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ON Semiconductor Corp
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[00:00:04] Ladies and gentlemen, thank you for standing by and welcome to ON Semiconductor third quarter Twenty twenty earnings conference call. At this time, all participants on a listen only mode. After the speaker presentation, there will be a question and answer session to ask a question. During the session, you would need to press star one on your telephone. If you require any further assistance, please. Press Star zero. I would not like to hand the conference over to speaker today to Mr. Parag Agarwal, vice president of Investor Relations and Corporate Development. Thank you. Please go ahead.
[00:00:37] Thank you to them, good morning and thank you for joining us. Semiconductor Corporation, third quarter Twenty twenty Carter is this conference call. I'm joined today by P.S., our president and CEO. And we're not Goodwin, our CFO. This call is being webcast on the investor relations section of our website W w w on Semicircles. A replay of this webcast along with our Twenty twenty podcast, and he will be available on our website approximately one hour following this conference call. And the recordings, of course, will be available for approximately 30 days following this conference call. Let's give our political analyst information related to our end markets business segment geographies, China's share count and Twenty twenty and Twenty twenty one sister, Karen, also posted on our website our earnings release. And this policy should include the non-cash financial measures, the cancelation of these non-cash financial measures to the most directly comparable measures. And the caps are also included in our uninsulated, which is posted separately on our website, the Investor Relations Section. During the course of this conference call, we'll make predictions out of the forward looking statements regarding future events or the future financial performance of the company, the worst believe estimate projects anticipate in turn may expect red line should a similar expression are intended to identify one of the things we wish to caution that such statements are subject to entities that could actually result defamatory compositions.
[00:02:23] Important factors which can affect our business, including factors that could actually results from our forward looking statements, are disturbing our funding 10k from thankyous and adult filings with the Securities and Exchange Commission. Additional factors are disturbing our earnings for the third quarter twenty twenty. Our estimates are the forward looking statements. Mickeys and the company assumes no obligation to update forward looking statements to reflect changes in other events that may occur as required by law during the fourth quarter. We plan to attempt to restore confidence. This includes Nasdaq 40 to question investor confidence on December 1st. And that's why I was tempted to meet Twenty twenty on December 2nd. Now let me turn it over to Bernard Gutmann, who will provide an overview of our third party, Twenty twenty EBITDA Bernard.
[00:03:20] Thank you, Barack, and thank you, everyone, for joining us today. During the third quarter, we saw strong recovery in business conditions due to sharp acceleration in global economic activity, especially in the automotive market. Alternative activity has picked up meaningfully across and markets and geographies. Manufacturers are striving to meet the upsurge in demand, which was previously disrupted by the early 1970s, along with strong Microvision recovery of our business, momentum in our key strategic growth areas in industrial, automotive and our end markets accelerate. Our design wins are accelerating and the design funnel is expanding at a rapid pace. As we stated earlier, gross margin improvement is the primary strategic priority for the company we are traveling. Manufacturing consolidation plans and discussions are ongoing with various quiting regarding the previously announced intent of the sale of our labs in Belgium and Japan. In the near-term revenue tailwinds from the ongoing recovery in business conditions and favorable and market mix shift should help drive the margin expansion. Now, let me provide you details on our third quarter twenty twenty results, total revenue for the third quarter of Twenty twenty was one point thirty one seven billion, an increase of five percent as compared to revenues of one point eighty two billion in the third quarter of 2009. The year over year decline in revenue was driven primarily by a slowdown in growth. Global macro economic activity due to the covid-19 pandemic. Gas and then income for the June quarter was 38 percent.
[00:05:07] But during that year, as compared to a net loss of 15 cents in this year, in the third quarter of 2013, noncarbonated income for the world of Twenty twenty was 27 cents for the year, as compared to 33 cents in the third quarter of 2009. Gab gross margin for the third quarter of 2020 was thirty three point five percent, as compared to thirty four point four percent in the third quarter of 2013, non-GAAP gross margin for the third quarter of 2012 was thirty three point five percent, as compared to thirty five point eight percent in the third quarter of 2013. The year over year decline in gross margin was driven primarily by lower revenues and covid-19 related costs. Our gap operating margin for the quarter of 2012 was nine percent, as compared to negative three point two percent in the third quarter of 2013, third quarter gap and the third quarter 2019 gap. Operating margins included the impact of sixty nine point five million related to the intellectual property settlement with our integration's. Our non-GAAP operating margin for a quarter of Twenty twenty was 12 percent, as compared to 13 percent in the third quarter of 2013, the year over year decline in operating margin was driven largely by lower revenue and the impact on gross margin and that gap over its operating expenses for the third quarter was three hundred twenty two point two million, as compared to five hundred nineteen point one million in the third quarter 2019.
[00:06:57] Gap operating expenses included 169 and a half million related to the intellectual property settlement with our integration's non-GAAP operating expenses for if they were worth two hundred eighty three point six million as compared to the current fourteen point three million in the third quarter of 2013. The year over year increase in non-GAAP operating expenses was driven primarily by strong execution on the cost front and by restructuring and cost saving measures undertaken by the company. The third quarter free cash flow was one hundred one point eight million in operating cash flow, 163 point four million capital expenditures during the third quarter were sixty one point six million, which equates to a capital intensity of four point seven percent. As we indicated previously, we are directing most of our capital expenditures, enabling our 300 millimeter capabilities in in these skills that we expect total capital expenditures for 2020 to be in the range of 370 to 290 million. We exited the third quarter of 2020 with cash and cash equivalents of one point six five four billion as compared to two point zero six billion at the end of the second quarter of 2020. The decline in cash balance was primarily due to the pay down of amounts drawn under our revolving debt facility as a precautionary measure in response to the covid-19 at this time with cash balance of approximately one point six billion.
