Wolfspeed Inc (WOLF) 2009 Q2 法說會逐字稿

Good afternoon.

At this time, I would like to welcome everyone to the Cree Incorporated second quarter 2009 fiscal year financial results conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer period.

(Operator Instructions).

As a reminder, ladies and gentlemen, this conference is being recorded today, January 20, 2009.

Thank you.

I would now like to introduce Raiford Garrabrant, Director of Investor Relations of Cree Incorporated.

You may begin your conference.

Thank you, Christy, and good afternoon.

Welcome to Cree's second quarter fiscal 2009 earnings conference call.

By now you should have all received a copy of the press release.

If you did not receive a copy, please call our office at 919-287-7895 and we will be pleased to assist you.

Today, Chuck Swoboda, our Chairman and CEO; and John Kurtzweil, Cree's CFO, will report on our results for the second quarter of fiscal year 2009.

Please note we will be presenting both GAAP and non-GAAP financial results in our remarks during today's call, which are reconciled in our press release, which is posted in the Investor Relations section of our website at www.cree.com under Financial Metrics, quarter ending December 28, 2008.

Today's presentations include forward-looking statements about our business outlook and we may make other forward-looking statements during the call.

These may include comments concerning trends in revenue, gross margin, and earnings; plans for new products; and other forward-looking statements indicated by words like anticipate, expect, target, and estimate.

Such forward-looking statements are subject to numerous risks and uncertainties.

Our press release today and the SEC filings noted in the release mention important factors that could cause actual results to differ materially.

Also, we would like to note we'll be limiting our comments regarding Cree's second quarter of fiscal year 2009 to a discussion of the information included in our earnings release and the metrics posted on our website.

We will not be able to answer any questions that would involve providing additional financial information about the quarter beyond the comments made in the prepared remarks.

This call is being recorded on behalf of the Company.

The presentations and the recording of this call are copyrighted property of the Company and no other recording, reproduction, or transcription is permitted unless authorized by the Company in writing.

Consistent with our previous conference calls, we are requesting that only sell-side analysts ask questions during the Q&A session.

Also, since we plan to complete the call in the allotted time of one hour, we recognize that other investors may have additional questions and we welcome you to contact us after the call by e-mail or phone at 919-287-7895.

We are also webcasting our conference call to allow more flexibility for our conference call attendees.

A replay of the webcast will be available on our website through February 3rd, 2009.

Now I'd like to turn the call over to Chuck.

Thank you, Raiford.

We delivered record revenue in the second quarter of $147.6 million and non-GAAP net income of $17.8 million or $0.20 per diluted share.

These results include approximately $5.6 million of revenue and $4.4 million of net income or $0.05 per diluted share related to the Mitsubishi Chemical bulk GaN license, BridgeLux settlement, and a franchise tax benefit that were not included in our previously announced targets for the quarter.

Excluding revenue from the licenses, Q2 sales increased 1.3% sequentially to $142 million, as higher LED sales for lighting applications more than offset a decline in Schottky diode and government contract revenue.

LED sales growth was driven by a double digit increase in XLamp LED components and LED lighting product sales, while LED chip and high bright LED component sales declined single digits due to lower demand in consumer, mobile, and automotive applications.

Excluding the margin benefit of a license deal, gross margin increased to 36.8% in Q2.

The increase was primarily driven by higher LED chip and wafer factory utilization, improved yields in both LED chips and XLamp LED components, and some benefit due to a more favorable LED product mix.

These improvements helped offset increased pricing pressure in both our LED chip and LED component product lines.

Working capital was in line with our targets and our debt free balance sheet got stronger as cash and investments increased to $365 million.

As we start the third fiscal quarter, we're facing reduced visibility from both our customers and distributors.

Overall backlog is down from this point last quarter, but in line with the seasonal booking pattern we saw in fiscal Q3 of last year.

The recession has reduced near term demand for some of our products in consumer, mobile, and automotive applications, but we continue to forecast growth in commercial LED lighting.

We continue to closely manage expenses and capital spending while still investing in R&D to develop new products and technology to support our strategy to win in LED lighting.

I will now turn the call over to John Kurtzweil to review our second quarter financial results in more detail, and our targets for the second quarter.

Thank you, Chuck.

I will be providing commentary on our financial statements on both a GAAP and non-GAAP basis which is consistent with how management internally measures Cree's results.

However, our non-GAAP results are not in accordance with GAAP and may not be comparable to non-GAAP information provided by other companies.

Non-GAAP information should be considered a supplement to and not a substitute for financial statements prepared in accordance with GAAP.

A reconciliation of the non-GAAP information for all quarters mentioned on this call is posted on our website as well as a historical summary of other key metrics.

For the second quarter of fiscal 2009, revenue was $147.6 million, and included $5.6 million from upfront patent licenses, which were not included in our previously announced targets for the quarter.

When these are excluded, revenue was $142 million and within our targeted range for the quarter of $142 million to $146 million.

This represents a 19% increase over Q2 of fiscal 2008 and a 1% sequential increase over Q1.

