Silicon Motion Technology Corp

NASDAQ:SIMO

Earnings Call Transcript 2017-Q4

[Operator]

Ladies and gentlemen, thank you for standing by. This conference call contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended. Such forward-looking statements include without limitation statements regarding trends in the semiconductor industry and our future results of operations, financial condition and business prospects. Although such statements are based on our own information and information from other success, we believe to be reliable, you should not place any undue reliance on them. These statements involve risks and uncertainties and actual market trends and our results may differ materially from those expressed or implied in these forward-looking statements for a variety of reasons.

Potential risks and uncertainties include, but are not limited to continued competitive pressure in the semiconductor industry and the effect of such pressure on prices, unpredictable changes in technology and consumer demand for multimedia consumer electronics, the state of and any change in our relationship with our major customers and changes in political economic legal and social conditions in Taiwan. For additional discussion of these risks and uncertainties, and other factors, please see the documents we file from time to time with the Securities and Exchange Commission. We assume no obligation to update any forward-looking statements, which apply only as of the date of this conference call.

I would now like to hand the conference over to Mr. Jason Tsai. Please go ahead, sir.

[Jason Tsai, IR]

Thank you. Good morning, everyone and welcome to Silicon Motion’s Fourth Quarter 2017 financial results conference call and webcast. My name is Jason Tsai and with me here is Wallace Kou, our President and CEO and Riyadh Lai, our Chief Financial Officer. The agenda for today is as follows. Wallace will start with a review of our key business developments. Riyadh will then discuss our fourth quarter financial results and provide our outlook. We’ll then conclude with Q&A.

Before we get started, I’d like to remind you of our Safe Harbor policy, which was read at the start of this call. For a comprehensive overview of the risks involved in investing in our securities, please refer to our filings with the US SEC. For more details on our financial results, please refer to our press release, which was filed on Form 6-K after the close of market yesterday. The webcast will be available for replay on our website, www.siliconmotion.com for a limited time.

To enhance investors’ understanding of our ongoing economic performance, we will discuss non-GAAP information during this call. We use non-GAAP financial measures internally to evaluate and manage our operations. We have therefore chosen to provide this information to enable you to perform comparisons of our operating results in a manner similar to how we analyze our own operating results. The reconciliation of the GAAP to non-GAAP financial data can be found on our earnings release issued yesterday. We ask that you review it in conjunction with this call.

With that, I will turn the call over to Wallace.

[Wallace Kou, President and CEO]

Thank you, Jason. Hello, everyone and thank you for joining us today. Let me update you on our business and markets. Riyadh will then review our financials and provide our outlook later on this call.

2017 was a challenging year as NAND flash industry’s supply tightened and the high NAND prices limited our growth. These two issues were especially tough in the first half of 2017. Tight supply of NAND limited our ability to procure components, to build Shannon and FerriSSD solution. More critically, tight supply also drove up the price of NAND. High price for NAND in turn affected the affordability of the client SSD and reduced demand of our SSD controllers.

By the second half of the year, however, NAND was no longer tight as supply had increased meaningfully from the ramp of a new 3D NAND capacity. And the price was softening. By the fourth quarter, sales of our SSD solution were continuing to grow and our client SSD controller had started to rebound. Overall, we expect NAND supply and lower prices will continue to improve further in 2018.

We believe NAND industry supply will continue to grow in 2018 due to a number of factors. First, our 64 and 72-layer 3D NAND manufacturing yields continued to improve. Flash maker will further accelerate production and be output throughout this year. Additionally, several NAND flash makers have already started sampling their [indiscernible] and industry supply will growth, as these QLC components enter commercial production by mid-year.

By the end of this year, NAND supply will grow further as new 96-layer 3D NAND enters production. Recently, as a result of increasing expectation of industry supply growth, NAND makers have across the board been increasing the industry supply growth forecast for 2018. The cost per bit of new generation of NAND is falling rapidly, a 64-layer has ramped up over the past few months. We have already seen pricing begin to soften. We expect that 64 and 72-layer production ramping further supplemented by the introduction of QRC in the migration to 96-layer later this year. Each of these new generation of NAND will further drive down the dollar cost per bit of NAND, improving our affordability and adoption across many end markets.