[00:08:34] We are very comfortable with our liquidity position. In the fourth quarter. We expect to use approximately six hundred and ninety million to pay off our Twenty twenty convertible note principal at maturity. At the end of the third quarter days of inventory on hand, we're going to be down seven days as compared to a hundred and forty days in the second quarter of Twenty twenty in the fourth quarter, we intend to continue to reduce our balance sheet. Therefore, we plan to run our factories. The current levels of utilization, despite expected higher revenue levels in the fourth quarter, in the third quarter, distribution inventory decreased by approximately two weeks. Sales and distribution channels increased significantly quarter over quarter instead of shipping products in the distribution channel for revenue. We brought down channel inventory even though it was within our comfort zone. Now let me give you an update on the performance of our business units, starting with the Power Solutions or PSG revenue for the third quarter with six hundred forty seven point four million revenue for the Advanced Solutions for HD for the third quarter with four hundred ninety four point six and revenue million and revenue for Intelligent Sensing Group where I was hundred seventy five point three million. Now I would like to turn the call over to Jackson for additional comments on the business environment. Keith.
[00:10:03] Thanks, Bernard. Let me first update you on our manufacturing optimization plans and then I will provide an update on our current business environment. We are in discussions with various parties regarding the planned sale of our Belgium and the Fabs. We are working diligently to get quick resolutions on these fabs, but we do not have an announcement to make at this time. Process for ceasing operations of our fab in Rochester, New York is progressing as planned, and we expect to begin seeing annual savings of 15 million dollars starting in the first quarter of twenty, which is a major milestone in the third quarter. As we recognize our first revenue from our three hundred millimeter products, we continue to make solid progress in our manufacturing transition to 300 millimeter fab in East Fishkill, New York. As I've indicated earlier, deals for our three hundred millimeter manufacturing processes have been spectacular and we expect to see a meaningful positive impact on our gross margin as our 300 millimeter manufacturing ramps in the coming years. Additionally, our 300 millimeter manufacturing capability in the digital fab has supported US significant flexibility, which has enabled us to optimize our network. We continue to make substantial progress in our initiatives to expand gross margins, we are driving a shift towards higher margin products by aggressively winning designs and on a motive, industrial and cloud power in markets. At the same time, we continue to optimize our portfolio to drive more margin expansion.
[00:11:38] The fundamentals of our cost structure remain unchanged with ongoing recovery as a revenue in factory utilization increases, we expect to see meaningful increase in the gross margin. The benefits from manufacturing optimization, mix, shift and portfolio optimization should be additive to follow through with incremental revenue. Now, let me comment on the current business environment, we've seen meaningful acceleration in order momentum in the third quarter, and we expect that business activity will continue to grow at above seasonal levels in the near term, along with improving global macroeconomic environment. Are accelerating design wins in automotive, industrial and cloud power in markets are key contributors to our momentum. From a geographic perspective, we're seeing acceleration in demand from all regions, economic data such as PMI and GDP points towards a strong recovery in industrial activity and in the overall business environment across the globe. Although covid-19 pandemic temporarily affected our business, the underlying fundamentals of our business and secular trends driving our business remain unchanged. We continue to see strong momentum and key strategic initiatives for electric vehicles, robotics, factory and warehouse automation, plug power and data. We are well-positioned to benefit from ongoing recovery with our highly differentiated power, analog and sensor products, which enable key secular trends in automotive, industrial and cloud power in markets, now provide details of the progress of various end markets for the third quarter of Twenty twenty. Revenue for the automotive market in the third quarter was four hundred nineteen point two dollars million and represented the 32 percent of our revenue in the third quarter, third quarter automotive revenue decline by six percent year over year, primarily due to 19 driven decline in automotive production.
[00:13:36] We are seeing strong momentum for our silicon carbide offerings, with additional design wins at leading OEMs in Tier one customers. In addition to winning new designs, we are expanding our engagement with new customers for Silicon Carbide and are currently sampling products to many of these customers on the NASA front. We continue to win design major global automotive players. We're also seeing a higher level of attach rates for both NASA and viewing applications. We're very well-positioned to benefit from technology transition in automotive layna to newer S.A.M. and SPAD Technologies from IPD technology. We are seeing strong traction for our light, our products with leading customers, other areas of automotive, Wistrom, as well as the third quarter, we saw strong growth in our lighting, ultrasonic and actuated solutions. From a geographical perspective, we saw strength across all regions, despite a steep increase in automotive production. It appears that dealer inventories are low. We expect current recovery in the global automotive production to continue in the near term based on our outlook and third party reports. We believe that are twenty twenty annual automotive revenue growth rate should exceed twenty twenty global light vehicle annual production growth rate by a wide margin. Revenue in the fourth quarter of Twenty twenty for the automotive end market is expected to be up quarter over quarter and we expect to see the ensuing recovery in global production.
[00:15:04] Industrial and market, which includes military, aerospace and medical contributor revenue of three hundred and twenty seven point six dollars million in the third quarter. Industrial and market represented 25 percent of our revenue in the third quarter year over year or third quarter, industrial decline seven percent. This decline was driven by reduction in global industrial activity due to the global nineteen endemic and geopolitical issues related to a specific customer. In the industrial end market, we're seeing strong adoption of our carbide modules for solar power related applications and we are rapidly expanding our customer base in the alternative energy market. On the industrial power front, we are seeing increasing design activity for motor control and building automation, energy efficiency regulations that are slated to be enacted in 2021 and beyond are driving car management and motor control related activity. Our business medical business grew strongly quarter over quarter in the third quarter and the pace of election procedures picked up. We continue to work with leading market players to design in our image sensors for automation and machine vision applications. We have secured an additional design wins from large format image sensors for professional movie camera applications. Revenue in the fourth quarter of Twenty twenty for the industrial end market is expected to be up quarter over quarter.
