.

Thank you.

(OPERATORS INSTRUCTIONS) Andrew Neff your line is open.

Please state your company name.

Bear Sterns.

Thanks.

I just want to take a step back.

You had a really nice quarter, things are going well.

And I guess just as a dialogue over time, why won't the industry go back to, since things are so strong, overbuilding and you're implying you think things might be better in January and March, what's different this time, how can it be sustainable and how can we, as investors, feel comfortable about that.

Well, I think, Andy, that there are several positive indicators.

One of those is that as we exited the first quarter, our first financial quarter, the September quarter, inventories of excluding enterprise, 3-1/2 inch and 2-1/2 inch drives, inventories were down 8% year-over-year as we exited the September quarter for the total industry, that's manufacturers industry, product in transit from the plants, product in the OEM hubs and distribution-owned inventory throughout the world.

So that was, in absolute numbers, 8% lower exiting September this year than the prior year.

As of the end of October, it was 11% lower than it was exiting October last year.

So I think we're seeing significant production discipline.

I don't think that's an accident.

I think it's a reflection the way the management teams in the large companies are looking at their businesses.

And I believe that discipline maintained through the balance of this quarter will insure that we enter January in the best position relative to supply and demand balance and starting inventory that we will have seen in the last five years.

Thank you John.

David Bailey.

You may ask your question.

Please state your company name.

Yes, Goldman Sachs.

There have been a lot of comments about double ordering ordering from the semi companies into the PC space.

Why haven't we seen this yet in the hard drive space?

What evidence do you have that some of the most (inaudible) prices will kind of back off a little bit.

Yes.

I think the -- I mean, the comment, answer to the prior question is part of it.

I mean, our inventory positions are low throughout the industry.

Our visibility, particularly in the distribution channel, to the movement of product through that channel, the inventories in the channel is very much better than it was years ago.

Our visibility into the OEM pools and build rates is also significantly better than it was some years ago.

And our view of the market today is that we're seeing true demand.

And then just sort of a clarification, can you help us understand how much of your CapEx is going toward capacity expansion and how much of it is for maintenance at this point?

I'll take that one, John.

Most of our expenditure at the moment is going on component expansion, which is heads and media.

It's tough to break it out between maintenance and expansion, because when we do any replacements we tend to get efficiencies also.

I think to elaborate on Tim's point, as we told you, I think in the last call some 200 million of that overall spending relates to our conversion of our wafer fab from 6 inch to 8 inch, the investment in the initial pilot facility to demonstrate that process technology development.

Likewise, a significant portion of the $100 million that we've indicated relative to the media operations is significant equipment technology upgrades that relate to the 100% transition to PMR over the course of the coming year.

So I think a substantial amount relates to technology.

Great, thank you.

Rich Kugele, your line is open.

Please state your company name.

Needham & Company.

Thank you and well done.

Just in terms of the mobile, a significant increase in your production there.

Has there also been an improvement because of the volume on the margins for that product line for you?

Yes, our mobile product, combination of volumes, our technology leadership in that space have all generated a very good mix and a continuing improvement in margin in that space.

Are we now north of desk top again or versus being below?

Let me just say that we're continuing to improve.

Okay.

And then obviously even with coMAG your inventory balances were very impressive, but can you give us a sense on some of the line items on the balance sheet ex-coMAG.

We didn't have any real changes in the balance sheet other than the addition of the coMAG items.

On the inventories and, in particular and in the conversion cycle, we were at 10 positive -- 10 days positive on the conversion cycle and when we, when we look at that there's actually a bit of a mismatch there because we had to count the entire quarter of receivables and also inventory against a very small amount of gross margin cost of sales and receivables.

So consequent and revenue, I apologize, so consequently there's about three days in that ten which will be eliminated when we get down to be able to cover, to compare that against the entire quarter.

So that will bring us down to around 7 and we expect that we will go to about 5 or 6 in the current quarter.

Okay.

And then just lastly on your external sub straight side, obviously there's a lot of tightness there in the market.

Can you talk about what you're seeing for that piece of the business since you're the only company that has 100% of their needs?

Yes.

I think the on a worldwide basis I think the supply of both aluminum and glass sub straights is reasonably well matched to demand.

And as we've mentioned, we're continuing to fulfill our external obligations in both media and sub straight relative to VPA's that are currently in place.

Okay, thank you very much.

Mark Miller, you may ask your question.

Please state your company name.

Mark Miller with Brean Murray, Carret & Co.

I had a question.

Could you give us in terms of weeks of inventory where you think the industry is at and where you guys are at.

Well, we're ending the quarter mark, we were in our normal four- to six-week range in distribution.