The price of the NAND directly affected the price of client SSD and therefore demand for client SSD, the most price sensitive of all of the major application for NAND. As a revenue point of pricing and adoption, when the OEM price were 128 gigabyte, client SSD fell to $25 in 2016. Demand for SSD was very strong as client SSD were rapidly displaced. In contrast, when OEM prices of this 128-gigabyte SSD grew to at least $40 in mid-2017 comparable to the OEM price of HDD, demand for SSD stagnated.

Demand for our client SSD controllers contracted sequentially for three quarters and now rebound until the fourth quarter when the price of NAND softened and the OEM price of 128-gigabyte client SSD has fallen to $30. We expect demand for our client SSD controllers to grow faster when NAND prices and SSD prices fall further in 2018.

The rebounding orders in the fourth quarter for our client SSD controller were led by our NAND flash partners. Based on our bookings and backlog orders, we expect our client SSD controller to grow further in the first quarter, again led by demand from our NAND flash partners. While most of our controller sales are to OEMs, module maker also generated a meaningful amount of revenue. Our sales to module makers were flat sequentially in the fourth quarter, as these customers believed NAND prices will fall further and likely now increase their order of SSD controllers until they see lower NAND prices.

We exit 2017 with a large portfolio of design wins. At our three NAND flash partner, for our second generation PCIe NVMe controllers. Client SSD using this NVMe controller designed by Silicon Motion benchmark very favorably again SSD using our competitors’ controller and place us amongst the best-in-class. As the SSD market transitions from SATA where we have a disproportionally large market share to faster NVMe where we have secured a disproportionally large share of the new merchant programs, we believe our client SSD controller market share will likely increase further this year. A material portion of our NVMe controllers are for managing the upcoming QRC 34-layer 3D NAND.

Our flash partners plan to start shipping by mid-2018 client SSD using their QRC NAND and all controller. Based on the strong performance and lower cost characteristics of QRC NAND, we believe this new client SSD should be very well received by OEMs and the market. Additionally, given the continuing shortage of DRAM supply and very high price of DRAM, many customers have been actually seeking DRAM-less SSD controller solutions. We are the leader in DRAM-less SSD controllers and as many of you may have seen, third-party industry reviews demonstrate that SSD with our DRAM-less NVMe SSD controllers benchmark very favorably even against SSD with DRAM. Typically, DRAM-less SSD have lower material compared with SSD using DRAM, but are inferior in terms of performance.

Through the use of our unique and proprietary controller technologies with ray protection, we have been able to quickly reduce the performance handicap of DRAM-less SSD to where they can compete not only in the low cost SSD segment, but also increasingly in mainstream segment.

In the last few years, we have been devoting and increasing portion of SSD engineering resources towards the datacenter SSD market. As previously discussed, we are working on datacenter grade open channel SSD controller for two hyperscalers. We delivered our first preproduction commercial sample to our first hyperscale customer at the end of 2017 and anticipate our open channel NVMe SSD to enter commercial production by mid-2018, which will likely be the world’s first open channel NVMe SSD controller to enter commercial production. Separately, we are on track to begin commercial sampling with our second hyperscale customer by mid-2018.

We believe we are able to very effectively bring this new open channel NVMe SSD controller to our customers, because of our unique capabilities. Integrated SSD solution design expertise, deep understanding of the NAND characteristics and tight collaborate relationship with our hyperscale customers, especially the storage infrastructure teams. We are customer designing Silicon firmware driver software and SSD solution to our customers’ specific requirement and believe our skillset is unique in the merchant market. We believe open channel SSD technologies will be broadly adopted by most, if not all of the hyperscalers over the next few years and we are well positioned.