[00:16:31] The communications and market, which includes both networking and wireless, contributed revenue. One hundred and fifty five point four million dollars in the third quarter and represented 19 percent of our revenue during the third quarter. Third quarter communications revenue declined by seven percent year over year. We saw a strong year over year growth in our 5G infrastructure business. In the third quarter. Our smartphone business declined year over year, in part due to geopolitical factors related to a customer. Revenue in the fourth quarter, Twenty twenty for the communications and market is expected to be flat or down quarter over quarter due to expected revenue decline from customer specific geopolitical factors. The computing and market contributed revenue of one hundred and seventy two point two dollars million in the third quarter. Computing in market represented 13 percent of our revenue in the third quarter, third quarter computing revenue increased by 12 percent year over year to strengthen both server and client businesses. We're seeing strength in our server power business with increasing content and new server platforms and settings, most leading processor makers are projecting higher current requirements in their next generation products. We expect this trajectory to continue in the near to mid-term, increasing demand for computational capabilities driven primarily by artificial intelligence. Revenue in the fourth quarter of Twenty twenty for the computing in market is expected to be up quarter over quarter. The consumer and market contributed revenue of one hundred forty two point nine dollars million in the third quarter.
[00:18:08] Consumer and market represents 11 percent of our revenue in third quarter. Third quarter, consumer revenue declined by nine percent year over year. Year over year decline was due to broad based weakness in the consumer electronics market, covid-19 dynamic and our selective participation in this market. Revenue in the fourth quarter, Twenty twenty for the consumer and market is expected to be up quarter over quarter. In summary, we are accelerating our efforts to drive margin expansion. We are rationalizing our fixed cost footprint. At the same time, we are also aggressively winning design to drive, mix, shift for the automotive, industrial and cloud power in markets which have higher margins. Ramp up of our 300 millimeter manufacturing processes and his physical fab should further help and gross margin expansion in the near term, strong revenue growth driven by ongoing recovery in our business should contribute to margin expansion. Business conditions have improved meaningfully and we expect the improvement to continue in the near term. We are seeing broad based recovery across most in markets and geographies. Key secular megatrends and long term drivers of our business remain intact and we are excited about our medium to long term prospects. We're seeing accelerating momentum in our key strategic initiatives for electric vehicles, robotics, factory and warehouse, automation of power and Adidas. Now, I'd like to turn it back over to Britain, hard for a forward looking statements.
[00:19:34] Bernard, thank you. He's based on product booking trends, backlog levels and estimated service levels.
[00:19:43] We anticipate that also much of the revenue will be in the range of one point, one point four billion in the fourth quarter of 2020 for fourth quarter of 2012. We expect the gap in longer gross margin between thirty two point nine and thirty four point nine percent. We expect to gap operating expenses of 320 million. Our gap operating expenses include the of intangibles, restructuring, restructuring, asset impairments and other charges which are expected to be the 32 million. We expect total non-GAAP operating expenses during the 297 million for the expected increase in our fourth quarter operating expenses. The quarter is driven by planned reinstatement of salaries and benefits that will reduce the decline in our business results resulting from the accumulation endemic in our twenty twenty operating expenses. The variable component of compensation was not significant. However, as we enter into 2021, we plan to approve variable compensation with the expectation that 2021 will be a strong year. Consequently, we expect an increase of about 25 to 30 million a quarter in our operating expenses in the first quarter and one we anticipate fourth quarter of Twenty twenty gap. Net income and expenses, including interest expense, will be an expense of forty one to forty four million, which includes all non-cash interest expense nine to 10 million. We anticipate that those net operating net other income and expense, including interest expense, will be an expense of 30 to 34 million. Redcap Cash paid for income tax in the fourth quarter of 2012 is expected to be 22 to 28 million Twenty twenty.
[00:21:41] We expect cash paid for taxes in the range of 52 to 58 million. We expect full capital expenditures of 100 to 120 million in the fourth quarter of 2014. We are currently targeting an overwhelming proportion of our cash for enabling our 300 millimeter capability at an accelerated pace.
[00:22:01] We expect to share based compensation of 16 to 18 million in the fourth quarter of 2020, which approximately three million is expected to cost of the school, and the remaining amount is expected to be operating expenses. These expenses included along the financial news. Argante diluted share count for the fourth quarter of 2012 is expected to be one hundred twenty five to four billion shares. Based on our current stock price, our non-GAAP account was worth Twenty twenty is expected to be for 13 years based on our current stock price. Further details on share count and earnings per share calculations are provided regularly in our quarterly and annual reports.
[00:22:47] One thing you weren't expecting me with that. I would like to start the Q&A session. Thank you. And please open up the line for questions.
[00:22:59] Thank you, sir. As a reminder to ask a question, you would need to press star one on your telephone to withdraw your question. Please press the pound key. Due to the essence of time, we ask that you please limit yourselves to one question and one follow up. Please stand by while we compile the Q&A roster. So our first question comes from the line of Ross Seymore from Deutsche Bank. Please go ahead.
[00:23:25] Hi, guys, congrats on results and thanks for let me ask a question, I want to focus both my questions on margins. So the first one is on the gross margin side of things. I see that you're guiding to about a 50 percent incremental gross margin in the fourth quarter, given that you're not changing utilization. I understand that. But I guess first, why aren't you changing utilization given the strength in the business? And then if we go beyond the first quarter, can you just talk about how the fab closures, the utilization increases in the three hundred millimeter ramp, all layer in to the gross margin? Because I would assume it would need to be above that 50 percent incremental that you've got into historically and even in the fourth quarter.
[00:24:04] So I thank you all for your questions. We are we are also intending to continue working on our inventory in the short term. Ergo, we don't plan on increasing our utilization substantially to keep working on that. And you are correct, as we start getting the benefits of the factory closures, we have talked about 75 million dollars of annual savings coming from from those closures or sales to the Rochester. Closing is on. It's on its way to be to being completed. And as a result, we expect to get about 15 billion dollars of that of annual savings in the industry in the first quarter of 2021. The other two is a function of where we end up and what we end up negotiating with the buyers of these two fabs. And that's ongoing and in progress right now. So, yes, the the answer is yes, we should expect to see better than 50 percent follow through as we as we go through our twenty twenty.
