Wolfspeed Inc (WOLF) 2016 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Cree, Inc.

second quarter FY16 conference call and webcast.

(Operator Instructions)

As a reminder, this conference call is being recorded.

I would now like to turn the conference over to Mr. Raiford Garrabrant, Director of Investor Relations.

Please go ahead, sir.

Thank you, Abigail.

Good afternoon.

Welcome to Cree's second quarter FY16 conference call.

Today Chuck Swoboda, our Chairman and CEO, and Mike McDevitt, our CFO, will report on our results for the second quarter of FY16.

Please note that 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 and posted in the Investor Relations section of our website.

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'd like to note that we will be limiting our comments regarding Cree's second quarter of FY16 to a discussion of the information included in our press release.

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 ask that analysts limit themselves to one question and one follow-up.

If you have additional questions, please contact us after the call by email or phone, at 919-287-7895.

We are also webcasting our conference call and a replay will be available on our website through February 2. Now I'd like to turn the call over to Chuck.

Thank you, Raiford.

Fiscal Q2 revenue increased 2% sequentially, to $436 million, which was in the middle of our target range for the quarter, led by growth in Commercial Lighting and a solid quarter for our LED business which offset lower Power and RF revenue.

Q2 non-GAAP gross margin was in line with our targets, at 31.7%, led by gains in Lighting, as our strategy to better balance Lighting revenue and profit growth has started to deliver results.

The LED business continued to execute well and delivered slightly better margins than the core business, if you exclude the one-time license benefits from Q1.

Operating expenses were lower than targeted and our tax rate was also lower, due to the reinstatement of the R&D tax credit.

This resulted in Q2 non-GAAP net income increasing 38% sequentially to $30 million, or $0.30 per diluted share, which was above our targeted range for the quarter.

Company backlog for Q2 is behind this point last quarter, which is in line with normal seasonal trends and our targets for the quarter.

Our Commercial Lighting business continues to grow and delivered good margin improvement in Q2.

The LED business has stabilized.

We completed the factory consolidation and successfully made the transition to higher channel turns.

Our Wolfspeed division was able to work through some near-term softness in RF, while still delivering strong margins.

Overall, we delivered a solid first half of FY16 and we're well positioned for a strong second half.

I will now turn the call over to Mike McDevitt to review our second quarter financial results in more detail, as well as our targets for the third quarter of FY16.

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 measures Cree's results internally.

However, 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 to the corresponding GAAP measures for all quarters mentioned on this call is posted on our website, along with a historical summary of other key metrics.

For the second quarter of FY16, revenue increased 2% sequentially to $436 million, which was in the middle of our targeted range of $425 million to $445 million.

GAAP earnings increased 159% sequentially to $14 million, or $0.14 per diluted share for the second quarter of FY16, and non-GAAP earnings increased 38% sequentially to $30.5 million, or $0.30 per diluted share.

Non-GAAP earnings exclude $16.5 million of expense net of tax, or $0.16 per diluted share from restructuring costs, amortization of acquired intangibles, previously deferred IPO cost, net changes associated with our Lextar investment, and non-cash stock based compensation.

Non-GAAP and GAAP earnings per share were above our targeted ranges, due primarily to lower OpEx spending and the retroactive reinstatement of the US R&D tax credit that reduced our effective tax rate for the quarter.

Our GAAP earnings also benefited from an increase in the Lextar's share price for the quarter, which provided a $7 million non-cash gain.

Excluding the impact of the R&D tax credit reinstatement and the Lextar share price increase, our non-GAAP and GAAP EPS would have been $0.27 and $0.07 per diluted share, respectively, which was still above our targeted ranges.

During the second quarter, we completed the restructuring of our LED business.

We recognized $3 million of cost in the quarter for factory capacity and overhead cost reductions.

These capacity and overhead charges are included in our GAAP results only.

Our total LED restructuring charges were $102 million and were in line with our target.

FY16 second quarter revenue and gross profit for our reportable segments were as follows.

Lighting Products revenue grew 11% year-over-year and 3% sequentially to $255 million, and gross profit increased 12% year-over-year and 5% sequentially to $73 million, for a 28.5% gross margin, which was a 60 basis point increase quarter-over-quarter.

LED products revenue increased 1% year-over-year and 3% sequentially to $153 million, and gross profit was similar sequentially, at $53 million for a 34.7% gross margin for the quarter.

Wolfspeed Power and RF Products revenue declined 12% year-over-year and 6% sequentially to $28 million, and gross profit was similar sequentially, at $14 million, for a 52.2% gross margin, which was a 320 basis point increase quarter-over-quarter.

In determining gross profit for our segments, we do not allocate certain employee benefit costs, stock based compensation and acquisition-related costs.

These non-allocated costs totaled $5 million for the second quarter of FY16 and are included to reconcile to our $135 million GAAP gross profit.