GAAP net income was $10.7 million or $0.12 per diluted share.

On a non-GAAP basis, net income for the first quarter was $17.8 million or $0.20 per diluted share, which excludes $7.1 million of expense net of tax or $0.08 per diluted share from the amortization of acquired intangibles and stock based compensation expense.

Included in our non-GAAP earnings is approximately $0.05 of benefit due to the licensing revenue and a franchise tax benefit.

When these items are excluded, non-GAAP earnings were consistent with the Company's previously announced target range of $0.15 to $0.16.

LED revenue increased 28% when compared to the same period last year and 3% sequentially to $126.7 million, while non-LED product and contract revenues of $15.3 million were down 23% from the same period last year and 11% sequentially.

Our power and RF business had a decline of approximately 5%, while materials and government contract revenue were in line with expectations.

Q2 GAAP gross margin was 38.3% while non-GAAP gross margin was 38.9%, which excludes stock based compensation of $0.9 million.

Included this quarter was $5.1 million or approximately 200 basis points of unforecasted licensing margin.

When this benefit is excluded from the non-GAAP gross margin, we were at the high end of our targeted range of 35.5% to 36.5%.

Operating expenses were $45 million on a GAAP basis and $36.7 million on a non-GAAP basis and included a $780,000 benefit due to a state franchise tax credit that reduced SG&A for the quarter.

Non-GAAP operating expenses exclude approximately $4.2 million of stock based compensation expense and $4.1 million of charges for amortization of acquired intangibles.

Excluding the franchise tax benefit, non-GAAP operating expenses were consistent with our target ranges.

We incurred higher than targeted R&D on the development of our next generation high brightness LED chips, which was offset by lower litigation expense due to a favorable settlement of the BridgeLux case.

Net interest income and other decreased year-over-year to $2.6 million, which was close to our targets.

Given the recent drop in the Fed funds rate, the average return on our cash is forecasted to decline again in the third fiscal quarter as we continue to emphasize cash preservation over yields.

The tax rate for the quarter was 23%, which is slightly higher than the 22.5% targeted.

This relates to the impact of the licensing agreements.

Our debt free balance sheet got stronger during the quarter due to improvements in working capital and strong cash flow from operations.

Day sales outstanding remained flat at 66 days as accounts receivable increased by $5.1 million to $108.6 million on a $7.3 million increase in revenue.

Inventory days on hand also remained flat at 78 days as inventory declined by $0.4 million to $78.8 million.

Inventories are expected to increase slightly in Q3 as we are planning to increase inventories in XLamp, LED components, and LED lighting products to be in a position to take advantage of quick turn opportunities.

Cash flow from operations was $40.7 million and capital expenditures were $17.8 million for free cash flow of $22.9 million during the quarter.

We are targeting capital expenditures for the third fiscal quarter to be in the range of $10 million to $15 million, primarily for new product introductions in China, and the continuing transition of LED chip production to four inch wafers.

We ended December with $365 million in cash and investments and continue to be debt free.

Year-to-date, cash provided by operations was $84.7 million and capital expenditures were $31.5 million, resulting in free cash flow of $53.2 million.

We continue to make capital investments to support new product introductions, but we have reduced our overall capital spending for the year by over 25%.

The first earnout milestone related to the LLF acquisition of $4.4 million was recorded during the second fiscal quarter and we have increased goodwill associated with the acquisition and accrued an associated liability in accordance with the Statement of Financial Accounting Standards Number 141.

We anticipate that this will be paid out in our fiscal third quarter.

With the growing economic uncertainty, it has become more challenging to forecast the business and has increased the chance that our actual results could differ from our targets.

Overall, backlog is down from this point last quarter, but in line with the seasonal booking pattern we saw in fiscal Q3 of last year.

We do not expect visibility into the quarter order trends to improve until mid February at the earliest after the Chinese New Year holiday.

At this time, we target Q3 revenue to be in a range of $128 million to $135 million.

Chuck will provide additional insight to our revenue targets in a few minutes.

GAAP gross margin is targeted to be in a range of 34% to 36%, which includes approximately $1 million or 70 basis points of stock based compensation expense.

On a non-GAAP basis, we target gross margin to be in a range of 35% to 37% when you exclude the stock based compensation expense.

We are targeting lower factory utilization in Q3 in line with lower revenue to limit the growth in inventory, and we plan to use the opportunity to increase focus on yield improvements.

We have also accelerated the transition of our new XLamp LED products to our factory in China.

GAAP operating expenses are targeted to be down approximately $1 million, plus or minus, and includes approximately $4 million of non-cash stock based compensation and $4.1 million of charges for amortization of acquired intangibles.

We target R&D to be down from reduced spending in materials and LED chips, yet we are maintaining LED component R&D levels and increasing our LED lighting products R&D.

SG&a expenses are targeted to be flat.

We continue to closely manage expenses and capital spending while still investing in new products and technology to support our strategy to win in LED lighting.

Interest income and other is targeted to be approximately $2 million, primarily due to the significant decline in short-term interest rates.