Let me now turn to our EMC business. In the fourth quarter, revenue was stable sequentially, better than originally expected. Our relationship with SK Hynix remains strong today and we continue to very effectively support SK Hynix with our very competitive low cost high performance controllers. As we have said, we are complementary to SK Hynix’s own internal controller program and nothing has changed. Their internal program remains focused on high end high density solution while we provide a competitive solution for them to address the mainstream high volume segment of the mobile embedded memory market.

SK Hynix started 2018 with at least 70 design wins as a large number of smartphone OEMs for their EMC with our controller and their 2D and 3D NAND that were arranged throughout this year. Another time design win were added in January. For the US as a segment, we believe the market has and in the near term will remain small and expect SK Hynix to continue using their own UFS controller while we will continue to support our US flash partner for their UFS embedded memory roadmap.

Overall, we are confident that our EMC plus UFS sales will remain stable this year, similar to the overall smartphone market. The global market for smartphone has increasingly matured. Market conditions in China are weak and replacement cycles are getting longer, especially for high end smartphone. So the overall market growth should be flat this year.

Now, turning to our SSD solutions. Revenue increased again this quarter driven by stronger than expected demand for our Ferri industrial SSD. In 2017, sales of our SSD solution grew stronger than expected in spite of higher NAND prices. Because NAND supply was better in the second half of the year. As you remember, demand for our Ferri and Shannon SSD solution are not particularly price sensitive, since our OEM customer are more focused on performance, product customization and dedicated customer support.

Looking into 2018, we continue to see strong demand from both our Shannon and Ferri customers. For Shannon, we are expanding both our product portfolio as well as our customer base with strong sales growth at Alibaba and other customers. Our Ferri products are seeing increasing adoption into new markets like automotive, gaming and telecom server systems. Based on our growing customer base, and increasing design activity, we are confident that our Ferri and Shannon SSD solution revenue will both grow strongly in 2018.

Let me conclude by noting that this year should be a much better year than last year. We are no longer facing the trend issues of NAND supply tightness and the rising NAND prices. Today, we are no longer facing any NAND supply constraints. NAND prices have started coming down, but still remain elevated. We believe that as long as the NAND industry remains highly competitive, NAND prices will quickly trend down, similar to the falling cost of a new NAND component and our business will accelerate, especially our client SSD controllers.

I would now turn the call over to Riyadh to discuss our financial performance and outlook.

[Riyadh Lai, CFO]

Thank you, Wallace and hello, everyone. I will summarize our financial results and then provide our outlook. Before I begin, I would like to reiterate that our comments today will focus primarily on our non-GAAP results unless otherwise specifically noted. A reconciliation of our GAAP to non-GAAP data is included with earnings release issued yesterday.

Our Q4 revenue increased 7% sequentially, in line with expectations. For full year 2017, revenue declined 6% year-over-year. For Q1 2018, we expect revenue to decline 3% to 7% sequentially, as growth from both of our SSD and eMMC controllers are more than offset by the seasonal decline of our SSD solutions. For full year 2018, we expect revenue to increase 5% to 10%, led by strong growth from both our SSD controller and SSD solutions and stable eMMC controller sales, offset somewhat by declining memory card and flash drive controller sales.

Let me reiterate that while we expect NAND supply to continue increasing and NAND prices to continue falling, we do not have good visibility on how fast and how much prices will fall. Our revenue guidance for Q1 and full year 2018 is based on today’s NAND flash price. If NAND prices were to fall, our SSD controller sales could be much stronger. We will revise our guidance when we have better clarity on this.

I will now walk you through the performance of our key products, before talking you through key elements of our P&L and the rest of our financials. In Q4, sales of our SSD controllers grew over 15% sequentially as several new programs at our flash partners ramped. For full year 2017, our SSD controller sales declined a little over 10% and accounted for almost one-third of sales. In Q1, we expect our SSD controller sales to continue to grow as our flash partners’ SSD programs scale further.