Q2 GAAP gross margin was 31% and non-GAAP gross margin was 31.7%, which excludes $3 million of stock-based compensation.

Both our GAAP and non-GAAP gross margins were in line with our targets for the quarter.

Operating expenses for Q2 were $126 million on a GAAP basis and $103 million on a non-GAAP basis, both of which were below our targeted range for the quarter, primarily due to expense management and operational efficiencies.

Non-GAAP operating expenses exclude approximately $3 million of capacity and overhead restructuring charges, $2 million of previously deferred IPO costs, $11 million of stock-based compensation expense, and $7 million of charges for amortization of acquired intangibles.

The $2 million of IPO costs were expensed this quarter due to a delay in the anticipated timing of the planned Wolfspeed IPO, consistent with SEC guidance regarding these costs.

Our non-GAAP operating income was $35.5 million and at the upper end of our targeted range.

We continue to make excellent progress delivering operating leverage, as operating income increased to 8.1% of revenue for the second quarter of FY16, a 120 basis point increase sequentially.

Our Q2 GAAP tax rate was 20% and our non-GAAP tax rate was 16%, which was below our 25% target.

The lower tax rates were primarily due to the retroactive reinstatement of the US R&D tax credit.

Our Q2 non-GAAP tax rate was lower than our GAAP tax rate to yield a 20% year-to-date non-GAAP tax rate, which is in line with our revised FY16 tax rate target.

We ended the quarter with $617 million in cash and investments, a $15 million decrease sequentially.

The sequential decrease was primarily due to spending $62 million to repurchase an additional 2.5 million Cree shares and $35 million of capital expenditures, which was mostly offset by $77 million of cash provided from operations.

Free cash flow was $42 million and above our target for the quarter.

For FY16, we are targeting property, plant and equipment spending at $135 million, plus or minus.

We spent $89 million during the first half of the fiscal year, primarily on existing infrastructure projects.

The remaining $46 million targeted to be spent during the second half of the year will be to finish the infrastructure projects and provide incremental capacity for Lighting and Wolfspeed.

We target approximately $100 million in free cash flow for FY16.

Additionally, we ended the quarter with $205 million outstanding on our line of credit.

Through the second quarter, we have spent $132 million to repurchase 5.2 million Cree shares.

Days sales outstanding were 38 days, as compared to 41 days at the end of September.

Our Q2 DSO benefited from more linear revenue shipments during the quarter.

Inventory days in hand improved to 84 days, as compared to 89 days at the end of September.

The decrease was primarily Lighting related and is in line with our 90-day plus or minus target range.

At this time, we target Q3 revenue in a range of $400 million to $430 million, which takes into account the Lighting and LED markets' typical seasonal decrease of 5%, plus or minus, which is partially offset by incrementally higher Wolfspeed sales.

We target Q3 non-GAAP gross margins to be similar to Q2 at 31.7%, plus or minus, and GAAP gross margins to be 31%, plus or minus.

We target incremental gross margin improvement in our Commercial Lighting sales, due primarily to factory cost improvements that will be offset by the seasonally lower LED margins, with Wolfspeed Power and RF margins in a similar range.

These Q3 targets are based on a number of factors that could vary, including overall demand, product mix, factory execution, and the competitive environment.

Additionally, this quarter we are implementing a new ERP system for our Commercial Lighting business.

There is a near-term risk to our Commercial Lighting business if we do not execute the ERP implementation successfully.

Our GAAP gross margin targets include stock-based compensation expense of approximately $3 million, where our non-GAAP targets do not.

We are targeting Q3 non-GAAP operating expenses to be approximately $100 million, a $3 million sequential decrease, due primarily to variable sales costs associated with seasonally lower sales.

We are targeting Q3 GAAP operating expenses to be approximately $119 million, which includes approximately $12 million of non-cash stock-based compensation expense and $17 million for the amortization of acquired intangibles.

Q3 non-GAAP net interest income and other is targeted to be $0.4 million.

We target our Q3 and FY16 tax rate to be 20%.

The Q3 and FY16 tax rate is lower than our previous targets, primarily due to the impact from the permanent reinstatement of the US R&D tax credit.

As a reminder, our Q3 and FY16 tax rates will fluctuate based on our overall earnings, the tax jurisdictions in which our income is actually earned, tax credits, and other tax benefits that may or may not become available to Cree in future periods.

We target GAAP net income for Q3 to be between $4 million to $11 million, excluding any net changes associated with our Lextar investment.

Based on an estimated 101 million diluted shares outstanding, our GAAP EPS target is between $0.04 and $0.11 per diluted share.

Non-GAAP net income is targeted to be between $22 million to $29 million, or $0.22 to $0.29 per diluted share.

Our non-GAAP EPS target excludes amortization of acquired intangibles, net changes associated with our Lextar investment, and non-cash stock-based compensation in the amount of $0.18 per share.