[00:25:13] Great, thanks for those details and then as my follow up question, again, sticking on the margin front and moving to the Asia-Pac side of things, I think everybody understands why you had variable comp down this year and why it would step up sequentially in the first quarter. But if I look at a year over year, it's basically flat is what you're guiding. There might have been some covid related impacts in the first quarter of Twenty twenty. But given the structural changes and cost cuts you guys announced earlier this year, I'm still struggling to figure out why that the guide for OpEx in the first quarter of 2001 would be flat year over year.
[00:25:49] Sylvia, as I said, as we said in the prepared remarks, we have no value will come in in any quarters in two thousand twenty as well as 2019. So we're basically we did take significant cost reduction actions, some temporary and some permanent. And right now, the variable comp will be obviously that depends on the business results. It is next year points in the direction of being a strong year, which is whether our assumptions are then we should have a significant additional on variable comp. If obviously the year is not in that direction, then we will not.
[00:26:31] Thank you. So our next question comes from the line of Chris Stanley from Citigroup. Please go ahead.
[00:26:37] Hey, you guys, just a quick clarification on the gross margin. So why was it 50 basis points better than the guy? Was that all revenue upside or was there some mix or pricing or something else that was driving it higher?
[00:26:49] Mostly revenue upside.
[00:26:53] And then any update on the CEO search?
[00:26:59] It's ongoing and there's nothing to announce at this time.
[00:27:03] Ok, thanks.
[00:27:06] Thank you. I said, our next question comes from the line of Chris Casso from Raymond James. Please go ahead.
[00:27:14] Yes, thank you. Good morning. Just a question on on inventory. And you know what you're planning on on doing with production. Could you give us a sense of where you would like both the channel inventory and your internal inventory to get to before you would increase utilization? And generally, what what's the reason for the more cautious approach to inventory right now?
[00:27:38] So the inventory we have on the channel, we we we we took it down in two weeks, we are within our comfort range. So we feel good going into next year that we are at an appropriate level for that. In general inventories. We peaked in the second quarter. We basically do every day and we think there's still room to continue gradually decreasing it into into 2010, into the fourth quarter.
[00:28:10] All right, as a as a follow up on the automotive market, I guess it now you're running sort of down, you know, mid to high single digits year on year. Last quarter, you talked about anticipating that the customers would be running at full production in the second half of the year. Could you give us an update of that where your customers running regarding, you know, their own production? And I guess with that, what's the gap between, you know, if the customers are kind of getting back to normal and you're still down year on year, what's what's the delta there and what you kind of get you back to, you know, flat year on year and eventually growth?
[00:28:48] Yes, we believe that the auto customers will be largely running at record levels excuse me, here in the fourth quarter. And really, the only the only difference, if there's any, would be change in inventory in the supply chain. There was definitely some some caution in the supply chain and that covid-19 went in. And I would expect that in 21 it would start replenishing even above on rate.
[00:29:26] Thank you. I saw our next question comes from the line of Rochedale from Needham and Co. Please go ahead.
[00:29:35] Yes, thank you and congrats as well on solid results regarding the momentum in the automotive business. You talked about our growing auto production by a wide margin. Obviously, we're going to see a rebound in auto production, KOSTOVA. But on top of that, what's what's driving the wide margin commentary specifically and sensors and any color there would be helpful in terms of how much semiconductor content you're going to layer on top of that rebound in production.
[00:30:06] Yeah, so I think you hit on the two topics from an eight ASP perspective. We're seeing a significant amount of the production moved to level two, which has quite a bit more dollar content, kind of goes from ten dollars at level one to 150 at level two. So we're seeing that transition would drive very significant growth above the SARS rate. And then on the electric vehicles, there will be more electric vehicles still dominated by internal combustion, but nevertheless more vehicles. And again, the content there goes from, you know, 40, 50 bucks up to 500. So those if you look at both of those things that were an order of magnitude change. And so as a result of that, we would expect very significant outgrowing.
[00:30:59] And just for my follow up, I know you can't provide more guidance, but if we're looking at gross margin trajectory, if you look at the margins in 2019, you know, they were at 36 percent for the year. And obviously it took a big dip in the first half of this year because of covid. But you're kind of moving back to how we think about, you know, the margins in twenty, twenty one, getting back to kind of normal normalized levels. What we saw in twenty nineteen and then kind of moving beyond that is they're really going to be a function of the revenue. And you talked about the closure that they had to sell that fab, but should we be expecting it to get back to kind of 2090 levels and beyond as we progress into Twenty twenty one?
[00:31:45] Depends on a lot of factors, but the same premises that we have within in the past, those who we do expect the 50 percent fall through on just a few revenue changes and expect that the Twenty twenty one will be a good year in terms of revenue layer on top of that mixed savings with the with the premise that the revenue growth in automotive and industrial and cloud power, which will have better than corporate average gross margin, will continue to be paid to people with some gross margin. And as mentioned earlier on, another call question, and we do expect to get the savings from the factory we or clotheshorse that we have announced previously. And last but not least, we do still have some lingering Koby's costs in our numbers. We expect that most of those will take a while to get those will make the logistics are pretty as low as the pressure pressures on that is that we should also get a little bit of deal with in addition to what we just mentioned.
[00:32:50] Thank you.
[00:32:53] Thank you, sir. Next question comes from the line of Vijay Rakesh from Israel.
[00:32:58] Please go ahead. Yeah, I mean, guys, just a couple of questions here on the business side. I know you talked about September quarter are coming down two weeks for your inventory down in the channel. Just wondering what you're seeing in terms of distributor inventories exiting for Q4 versus normal levels. Thanks.
[00:33:19] I'm not sure I got all of that question, the audio issues on our side, but we brought the dusty inventory down in the third quarter to kind of the low end of our normal operating ranges.