For full year 2018, based on today's NAND and SSD prices, we believe our SSD controller sales will likely grow roughly 20%. If NAND and SSD prices were to fall further, our controller sales could be stronger than currently anticipated. While we believe price elasticity of demand for client SSD is high, we do not believe it is prudent today to speculate and try to quantify potential upsides from falling prices without hard facts.

In Q4, sales of our eMMC controllers were stable sequentially as SK Hynix began rebuilding of their depleted eMMC inventory earlier than expected. For full year 2017, our eMMC controller sales declined about 5% and accounted for almost one-third of sales. In Q1, we expect our eMMC controller sales to increase sequentially as SK Hynix accelerates the rebuilding of their eMMC inventory.

For full year 2018, we believe our eMMC controller sales should be flat, in line with 2018 smartphone industry forecasts. In Q4, sales of our SSD solutions grew over 15% sequentially because of strong Ferri industrial SSD sales. For full year 2017, our SSD solution sales grew over 15% and accounted for almost 20% of sales. In Q1, we expect our SSD solution sales to decline meaningfully quarter-over-quarter, largely because Shannon's new 2018 data center SSD projects will restart from a low base.

For full year 2018, based on our current portfolio of Shannon and Ferri customers and projects, we believe our SSD solutions should be able to grow roughly 20% with strong growth from both our Shannon and Ferri products and with seasonally strong sales in Q2 and Q3. Our Q4 gross margin increased to 46.6% from 46% in the previous quarter, largely due to gross margin improvements of both our controllers and SSD solutions. We expect our Q1 gross margin to improve further to within a 46.5% to 48.5% range as we anticipate selling more higher gross margin controllers and less lower gross margin SSD solutions.

For full year 2018, we expect gross margin in the 47% to 49% range, in line with our 48% gross margin in 2017, as we expect our 2018 mix of higher margin controllers and lower margin SSD solutions to be roughly similar to 2017. Q2 and Q3 gross margins could be towards the low end of range due to seasonally strong SSD solution sales. Our Q4 operating margin increased to 24.1% from 20% in the previous quarter. Operating expenses in Q4 were lower, primarily because of lower R&D expenditures. We expect Q1 operating margin to decline to 21% to 23%. Operating expenses in Q1 will increase largely because of higher R&D expenditures.

For the full year, we expect operating margin to be in the 23% to 25% range, above our 23% operating margin in 2017. We expect operating expenses for the full year to increase less than our 5% to 10% revenue growth guidance range. Total headcount at the end of Q4 increased to 1250 employees, which was 36 more than at the end of Q3 and 128 more than a year ago. We are planning on adding fewer headcount in 2018.

Our effective tax rate in the fourth quarter was 17%, lower than the 23% in the previous quarter. We expect our effective tax rate to continue to decline this year, the benefit of recent corporate restructuring activities. Average effective tax rate for the full year 2018 should be roughly 15%, lower than 2017’s 21% effective tax rate. Our fourth quarter EPS was $0.79, higher than the previous quarter’s $0.57. Full year 2017 EPS was $2.81, lower than 2016 EPS of $3.64.

To help you reconcile our non-GAAP results just discussed with our GAAP results, I'll highlight two key differences. In Q4, the stock-based compensation in our operating expense, which we exclude from our non-GAAP result was $7.9 million, higher than the 3.3 million in the previous quarter due to the seasonal timing of RSU awards and consistent with timing of past years. Full year 2017 stock-based compensation in our operating expense was $15.2 million, lower than 2016’s $17 million.

For Q1, we expect stock-based compensation of 3.2 million to 3.3 million and $15 million to $17 million for full year 2018. In Q4, we took a $10.3 million goodwill impairment loss,

which we excluded from our non-GAAP results. We regularly test for impairments relating to the value of all of our acquisitions and recently determined that our FCI business is valued lower than our carrying cost.