Thank you, and I will now turn the discussion back to Chuck.

Thanks, Mike.

We're focused on several key priorities in FY16 to take advantage of the growing market opportunities while responding to the competitive environment.

Our first priority is to build financial momentum, which we're demonstrating through better than expected operating margin improvement, even though revenue is tracking slightly below our original targets.

Lighting revenue grew 3% sequentially in Q2 and 11% year-over-year, led by growth in Commercial Lighting which offset lower year-over-year Consumer Lighting sales.

Lighting gross margins improved 60 basis points sequentially, due to better factory execution and our more balanced approach to revenue and profit growth.

Consumer Lighting revenue was similar to fiscal Q1 and in line with our targets.

LED revenue improved 3% sequentially in Q2, as demand was in line with our targets for the quarter.

This allowed us to further reduce channel inventories to a level that should enable a higher turns model in the second half of the fiscal year.

Core LED margins also improved, as we saw additional benefits from our LED factory consolidation.

The overall LED market remains very competitive, but our business has become more manageable in the near term, as we continue to focus on high power applications where our SC5 technology drives system cost advantages.

Wolfspeed Power and RF revenue declined about 6% sequentially in Q2, due to the continued lower RF demand.

We target higher revenue for both Power and RF in the second half of FY16.

Operating expenses were lower than our targets for the quarter, which enabled us to increase operating profits 21% to $35.5 million, and increase operating margin 120 basis points to 8.1%.

Our second priority is to continue to innovate in each of our business segments.

Cree is a lighting technology company, and we believe that the world deserves better lights.

Our development and new product pipeline is focused on making this possible.

In Q2, we released our breakthrough IG series parking structure lights to volume production.

This is the first product family to utilize our new cutting-edge WaveMax technology, which features a revolutionary combination of control, uniformity and efficiency to deliver a superior visual experience in new form factors that are intelligent in both design and function.

We target several additional new WaveMax-based product families to be released over the next few quarters, as we apply this technology to both existing applications and utilize it to expand our product line in the new market segments.

There are numerous companies working on variations of connected lighting and controls, and we continue to work with our partners to support demand for these more traditional solutions.

However, as part of our commitment to better light, we continue to build momentum for our SmartCast product line.

Our development efforts remain focused on going beyond connected to deliver truly smart lighting, where the intelligence and key functionality is built into the lights.

This is where we believe we can deliver innovation and real value to the end users.

As our Lighting business approaches $1 billion in revenue, we are working on a series of complementary lighting products to help fill some gaps in our existing product lines.

These products provide incremental growth opportunities, enable our channel partners to meet more of their customers' needs with high quality products from Cree.

We continue to win new designs with our SC5 high power LED products.

Our development efforts remain focused on expanding the SC5 product line and extending our leadership position in high power LEDs for lighting and other complementary applications.

Our third priority is to promote future growth in our Wolfspeed Power and RF business and allow Cree shareholders to better realize the full value of this business.

As I mentioned earlier, there was some near-term revenue softness in RF, due to macro headwinds in the quarter.

The bookings have improved for the fiscal Q3, and we target good growth in both product lines over the second half of our fiscal year.

Based on the near-term revenue softness and market conditions for IPOs, the IPO would likely not occur before the second half of calendar 2016.

In the near term, we are focused on growing the business, as we have the flexibility to be patient and get the timing right.

We target seasonally lower Q3 sales in line with normal trends, and total Company backlog is tracking with our targets for the quarter.

Factory execution in all three businesses continues to be critical to achieving our targets.

Based on our current backlog, forecasts and trends in the business, we are targeting Q3 revenue in a range of $400 million to $430 million, which is comprised of Lighting and LED sales incrementally lower than Q2 and in line with seasonal trends, and Wolfspeed sales incrementally higher than Q2.

We target Q3 non-GAAP gross margins in a similar range, at 31.7%, plus or minus.

This target is driven by incremental margin improvement in Lighting, Wolfspeed in a similar range, and LED slightly lower due to seasonally lower factory volume.

We target Q3 non-GAAP operating expenses of $100 million, primarily due to lower variable LED and Lighting sales costs.

We exceeded our operating margin targets in Q2 and target maintaining most of these gains in Q3, adjusted for seasonally lower sales in LEDs and Lighting.

As a result, we target non-GAAP earnings in a range of $0.22 to $0.29 per diluted share.

We made good progress in the first half of FY16, and we're well positioned for an even better second half.

As we look beyond this quarter, we target the overall North American LED lighting market to grow 20%, plus or minus, in calendar 2016.

We target our Commercial Lighting business to grow in line with the market, and we have a healthy pipeline of new products to support this growth goal.

We target additional growth over the next year from both organic and inorganic product line expansion to fill some of the gaps in a couple of key market segments.