We are targeting our effective tax rate to be 24% for the balance of the year.

Based on an estimated 89 million diluted shares outstanding, our GAAP EPS target for the third fiscal quarter of 2009 is expected to be $0.02 to $0.05 per diluted share when amortization of acquired intangibles and stock based compensation are included.

We target non-GAAP earnings per diluted share in a range of $0.10 to $0.13 for the third quarter of fiscal 2009.

Our non-GAAP basis EPS targets exclude amortization of acquired intangibles in the amount of $0.03 and non-cash stock based compensation in the amount of $0.05.

Thank you for your time and I will now turn the discussion back to Chuck.

Thanks, John.

We remain focused on four key areas to continue to drive our business and leadership in energy efficient LED components and lighting products.

Our first priority is to drive top line growth for Cree through higher sales of LED components.

In Q2, LED components continued to increase as a percentage of revenue as XLamp sales once again grew double digits sequentially, which more than offset slightly lower high brightness LED sales.

We target LED component revenue to be down single digits in Q3 as solid demand for indoor and outdoor commercial lighting and China video screens is offset by lower demand for portable lighting applications like LED flashlights, a shorter sales quarter due to a longer Chinese New Year shutdown at our customers, and reduced inventory levels at both our customers and distributors.

Our second priority is to build upon our market leadership in LED lighting by driving LED adoption through higher sales of our LED lighting products, continuing to develop products that set new standards for lighting class performance, and expanding Cree's brand awareness through our market development activities.

LED lighting product sales increased double digits again in Q2, led by sales of the LR-6 downlight, and the first shipments of our new LR-24 product, as we made progress in the ramp up of several new products during the quarter.

Our Q3 backlog for lighting products remains strong and is ahead of where we were at this point last quarter.

We recently announced the production availability of the R-2 brightness bin for our new XP XLamp LEDs, which raises the bar on lighting class performance up to 122 lumens from a single power LED.

We also set a new benchmark for what is possible with LED light sources as we demonstrated an R&D result of 161 lumens per watt at 350 milliamps from a single white LED using a standard size 1 by 1 millimeter LED chip in a prototype package.

We made great progress extending Cree's market leadership, with two high profile installations of our new LR-24 recessed LED luminare at the Federal Reserve in Washington and the planned Pentagon renovation.

The LR-24 demonstrates that LED lighting can now compete directly with linear fluorescent lighting, which is the primary indoor light source for commercial buildings.

These projects are not only important for Cree, but they also demonstrate to the industry that LED lighting is ready now, providing a legitimate energy saving and mercury free alternative to fluorescent and other traditional lighting technologies that can deliver real payback to the customer.

Our third priority is to increase new product margin and build operating leverage.

Gross margins continue to be the key to driving operating leverage in our business and we made solid progress in Q2, despite a more challenging pricing environment for LED chips and components.

Excluding the benefit of the license deals, gross margin increased to 36.8%, due primarily to higher LED chip factory utilization and higher yields in both our LED chip and component product lines.

For Q3, we forecast increased pricing pressure and lower factory utilization may offset some of our recent margin gains in the near term, but we remain focused on a number of activities to reduce costs over the next several quarters, including further yield improvements at the LED chip and component level, capacity additions in Asia, and the transition of LED chip production to four inch wafers.

Our fourth priority is to continue to grow our commercial power and RF product revenue and transition this product line from the current level of a small quarterly loss to adding to the bottom line in fiscal 2010.

As we had forecast at the beginning of the quarter, combined power and RF revenue was in a similar range as Q1 as higher RF revenue mostly offset lower silicon carbide power device sales.

With the growth in RF, our priority over the next couple quarters is to build sales momentum for Schottky diodes from a broader customer base beyond the server power supply market, which would increase the factory loading and improve operating margins for this product line.

Sales through distribution continue to increase as a percentage of our total revenue in the quarter.

Despite the tough economic environment, distributor sell-through grew for LED components in Q2, which made Cree's LED components one of the few growth product lines in all of distribution last quarter.

Distributor sell-through for LED chips was similar to Q1.

Distributor days of inventory ended the quarter in line with our targets for both LED components and LED chips.

As we look ahead to Q3, the lack of visibility from our customers and distributors has made it more challenging to forecast the business and increase the chance that our actual results could differ from our targets.

We target overall Q3 revenue to be down 5% to 10% sequentially in a range of $128 million to $135 million, based on the following factors -- growth in LED lighting product sales due to continued adoption; LED component revenue down single digits as solid demand for commercial LED lighting is offset by lower portable lighting demand, a longer Chinese New Year shutdown; and reduced inventory levels at our customers and distributors; LED chip sales down primarily due to lower automotive and mobile demand, but less than the overall market due to incremental general lighting demand; power and RF revenue in a similar range as Q2; and material sales and contract revenue flat to down single digits.

We have implemented cost controls to reduce factory spending and manage operating expenses to better align with the target revenue range, while continuing to invest in new product development to enable our LED lighting growth strategy.