I think inventories are very well situated, as I mentioned ending October 11% down on the same period last year.

I don't have that translated into weeks, but it's a relatively low number, well towards the low end of the range.

Second question would be there's been talk about component shortages, including disk drives pacing some of the mobile PC builds.

I'm just wondering what effect, if any, that's had on you in the December quarter and possibly your feeling if it's going to be any effect for the March quarter.

I think it's exhibiting slightly differently customer to customer and I think most of the issues are being resolved, but not to the extent where there's plenty of availability in the system.

I think it's tight and a little spotty from customer to customer.

But it's -- I think tightness for the whole quarter with timing being an issue from individual customer to individual customer.

Said you had indicated at the Reynolds meeting they thought Hitachi and possibly Samsung had, well I'm not going to use their words, but are not behaving themselves.

Is it basically because we're just short now, in terms of supply, or do you think there's a real change in management from what we're hearing Hitachi a real pressure to make some money there?

I think if you look at the sustained behavior at Samsung over the course of the last year, we have seen a very significant shift in emphasis which we believe is driven by a desire for profitability and a recognition of Samsung's structural advantages and disadvantages.

So, it appears to me that they are playing to the strength of their supply base and becoming, or at least attempting to become an outlet for the technology that their ahead and media suppliers can deliver to them, and they're focusing on more niche applications within the overall marketplace.

I think it's very sensible and I think it's very positive for the industry.

When I look at Hitachi, we saw their results an announced yesterday, and I think that is also encouraging in that the management there seems to be focusing on addressing some of the cost issues and focusing on profitability and this is also very good for the industry.

Thank you.

I would just like to say that pretty much ties up basically what we're hearing from other people.

Steve Fox, you may ask your question.

Please state your company name.

Hi.

Good afternoon.

Merrill Lynch.

Just to be clear on the dilution impact from coMAG in the quarter just completed, it looks like volumes to be less dilutive and, secondly on that, could you just talk about how much, given the strong volume demand, what kind of dilution are we now looking for for coMAG in the current quarter?

As you've seen at the addendum to our press announcement, we've broken out what the media dilution was for the three weeks of September that we owned the business.

And we have indicated that we will be accretive in the June quarter.

So -- and it will be more or less a straight line between those particular points.

We've also indicated how much we're spending in op ex and the other component is the interest rate on the loan that we drew down.

Okay.

So off of this higher base we can assume less dilution and probably assume a month ago it sounds like.

Be a little cautious about is that from here through the end of March as we fulfill our external VPA media obligations and sub straight obligations, we then have to convert that equipment to WD recipe and there are some inefficiencies related to that, in terms of a total utilization of the asset base and the people and some startup costs related to that.

So I wouldn't get too ahead of ourselves there.

That's great.

And then just curious, when you talk to your PC customers, given the outlook you're talking about, it doesn't sound like you're that concerned about double ordering.

Are they taking a more conservative vent, in terms of what they expect from sales over the next few months given what's going on in the economy, or you're not seeing that from the customer?

I think we're seeing good demand and I think we probably get a lot more information on a lot more focus on the shape of the U.S.

economy and the issues in the U.S.

economy.

One of the things that we noticed, in terms of the strength which was across all geographies, but particularly strong in Q1 in Europe.

And if you look at the movement in relative exchange rate to the U.S.

dollar, relative to the European economies, and then you factor in the fact that all IT-related products, hard drives, PC's, all IT-related products are costed and sold essentially in U.S.

dollars.

European customers, European consumers have 30% more buying power than they had this time last year relative to any discretionary spending on IT.

And that, I believe, is one of the key drivers of the strength of European demand for PCs and for storage appliances and DVR-type products.

To a degree that's also true in Asia, although the -- our Asia Pacific region growth is probably more driven just by total economic growth in those areas.

But, again, currencies have strengthened relative to U.S.

dollar cost.

That's helpful.

Thank you very much.

Mark Moskowitz, your line is open.

Please state your company name.

Yes, JP Morgan.

Good afternoon.

Maybe we could build off that last question.

Obviously you're talking about the currency benefits.

I just want to get a sense, in terms of the underlying trends, what in Europe or Asia is really helping out WD and hard disk drives?

Is it more the PDR, DVR, the external backup piece?

I think we've seen strong growth across our entire product line.

I think we're, there are two elements at play here relative to WD specifically as distinct from the strength in the industry generically.

Our ability to grow revenues 37% year-over-year relative to industry growth in the high teens, is attributable to WD's focus on product, quality, reliability, availability and flexibility and what you see is customers responding to those values and preferring WD.

And that's a worldwide phenomenon and a multi-channel phenomenon.