The LED and Lighting markets continue to evolve.

Our LED business has benefited from our factory consolidation and narrowing our focus on the high power segment.

But the market continues to work through challenging competitive dynamics caused by excess capacity.

Our Commercial Lighting business is building critical mass and has improved execution.

The traditional lighting companies continue to shift their business to LED technology, with the big players, as well as a number of the midsize lighting companies, all now more than 50% LED.

However, most of these lighting companies are focused on simply delivering an LED version of traditional fixtures.

The more knowledgeable specifiers and end customers are starting to recognize that LED technology can do much more.

They want more than just lower cost and energy savings from their LED lights.

They want better light.

Our mission is clear.

The world deserves better light and we have the game-changing LED technology to deliver it.

We will now take analysts' questions.

(Operator Instructions)

Paul Coster, JPMorgan.

Yes, thanks for taking my question.

I think in the context of weak LED demand in Asia-Pac, the LED module business stood out for me.

Chuck, I'm wondering if you can give me a little bit of color around end customers and applications, even regions?

Paul, I don't know that there's any one region or end application that stands out for me.

I think we're probably seeing something a little different than others.

But with our focus very much on the high power segment and those applications, what you're probably seeing from our standpoint is a subset.

But I think if you look at what we plan for the quarter, Asia, US, Europe, all came in like we expected.

And within the applications, it's mostly Lighting, but even the other applications all tracked as expected.

So Q2 for us was pretty much as expected quarter on the LED side.

No exposure to backlighting, which seemed to be in the trough here?

Yes, correct.

We haven't had any backlight exposure in a couple of years.

So those trends sometimes can be a bit misleading, because our business is a little bit more a function of more specifically the Lighting segment as the biggest piece.

Sure.

Got it.

And the utilization rates for the module business?

So the LED business, as we exited Q2, we were somewhere in the mid to upper 80s, is what I would say, as we finished.

We've got the factory consolidation completed in the quarter.

And so I think this quarter, it will be a little lighter in Q3, just it will be a little seasonally slower.

But overall, I think we're tracking to the range we expected to.

And you can see in the numbers that we actually got the core LED business, if you take out the license benefit we got in Q1, core LED margins were actually up a little bit quarter over quarter.

I think that's just a function of combination of good execution and getting the restructuring completed.

Brian Lee, Goldman Sachs.

Hello, guys.

Thanks for taking my question.

First off, Chuck, on your comments around the Lighting growth for the market this year, appreciate that color.

20%, you guys are not quite growing at that rate in your Commercial business right now, but you are targeting to get to 20% for calendar 2016.

It doesn't fly that M&A is moving up the capital allocation priority list and that it's focused in Lighting.

Is that the right read?

And if that is the case, what's prompting the shift here a little bit from what it seemed like had been more of a priority around buybacks as of recently?

Brian, let me see if I can put that together.

I would say that if you look at the first six months of the year, our Lighting business is actually growing in line with the market.

Keep in mind that the Commercial Lighting business is tracking, but you have the Consumer Lighting business is actually smaller year-over-year.

So I actually think we are tracking pretty much at that rate.

And frankly, we have -- there's a series of new products that, platforms, that as they come online, I think put us in a good position as we head into the next year.

So that's kind of my thought is, the base business can grow with the market.

We have some new products that open up some new applications.

And then the other piece I added is, as the industry, so as there are more lighting companies that cross over that 50% LED threshold, I think there are more opportunities for us to start to look at are there complementary pieces that could add to the portfolio to really fill out the product line and really give our channel more opportunities to sell Cree.

So that's just -- I think it's the industry is changing.

I think we're becoming a larger scale business, which I think becomes a more viable opportunity.

Nothing imminent, but really just as it becomes a piece of the strategy.

And also, it doesn't mean we won't still continue the buy back.

So I think that's also another viable option we will continue to pursue, because when we are think about these ideas, they are more incremental than really big deals, at this point.

Okay.

That's helpful.

Then just one follow-up.

I am sorry if I missed it.

But given the fiscal Q3 guidance, as we take the midpoint of the range, it seems like the top line target for 10% this year is maybe a bit more challenged.

I didn't know if you were updating your views there.

On the flip side, you're obviously tracking already at that 8% operating margin view.

So wondering on both accounts whether or not there's any shift in your thinking for the target for this year?

Thank you.

Yes, so Brian, if I look at where we're at for the first six months, really if you -- there's really the three businesses.

Power and RF, as we talked about, the RF side of that business has been pretty slow the last couple of quarters.

If you just pull that out, LEDs and Lighting combined are running pretty close with what we thought, within a few percent in the first six months.

And I'm still tracking generally to where we're planning for the year.

But obviously, with the slow start on Power and RF, that took us off on the top line.

As you mentioned, the good news is we're still tracking to the overall profit growth goals.