We target Q3 non-GAAP margins in a range of 35% to 37% as lower factory utilization and increased pricing pressure offset some of our recent margin improvements.

As a result, we target non-GAAP earnings in Q3 of $0.10 to $0.13 per diluted share.

Please note that our non-GAAP targets exclude amortization of intangibles, stock based compensation expense and related tax effects.

As we look ahead to 2009, we are faced with many of the same challenges as other companies due to the recession.

However, we are in a better position due to our focus on the LED lighting market.

We target that LED lighting adoption will continue to gain momentum as product availability increases and recognition of the benefits grows from new installations like the Federal Reserve, the planned Pentagon renovation and President Obama's emphasis on energy efficiency.

We will now take Analyst questions.

(Operator Instructions).

Our first question comes from the line of Harsh Kumar of Morgan Keegan.

Your line is open.

Hi, guys.

First of all congratulations.

These are very good numbers in light of everything going on in the economy, so congratulations.

A couple of quick questions.

First, royalties, is there any repeatability to this metric, and is it quarterly or yearly and can you just give some color on that?

So the numbers we gave you Harsh are really the upfront license payments associated with these recent deals we announced.

There is some small ongoing royalties that will vary depending on various factors, sales and other things, but they are relatively small compared to the upfront amount.

Got it, and then could you, Chuck, give us an update on the move to China, where are you as a percentage of sales or your metrics that you laid out for the year, and also same thing for the four inch conversion, please?

So in terms of the move to China, our big focus this year was to -- obviously we wanted to get our standard XLamps over there and then get the new products transitioned, and the original plan was we announced both the XP and the MC products went into production over the last quarter, and our normal thinking was we would transition those over our Q3 and Q4, and by the end of the fiscal year we would pretty much have them fully transferred, probably running dual production.

Given the change in the plan, we're actually going to accelerate that, and we will have both the XP and the MC products fully transitioned to our China factory within this current Q3 quarter.

So we'll move that up by about a quarter, and that's really a function of the last transitions have gone well and we just think we have an opportunity to go ahead and go a little faster than we originally targeted.

And obviously there's cost benefits to doing that.

As far as the four inch transition goes, we have continued to work on it.

We're really rolling through the different product lines, getting them qualified.

I think we've got most of the product lines that have been through that process -- we might have one or two that are left, but this quarter -- as we go through this quarter, we will start to increase the four inch percentage this quarter, and really the larger increase will happen actually in Q4, with the goal being that we will exit fiscal 2009 or the June quarter with the majority of the high volume products fully on four inch wafers.

That's the current thinking as of right now.

Great, and last question and I'll let somebody else come on.

You're a public Company, very good balance sheet.

Could you talk about maybe how that affects the competitive nature particularly in Asia?

Does that matter at all to pricing in the near to midterm?

I don't really think so.

Obviously, we're very financially strong given the fact that we have $360 million something in cash, no debt, and obviously a fairly healthy operating line right now.

So I think it gives us opportunity to do a lot of things we need to win the market, both not only in the short-term but in the longer term.

The biggest downside of being public is that obviously, everyone else can see a result, so it does put more pressure on us and that challenge will remain.

But it's part of being in the business.

Great.

Thanks.

Congratulations again.

Our next question comes from the line of Dale Pfau with Cantor Fitzgerald.

Your line is open.

Yes, good afternoon gentlemen.

Congratulations.

Outstanding results here.

Could you talk a little bit about your outlook in the general lighting, the competition you're seeing, where you think you're positioned?

And what kind of growth you think you could see over the calendar year over last calendar year on the state lighting portion?

Dale, when you say general lighting, you mean for all of our products or are you talking about one product line specifically?

I'm talking about your LR-4s, LR-6s, LR-24s.

Okay, so that business is coming through.

It's very -- it started out essentially as we exited last fiscal year of relatively small startup, and it's been growing each quarter, double digits last quarter, target that again this quarter.

I think we originally put out targets for the year that said it would add incremental about $30 million for the fiscal year and that included some amount of incremental XLamp sales.

If I look at -- from those targets I'd say we're tracking pretty well right now and it's really the commercial markets, it's what's driving that, so it's a variety of things -- whether it be retail, restaurant chains, things like that driving that.

So it's where the momentum is.

As far as the outlook, where could that go?

We're obviously -- as of right now, the backlog this quarter is ahead of where it was last quarter, so we're relatively optimistic in the near term.

I think I would tell you that we remain cautiously optimistic though, because any time you are looking at overall spending patterns and other things, I think we continue to keep an eye out for something that's going to change.

As of right now we haven't seen it in terms of the growth that's still there, but at the same time we do know that we're seeing distributors hold less inventory -- we're seeing a lot of the less inventory, a lot of those types of factors out there.

So we're monitoring it closely.

Probably its bigger benefit than just pure revenue increase, as it has really moved the market.

I think one of the reasons we did that was to try to make the other big companies start to move.

And I think there's no doubt that from it year ago to today, we have all the big players now serious about LED lighting and trying to push that.

