Melexis NV

XBRU:MELE

Earnings Call Transcript 2019-Q2

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to today's Melexis Quarter 2 2019 Results Conference Call. [Operator Instructions] I must advise you that this conference is being recorded today, Wednesday, 31st of July 2019.And right now, I would now like to hand the conference over to your first speaker today, Ms. Françoise Chombar. Please go ahead, ma'am.

[Françoise Chombar, CEO, MD & Director]

Thank you. Dear audience, welcome to the Melexis earnings call for the second quarter of 2019. As usual, I will comment on the business environment. And in the absence of our CFO today, who is out for a planned medical treatment, Geert Reynders, who is our Investor Relations, will then shed some light over the financial perspective. And of course, we will be happy to answer your questions afterwards.Melexis' sales for the second quarter of 2019 came out in the middle of the guidance provided in April and has shade better than in the first quarter. The percentage split per region is now more in line with historical numbers. Asia has recovered a bit from the drop in Q1, Europe is weaker in line with car sales. We estimate worldwide car production year-to-date to have fallen 7.7% on the back of sales year-to-date, which has declined 6.3%. The worst figures came in from China with a 12.4% less vehicles sold year-to-date despite: one, the VAT cutback; and two, the destocking of China 5 vehicles ahead of the China 6 emissions introduction start in July. The country's auto industry is suffering from the China-U.S. trade tensions, the recent electric car subsidy reductions and the continued absence of government incentives.Year-to-date car sales in Europe remained negative versus the previous year, though only by an estimated 1.2%. Amidst legislation uncertainties, people continue to postpone decisions on which car type to buy. Also, U.S. car sales slowed with an estimated 1.9% shaving year-to-date. All these is leading to a slowdown in the global auto industry and a buildup of pent-up replacement demand that will be unleashed at some point in time. Although we now estimate inventory that customers to be below the level in the beginning of the year, inventory corrections are happening more slowly than anticipated. With all the aforementioned adverse macro conditions rippling across our industry, it remains uncertain at which moment a change in order behavior will occur. Visibility does remain low. That is why we guide for Q3 sales to be around the same level as Q2.This thing said, I'd like to highlight the solid performance of 2 product lines in the second quarter linked to automotive semiconductor content growth namely, embedded drivers and pressure sensors. Indeed, growth of smart embedded drivers is expected to remain steady in the next years. Smart and small motor peripherals give vehicle manufacturers and our direct Tier 1 customers an easy solution to add motor functions and diagnostics in a flexible way while winding down wiring and weight. Market drivers for this product line in the past included LIN flaps to mix warm and cold air in the HVAC system, as used by European OEMs. There were 10 to 20 flaps per car. This market is now growing even faster, thanks to the LIN flap adoption by North American and Asian car manufacturers.Additionally, we see new motor applications being produced in higher volume such as air grille shutters at the front of the car to reduce air friction and energy consumption, or more efficient engine cooling fans to cool the radiator, or small water pumps for optimal thermal management of electric car batteries to guarantee longest driving range. One interesting example where the synergy between the Melexis sense and drive technology capabilities is being capitalized on is the fuel vapor pump, which removes excess fuel vapor and where both our embedded motor drivers and pressure sensors enable lower emissions.Which brings me to the second product line, pressure sensors. The recent legislations in China called the China 6 norm, and in India called the Bharat 6, call, amongst other things, for reducing the pollution generated by gasoline fuel vapor escaping in the atmosphere. Handling fuel vapor is especially critical with hybrids where the fuel vapor pressure buildup in the tank keeps increasing while in electric driving mode, and that's where Melexis pressure sensors come in. They're also ideal for motorcycles that are space-constrained by nature and in which Melexis solutions also help to reduce emissions especially in India, making the planet a better place to live for all.Another Q2 highlight is that Melexis was named a 2019 Best of Sensors Award winner at Sensors Expo in San Jose, California end of June. Our medical grade temperature sensor was recognized as the winner of the Excellence in Sensors Innovation category. It is indeed an ultra-small complete solution in a single 3x3x1 millimeter package, including the sensor element, signal processing, digital interface and optics. It is the world's smallest medical-grade far-infrared sensor. Its high thermal stability and optimization for human body temperature makes it ideal for a new class of medical applications that are currently out of reach for other far-infrared sensors. This includes, for example, wearable health monitoring devices, hearables, medical-grade contact sensors, smart glasses, point-of-care applications as well as classic medical devices such as forehead and ear thermometers.So in view of the long-term trends towards more electrified, more autonomous and more personalized vehicles on the one hand, and new opportunities in adjacent markets such as industrial consumer and medical markets on the other, Melexis sees continued new opportunities for its sensor and driver components.My conclusion today is the same as of the previous 2 quarters. We are realistic and not satisfied about the current situation, but we remain positive and confident about our future.Geert, please go ahead with commenting on the financials.

