Melexis NV

XBRU:MELE

Earnings Call Transcript 2020-Q3

[Operator]

Hello, and welcome to Melexis Q3 2020 results call. My name is Rinkel, and I will be your coordinator for today's event. Please note, this conference is being recorded. [Operator Instructions] I will now hand you over to your host, Francoise Chombar, to begin today's conference. Thank you.

[Francoise Chombar, CEO, MD & Executive Director]

Thank you, operator. Dear audience, amidst all the economic, social and health-related strains, I hope you are all holding out well. Thank you for attending the Melexis third quarter earnings call. Let's first get a view on the overall business and then dig into the financials. After that, our CFO, Karen Van Griensven and myself, will be happy to answer any questions you may have. So let's look at the overall business. After a thorough low in Q2, the third quarter came out quite a bit better than we guided. During the quarter, customer sentiment kept improving and September saw a substantial uptick in orders. Thanks to proactive supply chain and inventory management, Melexis was able to meet this increased customer demand, leading to a quarterly sales growth of a nice plus 21% versus the previous quarter and this, despite a 2% negative impact due to a weakening U.S. dollar. We estimate inventories at customers today to be still at low levels. The current order book is steering towards a sales growth of about 15% quarter-on-quarter, though we still have to guard against uncertainties surrounding the current COVID-19 waves in many parts of the world. The rebound is mainly spurred by Asia and particularly China, where car sales are showing growth versus the same quarter in '19 and '18 from June to September in a seemingly sustainable way, whereas other areas of the world are rather stuttering into a recovery. I'd like to highlight that in these on-off pandemic times, our teams have been remarkably resilient and productive. Our product launches are even accelerating. And what I'm really happy about is that half of the sensor and driver components launched so far this year were specifically conceived and designed for adjacent markets. They include smart drivers for motorcycle pumps and best-in-class acoustic and top performance drivers for fans and pumps in home applications and portable tools.We continue to expand our already extremely broad latch and switch portfolio to serve cost-sensitive applications, such as power tools, PCs, servers and home appliances with features that simplify design and ensure stable magnetic characteristics. Some of our launches target both adjacent and automotive markets. For example, a new universally applicable 3D position sensor for automotive and industrial markets, one that can redefine the way a wide number of applications are designed in HMI, human machine interface, top column, center stack and body control because of its strengths, high sensitivity and versatility, coupled with low power and small size. We also released our third-generation QVGA, fully integrated time-of-flight solution, which we already announced last year when we launched its bigger VGA brother. These 3D camera solutions are ideal for automotive use cases like driver monitoring systems, hand movement and robust gesture recognition and in-cabin monitoring systems. They deliver intrinsic robustness with respect to scenes with low contrast and strong sunlight, which are usually a severe challenge for conventional 2D image sensors. And this makes them ideal for applications where reliability and availability of data is important. These twin brothers are also targeting other markets and applications, such as robust people counting and object or obstacle detection. And last, but not least, our automotive embedded light family now also provides intelligence animated lighting capabilities that help our customers to enhance modern safety features such as driver assistance prompts and vehicle status information. In the third quarter, the outperforming product lines were embedded motor drivers, temperature sensors and the magnetic sensor product families. 9 months year-to-date, the adjacent portion of our sales grew 50% versus the same period last year and that is in line with our strategic intent. All in all, we are cautiously positive for the short term, while we remain fully confident in the growth potential of both our automotive and adjacent markets longer term. For more insights into the financials, I now turn you over to our CFO. So Karen, please go ahead.

[Karen Van Griensven, Chief Financial Officer]