And the other thing I would say is that I do think we're going to see nice, some nice growth here in the second half of the fiscal year on the Power and RF, and that really just comes from while RF was slow in the first half, we see increasing orders right now, so we're targeting a better Q3.

And if that trend continues, we should see some incremental growth again in Q4.

So net-net, probably not going to hit our overall revenue growth targets for the year, we'll still hit the profits, and I think the three businesses are in a pretty good spot as we head into that second half of the fiscal year.

Vishal Shah, Deutsche Bank.

Hello.

Thanks for taking my question.

I know you guys talked about weakness in the LED product margins next quarter.

Can you talk about where you think the margins can stabilize and where do you think utilization rates will be exiting next quarter?

Vishal, I don't have an exact utilization rate for you.

We'll be a little lower utilization, just because of the seasonality.

So my guidance earlier was it will be incrementally a little bit lower.

I would expect that what margins do is really a bit of a function of what happens in the market.

So if volumes hang in there where they're at and the trends continue, then I would expect that it's possible to get that incremental decline back in Q4.

But it's a little premature there.

As you know, it's a pretty competitive market and there's a lot of moving pieces.

So a little early for a Q4 target.

So I think all things considered, should be in okay shape here in Q3, and depending on what the market does, we will give that Q4 guidance as we get there.

And in terms of OpEx, how low can it go?

I think you've done a good job in operating margins this most recent quarter, but how much more costs you can cut there, as well?

And then finally, on the free cash flow guidance, you talked about $100 million of free cash flow, how should we think about the uses of capital between buyback and M&A?

Thank you.

OpEx, we're targeting this quarter $100 million, plus or minus.

That's down a few percent again from the previous quarter.

Most of that is just variable OpEx, so with the seasonally lower sales in LEDs and Lighting, we'll get some lower variable costs there.

I think going forward, our goal would be is as we build scale in the business, that while we'll have to invest in OpEx, we should be able to incrementally get some operating leverage.

That was the target we laid out for the year and that remains the goal through the rest of this fiscal year.

And as we build scale, we will attempt to do that again as we head into the next year.

As far as free cash goes, I think that as the free cash flow picks up, we have both the buyback still out there, as well as we do see some incremental M&A opportunities.

And so I think we will continue to look at both of those and just see what opportunities arise over the next couple of quarters.

The nice thing is, with the balance sheet where it's at, we have lots of flexibility to pursue both, if we want, or focus on one more than the other, if needed.

Jed Dorsheimer, Canaccord.

Hello.

Thank you and thanks for taking my question here.

Chuck, I guess the first one is, as you restructured the LED components business and Cree Lighting has become a larger proportion as a customer, in terms of sourcing the LED components, do you see that as more of an insulating property, given the dramatic price reductions in the overall market as we look out at the next year for your LED business?

Jed, I think actually probably what the dynamic is as much as anything is, the internal stuff we don't -- that's not what's flowing to the numbers we're reporting.

So when we're showing the numbers, we're really showing just the external sales part of the LED business.

I think the bigger benefit is when we really get focused down on where the high power wins, and by resizing the business, we gave ourselves the flexibility to really only focus there, put all the R&D there, put the sales effort, I think that's what's helped us in the short term.

As we go forward over the next year, it's probably more of a function of, do the market segments we're focused on, is that balance stay right?

So I think there's, as you know, there's lots of competitive dynamics out there, the biggest one being there's still too much supply versus overall demand.

But if the high power segment hangs in there and we keep doing the innovations and we keep winning the new designs, I think we can maintain the business, hopefully in a similar level.

But again, lots of variables ahead of us and a little too early to put any longer term guidance on the LED business until we see how the market shakes out.

Fair enough.

And just with respect to the bulb business, we're seeing a lot of your competitors looking to monetize their branding efforts in bulbs and dispose of those business segments largely going to Indian and Asian potential buyers.

I'm curious, do you feel as if Cree has built that brand with your [debow] efforts that that would be a possibility for you guys, as well?

I think our brand would be quite valuable for someone.

I think the problem is that I would not want to do that to our brand.

So I think the challenge you're going to have is is that if you're putting your brand on some of these low-cost bulbs with inferior performance, you're risking the brand for the Commercial Lighting business in the long run.

So the incremental gain there, I think, is a very -- for us right now, that would be way too shortsighted.

I think we're actually -- the reason we're focused on premium bulbs is we want to make sure that the idea of better light is true, whether we sell a consumer bulb or we sell a commercial lighting fixture.

And I think the risk of putting it out there and letting someone cheapen the brand would really hurt the value we've created over the last couple of years.

So I don't see that as at least not an option over here over the next couple of years.

Harsh Kumar, Stephens Inc.

Hello, guys.

First of all, great results and guidance.

Second, question for me was, Chuck, on the operating expense side, some pretty good progress here.