[Geert Reynders, Head of IR]

Thank you, François. Ladies and gentlemen, Melexis' sales for the second quarter of 2019 were EUR 120.0 million, a decrease of 15% compared to the same quarter of the previous year and an increase of 3% compared to the previous quarter. The euro-dollar exchange rate evolution had a positive impact on sales of 3% compared to the same quarter of last year and no impact compared to the previous quarter. The growth result was EUR 49.8 million or 41.4% of sales, a decrease of 24% compared to the same quarter of last year and an increase of 6% compared to the previous quarter.R&D expenses were 16.3% of sales, G&A was up 6.5% of sales and Selling was at 3.4% of sales in the quarter. The operating result was EUR 18.4 million or 15.4% of sales, a decrease of 48% compared to the same quarter of last year and an increase of 17% compared to the previous quarter. The net result was EUR 15.6 million or EUR 0.39 per share, a decrease of 45% compared to EUR 28.1 million or EUR 0.70 per share in the second quarter of 2018 and an increase of 12% compared to the previous quarter.If we then look to the first half year of 2019, sales were EUR 236.5 million, a decrease of 16% compared to the first half year of 2018. The euro-dollar exchange rate evolution had also here a positive impact of 3% compared to the first half year of 2018. The growth result was EUR 96.5 million or 40.8% of sales, a decrease of 25% compared to the same period last year. R&D expenses were 16.6% of sales, G&A was at 6.5% of sales and Selling was at 3.3% of sales. The operating result was EUR 34.2 million or 14.4% of sales, a decrease of 51% compared to EUR 69.7 million in the same half year of 2018. The net result was EUR 29.5 million or EUR 0.73 per share, a decrease of 48% compared to EUR 56.9 million or EUR 1.41 per share in the first half year of 2018.The Board of Directors decided to pay out an interim dividend of EUR 1.3 gross per share. The Melexis shares will start trading ex coupon on October 22, 2019, and the dividend will be payable as from October 24.Melexis expects sales in the third quarter of 2019 to be in the range of EUR 117 million to EUR 123 million, with a gross profit margin of around 41% and an operating margin around 15% at the midpoint of the sales guidance. Melexis expects its full year 2019 sales level to remain below the previous year. Gross profit margin is expected to be around 41%, taking into account a EUR/USD exchange rate of 1.13.We are now available to answer your questions. Operator, please go ahead with opening the Q&A session. Thank you.

[Operator]

[Operator Instructions] Right now, we have 3 questions coming. And our first question comes from the line of Francois Bouvignies.

[Francois-Xavier Bouvignies]

The first one I have is on the comments you made on the outlook and the visibility that remains low. Given the discussion that you have with your customers, I was wondering what can you -- what is the probability for you that the uncertainty remains for early 2020 given the discussion with your customers?

[Françoise Chombar, CEO, MD & Director]

Yes. It is of course a bit early to already discuss 2020. The usual lead time for our product is around -- is rather around 16 on average, sometimes a bit more, sometimes a bit less. So it is a bit early. But a lot of course depends on how car sales will evolve because as long as car sales are in the negative, customers, in general, are, yes, not very keen on starting up or on ordering new material as they still have quite some material in the pipe. So even though the discussions are centered around, well, the bullwhip effect is there, et cetera, I think it's, for the moment, still much too early to say anything about 2020 even in the discussions with our customers.