So whether that benefits us directly as creating new customers for our components or indirectly by just getting the industry moving, that -- as much as the revenue I'm even more pleased with the fact the goal to move the market has really worked.

And so I know I didn't give you a specific number, and we really don't have better targets than that right now.

Our goal is to keep it growing each quarter, but in terms of what that might mean a few quarters out, it's hard to put a number on it, especially given everything else going on.

Could you talk a little bit in that market segment, talking about your LR-4s through LR-24s, how much of your revenues are coming from your distribution network of resellers out there versus you're selling direct, like the Pentagon which is a direct sale?

I would say the vast majority of sales are through the channels.

I'd say the Pentagon is the exception to how we're winning business today.

We do work on large projects like that, but most of the revenue today has really been LR-6 in North America through the distribution channel.

We have started to see a little bit of revenue last quarter from the Zumtobel agreement, so we started shipping the 230-volt products to Zumtobel and other customers internationally.

But really a majority of the business right now is coming through the LR-6 through the distribution sales channel, and I would say that projects like the Pentagon at least in the near term are more the exception than the rule -- although I would tell you there's a lot of activity there, and I think that's the wildcard to the growth, especially as we get out into the summer timeframe is -- there are some large projects that we are working on that could obviously add nicely to the bottom line, but again most of the growth today is distribution.

And I was intrigued by your comment that in the distribution markets, which you signed some new agreements there for LEDs, that it was actually a growth area for the disties.

Did you grow in absolute terms in that market for the distribution market for yourself?

Yes, we actually -- our sales, our sell-through in distribution grew in raw dollars quarter to quarter, and in fact the comment I heard from one distributor was -- I think their comment I heard from one distributor was it was maybe the only product line that grew last quarter, but that's anecdotal.

And one last question and I'll jump back in queue.

What kind of pricing pressure are you seeing out there?

Clearly we've all heard things.

Maybe you can comment on what pricing pressure you're seeing and how you're reacting to it.

So it's going to vary by product line.

I would say obviously in the mid to lower performance products, as the market has slowed down and things like mobile and consumer and auto, it's pretty tough.

I don't have a specific number for you, but there's a lot of battle for share at those ends of the marketplace.

I think in our components products, where they aren't distinguished in terms of what we're dealing on more the mid level performance, it's picked up last quarter and we're targeting it to stay at a fairly aggressive rate this quarter.

I think that where we're seeing benefit though is at the same time we're seeing that, we continue to be able to push up the performance, getting new bins of XLamps released, getting new products released on the high brightness.

Even opening up new performance levels in the chip business has helped us offset that amount.

And so I think what we're able to do is while we're having to, we're having to meet more aggressive price requests from our customers, through product mix, yield, and some volume we've been able to offset it in Q2.

And although we're targeted to have an effect this quarter, we think maybe less of an effect on us than maybe some others.

Thank you very much.

Sure.

Our next question comes from the line of Yair Reiner from Oppenheimer.

Your line is open.

Thank you.

Looking at China, that had been an important growth driver for the business in recent quarters.

Can you talk about some of the trends you're seeing there particularly in the outdoor displays?

So what we've seen so far is that business has remained fairly solid.

Last quarter demand was pretty similar than the previous quarter and we're targeting -- it should be pretty stable, plus or minus 5% this quarter as well.

So right now, for the large infrastructure in China, which is where I would put the large display screen, it remains relatively solid.

I would also add to that that if you go beyond that, the lighting related stuff that we're doing in China also has remained pretty solid.

So I think there is some signs on the consumer side and definitely on the export business that there's obviously weakness there.

When it comes to China domestic infrastructure, so far it's remained pretty solid for us.

Great.

And then can you actually give us the number for the [LLF] sales?

I think you've done that in prior quarters?

Actually we haven't been breaking it out specifically since I think at the end of the year when we kind of gave you a number.

So we're not breaking it out.

I can tell you that it is obviously the smallest percentage of the business.

It's in the single digit millions, but I can't break it out, we aren't going to be able to break it out more specifically for you than that.

I guess going back to the question about direct versus indirect sales, it seems like looking out towards the back half of the year, there's going to be some money released in the US towards infrastructure projects that are green and towards green retrofits.

What can you do as a Company to try to target some of that money and make sure that the folks in Washington, and state and local governments are aware of the benefits of some of your products?

Well, the best thing we can do is try to get involved with some of the projects we've been using over the last few years.

So one of the things that's been encouraging is that while we deal with whether it be LED cities, the LED universities, or things like this, they have an opportunity to bid specific projects through some of these programs.

And so obviously we're trying to encourage them to stay active there, and our goal is if we can get momentum from some of the applications that we've recently installed, hopefully that can spur the whole cycle.

So it's more of a -- how would I describe that?

It's a combination of lots of little things is what we're doing.

Obviously we'll continue to work on projects like the Pentagon when we're able to do that directly, but I would say the ability for us to do a lot of specific projects like that is probably less the rule than, more the exception, and that where we really can do this is through partnerships with other people and the other programs we're doing to really build on some of that momentum.