[00:33:32] So we're not looking to take it down substantially from there, but kind of hold it toward that lower end. We think this does give us more flexibility, particularly if the market is more robust than we're seeing right now. So that's the plan. Does that get your question, Vijay?
[00:33:51] Yeah, thanks a lot. And one other question here. On the gross margin side, obviously, there are some near-term costs, logistics, logistics costs and operational costs. Just wondering what headwinds from those are. And you see those subside as you go into the first half of next year. Thanks.
[00:34:10] Are definitely much less than what we had in the in the first and second quarter, the lingering cost of more logistics. It will normalize when we see airlines flying again. So that's mostly commercial. So that's a big question mark. So while it's going to be more protracted, but it's much less than what we have seen in the first half of the year or so, it's just something going ahead with not significant.
[00:34:37] Thanks a lot.
[00:34:40] Thank you. I should. Our next question comes from the line of Christopher Roeland from Toscana. Please go ahead.
[00:34:48] Hey, guys, thanks for the question. I guess first, following up on the automotive side of things and Silicon Carbide, can you talk about the pipeline there after your win on Silicon Carbide and then also how how we should think about exhibits and in your position there.
[00:35:12] So we we continue to see wins for both Ivy keys and Silicon Carbide. You know, it's maybe oversimplified, but in the the lower lifetime or smaller cars, the IBT is still the dominant solution is the more powerful cars were designed with much longer range silicon. Carbide is becoming the predominant solution. So we have winds at many different tier ones and OEMs at this stage from both silicon carbide.
[00:35:55] And I was wondering if you could give us an update on your footprint consolidation, I guess. Any any update on on Belgium and any other updates in terms of targets or potential opportunities in Belgium?
[00:36:13] We are having what I would call the final round of negotiations right now. And I expect that we during the quarter will be able to find solutions there in regard to there's still process ongoing in probably eats into the new.
[00:36:34] Great, thanks.
[00:36:37] Thank you. Next question comes from the line of Craig Ellis from B. Riley Securities. Please go ahead.
[00:36:44] Yeah, thanks so much for taking the questions and I'll just ask a couple of follow ups. First one on gross margin. So it's clear that it's hard to handicap the exact timing of a fab sale. But gentlemen, I'm wondering if you can just help us scope the the the amount of seventy five million in COGS efficiency gains that you would expect to get in calendar 2001, not by quarter, but just overall. How much of that could be realized in 2001 and then how much would come through when in calendar 20 to.
[00:37:18] It's a tough question, Craig. Definitely, we can talk about the Rochester one, which is the first EPS million that will start immediately into one. The other is still a function of what we end up negotiating with the buying parties in terms of MSA that will drive what those things are, typically the closure of a party somewhere in the 18 to 24 months. And obviously, we have been already working on it.
[00:37:47] Try to and then if I could just bundle to follow ups together, Bernard, the first is to raise this question beyond the first quarter, which not only would include discretionary comp, but also things like Biche. What should we expect from Tulku to Q2 for Q2? You actually get some OpEx decreases in the back half of the year as Spica goes away and then with the debt pay down in the fourth quarter, the convert, what should we expect for interest expense in the first calendar quarter?
[00:38:22] Let me start with the last question first. The interest expense. We tend to continue down debt as we do with the amount of free cash flow next year, which is the function of how much that is paid down. Definitely the the pay down of the six hundred, 90 million will be a little bit of interest away. So we expect the trend of interest expense to go down over and over and over time.
[00:38:52] And the topics, the obvious, we we expect this step function or increase in OpEx in the first quarter, and indeed you're correct. In addition to that, there is within that assumption the timing or seasonality of EBITDA and other US based fuel expenses.
[00:39:12] So I don't expect that the expenses will go up more materially for the rest of the year. They may trend mostly flat.
[00:39:22] Thanks, guys.
[00:39:25] Thank you. Our next question comes from the line of Matt Ramsey from Chalon. Please go ahead.
[00:39:32] This is Josh Buckhalter on behalf of Matt Ramsey. Congrats on the results and congratulations on your retirement. I guess when START started on the last call you mentioned, you weren't expecting to see any underutilization charges in the second half. Can you confirm this is still the case, given you're keeping utilizations flat and inventory sounds like are going to find out where?
[00:39:55] And yes, obviously with a disclaimer that we don't control what governments do. So at this stage, we don't expect there is no mandated shelter in place and mandates from governments.
[00:40:10] So if that continues, we expect it to we will not see any additional covid related expenses or under.
[00:40:21] Ok, thank you. And then I guess the bigger picture question, when you made the plans to invest in the 300 millimeter fab, it was was obviously a very different environment. I'm just wondering if any of your strategic assumptions or plans changed for the new environment, you know, porting volumes through this fab since the deal was announced a year and a half ago. Thanks. In Europe against.
[00:40:46] You know, we continue to be excited about that addition to our network. And so from that perspective, we continue to get qualifications of products, processes and customers that are there and continue to enjoy the ramp that we envision. The only change I would get is maybe a little more acceleration on closure of some of the other factories has been brought about by the the overall lower environment, the.
[00:41:26] Thank you. I'm sure our next question comes from the line of Toshiya, Harry from Goldman Sachs. Please go ahead.
[00:41:35] Good morning. Thanks for taking the question. I had to as well. First of all, you guys talked about geopolitical factors having impact on your business in two, and I believe in your Q4 guidance as well. If you could if you could confirm how meaningful the headwinds were associated with geopolitical factors in Q3 and what's embedded in your guidance, that would be helpful. Thank you.
[00:42:00] In Q3, there certainly was an impact, but primarily in Q4 until licenses are granted, the answer is there's no business at all. And they were one of the top customers.