[Francois-Xavier Bouvignies]

Yes. All right. I understand. And if we look at the inventory and the supply chain, you said that's lower than in the beginning of the year. Obviously, early in the year, it was very high. So it looks like the inventories are not going down as fast as you said. How long do you think it's going to take really to completely clean the inventories and the supply chain? Your best guess.

[Françoise Chombar, CEO, MD & Director]

Well, your crystal ball isn't good as mine. I don't know. I cannot -- I think it's -- it would not be good idea to speculate over this.

[Francois-Xavier Bouvignies]

And even when you discuss your inventory situation at your customers, they don't tell you at all where they are, when they think it's going to be done, et cetera?

[Françoise Chombar, CEO, MD & Director]

Well for them, it's also a question of what their customers' needs are. And of course, if as long as the car manufacturers do not increase their requests, the same will happen to our customers. They will not increase their requests to us. And yes, you know the future is just a tweet away these days. So unpredictability is everywhere.

[Francois-Xavier Bouvignies]

And that's true. My second question was with regard to your own inventories. Still fairly high. And previously, you were saying that you were happy with your current results. Just wanted to check with you if you -- still -- are you still happy with this level? Or do you plan to reduce it in the next few quarters?

[Geert Reynders, Head of IR]

No. That remains unchanged. So -- and we communicated earlier, we see the level of inventory where we are -- where we were, let's say, 1 quarter ago and where we are more or less so today as strategic. And we see no reason to change that view. So we are happy with the levels of today. And that being said, we also expect going forward that it will not change that much on in absolute numbers.

[Francois-Xavier Bouvignies]

Okay. That's clear. And maybe if we -- if you can comment on the geographic perspective. I mean if you look at the outlook for each regions, you talked about China being challenging. How do you see Q3 and Q4 trending for each regions would be very helpful.

[Françoise Chombar, CEO, MD & Director]

Q3 per region, that is also difficult to say. But I think our geographic sales distribution is now more in line with historic figures. So somehow things have already stabilized as such. But of course, the Chinese drop in car sales is still pretty big. So I do not exclude that maybe if the car sales keep dropping, that the China sales, the -- sorry, the sales in APAC, in the APAC region, might follow that trend. This being said, we have also a little decline in Europe and North America, so I presume that from now onwards, the trending of the distribution in sales will be more or less what we see in car sales. This being said, sometimes, production that we deliver into Europe goes to China. The parts, as modules or systems, they go to China and it could also be vice versa. Things that are going to China or to Asia-Pacific end up in cars that are being sold in Europe or in the U.S. So it's -- as you know, the automotive industry is extremely global industry with a very long cycle, with many, many intermediaries, many subcontractors. And it's extremely hard to predict especially since also these tariffs are -- have come onboard. What we see is our customers are reshuffling their supply chains where they can. Sometimes they can't, but sometimes they can and then you see changes in distribution over the world. But that's again extremely hard to follow or to predict. But we did see some shifts from here and there. So our customers are trying to be as local as they possibly can in their supply chain.

[Francois-Xavier Bouvignies]

Okay. And maybe the last one for me. If we look at your -- the production of cars, most of industry players are talking about mid-single-digit down in production of cars. And then if we look at your performance this year, it looks like the sales are going to be more like towards minus 15 plus given the year-to-date performance. If I look even back, your revenue growth has been more than 3x outperforming or underperforming the production of cars. So I was wondering how can you explain such big gap between the production on the up and down for Melexis if this was the case versus your competitors?

[Françoise Chombar, CEO, MD & Director]

Well, the explanation has been given, I think, already in the past as well. So that is what we call the bullwhip effect. So the further down you are -- the further upstream you are, the biggest the variance is. And that is what explains the high drop or the higher drop in Melexis in sales than you would see in car production. This is a very typical effect that you see in this bullwhip concept, so it's not unusual.

[Francois-Xavier Bouvignies]

Okay. I was just surprised that so vast is your competitors which are on the same stream...