Thank you, Francoise. So welcome, everybody. A bit more on the financial figures for the third quarter of Melexis. So the sales for the third quarter of 2020 were EUR 121.6 million, a decrease of 1% compared to the same quarter of the previous year and an increase of 21% compared to the previous quarter. The Euro-U.S. dollar exchange rate evolution had a negative impact on sales of 2% compared to the same quarter of last year and a negative impact of 2% compared to the previous quarter. The gross result was EUR 49 million (sic) [ EUR 44.9 million ] or 36.9% of sales, a decrease of 9% compared to the same quarter of last year and an increase of 16% compared to the previous quarter. Here, we can add as well that the revaluation of the Melexis inventory due to the weakening U.S. dollar versus the euro resulted in an exceptional negative impact of 2.4% on the same third quarter gross profit margin.R&D expenses were 15.4% of sales. G&A was at 6% of sales, and selling was at 2.6% of sales. The operating results was EUR 15.7 million or 12.9% of sales, a decrease of 14% compared to the same quarter of last year and an increase of 55% compared to the previous quarter. The net result was EUR 14.9 million or EUR 0.37 per share, a decrease of 3% compared to EUR 15.4 million or EUR 0.38 per share in the third quarter of 2019 and an increase of 54% compared to the previous quarter. So for the next quarter, we expect our sales to grow in the range of 15%, with a euro-U.S. dollar rate of 1.18.I would like to now open the question-and-answer session. So please go ahead, operator.

[Operator]

[Operator Instructions] And the first question comes from the line of Ruben Devos from KBC Securities.

[Ruben Devos, Senior Financial Analyst]

I got 2, basically. The first one relates to the great performance of the embedded motor drivers, temperature sensors and magnetic sensors. Can imagine there are many applications for these line of products. So I was curious whether you could talk a bit about that applications, which may be seeing accelerating growth rates? And looking at next year and beyond, where do you expect to allocate a higher share of your R&D spend, possibly? That's the first question. And the second one relates to COVID, the pandemic and the effect on businesses is very much in focus again. I was curious whether you could talk a bit about how you assess the risks related to COVID? And now that we're in the second wave, are there any differences maybe or similarity, you'd like to point out versus the first wave that we should take into account?

[Francoise Chombar, CEO, MD & Executive Director]