[00:42:16] Got it, and then as a quick follow up, I wanted to double click on gross margins as well. In the past, you guys have talked to a 40 percent plus long term target for four gross margins, I guess. Is that still the case? Is that still very much intact? And B, to the extent it is. I was hoping you could rank order the drivers that get you there. I think throughout this call you talked about obviously Rochester, which is which has done you've got you got to Belgium, you're rationalizing or optimizing your portfolio. You've got the 300 millimeter transition. And obviously you've got the covered costs, which hopefully go away over time. So if you can rank order some of the drivers as you think about gross margin expansion over the next couple of years, that would be helpful. Thank you.
[00:43:09] Pretty much summarized it very well for us. Thank you. Definitely. When we did our model, which actually was 40 percent, which is predicated on a seven point one billion in revenue, that that still holds true. So we do have a good amount of catch up from the current levels of five point one five that level with the fact that we have that we have the good fortune that that that that still holds true of the footprint consolidation as well as the benefits of the three hundred million in the out years will also be a significant factor and makes us a third one is the one that will be.
[00:43:59] Thank you. Our next question comes from the line of Harsh Kumar from Piper Sandler. Please go ahead.
[00:44:06] Yeah, hey, guys, congratulations, first of all, two questions, first of all, would you be able to give us some color on particularly the automotive and the industrial markets? I know you said they should be up, but maybe help us think about how we should think about modeling them. And then another part of that same question, you talked about distribution and mentoring auto. How many weeks access do you think, if at all, there is in the system, particularly in auto?
[00:44:35] I'll start with Otto, I believe that distribution and entire supply chain there.
[00:44:42] There is no excess going into fourth quarter. I think that's largely been taken care of. In fact, if anything, they have undershot and set us up for next year having to do replenishment so that that market and the supply chain there is lean at this stage. And I don't know any any pockets of business. As I mentioned earlier, we expect total production rates in Q4 to be largely back to where they were in twenty nineteen. So again, by quarter, over quarter, that is still an improvement from Q3. From industrial perspective, you know, we're seeing recovery there. We think again, largely the excess supply channel, but there's no rebuilding that we can see. So moderate recovery on industrial.
[00:45:39] Understood. And then your closure of Fab's you mentioned you cited three, I think in total maybe help us understand where is this production going to? Is it going to Fishkill? And, you know, on a scale of one to 10, if you say, you know, prior to you getting control of Fishkill, if 10 is kind of like where you want to be, where do you think you are at this point in time?
[00:46:04] So most of the production in those two particular factories are going into our other internal fabs. And what we're doing is taking selective high volume runners out of the other internal fabs and moving into. So a little bit of a two step process to get in the paint. And relative to, you know, Ken is full ownership and running. We are at this stage down around to we're just starting our ramp in manufacturing there in the third quarter and ramping from there.
[00:46:42] Thanks, guys.
[00:46:45] Thank you. I said, our next question comes from the line of Mark Polyposis from Jefferies. Please go ahead.
[00:46:55] Hi, thanks for taking my question. I had a question about the process of shutting down or selling a factory when you're when you're transferring parts from your old facility to your new facilities. Can you describe what the qualification process is like? How long does that take? Or is or is it a matter of practice for you that, you know, parts that you have that primarily make it one factory? You also are always qualifying them at other factories just for redundancy sake. And that's not a big deal to to requalify parts. That's the first question to to.
[00:47:34] So for the first one, most of our high volume processes have more than one factory run in just from a supply chain risk perspective for those products. And you, in essence, take these specific products that you're running that may not be in the alternate factory. You have to run some reliability tests and you have to run those by your customers.
[00:48:01] And for those processes, it's anywhere from one hundred and eighty two days to a year. For other processes that don't have as much volume, you do have to first bring up the process in a new factory that can take anywhere from nine months to a year. Then you have to run the same qualification. So I guess you kind of out in the two year range for that. We had started moving things for the factories we're talking about here before we announced those transactions. And so we're well into that second phase now of getting the customers qualified by the selling of the factories and our customer agreements. There will be some amount of time required. We will still take product from those factories. But you're now you're now down into that kind of 18 months or so we.
[00:49:05] Gotcha. That's very helpful and longer term, keep to you as you work your way to your gross margin, bogey your does you think that translates to a higher internal mix or higher or outsourced foundry mix on on the front end?
[00:49:26] Yeah, the front end part will become more external, but that's less to do with consolidation and more to do with some of our fastest growing products. Use those that we use foundries for.
[00:49:44] Thank you very much, very helpful.
[00:49:48] Thank you. Our next question comes from the line of Harlan Sur from JPMorgan. Please go ahead.
[00:49:55] Thanks for taking my question. Has the Eskil Fish has its fiscal 13 auto grade qualified? And if not, when you guys expect to achieve qualification? And then in terms of revenues today from fiscal products and in markets, are you shipping into.
[00:50:12] So today we're shipping primarily into industrial with some automotive content out of cars that we are qualified for.
[00:50:23] Great, and then he's with 13 to 15 week lead times on average, you know, you guys are looking into the March quarter. You also have a good view on customer forecasts as well. I believe normal seasonality for the team is flat to down a couple of percentage points in March. You talked about above seasonal demand trends near term, wondering if you're seeing this in the orders for the March quarter.
[00:50:48] Yes, orders are good in the comments we made on above market seasonality will extend this year, you know.
[00:50:56] Thank you.
[00:50:59] Thank you. My next question comes from the line of John Pitzer from Credit Suisse. Please go ahead.
[00:51:06] Yeah, thanks. Let me ask the question maybe just to follow on there to Harlen. Second question. When you think about the calendar, first quarter is there are not enough leverage above seasonal revenue growth and gross margin leverage that you can have on margins be flattish despite the increase in OpEx. And if that's not the case, why isn't variable comp more tied to profitability? Why not wait until later on in 2001 to reestablish some of the variable comp?
[00:51:34] So we we really don't want to give guidance for Q1, we do it one quarter of the time. What I will tell you is certainly we would expect revenues to continue to increase nicely throughout next year. And the way accounting works, you have to accrue for the entire year at the expected rate for the year, even though you may have a quarter somewhere in there that doesn't fully meet the objectives.