I'm curious, what did you end up cutting in the December quarter?

Where did the savings come in from, and how sustainable is the -- I know you said it's variable comm, but what should we think as we look out over the next year or two as a number for operating expenses?

Harsh, it's actually there is no one big area.

So really what I would tell you is, the core R&D investment is still going on.

We're still making core investments in building the sales and marketing capabilities of the business.

What I would say it's more the more corporate side and more some of the broader overhead sides.

We're just getting leverage.

As you get scale in the lighting business, we're able to do things more efficiently on one side.

And frankly, on the other side, the team's just doing a good job of managing expenses where they can.

So it's the core is still being invested in.

I think we're just, as we get to -- when you get to a certain size, you have some flexibility there to manage it a little tighter.

Got it.

Understood.

And for my follow-up, if I can hit upon the margin side.

Your commentary suggests the LED chip business is settling down, the Lighting business is growing, your margins are flattish, 31.7%.

How should I think of that margin as, again, time rolls on and we talk, let's say, 12 months or 24 months out, what should be our bias towards that gross margin number?

Harsh, it's really going to -- so if you think about the business going forward, we said that Lighting is the primary top line growth driver.

Obviously, there will be growth in Power and RF, but it's a smaller piece of the business.

So Lighting will be the biggest revenue growth driver, and we're targeting to make incremental progress there on improving the margins.

That's not a one quarter thing, that's an over time.

It's a combination of operational efficiencies, it's new products, it's all those things.

And so it's really a function of, how does that roll out versus what happens in the LED business?

And while definitely I think we're in a better position now in LEDs, the future is a little hard to predict there.

So I think that's a bit of a variable that it depends on which assumptions, and it would be too early for me to give any longer term guidance on LEDs.

I think we feel good about where we're at today, but there's a lot of variability left in the market and a lot of dynamics that until those shake out, it would be a little premature.

So I think what we can do is make progress in Lighting, and I think we'll have to see how LEDs affects that going forward.

Edwin Mok, Needham.

Hello.

Thanks for taking my question.

I want to focus on Lighting.

I think, Chuck, you mentioned on the call that you were preparing or you have developed some new products that is expected to hit the market.

How do you think about that?

Is there a way you can quantify that, the number of new products hitting the market, or maybe a better just directionally, should we expect acceleration of more product hitting the market?

And what kind of impact that would have on operating expenses, those products out there in the market, in terms of sales, maybe less sales and marketing expenses?

So Edwin, the way to think about it is, we're always working.

Our core Lighting strategy is to be a technology company in the lighting business.

So we want to do very innovative things.

And we have several new platforms that are coming out, all based on our WaveMax technology.

So the first product that was just put into production is something we call our IG Series parking structure light.

And it allows us to deliver a look, a light quality, and a performance at a price point that we just couldn't do before.

So it solves both the better light and it also provides better value.

So I think that's the first example.

That just started shipping in the month of December.

And we have other products along those lines that are coming out.

So there's basically several major platforms based on that.

In addition to those, we're working now to try to bring what I'll call complementary products to market to fill some gaps in the portfolio.

And so these things may not be revolutionary, but they do broaden the product line and, frankly, give the channel more to sell out there.

So I think there's a combination of these two things that you'll see over the next year.

Probably the most important subtlety to that is, these platforms are actually products that took us probably two to three quarters longer to get into the market than we normally would have tried.

So frankly, the growth we've seen over the last year, we've done that without as much new product.

And so I've become more optimistic about the next year, just because as these platforms come online, typically two to three quarters after they're in the market, then we can start to see some of the revenue growth momentum coming from them.

So that's how I think about, it's a series of products, both platform breakthroughs, as well as complementary ones, but there's about a two to three quarter lag to when you see that hit the market.

And so as we head into the big lighting trade show season, it will be important to get them out and start to build that momentum.

Great.

That's great color.

Just a quick question on the bulb [world].

You mentioned it was down year-over-year in the quarter, but in line with your expectation.

Is that a trend that we should continue to expect, as you're almost deemphasizing the bulb business?

And what are you seeing on pricing and general inventory on the bulb side of the business?

I would say we're probably -- I think what we started two quarters ago is, deemphasize is probably the wrong word, I'd say reposition it.

And that's when we made the decision that to chase people down to the low end on price, you had to reduce some of the performance and capabilities, and we weren't willing to put the Cree brand on those.

So we saw the opportunity to reposition as a premium brand.

And I think the fact that we are able to sell that product at premium price in the stores over the last couple of quarters shows that there is a market for that product and it's a, I believe, a viable strategy.

Now that being said, we will have to continue to add features and capabilities.

People always want something better.

And so we'll have to move with the market.

But I think over the next couple of years that it can continue to be an important part of building that brand, but in a way where it's positioned more as a premium side versus the other guys.