Do you feel you're outgrowing your peers in both Europe and Asia from a hard disk drive perspective?

I think we're outgrowing our peers everywhere.

Okay.

John or Tim, can you talk about the overall blended ASP improvement?

How much was driven by mix or better improvement on market share opportunities for WD?

Yes, I think we had a number of factors.

I think we had higher, a better segment mix.

We had high capacity mix and we had strength in the enterprise and brand of products, which contributes to the higher segment mix.

Okay.

Then just lastly, I want to go back to the commentary on industry discipline, as far as inventories.

It doesn't really appear that channel inventories or OEM inventories with respect to hard disk drives has really been an issue since Mac store faded away and clearly WD has had a sterling execution record, in terms of what you guys have done with your business model and your inventories over the past few years.

I'm just getting -- are you trying to send a cannon across the bow of the rest of the industry, in terms of saying, hey, we have a buffer here, don't mess it up, as you go into the first part of next year?

I don't think there's any buffers.

I think the point I'm trying to make is the industry as a whole is leaner going into next, into January.

And, consequently, I don't expect the same overhang of inventory to affect the dynamics of supply and demand as severely as they have in prior years.

Okay, thank you.

Keith Bachman, you may ask your question.

Please state your company name.

Bank of Montreal.

I had a couple, if you will.

First, the area of outperformance was certainly the mobile side, as I think Rich was an eluding to.

Is -- could you talk a little bit more about where you, you mentioned some spot shortages why was there so much share gain on the mobile side and related where are the spot shortages that you're seeing either at OEM or channel, where is the most tightness today?

I think where we're seeing tightness is essentially in the mid-cap range of both mobile and desktop.

I think our strength in mobile has been the fact that we're leading the market in terms of the kind of volume in the 250 gigabyte capacity where I believe in the last quarter we shipped more 250 gigs into the market than any other supplier and I think more than all other suppliers combined.

And this week we an announced our 320, again we will lead on time to volume at that capacity.

And if you look at the mobile marketplace, there is a very high demand for high capacity drives in the mobile space.

Right.

320 being the largest drive available.

And so having that capacity in our portfolio gives us, makes us a preferred solution for the customer base.

Okay.

To follow on that, would you expect then the December quarter, in terms of your year-over-year growth rates, would you expect that to likewise be the certainly the area of outperformance for December and perhaps even March?

Well, we see, I mean we see strength in the mobile demand.

We see mobile growth rates on an industry basis continuing to outpace other segments.

And so it's reasonable to assume that mobile would make up a significant, be a significant contributor to our guidance of the 12 to 15 points of year-over-year growth.

Okay.

Well, let me ask two quickies then.

What was the like for like ASP changes either sequentially or year-over-year?

We cover that I believe it was

I know what the absolute was, just what was the like for like?

We don't --

We don't normally comment on that.

Give out that information.

Okay.

Then the final one for me is you mentioned that you bought back some stock this quarter, that surprised me a little bit.

Was that pre the coMAG deal or taking down the term debt, and I'm assuming the buyback, with the debt on your balance sheet that you won't go after that.

If you could provide some color on how you intend to treat the buyback going forward.

Yes.

It was (inaudible)in the future, though, we will be opportunistic.

We keep our options open on that front because if there are favorable conditions we may continue to do so.

And --

Okay.

Thanks guys.

Okay.

Christian Schwab you may ask your question.

Please state your company name.

Thank you.

Craig [Hellum] Capital Group.

The OEM growth of 34% excluding coMAG tremendous growth there, is that due more to market share gains or due to the fact that you are capacity constrained and you shipped to them before you shipped to the distribution channel?

Well, our hard drive growth was 37% year-over-year in revenues.

Right.

And 29% in unit volume.

That was across all segments; it wasn't an OEM statement.

Right.

I'm just looking at your OEM revenue quarter-over-quarter sequentially which grew 49%, 900 million minus the 40 million that you threw into coMAG, which would make it roughly 34%.

The question is, I guess, do you think you're gaining share at the OEM level?

Let's just leave it at that.

Yes and the reason, the primary contributor there is if you look at the desk top it's roughly 50% OEM, 50% distribution business.

However, if you look at mobile it's 80 to 90% OEM business.

Therefore, growth in mobile, a lot of it falls into the OEM bucket.

Perfect, that's the same math I had, just confirming.

On the gross margin side, the 300 basis points of improvement, what would be our long-term goal on gross margins so industry conditions remain likely are today, stable and well behaved?

Well, our current long-term range for gross margin is 15 to 20%.

And that reflects the mix, the maturity of the products and the seasonality.