[00:52:04] That's awful, and then back to the auto side, when you look at calendar year 17 to 18, SARS was down a little bit in 18, but you guys significantly outgrow the market almost by 10 percentage points. I'm just kind of curious, given how weak the auto sector has been for you and the overall semi market since really the end of calendar year 1819 was down, 20 is going to end up being down. How are you viewing your outgrowth to SARS as we go into calendar year 2001? And do you have kind of a view you can give us on what you think SARS growth will be next year?
[00:52:42] So the answer is, yeah, we we have a white margin, as I mentioned in my comments, very significant with the drivers being more level two cars on eight s and a higher percentage of EV. From a SaaS perspective, we tend to try and be conservative on that and look for kind of 2019 levels next year on the SaaS basis. But but again, we think we have been outperforming the overall SaaS in Twenty twenty. We think the supply chain did lean out, which took some of that margin away. But in Twenty twenty one, as I mentioned earlier, we think there may have to be some restocking to hit the fuel levels as appropriate.
[00:53:35] So it's an 18 year grassers by 10 percentage points. Do you think? Twenty one setting up to be an 18 year for you.
[00:53:45] I think the opportunity for double digit outperformance is there. Thank you very much.
[00:53:52] Thank you. So our next question comes from the line of Kevin Cassidy from Rosenblatt's Securities. Please go ahead.
[00:54:01] Thanks for taking my question and just going back to factory utilization. Is there any more efficiency coming in? Can you get higher gross margin at the same utilization, you know, say, compared to a couple of years ago?
[00:54:18] There is some help that comes from that from experts we have talked about, but definitely we depend on a lot of revenue increases the.
[00:54:31] I would just add that as we're looking for the other traditional lever is pricing in, of course, 19 was not necessarily a good year. But as we're seeing, our 2016 is not a good year, but 21 is shaping up to be a little better pricing environment.
[00:54:51] Ok, great. And just one follow up kind of on my qualification process, you know, you can have your internal qualifications, but does your customers. Has there been any change in the qualification process relative to the customer? Should they just agree with your data from your manufacturing or do they want to test the parts to it?
[00:55:14] Most of them agree with our reliability data. They don't need to duplicate that, but they do need to verify the products are still functioning exactly the same way in their applications. So that takes them, you know, that's part of the six month kind of check that they've got to do on their site.
[00:55:33] Ok, great. Thank you.
[00:55:36] Thank you, I should. Our next question comes from the line of David O'Connor from Exane, BNP Paribas. Please go ahead.
[00:55:46] Great. Good morning and thanks for taking my questions. Maybe to go back on the ten point performance that you mentioned, you talked about eight dozen being the main contributors as we exit Twenty twenty. Can you give us a sense of how big these are now for for the business and the follow up?
[00:56:08] So sensors, the sensors, about 20 percent of our total on the the electric piece is always smaller, but we haven't disclosed how much it is, but we know it's going to ramp up with a very strong and fast pace in 21 and beyond.
[00:56:29] That's helpful, and then maybe as my follow up on the 300 millimeter issue, you talked about the spectacular yields there, which are those high volume products where you're seeing these deals and is there an opportunity to pull in the ramp up there, given you seem to be ahead of schedule?
[00:56:46] Yes. So our first priority is to ramp there are medium voltage fence and then followed by our IUD and we are ramping that pretty much at the pace our customers are qualifying in this state.
[00:57:05] Thank you.
[00:57:08] Thank you, I sure. Next question comes from the line of Tristan Garreth from Baird. Please go ahead.
[00:57:16] How are you? Good afternoon. Given The Daily Times still somewhat elevated in parts of your business, at least industrywide, and given your utilization rates below normal level, although opportunities for you to gain actually market share because your utilization rates being below will actually be an opportunity to over ship in areas where some of your competitors may be tight or I not looking at the correct way.
[00:57:49] I think we do have some upside opportunities with extra capacity in the factories where actually the inventory positions we're taking or really ensuring that that excess capacity can go directly to the customers that may have opportunity to grow a little faster. And I mentioned earlier the the address and in any side of it, particularly those we think may be due for some additional inventory in the channel.
[00:58:23] Ok, great. And then just a quick follow up, I know you haven't quantified dilution from the container. Is that is it fair to assume that it's now worse than the initial dilution that the business was incurring right after the close? And are you giving any consideration to taking additional action on that business besides just waiting for the new product? When.
[00:58:48] So there's not been an appreciable decline in that business. If that's where you're headed, so I'm not sure where that came from. So we're not seeing additional declines and we are seeing the backlog and pipeline picking up.
[00:59:06] So. Great, thank you.
[00:59:14] I shall next question comes from the line of Zakharia, from Bank of America. Please go ahead.
[00:59:20] Thank you for taking my question. Keith, I had a conceptual question on gross margins. You know, when I look at gross margins and our discrete industry, they tend to be at best around hypos percent, even for the largest companies in the space, such as Infineon, who have been running 300 millimeter fabs for quite some time. And when I look at owns history, gross margins have never really exceeded 38, 39 percent. And even then, quarterly revenues were much higher than current levels. So how much of the gross margin dynamics are just the result of selling certain kinds of products, which is that, you know, there is a limit to how much you can expand gross margins regardless of revenue levels of foreclosures of 300 millimeter capability. So I just wanted to run this hypothesis by you.
[01:00:11] So simple answer there is when we gave our expectations for being able to reach 43 percent fully comprehend the product mix in market medicines that we see here. And while there are some number of bips which we disclosed on six percent per say, but from a product perspective, we still think, you know, 40 it does take a leaning out of our manufacturing, which we are in the process of, and getting utilization rates up. But we don't think inherently that power business is stuck in the 30s. We definitely think we can get that in because the other piece of that equation is a lot of the new stuff is in modules in there. We think the opportunity for the modules is better than the discrete devices we have and keep.