Let me now talk about a few key items from our balance sheet. We had $366 million of cash, cash equivalents and short term investments, 34 million than in the previous quarter and 89 million more than a year ago. In November 2017, we paid $10.7 million of dividends to shareholders, the first $0.30 per ADS quarterly installment of our annual $1.20 per ADS dividend that was announced in October. For full year 2017, we paid $32.1 million of dividends to shareholders.

In Q4, we did not repurchase any shares related to our 200 million share repurchase program. This share repurchase program was authorized in July 2017 and is set to expire in July this year. As you may remember, we intend to only opportunistically repurchase our shares when we believe they are significantly undervalued. In line with this principle, we put in place a trading program to repurchase the maximum percentage of our daily trading volume if our share price were to fall to a level around our 2017 Q2 52-week lows.

Depending on how our share price performs over the life of our 12 months repurchase program, we could be utilizing a significant portion of our $200 million, buy nothing or some amount in between. This concludes our prepared remarks. We will now open the call to your questions.

[Operator]

[Operator Instructions] We have the first question from the line of Mike Burton.

[Mike Burton, Longbow Research]

You mention you expect client SSD controllers up 20% in 2018. Is that your expectation for the market growth as well or do you anticipate any share gains? And on that competitive front, have you seen Marvell or any other internal solutions begin to affect pricing.

[Riyadh Lai, CFO]

The 20% client SSD gain is based on our client SSD growth. We believe the market rate will probably be something similar. This is market growth, as we comment, we expected based on today's NAND flash pricing.

[Wallace Kou, President and CEO]

We really did not have comparable comparator in the market for client SSD controller.

[Mike Burton, Longbow Research]

And then can you also update us on your progress with enterprise controllers, any sampling activity or any chance to begin to see that ramp this year or is it more of a 2019 thing?

[Wallace Kou, President and CEO]

Our open channel NVMe datacenter SSD controller strategy remains on track and we began sampling with our first hyperscale customers last quarter. We will begin sampling with our second customer in the next few months, it’s in the middle of this year. Initial feedback from our first customer has been very good and we are confident that we – our second customer sampling will also progress smoothly. We’re very likely to be the first in the world to begin commercial sales of open channel NVMe SSD controller. We believe open channel is a high priority technology for the most hyperscalers the technology overcome the current SSD technology and enable active and direct management of storage and latency.

Open channel enable whole devices for example of server to manage individual NAND component in an SSD, including where data should be stored and enable SSD to be optimized for high performance computing development. This year, we do not expect meaningful revenue contribution from our first open channel project that is small scale. Open channel concept from controller to SSD whole device and storage infrastructure still need to be proven before they reach scale.

[Operator]

We have the next question from the line of Rajvindra Gill.

[Rajvindra Gill, Needham & Company]

Yes. Thank you and congratulations on rebounding the SSD business. A question though on the eMMC. You mentioned it was stable in Q4 and expect it to rebound a little bit in Q1 as SK Hynix rebuilds inventory earlier than expected. Can you talk about their procurement plans? How it differs perhaps from say other of their competitors, given that we've seen a pretty steep inventory correction in China handsets leased this quarter and maybe going in to the second quarter, how does SK Hynix’s procurement plan differ from other flash vendors?

[Wallace Kou, President and CEO]

Yeah. We cannot comment individual NAND flash maker, their procurement strategy and plan, but a lot of it relate not just because of the smartphone market, also relates to their NAND output allocation from customer to customer, right? So they have several tier 1 customers and it also relates to the allocation between 2D NAND and 3D NAND. So that’s why certain time, we will get a procurement earlier than the market trend, but sometime, it’s how they balance their really total NAND output and fully leverage the equipment between 2D NAND and 3D NAND.

[Rajvindra Gill, Needham & Company]

And on the NAND pricing, I think it was very prudent of you to say, look, we don't have a great visibility into NAND pricing, although you're seeing signs that it is dropping. I was wondering if you could somehow quantify it a little bit, like what do you see today in terms of the pricing declining and under kind of what scenario would you say where you would increase your client SSD forecast if NAND pricing were to fall further, if they were to fall even further, how much upside do you think it would be on the client SSD. Is there a way, some sort of correlation that you guys are thinking about in terms of a drop in NAND pricing leads to an X percentage increase in the attach rates for client SSDs?