[Françoise Chombar, CEO, MD & Director]

Well, that depends a bit if you compare -- it depends on which ones you compare it with. There are some that are, let's say, more digital than us, with large GPUs, for example, for assisted drive. These are very expensive parts. In as far as our mixed-signal devices or digital/analog devices is concerned, the USP is a little lower -- sorry, the ASP is a little lower, but it depends a bit on which segments the competitors address. If it's more mixed signal, then they will see the same drop. If it's more pure digital, and especially when it is directed at assisted drive or autonomous or more autonomous driving, then they compensate. Or it is because of, for example, semiconductor segments that we do not play in, like the MOSFET silicon carbide and areas like that, which are also high ASP products.

[Operator]

Our next question comes from the line of Janardan Menon.

[Janardan Nedyam Menon, Technology Analyst]

A quite lot of my questions have been asked, but I just wanted to narrow down on the inventory side. You said that it's below the level of the beginning of the year, but obviously, not yet at the level that it should be. Can you give us an idea of how far we are in terms of -- I mean, not in terms of time that it will take to bring it to a normal level, but just where is a desirable level versus where it is now, how far? Have we come halfway down or quarter way down or something like that? Any kind of qualitative comment there? And also, when you say inventories, are you talking about absolute inventories levels or are you talking in terms of inventory days?

[Françoise Chombar, CEO, MD & Director]

Well, all is in the end relative to what the needs downstream are. So what is certain is that the levels have somewhat come down but not far enough apparently for our customers to change their ordering behavior. And this is both in terms of number of days and also there, yes, number of days is relative to the demand and as well as in the value. So it's very, very difficult to put a number on this on how far are we there, but I was talking about inventory downstream.

[Janardan Nedyam Menon, Technology Analyst]

Understood. And then just another one in other previous question. The difference between the revenue decline that you're seeing in sort of the mid-teens kind of range versus the production. I'm just wondering where content growth because the bullwhip effect that you're talking about is predominantly to the inventories at different stages of the supply chain, et cetera. I'm just wondering how -- where is content growth figure in that whole equation? Maybe to put the question another way, are there areas of very high content growth where you are seeing positive trends right now? And some of your competitors have sort of broken this down into a legacy automotive and sort of the high-growth automotive part. Are there sort of high-growth areas within your portfolio, which are showing year-on-year growth rates right now? And it's just that, what can be categorized as legacy where there isn't that much of content growth on dragging it down quite significantly at this point in time?

[Françoise Chombar, CEO, MD & Director]

Yes. Well, that's very well said, I must say. So the point is that what others might call legacy is primarily in the mixed-signal area. But also in those legacy products, there is innovation going on and there are new applications coming onboard gradually. And the ones that I was talking about in my introduction, so the embedded drivers, for example, and also the pressure sensors, those are exactly examples where content growth really is already showing. Of course, once car sales will pick up again, you will see this more and more coming onboard. But legislation is driving this and equally, the willingness of car manufacturers to be differentiating their cars in terms of emissions, in terms of energy consumption, in terms of safety and in terms of personalization. So we see a large opportunity in all those what you call or what other of our peers might call legacy products where we see still a lot of innovation. And that goes back to what we explained also at our Analyst Day in December. So nothing has changed in that respect. And the long-term story and the opportunities that underpin it remains fully intact.

[Janardan Nedyam Menon, Technology Analyst]

Understood. And just my last question is on the nonautomotive side. Your decline -- the revenue declines there are still very, very significant, 35% to 40%. Again, some of your competitors or rather the company is selling into the distribution channel in China have said that they are seeing some kind of a bottoming out there even as the automotive business is still quite weak. Is that something that you were seeing, that the -- there is some inventory situation on the nonautomotive side of the distribution channel, especially in Asia, is bottoming out and could see some improvement into the second half even if the same cannot be said about the automotive side?

[Françoise Chombar, CEO, MD & Director]

Yes. We have seen indeed inventories in the distribution channel coming down. That is correct. And I would say I don't exclude that there is a bottoming out. The time will tell. Today, I think it's too early to say that, but yes, inventories have come down. And it could be indeed for those applications in adjacent markets, we might be at the bottom. I don't exclude, but I cannot confirm it either.