[01:01:07] That's my follow up in terms of the competitive landscape just given US and China trade tensions. Do you see any headwinds to gaining share in China, i.e. that share perhaps going more to your European or Japanese competitors? Like how have you other than while we have you seen any effect of retention so far or do you anticipate any effects going into next year? Thank you.
[01:01:35] I think I think the there will be more reluctance for customers to accept sole source positions from U.S. based companies as a result of the trade tensions. I still think they're they're very wise economic buyers and they're going to be the best thing for their company, but they certainly don't want to be completely reliant on U.S. supplier.
[01:01:59] But do you see shear shifting to European competitors?
[01:02:03] We certainly saw it and the account you mentioned elsewhere. We have not seen it.
[01:02:09] Ok, thank you.
[01:02:12] Thank you, I shall. Next question comes from the line of Shawn Harrison from Leupp Capital. Please go ahead.
[01:02:20] Hi, good morning, and thank you for taking my question, Chief, for you. Are you seeing anything either on the raw material supply or kind of, I guess, the the foundry supply as well, given the speak the distributors you read in the press about some free buying of either your materials, your capacity next year, just give the trade tensions.
[01:02:42] So we've seen some tightness and some things like substrates in the communications market. I think that's fairly widespread. I think the the expansion there is slower than the market itself has been growing. And there's certainly some tightness in sponte areas in the foundry market. But overall, the supply chain is in pretty good shape.
[01:03:12] Very helpful and Bernard, as a follow up, just if you can speak to how you're thinking about the return of the share buyback in twenty one, what's either maybe a leverage ratio you're looking at or some type of metric before the share buyback could return?
[01:03:26] And so historically, what we have done is we have focused on paying down debt until we reach about two times net leverage, and obviously we need to get concurrence from our board to compete with the same strategy. But that would be the general approach towards achieving that.
[01:03:43] Thank you.
[01:03:46] Thank you. Our next question comes from the line of Nick Teodoro's from Longbow Research. Please go ahead.
[01:03:56] Yeah, thanks. Good morning, everyone. Once you guys complete the three comments about optimizations. Can you maybe talk about approximately a revenue level? You will be at full utilization of your anod 300 millimeter footprint.
[01:04:13] That's a difficult question, I'm not sure I have the answer for that, because a lot of it will depend on the mix. Definitely it was upwards of 85 percent, which is where we like to operate at.
[01:04:27] Got it. Thanks.
[01:04:31] Thank you. Our next question comes from the line of Craig had some back from Morgan Stanley. Please go ahead.
[01:04:39] Yes, I had a question on Silicon Carbide, naturally, a lot of the discussion around ITVS, but Keith, from an industrial perspective, can you talk about any interesting applications or opportunity to see the industrial market?
[01:04:53] Yeah, the we're seeing big pickup in solar energy. The pickups that you get there from an efficiency perspective are pretty significant. We have an opportunity for about six hundred and fifty dollars worth of carbide there and then in EV charging. So not not the tractions inverters, but actual charging stations. We're also seeing opportunities for up to five hundred dollars there.
[01:05:23] And then just a follow up on just the geopolitical issues with the customer, is that something that you expect ultimately revenue will go to another OEM and that could be opportunity at some point next year, the way the rules are written.
[01:05:37] It's unclear if anyone can ship without a license. And so that's why we saw our interpretation. And so I think right now the license process is most critical to answering who might be providing this for.
[01:05:55] And we should benefit the shifted to other other customers of ours, this is the opportunity for us to ask you to also take advantage of that and wait gets get that wider in our approach.
[01:06:11] Thanks.
[01:06:14] Thank you. So our next question comes from the line of Craig Ellis from B. Riley Securities. Please go ahead.
[01:06:22] Yeah, thanks for taking the follow up questions, Keith, I wanted to start just going back to some of your and market commentary. You mentioned that in power there should be some server shuriken gain in content gain. So I wanted to see if we could get some specifics around that for calendar 2001 and then also include power. What is your interaction with base station customers signaling for base station production next year? And what does that mean for for growth in that part of power?
[01:06:55] Ok, so one is kind of share gain in the generation, change Clubcard content. And the second one is what kind of ramp's we're seeing in base stations, if I got that right. Yep. So I'm kind of going from the back on the base station. Basically, China is driving most of that growth and we do see some significant growth there in China. U.S., you know, maybe late in twenty one, moving into twenty two would become much more substantial from a cloud server perspective. We get about sixty dollars of the current generation in our content and it goes to 75 with the VR fourteens, which are coming out next year.
[01:07:49] That's great, and then the follow up is on, I am so it seems like right now medical, military and energy efficiency are good areas of strength, but we know that in industrial our areas of weakness to energy extraction, etc, etc, no different than 2009 when industrial Broadway was probably the last in market to come off the bottom. The question is this when do you think that segment broadly will be back to good growth? Is that something that could happen in the first half of twenty one, or is that really something that would happen later next year? Thank you.
[01:08:25] Yeah. OK, so the broad based piece of it should improve. We've always seen that kind of following the GDP in general, but we do see different in industrial time. Craig, is the automation has actually been, I believe, celebrated by covid-19 and the experiences companies had there. They're looking for much more automation, both in assembly and in their warehouses to kind of make its dependance on people less. And so that that would be, you know, kind of like an automotive. We see electric vehicles in the as being a supercharger. I think in this case, automation is the supercharger for industrial.
[01:09:12] That's helpful, and congrats on the retirement keep.
[01:09:15] Thank you.
[01:09:18] Thank you. I said no further questions in the queue at this time. I'd like to turn the call back over to Mr. Barak Agarwal, vice president of investor relations and corporate development for closing. Please go ahead, sir.
[01:09:30] Thank you, everyone, for joining the call today. We look forward to seeing you at various conferences in the fourth quarter. Goodbye.
[01:09:41] Ladies and gentlemen, this concludes today's conference call. Thank you for being played in. You may now disconnect.