[Wallace Kou, President and CEO]

I think we start to see the NAND price softening and from late Q4. But Q2, I think NAND makers definitely will try their best to hold the price, so the decline rate is really just small. But we believe probably in the late Q1 or Q2, the decline price will be escalated. And as you see, NAND industry is a highly competitive with a six vendor from Korea, Japan and US. Soon, I think there could be number seven. In our competitor industry, other than temporary period of shortage of supply, supplies have consistently passed on their customer, rapid cost saving by introduction of the new technology. So we believe that NAND supply will be sufficient and we’ll probably see more competition in the second half of this year and we still see a bigger magnitude of price drop in the second half of this year.

[Riyadh Lai, CFO]

Raj, let me also add that there is a tremendous dollar per bit cost savings from moving -- from 2D to 3D NAND, from TLC to QLC, from 48 to 64 to 96 layers and higher layer count NAND and historically as you know, dollar per bit would fall 20% to 30% year-over-year on average. And so this was due to some rapid continued price reduction of NAND prices when prices converge with the cost reductions and more specific to our client SSD controllers. As you know, we've been seeing improvements in client SSD pricing, as OEM prices for say the benchmark 120-gigabyte SSDs are now down to just $30 from at least $40 mid of 2017. OEM pricing for the next category, up the 256-gigabyte SSDs are now about $60 with a greater availability of new and upcoming lower cost NAND components, there is the possibility that NAND prices could fall by a third within the next 12 to 16 months. And if that were to happen, the price of 256-gigabyte SSDs will be down to like $40, comparable to OEM prices of HD and when that happens, we could see very rapid displacement of remaining client HDDs by SSD.

[Operator]

We have the next question from the line of Charlie Chan.

[Charlie Chan, Morgan Stanley]

So my first question is on your client SSD growth assumption, because you seem to assume NAND price to be flat for the same. We all know that the price elasticity, right, with NAND flash, 2%, why would you assume your control IC shipment can grow 10%, it should be also flat, right. So are you getting market share or what’s the thought behind?

[Wallace Kou, President and CEO]

I think we definitely see the market trend to NAND price will decline, but I think we have a broader range of client SSD controller today and are engaged in more projects to date. But as I said before, we have to see much better visibility of the NAND price decline, because there is different factors in the market today. For example, second half, it might be some smartphone to consume more NAND. So I think we want to be cautious at this moment, but when we see better NAND supply in the channel and most of the feedbacks say the NAND prices may go down from the second quarter and when we have a better visibility, we will revise our guidance.

[Riyadh Lai, CFO]

Charlie, let me also add the 20% client SSD growth that we’re seeing today is based on today’s NAND prices and this is coming entirely from the new programs that we are ramping today and will continue to wrap as the year progresses. So on top of what we're seeing with our order patterns with our flash partners, there is a potential for higher client SSD growth, but we currently just don't have that visibility to -- and so I believe it's prudent for us to not bake in at this point in time because we don't know, to be frank, we don't know when prices are going to fall and how much they're going to fall. So based on that, we think that it's true and just a big hit to assume our demand just based on today's NAND flash prices.

[Charlie Chan, Morgan Stanley]

And my next question is eMMC. So you seem to have a full year visibility. So, does the customer, with SK Hynix, give you a full year forecast already? Is that a confirmed order and any risk that Hynix would switch to in-house during the mid-year?

[Riyadh Lai, CFO]

Well, let me start off with our answers. As you know, we have very strong relationship with Hynix, our relationship has not changed at all and we're starting this year, 2018 with at least 70 design wins at a large number of smartphone OEMs. Let’s just take SK Hynix, starting year with at least 70 design wins at smart OEMs with our controllers paired up with their 2D and 3D NAND and these will reach 70 programs or ramp throughout this year. In addition to these 70 programs that we started the year, in January alone, we've added or rather Hynix has added another 10 programs that will use their controllers and our controllers, and their NAND.