And one of the keys is to be able to show them that it really works, so I think the Pentagon raised a lot of eyebrows, not just because it was 4,200 fixtures and an entire wing, but that they were able to put together some payback numbers that I think have opened a lot of people's eyes and they are talking about less than four year payback.

So that's a pretty big deal and hopefully we can build on that momentum.

Just one more quick question for now and I'll get back into queue.

For the license revenue that you recognized, did that already hit the cash flow statement or will that be coming in this quarter?

That ended up in our receivables at the end of the quarter and we have actually received the cash already.

So it will hit the actual cash flow this quarter.

Perfect, so receivables would have been down sequentially if not for that?

Yes.

I'll get back in queue.

Thank you very much.

Thanks.

Our next question comes from the line of Daniel Amir with Lazard Capital.

Your line is open.

Thanks a lot and thank you for taking my question.

A couple things here.

First of all, can you expand on the inventory, I guess you were saying that you're increasing inventory for some of your LED components and to the XLamp, I guess the capture, potential orders.

Can you expand a bit on what you're seeing in terms of visibility or is this in terms of potential projects you see down the road that going to get here this quarter?

The way I would describe that -- both for the XLamp and also really the lighting products -- so there are similar reasons but two slightly different areas.

When it comes to XLamp, we know that last quarter for example, despite the fact we were growing sales and people were talking about concerns -- we actually had some expedite issues in terms of there wasn't enough inventory necessarily in the channel to be able to serve some of the customer needs.

So one of the goals is while we have an opportunity especially on the newer products is try to get a little bit ahead of the curve there, so that if there are issues where people are trying to be more conservative on inventory, when demand comes back -- and like I said earlier, we remain optimistic that especially in the commercial lighting markets that LED lighting adoption is not going to stop because of the recession.

It may slow, the rates may change, but we're obviously optimistic that it's going to continue as more of a macro trend.

So that is -- get some of the more new products in our hands so that if and when demand starts to pick back up, that if the channel's light, we can service that.

That's the XLamp side of it.

On the lighting product side, we recognized about two quarters ago that we actually have a challenge in that that is a market that is used to having products held in inventory by the manufacturers and shipped at a fairly high rate.

I think the number we heard from One Lighting Company is they ship 80% of their orders within 24 hours.

As a Semiconductor Company, that's not traditionally how we did it, and in the past we were counting on the distributors to do that.

Given the economic changes, what we want to do is add a little inventory on those products of our own, so that even if the distributors remain lean, when those projects come in, they are expecting very quick turn and we don't want to lose those opportunities.

So there's similar reasons to try to basically use this chance to get a little ahead of the curve on both of those.

Okay, and on the project side, can you give us a bit on visibility?

I guess you comment that projects are not being necessarily cancelled.

Obviously there's a move to green technology, but because of the economy are you seeing stretch of projects now or projects that were supposed to come online but municipalities are more cautious in bringing online right now?

At this point I would tell you that this is going to be a rough guess.

There is some amount of projects that look like they'vere delayed.

But I'd say it's one or more of the one or two out of 10 are delayed.

And the vast majority we have been working on are at least continuing forward at this point from what we see.

And again, some of the projects we see are municipalities but again most of the municipal stuff we see is actually through our components business, right.

So that would be our customers then bidding those.

And what we as a tendency to see more directly is the stuff we do with the LR-6 and the LR-24, and what we're seeing there is those tend to be more -- there's a few new municipal projects, but there's more corporate driven and what we see there is a continuing activity where it's coming down to can you get the payback down in that two year range or less.

And if we're able to do that, we continue to see people doing those purely as a cost payback at this time.

So we'll see.

Again, we remain I think -- just like everyone else, we're cautious about what might happen there, but so far the demand has remained relatively solid.

Okay, thanks a lot.

Sure.

Our next question comes from the line of Bennett Notman from Davenport & Company.

Your line is open.

Thank you.

Thanks for taking my question.

It looks like you guys may have started to place a little more emphasis on monetizing your intellectual property, and I'm just wondering if you could talk a little bit about if these were one off deals we saw or if this really is sort of a shift in strategy and we should look for more of this from you guys in the future?

I don't think, I think it's more coincidental they both happen.

Obviously the BridgeLux litigation has been going on for a while, and it was just the way the timing worked out -- I think the fact the trial was coming up in the not too distant future probably is the reason we were able to get a favorable resolution and get the licensing agreement in place as well as the supply agreement.

So I think that one was more of the nature of how that case was rolling along in its natural timeline.

As far as the Mitsubishi one, that's technology we've had around.

We've been talking to people for a while.

I think it's more coincidental that they both happen around the same time.

I don't know that there's a big shift in strategy.

I think the way we look at that is if there's technology that we're not actively pursuing, I think we've always had an open mind -- maybe we just haven't had as much success in the past in getting people's attention on it or being able to bring it to closure.

So I think it's going to be -- you may see other projects like this in the future but I don't think -- they will be kind of spotty, they will come and go from time to time as various circumstances change.

Great.

Thank you.

Sure.

Our next question comes from the line of Carter Shoop with Deutsche Bank.