And we're early in the media integration timing and that is definite cost opportunity for 300 basis points depending on rational competitor behavior and pricing.

And we will reach that point at the end of calendar 2008.

So at that stage we should be able to reflect that change in the margin, but it's too early at this particular point.

Right.

So, in essence, longer term should things remain rational we can have 20% plus gross margins, correct?

Yes.

Great.

How much longer, never mind, I know the answer to that question.

Great, that's all I have.

Thank you.

Harry [Blount], you may ask your question.

Please state your company name.

Hi, a couple things.

I wanted to come back to a couple of the questions on the contribution on both ASP increase sequentially as well as gross margin sequentially.

If you could make help us out, how much of that did come from mix, how much of that was pricing and how much was other factors, such as the accounting on the coMAG side?

I would say that on a ranking viewpoint we mix contributed the most and cost contributed and pricing contributed.

Okay.

And if we take a look at September quarter and your ability to blend up, are you constrained on any of the components that will prevent you from being able to blend up a similar amount in the December quarter?

I think we have no -- I think --

Where I'm going with this John, is --

We believe we will be able to continue to execute our management style to optimize our business around any demand profile by having the most responsive, most flexible manufacturing and supply chain system in the industry.

So I think we will continue to attempt to best optimize the business relative to the sales opportunities that present themselves.

So said differently, you don't feel like if you had a chance to blend up your capacity or platters or drive, you don't see either platters, heads, or suspensions being limiting factors at this point?

No.

Okay.

And then you do disclose the coMAG results separately, could you give us a sense of what the intercompany eliminations are either on the revenue and/or gross profit line?

We haven't got that information.

Okay.

All right, thanks.

[Shelby Seyrafi], your line is open.

Please state your company name.

Yes.

It's (inaudible).

So I just want to make sure I heard you right.

Did you say net interest income or expense will be $11 million in the December quarter?

Expense.

Expense, okay, thank you.

That helps.

And in terms of the ASP change you expect in the December quarter, do you expect it to be flat sequentially or down a few ticks?

It will be flat sequentially.

Okay.

Flat.

And you're projecting media revenue at $100 million in December.

Do you have an idea how that should proceed after the December quarter?

When does it go to like effectively zero?

We will be, we will have completed our external obligations by the end of March.

But we will continue to have some immaterial amounts of sub straights going forward after that.

So for modeling purposes in June just maybe 5 to 10 million, something like that?

Something in that region, yes.

And finally for me, I was surprised you included the in process R&D charge in your non-GAAP consolidated EPPS.

I would normally eliminate that and get like a $0.79 number versus your $0.58 number.

Help me why you included that?

Well, we actually just called that out separately, I'll just show it as a one-time charge.

On an apples-to-apples basis going forward you're right, the media operations will continue, so it would be the non-GAAP WD HDD plus the media which would amount to about 178.

Yes, but I just want to be clear.

The other reason we did this is because in our guidance in the refresh call that we did at the beginning of September when we closed the coMAG deal, we had not (inaudible) the IP licensing transaction, which is why we did the separate column with the $60 million, right?

Yes.

So that you could tie back to the guidance we had given you for the combined WD coMAG activity.

Okay.

Thank you.

Aaron Rakers, you may ask your question.

Please state your company name.

Yes.

Thank you.

Wachovia.

A couple questions, I guess building on [Chevley's] question here, if you look at your gross margin guidance for the December quarter and you look at that on a stand alone basis, can you help us understand what gross margin, excluding the coMAG impact, be at the high end of your long-term guidance range of 15 to 20%?

Well, as we indicated, we're going to give the amount on a consolidated basis going forward.

So the margin indications that we have given includes the impact of the media operations in that number.

Okay.

And it's fair to assume that obviously given the accretive impacts that's still going to be a negative impact on the gross margin line, is that fair?

Well, I think if you look at the current situation and look at what we provided as the addendum for the three weeks, it will be fair to assume if you look at that just maybe quarterize that as John indicated.

We're going through the transition whereby we're providing products externally and then we will be tapering down in the January quarter and completely out in the, at the end of March, other than for the sub straights.

Okay, fair enough.

And the followup, I'm interested in the comments looking out now into the March quarter and I guess one of the areas of notable strength was in the OEM side of the business.

Have you seen a change with regard to OEM order patterns in the notebook market in particular given the recent -- I think one of your peers explicitly stated they were not able to meet all of their demand?

Have you seen a lengthening in terms of the OEM forecast that you guys are receiving and that's what's giving you better visibility?

I think I would say, I mean I've been addressing this I think in the last few calls.