[Wallace Kou, President and CEO]

I think Charlie to answer your question is, it’s a pretty complicated equation because for any NAND maker, they would try to fully utilize their NAND output. So, it depends on how they allocate, given generation with 3D NAND and 2D NAND, so that will give us forecast and allocate certain to the given market sector. So of course, all the NAND makers will like to produce more for shipping higher density for high end, but it all depend on their capability and winning the design. The mature mainstream as end market same time Hynix lead there and they’re very stable for the market and we have the market. So we can only base on what the forecast we prepare for the 2018 for eMMC.

[Riyadh Lai, CFO]

Yeah. Their focus generally is on a higher end higher density products whereas our solutions are targeted at the mainstream segment of the market where the majority of the volume lies. So we help Hynix stay competitive and we see our resources as being complementary to their own resources. Our R&D resources help them expand their product reach and since the number of end markets and applications for NAND continues to grow, there are internal bandwidth, there is also limited and so by working with us, they are able to extend their reach and be able to react quickly and cost effectively.

[Charlie Chan, Morgan Stanley]

So last one if I may is a little bit strategic. So China is now building up its own NAND flash supply chain, right. So, how would Silicon Motion 3D in this China NAND flash supply chain and is the company open for an acquisition opportunity from China and is that legitimate for Taiwan?

[Wallace Kou, President and CEO]

We are in regular contact with the Chinese NAND makers and they an actual leadership with all of them. We are monitoring their progress closely and when they begin production, we will have a controller ready to support them for a variety of products, including eMMC and client SSD. I believe they are saying that they will be in full production by 2019. Ultimately, more supply means more competition, lower price and faster supply growth are positive factors to us. And by the way, our company and regulated is not the same as a Taiwan local company that’s in Taiwan.

[Operator]

We have the next question from the line of Mike Crawford.

[Mike Crawford, B. Riley & Co]

Shifting gears a little bit, what targets does your software defined storage platform need to hit this year to trigger the $1 million incentive payout.

[Riyadh Lai, CFO]

It's a slow matter. So the incentive program I believe was for last year, 2017 and for 2017, given that it's essentially a very small organization with limited capabilities, the original expectation was quite low to start from. And so when the year-end close, [indiscernible] were not able to achieve their objectives and so that was not paid.

[Mike Crawford, B. Riley & Co]

And then as far as the Ferri controllers, you talked about an expanding market with more automated gaming and telecom customers. Do any of those newer applications have the potential to be more significant?

[Wallace Kou, President and CEO]

We do see there's a stronger demand for automotive, however the design cycle is longer. We do bring several major designs from leading automotive brands and also see server site. We also see the storage for servers become popular and the stronger demand from a couple of key major customers from China and the US.

[Operator]

We have the next question from the line of Suji Desilva.

[Suji Desilva, Roth Capital]

So on the SSD controllers, I'm not sure if you’ve covered this, but what trends have you seen in pricing there? Are those stable or any uptick based on mix?

[Riyadh Lai, CFO]

You’re talking about client SSD controllers, right? Prices have been very stable, continues to be roughly -- on a rough basis about $5 with a combined trend of our legacy SSD controllers, pricing beginning to come off, but our PCI NVMe controllers coming into our product mix at a higher level.

[Suji Desilva, Roth Capital]

And then my other question is on the SSD solutions and maybe the NVMe controllers. Is the competitive landscape there different than the client SSD, just to understand? I know some of the products at customers are hyperscale, but if you could walk us through that, that would be helpful?

[Wallace Kou, President and CEO]

Can you repeat your question again, Suji. You’re talking about open channel.

[Suji Desilva, Roth Capital]

SSD solutions, the competitive landscape there versus the SSD client solutions and also on open channel, the competitive landscape on those two areas.