[Operator]

Our next question comes from the line of Matthias Maenhaut.

[Matthias Maenhaut, Senior Equity Research Analyst]

Matthias Maenhaut, Kepler Cheuvreux. First question is actually maybe a follow-up on one of the previous questions. And so if I understood well, there are no customers that are currently giving the indication that despite all these challenges and all the strength, the automotive supply chain isn't growing at this point in time, that they are slowing down the pace of innovation at what others call, those so-called legacy business. So you do not see any slowing down there of innovation that could potentially, in the short or mid-term, impact content growth going forward?

[Françoise Chombar, CEO, MD & Director]

That is correct, that is correct. The only area where it might be a bit less sometimes is in maybe the comfort functions that's even there. We see that -- or you could imagine that this would be less, but then you would see it in the very complex areas maybe, which are still very small in terms of market potential. But in the larger areas, like the ones I've highlighted in embedded drivers or pressure sensors, we see the pace of innovation is steadily going. There is no reduction of attention or of speed. So that's why also for us, it's important to keep developing, to keep our development even if we keep our costs well under control. It is still important to keep our development community going ahead with all of the developments that we have. So no developments have been stopped or slowed down, and new business cases come onboard at the same level as we've seen in the past. Does that answer your question, Matthias?

[Matthias Maenhaut, Senior Equity Research Analyst]

Yes, it does. The second question that I have was actually on the free cash flow generation. You already discussed inventory, but there was some other investments in working capital. So I think working capital investment is now standing at EUR 40 million -- roughly EUR 40 million for the first half. How should we think about that going forward? Are you still going to invest in working capital or some of those elements are going to reverse? Can you give a little bit more color on working cap?

[Geert Reynders, Head of IR]

Yes, Matthias. Indeed correct, the first half year of 2019, we have seen a significant, let's say, cash-outs going into working capital. To summarize on that, the most important elements are into our net inventory. On the other hand, tax cash-outs or cash-outs in income taxes. Going forward for the second half of the year, we expect that this will -- well, this will not be the case anymore for income taxes. We have basically had the cash-outs. We're done in the first half and set for inventory and also for working capital in general, we think we are at the high -- highest point today, so it will not further require cash. So that being said, cash flow will improve in the next quarters.

[Matthias Maenhaut, Senior Equity Research Analyst]

But do you think that your steps on the investments will reverse so then it will be lower at EUR 40 million for the full year or it will probably remain around EUR 40 million for the full year?

[Geert Reynders, Head of IR]

For inventory, it will probably stay around the same levels. The same is true for receivables. There were some other current efforts, which mainly are linked to receivables on VAT and deferred charges, which might reverse in the second half. So there we expect an improvement.

[Matthias Maenhaut, Senior Equity Research Analyst]

And the cashbacks out on probably remain stable for the full year?

[Geert Reynders, Head of IR]

That will more or less remain where at this point. No substantial increases there to be expected.

[Operator]

Our next question comes from the line of Marc Hesselink.

[Marc Hesselink, Research Analyst]

First, coming back on those innovation cycle and also related to your own R&D cost. I think if I remember correctly on previous calls, I can see that you continue to invest -- you said that you continue to invest in -- on the R&D side. But now, it seemed that it's slowing down a bit. Could you relate that to your earlier comments on that innovation cycle still continue? And second question is -- it maybe first on this one, yes.

[Françoise Chombar, CEO, MD & Director]

Okay. Yes, well, we continue on the developments, but we are not -- we are very Spartan, let's say, on what we spend. For example, we do not allow our people to travel too much. If it is needed for customers, we do because there is no restriction on traveling to customers. But on other travels, we do have a restriction, also on external services. So we're extremely frugal everywhere, but without sacrificing the long term. So anything that is business critical, anything that would if not done impact negatively our long-term, we do not do. So we are extremely -- we choose really what we do. And that is a bit, yes, being a bit more frugal than otherwise.