As the industry has consolidated and as only a few people have been generating the necessary revenues, well not revenues, generating the necessary profitability to be able to reinvest in significant technology and product breadth and in capacity, I think customers are beginning to understand what that means strategically and are beginning to view hard drive availability as significant enabler of their businesses and are taking appropriate actions to ensure that they have that availability.

Okay.

So, yes, we're seeing a much more realistic view emerging than perhaps in years gone by when it was an assumption that there was going to be excess available at any time.

Okay.

Fair enough.

Then final two questions for me.

Cash flow generation had a pretty solid quarter.

But once we bake in a full quarter of coMAG, maybe you could help us understand how we should think about quarterly cash flow generation.

Then last question for me would be a couple quarters ago you talked about moving into adjacent market opportunities.

Any update with regard to that, in terms of new product segments that you might go after, thank you?

Okay.

On the cash flow, we anticipate that the free cash flow for the current quarter will be around $100 million dollars.

Okay.

On growth and adjacent markets we continue to invest in breadth of product and we continue to evaluate opportunity in segments which we don't participate, whether they be hard drive or other solutions to storage demand.

As we evaluate those markets and our potential to make a significant return and leverage our core engineering capability, then those things pass the standup quiz we will act on them but, as you know, we only an announce product and product families when we're shipping.

Thank you guys.

Jeff Brickman, you may ask your question.

Please state your company name.

Thanks.

UBS.

Most of my questions have been answered.

Just one.

DVR growth very solid in the quarter.

Is this a function of customer program that hit in the quarter and should we expect the line continue to be lumpy going forward?

Thanks.

Yes.

I think so.

The DVR business is very much a project driven business.

The demand is very concentrated in large customers such as the cable companies and the direct satellite TV companies.

And so tends to be lumpy, but some very positive traction, some very good plans in the offing relative to the transition to HD, all of which is good for storage and so on the mid to long-term basis I see this as a very solid application for our technology.

Great, thanks guys.

Joel [Inman], you may ask your question.

Please state your company name.

Hi.

Thanks.

Robert Baird.

You've had a lot of success in retail driving that as a higher percentage of your business.

Can you kind of give us a sense where you think that could go, in terms of mix, and the dynamics between share gain and market growth?

Yes.

I mean I think that the branded segment continues to be a significant growth opportunity for the industry.

We are seeing that the driver of that growth is all of the noncomputing content that people now are generating, whether it's with digital cameras or collection of audio or video content.

And so this is a whole new market application.

I think consumers are becoming educated about the value and the need for backup storage.

They're also becoming very mobile, in terms of seeking the means to carry their data and memories and photos with them wherever they go.

All of these things very positive for that space.

So I think we will continue to grow there.

Our timing, our product design, our product feature set, our reputation for quality and reliability, our relationships with the channel in both retail and direct marketing, I think all very positive and have contributed all of that across the board has contributed to our success with the My Book and Passport brands.

We would certainly hope to continue that and we have a very high focus on ensuring that we do.

Okay.

But do you see it being 40% of your mix at some point, I mean, or is it -- ?

I think we have made the major strides.

I think the opportunity for us is to in the developed markets to grow with the market demand.

And in some emerging markets, which really don't buy these kinds of products today.

The emerging markets tend to be very much a do-it-yourself market in the very early days and as average incomes rise then people begin to buy the complete branded finished solution.

And so emerging markets offer significant opportunity in the years to come.

Okay.

Thank you.

(OPERATORS INSTRUCTORS) Andrew Neff you may ask your question.

Please state your company name.

Bear Sterns.

I want to go back to something that's been at the beginning of the call.

As you let customers know that you're allocation, that you have -- how do you avoid or measure or factor in, there has to be that going on because they all know there's shortages and they need to get what they want.

I guess second question is can you talk about any pricing trend changes in the notebook area?

Okay.

Let me address the orders first.

I mean, we have a very high degree of visibility on inventory levels throughout the channel and, therefore, we can judge and base allocation on replenishment of inventory levels to what we believe is appropriate in the OEM space.

If you look at the OEM, large OEM companies, they run very similar models to ourselves, very tight asset turn models and, therefore, we see what's in the (inaudible), we see what's being pulled, we see reporting of what their shipments are.

So I'm not concerned on lack of visibility of true demand.

On pricing in mobile, I mean, continues to be competitive.

Are you in allocation mostly in mobile as well or is it mostly in the other areas?

As I mentioned, kind of mid-cap in both 2-1/2 inch and 3-1/2 inch we're seeing tightness in the market.

Thank you.

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

John Coyne.

Okay.

Thank you everyone for participating in today's call.

I look forward to updating you on our progress in the months and years ahead.

Thank you.

This does conclude today's conference call, you my disconnect at this time.