So that while doing that, it's not really the growth driver, it's probably, if anything, the revenue a year from now is probably similar to where it's at today, plus or minus.

But the Commercial business will continue to become a bigger percentage of that.

And it's bigger role becomes helping people get introduced to the Cree brand for the first time and understanding that better light is something they want to pay for.

Tom Sepenzis, Northland.

Hello.

Congratulations on the results.

Just wondering if you could give us a little bit of color on the Wolfspeed light, you think the revenue is actually going to increase here in March.

That's traditionally a pretty weak quarter seasonally for RF.

So is the strength you're seeing coming from Power?

Or any color you can provide there would be helpful.

Thank you.

Yes, I think what you're seeing is that because the first six months, we saw RF slow down in both our Q1 and our Q2 within Wolfspeed.

And I think what you're seeing is those projects that were delayed -- and these are both commercial projects, as well as on the mil/aero side -- those projects are now starting to turn on.

And so what we're getting the benefit of is gallium nitride is really a revolutionary technology, and as some of the major projects that drive that start to move ahead, that's what we're seeing as the incremental growth.

So I'm not sure you can track this to a broader RF trend.

It's really more of gallium nitride getting designed in and those projects starting to become a bigger piece of business.

Thank you.

And then the tax rate of 20%, is that something we carry forward now?

Is that the target number beyond the March quarter, or is that just 20% for March and then back up to 25% moving forward?

Tom, the 20% is the tax rate for the target for the year.

So you can use, model that for the rest of FY16.

Thanks very much.

Krish Sankar, Bank of America Merrill Lynch.

Hello.

Thanks for taking the question.

I had two of them.

First one, Chuck, you emphasize how you want to be the technology driving Cree.

I'm curious, have you seen or heard of any other disruptive technologies that are happening in the space?

I was reading about something called recycling light, which is to improve efficiency of incandescence.

I'm kind of curious, have you seen any disruptive technologies out there beyond the core LED, or do you think most of them are really in concept and feasibility stage that they are not a real threat at this point?

And I had a follow-up, too.

Yes, Krish, I would tell you there's always people playing with different ideas.

You still have people talking about OLED lighting.

There's a lot of different variations.

What I would say is, given what we can see in the marketplace, I believe the LED is going to be -- that part of the market will grow.

The innovation, though, is around all kinds of things you can do with it.

So what no one's actually thought about is that we spent the last seven years trying to convince people that they want a light that lasts longer and saves energy, and that's mostly what the standard is in LED lighting.

What you're going to see is that LED lighting can do a whole lot more.

And so what's possible in terms of light quality, how it's used, the fact that it truly can have smart features added to it and built in, I think that's where you're going to see tons of innovation from Cree and others.

And so I think we're really still in the early days of even the LED lighting piece of this.

Because from an efficient, cost-effective light source, I don't see something better than it right now.

And what we haven't really tapped, though, is the capabilities to do things that go beyond what normal lights do today.

Got it.

Got it.

That's very helpful, Chuck.

And then as a follow-up, are you hearing or seeing any of your competitors actually consider going more vertically integrated, the way you guys are?

If so, do you think it would be an advantage, disadvantage to them, or the fact that you have a very unique technology with IP around, so they can [combine] that -- the other applications, either in sapphire, or vertical integration doesn't matter?

Are you talking more within the LED side or in the Lighting side or both?

Both.

The lighting guys doing more vertical integration, including equipment, or buying equipment.

Yes, I don't see other lighting companies looking to vertically integrate down into LEDs.

I don't see that as a trend.

I think unless you're a semi company and you've already been in that business, I think going from there and adding lighting is hard enough.

I think trying to go backwards probably doesn't -- that wouldn't make a lot of sense for people, because it's a radically different business model and skill set.

I think within the LED segment, there clearly are some of the LED guys who use sapphire that also have strategic relationships to source sapphire differently and other things.

Given the substrate costs, I'm not sure it makes a significant difference in that side of the business today.

Obviously, we have a bit of a unique approach on LEDs, because we're the only major player using silicon carbide, and I think that plays into some of the unique things we can do on the power LED side that makes us a bit different.

But overall, I don't see a big push to increase vertical integration in either side of it today.

Colin Rusch, Oppenheimer.

Thanks so much.

Can you talk a little bit about the cost reduction potential coming from the WaveMax series and how we should think about the cadence of that over the next several quarters?

Colin, I wouldn't -- so WaveMax is really a technology platform that adds capability.

So while in some cases it will let us design a product that is lower cost, I think more importantly, I think it's going to allow us to do things from a performance standpoint.

So this is less about trying to -- I think we will get some ability to improve performance and hopefully also some ability to increase value, which hopefully leads to incremental margin improvement in our Lighting business.

But at its core, what WaveMax is is a platform to let you engineer the light in a way that will fundamentally improve the performance.