[Marc Hesselink, Research Analyst]

Okay. Clear. And would you then imply that this smaller growth level that we see now in this quarter is likely to continue in the coming quarters?

[Geert Reynders, Head of IR]

Well, we guide operating costs to remain around the levels where we are today also for the next quarters.

[Marc Hesselink, Research Analyst]

Okay. And the other question is on the -- which you discussed earlier on, on the bullwhip effect. Clearly, so 2010, you were pretty sure that's V-shaped recovery. Given now, maybe that's also a decline, it's in a little bit modest steep as it was at those time. What kind of recovery then likely in the industry if we see that the volumes are picking up again? Is that capable of the -- those are -- today, you would have then also implied you see a very steep recovery? Or do you think it would be more gradual?

[Françoise Chombar, CEO, MD & Director]

Well, in comparison to what we saw in the crisis years '08, '09, there, the -- of course, we have, on top of that, a serious financial crisis, which then triggered an economic crisis. So we had a perfect storm. And even though overall -- over the long -- over the year, we only had a couple of percentages down in car sales, the drop was much steeper for Melexis, but also the ramp-up again afterwards, the recovery was much steeper. What we see now is that the total car sales is a bit more down but over a longer period of time. So the drop is somehow not so big as it was back then and therefore, the recovery might also take a bit longer. Usually, in the cycle, it takes between 4 and 6 quarters to recover. But again, every crisis is a bit different, so it's very hard to predict, but that's where I think we should be looking at. But again, the future is unpredictable, so...

[Marc Hesselink, Research Analyst]

Sure. And if we went inside the 4 to 6 quarters, would that also be the time that you need to recover your margins to be -- to the level that you had before the slowdown?

[Françoise Chombar, CEO, MD & Director]

Well, that will be dependent, of course, on how fast the recovery around will look like. And I think it's really too soon to tell anything about 2020. We will do that when we get there, meaning in February.

[Operator]

Our next question comes from the line of Jeff Osborne.

[Jeffrey David Osborne, MD & Senior Research Analyst]

Most of my questions have been answered, but I have a few. Any sense on what we should be thinking about for capital expenditures for the year in light of the elongated automotive slowdown? Are you considering slowing down the rate of any expansions in Sofia or any of the other locations that you had in mind?

[Geert Reynders, Head of IR]

Well, we have the CapEx for the first half of EUR 15 million. We guided for a level of EUR 45 million in the beginning of the year. With all the information we have now on the table, we expect that it will be a bit less so rather in the -- around EUR 40 million. So it's still for the second half the investments that we plan in our test facility in Sofia they continue as before. The lower expectation is on behalf of a bit lower investment in equipment, which is on the -- as a result of the top line, which is about -- which is what it is today. So EUR 40 million for the year rather than EUR 45 million.

[Jeffrey David Osborne, MD & Senior Research Analyst]

Got it. That's helpful. And then just more broadly in terms of cash and capital allocation. Can you just talk about -- I think you added about EUR 28 million of debt in the quarter -- long-term debt, if I'm reading it right. And then you've got the dividend payment, which you confirmed in the release this morning. I'm just curious why the dividend wouldn't go down? Or you had preserved some of the cash especially given the working capital challenges you had in the first half, the elevated CapEx in the second half and other visibility? Can you just talk about your broader capital allocation strategy as a whole?

[Geert Reynders, Head of IR]

Well, the Board has decided to keep the interim dividend stable versus last year. Main reason for that is that we continue to believe that we will see, at a certain moment in time, a recovery. So we continue to be a very profitable and company having strong cash flows. Let's say, in last quarter, last year, we have seen a couple of one-offs. Like I explained earlier, we have seen an increase in working capital. We have had cash-outs related to income taxes. But these elements going forward look different in terms of cash-outs, which means actually that we expect the link between, on the one hand, profit and cash flow -- the cash flow, which comes out of the profit will be better than it was in the last quarters. So that's an important element to take with you. And on capital allocation, we continue to distribute substantial part of our profits to shareholders. That being said, we -- I think we will have to see going forward next year where we are at that moment and take again a new decision. But that's far too early. So we feel very confident that with the dividend distribution as it has been decided. And we think the cash-outs with respect to working capital are, let's say, much lower going forward.