Your line is open.

Good afternoon.

First on litigation expenses, would you be willing to disclose what they were in the quarter and what you expect them to be next quarter?

We didn't break them out specifically, so I don't think we can break them out here.

I can give you though a relative term.

They were below budget last quarter because we were able to settle BridgeLux, and I think this quarter, John, they are going to be similar -- maybe up a little bit just because the timing of where the other two cases are in the cycle.

So, they will probably be up incrementally a little bit this quarter, but last quarter they were below our target level.

Great.

And then what percentage of your LEDs are sold through the distribution channel and can you comment on how that's changed over the past year?

So, over the last year, I would say that distribution has increased as a percentage.

If you look at it, obviously LED chips are primarily sold direct, with the exception of our Sumitomo arrangement -- when you talk high bright components those tend to be more direct although the distribution piece is growing, but it's still a relatively small piece but growing.

And then on the XLamp product line, that's where we've put the big push on distribution, and that's probably up to -- roughly two-thirds of that business is through distribution at this point, and I bet you a year ago it was probably less than half just as a relative basis.

And then how high can we get XLamp, as a percentage of the distribution?

Will that become 90% or do you feel pretty comfortable with where it is right now?

I think at the current level, maybe a little higher.

I think there will always be -- especially as long as we're trying to drive new market adoption, in other words when you're trying to convince people to try new technology, we're going to need to maintain some amount of direct for the big account.

So whether it be 80/20 or 60/40 or 70/30, somewhere in that range is probably where we'll settle out with, and keep enough of it just to continue to drive the market.

Okay, that's helpful.

The last question, my understanding is that the fixtures of the Pentagon aren't going to be installed for another two years.

As such the question here -- is the four year payback based on current technology or anticipated technological improvements?

Well, so those products will actually all be shipped over the next several quarters, and I think they are starting to install them in the near term.

And it's my understanding based on that analysis that it was actually based on current prices and current electricity rates.

And if you actually look at the forward-looking projects, the payback should actually get better, because as electricity rates change and they're projected go up even at the Pentagon, that payback should come in.

And it's all using existing LR-24 product -- it's the current product at the current prices.

Thank you.

Sure.

Your next question comes from the line of Mike Burton with ThinkEquity.

Your line is open.

Thanks.

Just actually one quick follow-up to that.

Regarding the four year payback, was that tested against a four foot linear fluorescent or two foot linears?

And what color temperature were you running?

It's the standard LR-24 specs, so I'd have to look on our website to give you exactly what those specs are, but they are out there, and it is basically a payback to retrofit what they had to go to the new LR-24 with the calculation.

So it is if they buy the new fixtures and retrofit them, how fast will they get a return on their investment is how it was done.

And versus a four foot linear -- I can follow-up.

Versus whatever product was currently installed, so it's a renovation, right?

They already have a linear fluorescent product.

So what they had to figure out is what was the cost to buy new ones, pay for the cost to replace them, and how fast do they get their money back in terms of maintenance and electricity savings.

Okay.

And I can follow-up more after.

I'm curious about the gross margins now on the former LF products a couple quarters ago, it wasn't really where you wanted it to be.

How has that progressed?

Are we still below corporate average or have we gotten above now?

So it basically started out significantly below as a start up.

We've now got it to it's definitely making progress.

We had improvement last quarter, but I would tell you it's still got a ways to go.

It's probably today -- we now call those our lighting product business.

Those lighting products are probably still, they are probably where XLamp was over a year ago.

So XLamp went through this curve of where it was below, got equivalent and now it's running ahead of the corporate average at least for some of the products, and I think those guys are probably where XLamp was a year or so ago.

So they are below.

Okay.

And then on the litigation settlement, congratulations on both [runs] there.

The $5.6 million for the last quarter, did that include all of the upfront payments including for MCC or are we going to see any -- ?

It was the combined.

And you said that ongoing licensing fees are not going to be large enough to break out going forward?

Going forward, we don't expect them to be significantly large.

It will obviously depend on the future success of some of the revenue streams and the products we've licensed, but at this time we don't anticipate them to be significant enough to be breaking out.

Okay.

And then if you could also go through, break out the percentage of sales for the different segments, lighting I think is greater than 50% now but consumer -- ?

By application?

Yes.

So if you look at the LED combined business what you'd get is lighting is just a little bit below 50% of the total.

It's not quite 50%.

Video screen, then I think you get into mobile, consumer, auto, notebook, all that starts to wash together.

It's basically once you get past lighting and then video screens, you get in from a quarter to quarter basis, it varies between mobile and auto and what I would call consumer.

Okay, so roughly 50/50 then.

And then last one, is -- I'm sorry if I missed this but the $780,000 benefit to SG&A, was that included in the pro forma reconciliation on the SG&A line?

That's in our GAAP numbers and also in our non-GAAP numbers, so I didn't pull that out.

Okay.

So and then when for your guidance for operating expenses for next quarter.

For G&A is basically flat and that assumes that one-time benefit isn't there, so they are actually down.

Okay, thanks.