[Wallace Kou, President and CEO]

So for SSD solution, we have two part. One is the Ferri. The other is Shannon SSD solutions. For Ferri, the competitive landscape come from the NAND maker, however that portion is not so attractive to the NAND maker. For example, for automotive, the design cycle is very, very long and the volume won’t be very big and you need a very intensive training to support. So some NAND makers only want to capture very large program from leading model and so that becomes very favorable for our business.

For Shannon business, for enterprise, definitely, there are many different competitors, majority also come from NAND maker such as Intel, Samsung and WD and Micron coming. China, we don't see really a visible player in the market, although some play very, very low price. We see Shannon has a very good position to be the strong relationship with Alibaba extend to the second hyperscale customer and we believe by end of this year, our open channel to grow to much broader space and heading forward to 2019. And 2019 could be the really visible year to grow our open channel business.

[Operator]

[Operator Instructions] We have the next question from the line of Mehdi Hosseini.

[Mehdi Hosseini, Susquehanna International]

I have two and one for Chairman, Wallace. You talked about NAND pricing trend and I want to better understand your thought processes on availability of NAND. Most of the manufacturers have talked about a 40% to 45% NAND growth. Is that what you’re expecting? Is that what is behind your ASP assumption and if not, how should we compare that to your thought process? And I have a follow up for Riyadh.

[Wallace Kou, President and CEO]

Our estimation about the growth for 2018 align with the NAND maker. They are just about the growth, 40% to 45%. That’s correct for 2018.

[Mehdi Hosseini, Susquehanna International]

Sure. Because the reason why I asked that is, they also have talked about the pricing trend that you mentioned kind of a decline in the first half, but then increased prospect of prices flattening into the second half. Is that why there is a lack of visibility that you mentioned that has gone into your revenue guide for 2018.

[Wallace Kou, President and CEO]

And that is also correct and we do believe we should start to see NAND price decline from late Q1, moving to early Q2. But some NAND makers really position because there's certain smartphone maker will like to double their in the second hand new models. So that increased uncertain factors regarding NAND price trend and supply. However, I think this is really a token to two side equation. If the NAND price continues to stay high and this is really impossible for many makers to double them. NAND prices have to go down and go down further and smartphone would double. Frankly speaking, many, many consumers, they’re satisfied with the 24-gigabyte or 128-gigabyte. Not many really want 256-gigabyte, right. So, but however, NAND maker, they really position that way, so we have to combine with the duration while they stayed. So we try to make a conservative way to provide the guidance for the whole year.

[Mehdi Hosseini, Susquehanna International]

And then for Riyadh, there was a gain from disposable of other assets. Was that the reason why R&D went down? How should I think about it?

[Riyadh Lai, CFO]

Mehdi, R&D is different from the disposal of assets. The disposal of assets relates to a piece of property that we sold off and we had a again on that disposal of that property. Separate to that is our expenditures relating to our R&D, they vary quite considerably sometimes quarter from -- quarter over quarter and for certain quarters, we may have higher expenditure related -- generally related to the timing of tapeouts. Our headcount expenditures generally are fairly smooth quarter-by-quarter, but they may spike up or spike down depending on the tapeouts of our projects. And so those are the key movements resulting in the operating expense changes we've had in recent quarters.

[Mehdi Hosseini, Susquehanna International]

Very quickly what is the pro forma R&D and SG&A for Q4?

[Riyadh Lai, CFO]

We don't provide operating expense per se, but it’s implied from the operating margin difference to gross margin, the difference between the operating margin and the gross margin. So afraid you have to work out your math.

[Operator]

At this time, there are no further questions. I would like to hand the conference back to Mr. Wallace Kou, President and CEO for any closing remarks.

[Wallace Kou, President and CEO]

I would like to thank all of you for joining us today and your continuing interest in Silicon Motion. We will be attending several conferences in Asia and US in the first quarter. Details of these events will be available on our website. Thank you and goodbye for now.

[Operator]

Thank you, sir. Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.