[Jeffrey David Osborne, MD & Senior Research Analyst]

That's helpful. I had 2 other quick ones, if you don't mind. But one is on the guidance. Can you just remind us of your typical visibility? As you provide guidance, I think you mentioned that the typical lead times are 16 weeks, if I heard you right. But does that mean you're fully booked for the guidance? Or how should we think about that?

[Geert Reynders, Head of IR]

Yes. I think the -- like we said in the press release, visibility remains low. So we give guidance for 1 quarter. And we are -- we cannot see much shorter than that at this moment. And that's also the reason why we refer to later statements with respect to Q4 and the beginning of next year. So from that perspective, I think visibility is, yes, it's a different situation than, let's say, 1 year ago.

[Jeffrey David Osborne, MD & Senior Research Analyst]

Got it. And then the last one I had is just can you talk about the sort of cadence of product cycles? And where I'm going with this is just is there risk to inventory obsolescence in some of your better-selling magnetic sensors, haul sensors, pressure sensors, et cetera? As you come out with new products and your inventory is a bit high here for the past 3 to 4 quarters. If the auto market remains in a subdued state for another 6 months or so, is there risk to a material write-down of the inventory as we enter 2020 just as you come out with new product cycles that replace older ones or no?

[Françoise Chombar, CEO, MD & Director]

Well, if you make a comparison to the same period of last year, it's not that our to-date inventories are too high, but rather that the previous years' inventories were too low. In Q2, we were still -- last year, we were still at -- yes, in some cases, in allocation. Now the inventories we build up are strategic, but they are also only done in those areas where we are sure that they remain sellable. So anything -- any risk of obsolescence is not more than usual. So when the recovery will take place, those excess inventories, from today's point of view excess, will no longer be excess because they will be a blessing. If everybody has been in a waiting mode to order and then suddenly and that happens because of the -- there's not only a delay when you go upstream, but there is also a delay in information. So when customers will suddenly find out that they have too less inventory and they find out too late, then Melexis will be able to deliver and take advantage of that.

[Operator]

Our next question comes from the line of Michael Roeg.

[Michael Roeg, Analyst]

Michael Roeg from Degroof Petercam. If I look at the guidance for Q3, it seems as if your business is stabilizing in the first 3 quarters of the year both in terms of sales and in gross margin. Now, I don't know whether it's a coincidence or not, but if I look at the gross margin, it's about 500 basis points lower than your previous peak. And this is roughly the same what happened in the previous downturn. Could you tell me where do you have the impression as your gross margin is currently bottoming out? Or are there any other mechanisms that could perhaps push it even lower than it is today?

[Geert Reynders, Head of IR]

Well, the difference in gross margin is for a big, big portion related to underutilization of capacity. So that's a mechanism, which simply plays and which has an impact depending on the top line level we see at this moment. So -- and taking into account our current equipment or depreciation, the people we have on the floor, we are -- or we end around that 41%, with the top line of EUR 120 million. That can still deviate quarterly, let's say, because of over influences like product mix, like yield losses or profits and so on. But that is basically how it works. If top line increases, we will see an improved gross profit margin.

[Michael Roeg, Analyst]

Okay. That's very helpful. So utilization is the main game changer. A follow-up question on that. Inventory buildup, or hopefully, release in due time, is there something that can have a meaningful impact on your gross profit or not?

[Geert Reynders, Head of IR]

It's -- at this moment, it's not really playing. I think the impact of the inventory moving a couple of millions, up or down, is not -- is neglect-able. The main driver in the GPM difference in Q2 versus Q1 is the different product mix.

[Operator]

[Operator Instructions] There are no further questions at this time. Please continue.

[Françoise Chombar, CEO, MD & Director]

Okay. Thank you. Dear audience, we thank you for your attention, and hope to have your attendance again at our next conference on October 23. Goodbye, and have a lovely summer.

[Operator]

Okay. That does conclude our conference for today. Thank you for participating. You may all disconnect. Speakers, please stand by.