Sure.

Our next question comes from the line of Hans Mosesmann from Raymond James.

Your line is open.

Thanks.

Chuck, can you give us more flavor on your technology, the bulk GaN that you're licensing to Mitsubishi?

What are they using it for, what are you guys using it for, and what's the state of that technology globally in terms of LEDs going in that direction?

So the bulk GaN technology idea has been around awhile.

Most of our effort came from when we originally acquired the ATMI business years ago.

And we did some work on that and decided that from our standpoint, we didn't see it as a primary platform for how we wanted to run our business internally, so we've continued to do some development on it.

But it hasn't been a major focus, and Mitsubishi would really like to focus on that and try to build a substrate business out of that.

They are obviously a significant supplier to the optoelectronics business, and so they are looking to develop that technology and turn it into a substrate alternative, everything from potentially lasers to potentially LEDs or other things.

Okay, thank you very much.

Sure.

Your next question comes from Dale Pfau from Cantor Fitzgerald.

Your line is open.

Hi.

Back to the [toffers] installing at the Pentagon.

Did I hear you say correctly you were actually recognizing revenues in the third quarter on those?

A very small amount.

I would say most of that -- we had some LR-24 installs at the Federal Reserve and then we also had very small amount for the Pentagon.

Most of that will ship here over the next several months.

Okay.

And can we look for additional new product introductions, perhaps a two foot by four foot fluorescent replacement in that group?

What should we expect in the near future?

Well, obviously, it wouldn't be a surprise if we told everyone, but the way to think about it, Dale, is -- I may as well answer it in a generic sense, but I'll give you an idea directionally.

What we basically do in our lighting product group is we look at places in the market that we frankly think are underserved.

So the basic premise when they started LLF, everyone said you couldn't do an LED downlight, so they did an LED downlight and proved people wrong and then they said you might do a six inch but not a four inch, so they did a four inch.

And then the LR-24 came about because everyone said that's great, you can go compete with an incandescent bulb downlight, but fluorescents you're never going to get there.

So the whole point was let's build an LED downlight to compete with fluorescent and try to prove them wrong and it worked.

And I think we generally look for places underserved by the broader lighting industry, and we are working on some things, we have some ideas right now -- but it's really a function of what's underserved.

If we can get the lighting industry to go attack a market and go do it, we would actually rather have them do it.

It's better for us to get the whole industry moving.

So at this time we're working on a couple things and hopefully we'll have something interesting to talk about over the next couple quarters, but really looking for what is that unserved segment where people say LEDs aren't ready with that yet.

Great.

Thank you very much.

And due to time constrictions, our last question comes from the line of Harsh Kumar with Morgan Keegan.

Your line is open.

Hi, guys.

Quick question.

I wondered if you could talk about your laptop backlighting revenues -- if you've seen any, where you are, how you -- what your expectation is for that business, and I've got one quick follow-up.

Yes, Harsh.

On the laptop backlighting, what we've seen is we are getting some LED chip business there through our packaging customers, and what we've seen is that there's definitely -- that trend in CES made it pretty clear that notebooks are going to LEDs, and what was interesting was there's a lot of talk about CES about trying to take TVs there.

There's a couple high end ones in the market.

But the notebook one has happened and I think the real trick there is it's a little hard to predict how much is going to happen in the near term just because I think they are all trying to figure out what their real demand is here at least in the near term.

But I would expect as I look out over calendar 2009 that that will be a net growth area for the chip business, because almost everyone I see is talking about putting LEDs in their notebooks, so I think that will be a net benefit to us and other suppliers from a chip standpoint.

Last question for you, Chuck.

On the competitive front, going back to Asia, you're obviously doing very well in anything related to overhead lighting, or what you call general lighting.

Are there any Asian players in your opinion that come to mind that even have the technology to compete with you?

And if they do, how much lead do you think you have before we get back to the world where there's pricing pressure and things of that nature in this newer segment of yours?

Well, so there is pricing pressure today.

I think the reason that it doesn't feel the same is there's so much innovation going on right now, and there's so many new products and a lot of new customers trying these things, is that it's really about growing the market and the customer base.

We have absolutely competitors we compete with every day and that we take very seriously.

We take not only the Asian competitors, we take Osram seriously and Lumileds.

They obviously got a big committment to this market long term, and I'd say today in terms of technology, we watch Nichia very closely.

We know they are a formidable competitor and we battled with them for a long time, and I think for years to come we'll continue to battle with them.

As far as that next tier, really haven't seen any serious guys at that next tier but we're keeping our eye out.

But right now I would say it's Nichia, and the two other traditional players we see the most, and we're keeping our eye out for who might be next.

And that's why we're pushing so hard to drive up performance and do the product platforms and really extend the product line.

Got it.

Very helpful, guys, and again congratulations.

Great results.

Thanks a lot Harsh.

Thank you for your time today, and we appreciate your interest and support and look forward to reporting our third quarter of fiscal year 2009 results on April 21, 2009.

Good night.

This concludes our conference call for today.

You may now disconnect your lines.