And performance can be described as efficiencies, but as much as anything, it's about how you use the light, where you put it, and how you manage it.

And so to me, it's less of a cost play and more of a performance capability play to allow LED lighting to go places it hasn't been before.

Okay.

Great.

And then as you think about expanding the geographic footprint for the fixture business, how do you think about that in where you make investments as you go forward?

The near term, it's very North American focused.

That's just because we're getting close to $1 billion, but there are still more things we need to do to really solidify, I think, that business over the next couple of years.

Things we can do to grow organically, but also things we can solidify around that.

I think if you look out beyond the next couple of years, I think there is some geographic expansion opportunities.

Be a little premature to target any one of them.

I think we're going to look at the dynamics where we think that our technology fits with the market and that play works.

So we have got to be, it's not just picking a geography, but also looking at where some of the things we do unique fit into those markets and there's significant customer value we can generate.

Mike Ritzenthaler, Piper Jaffray.

Yes, thanks.

Chuck, in your prepared remarks, you'd referenced higher margins in the retail lamps business.

Just want to follow up on that comment.

It was based on manufacturing efficiencies, if I understood you correctly, and I guess it's a bit counterintuitive to the lower volumes that one might expect from a niched strategy.

I was just wondering if you could provide a bit more color on how those manufacturing efficiencies are being realized, if I did hear you correctly?

Mike, you may have misinterpreted what I'd intended.

We are seeing improved margins in the Commercial Lighting business and in Lighting overall, but there hasn't been a significant change within the Consumer Lighting segment.

We are promoting a premium pricing strategy within that business, but when I talked margins, I'm really talking about primarily the Commercial Lighting business and the improvements we've been able to make there from an operational efficiency standpoint.

With that being said, there is a premium strategy does not necessarily hurt the margins, either.

What you're really asking is trying to position the products so people that want to pay for better light and the longer lifetime and the better warranty, you're just trying to get that positioning right.

So it actually, premium supplier, it hasn't hurt the margins, either.

But the real improvements you're seeing in Lighting are being driven by the Commercial Lighting side of the business.

Okay.

Thanks for that, clarifying that.

Mike, on the ERP system implementation, is there anything in terms of scope that you can share and how historically, if a project like this has been tackled with the same magnitude?

The ERP system's focused on our Commercial Lighting business.

So really confident on long-term benefits.

You have to manage through some of the short-term things that you have to deal with any implementation.

We have done other ERP implementations in the past, and we've been able to manage those successfully, but each implementation carries its own risk and uncertainties.

And we're going to work through that.

(Operator Instructions)

Sven Eenmaa, Stifel Nicolaus.

Yes, thanks for taking my question.

First I wanted to ask about the sequentially lower guidance you provided.

In terms of seasonality, could you clarify trends you're seeing in indoor versus outdoor lighting versus LED products?

It looks like in your Lighting business last year, the seasonality was sequentially down only 3%.

So a clarification would be helpful.

So what we're guiding is LEDs down roughly 5%, plus or minus, and same thing on Lighting.

I think LEDs, that's within our normal range.

And I think Lighting, if you look at -- remember, the business is a lot bigger than it was a couple of years ago.

So if you just look at Lighting, we're using the industry target as our target right now.

We have almost a $1 billion commercial lighting business.

And when we look at the last several years, 5% down, plus or minus, is roughly what the typical seasonality is.

There's obviously going to be variability in the market.

This quarter is one that's typically affected by weather and other dynamics.

So there's going to be a range.

But I think that we're not targeting anything different than what I would think is the normal industry trend in this quarter.

And again, that's plus or minus.

That's helpful.

And the second question I had is, in terms of the LED product side, your customers, are they feeling a little more confident?

Is the visibility with them the same as it was last quarter, or what drove the sequential improvement in volumes in the December quarter?

The business, it was, if you look at December, it was pretty much in line with what we targeted.

I don't know that there was a significant growth in the business.

It was a little bit up, and it's just a dynamic of, I think, the places we're focusing on, getting the restructuring a little bit further behind us is really what you see.

I think from a customer dynamic, they're feeling about the same now as they were a quarter ago.

I think the other thing to keep in mind is as we head into Q3, one of the things that's helping us a little bit is that we've made the transition to the higher turns model.

So I think that helps us a little bit as we head into the new quarter.

We were actually working through that over the last couple of quarters.

And so when you get that behind you, that actually makes it a little bit easier to run the business.

Thank you.

I am showing no further questions at this time.

I'd like to turn the call back to Mike McDevitt for closing remarks.

All right.

Thank you for your time today.

We appreciate your interest and support and look forward to reporting our third quarter results on April 26.

Good night.

Good night.

Ladies and gentlemen, this does conclude today's program.

Thank you for your participation.

You may all disconnect.

Everyone have a great day.