Okay. Thank you for your question. So on question number one, why are the -- why are these 3 specifically growing in Q3? Well, as far as embedded motor drivers is concerned, this has mainly to do with the fact that electrification of the automotive engine is clearly in the focus of all the OEMs. And on the other hand, also, many of these embedded motor drivers are also being used, so not only for engine control, but all like pumps and stuff like that, but also in the cabin, for example, for air conditioning. So it's a general pickup because the products we make are really highly integrated and very, very suitable to be used in decentralized environments like these pumps or valves that are used for the thermal management of batteries and particularly of battery electric vehicles. So that's the embedded motor drivers. Then, magnetic sensors. The magnetic sensor product family is very, very large. It goes from position sensors over latch and -- so say, the simpler, but highly integrated latch and switches as well as current sensors. So there's a huge number of products that are part of this family. They are driven by multiple trends. So also the electrification in cars, but also you had a higher integration of transmission of more comfort, more safety functions in cars. So it's a multitude there. Plus many of those, as I mentioned in my introduction, are also usable in industrial and consumer markets, in general. And we see that growing as well. Then the last one, you mentioned pressure, but in fact, it's temperature sensors that are high in demand, and they have been so since the start of the COVID-19 pandemic because they are used in a large number of different applications that are there to help individuals and help organizations to -- and help also countries in the end to battle against the virus. For example, they are used in all the diagnostics, in most of them and probably the majority of the diagnostics, because when you have to analyze DNA, you need to have a very stable temperature -- a very stable environment, and temperature plays a very big role in there. So almost all of the diagnostics that are used, that are being built for analyzing whether it's COVID-19 or other like DNA analysis, they need very, very accurate temperature sensing because it makes the results really reliable. And these are professional equipment. Then they are used also, and they have been used in the past as well already in thermometers. Ear thermometers, forehead thermometers, et cetera. But ours is extremely small. So we have been miniaturizing this temperature sensor for a long time. We've been working on this. And we can -- and it's a fact that we're the smallest medical-grade temperature sensor in the world, and nobody has a better one or a smaller one, for sure. So these handheld devices need to be extremely small. Then you have them in thermometers, for access, building access, yes. We also have some of them in all of our sites to measure temperature when people come in and those handheld devices that you see in airports and train stations, et cetera, they also can use our temperature sensor. And then what we see as a new avenue that has been accelerated by this pandemic, so that's definitely also a silver lining, is that telehealth or telemonitoring systems start really to come up now. And you've probably seen in the news, it's a good example of this, but it's -- there are other examples, but this one is particularly close to home, is Byteflies. And that's a start-up company that is doing pretty well now in providing hospitals with telemonitoring systems that are patches that you put on patients so that they can leave the hospital sooner, but they are still monitored by the doctors. So that relieves, in fact, hospitals and care centers from -- so they can free up beds, in fact, much faster. And I think that's a very nice application. And all of these or many of these temperature sensors really make a difference in the world, and it's nice to see that the investment that we have done since '99, we've been investing in temperature sensing and always getting it better and smaller and more reliable, I think, now are yielding results. And all of this is pretty sustainable business with also quite some growth potential going forward. So that is on the first question. On your second question. Well, to make the bridge between what I last said on the temperature sensing, in fact, we will continue to invest from an R&D perspective into all these growth potential -- all these markets that have growth potential. So we're going more and more into the adjacent markets, which include health and well-being at large, which is not only temperature sensing, but also magnetic sensing. We have quite some, since a couple of years now, been focusing also on alternative mobility that includes people mobility, but also deliveries. So motorcycles, e-motors, e-scooters, e-bikes, but also vehicles. So automated vehicles like for delivery, these are coming up. It's still small volume, but these are definitely coming up on campuses -- big campuses, universities, hospitals, et cetera, to deliver parts to the right place, which also relieves hospital workers and caregivers. But also robotics applications for factory automation. So these are -- that's the second market. And the third market that we see improving a lot has to do with 5G cloud because people are working much more from home. There's a lot in -- there's a lot of current sensors and smart drivers needed for server phones. And, of course, also gaming consoles that -- because when people have to stay at home, they have to do something. And so they start gaming more, using more -- these types of application, and that needs also smart drivers, current sensors, latches and switches, for example, in the joysticks, et cetera. So those are 3 main markets: The health, the alternative mobility and the edge sensors and drivers for everything that has to do with 5G and cloud applications. COVID-19 risks. Yes, maybe it's the fact that we've learned quite a bit during the first wave in keeping our people safe and healthy, we are applying now without any trouble. I think our people have already in March and earlier than that also in Asia, already in January, February, our people have been able to switch literally over the weekend to working from home. So our IT department has done that wonderfully. We have a very clear communication strategy. We communicate a lot with our people since this pandemic started. I think people feel safe to come to work. We've had some cases but well followed up and never any contamination case within the company, always from the outside. But always, we reacted -- our people reacted fast. COVID-19 task force is -- has a clear view on everything that's happening worldwide and is also supporting and having the support of the site managers on site. So I don't see today a significant impact on our operations by COVID-19. Of course, we have -- sometimes, we have to close for a day or 2 until everything is clear. We might have to close a certain area, but never in the past couple of months, never ever had we to close our sites -- any of our sites completely in order to contain the risk. So I think we've learned how to live with the virus, how to battle it when it surges and how to make sure that our customers and our business is not impacted at large. I hope that answers all of your questions.

[Operator]

We have a next question from the line of Francois Bouvignies from UBS.

[Francois-Xavier Bouvignies]

My first question was regarding your guidance for Q4. Could you give us some color around the mix within these revenues in terms of automotive, nonautomotive, would be very helpful.And given the sentiment is improving like you said in the release, how should we think about your lead time at the moment. Do you see a bit further than Q4? I have other questions, if I may, after quickly.

[Francoise Chombar, CEO, MD & Executive Director]

Okay. Thank you, Francois. So on your first, what's the mix in the guidance? We see, in fact, everything going up, both automotive and nonautomotive. And we see also all regions going -- or continuing growth. So both Asia -- both -- I mean, all 3 of the regions, Asia, Europe, U.S. The sentiment is indeed increasing. We don't give any guidance on Q1 yet. We will see that in February.Lead times. Well, the -- as we mentioned in the past, we kept our inventory quite high because also we have no indication now that there would be a turn to the worse. We are continuing that policy of keeping our inventories at a little higher level than a few years back, and that is because we know that the shortages or the capacity issues in the -- in -- or the capacity issues upstream, they are not gone. They will return. And they are, in some places, already returning now. So we see this exacerbated by the fact that our customers procrastinate and keeping their inventories low, which is not a good thing. We try to make them see that this is not a good thing, but it's a hard discussion to have. But we -- and why do we do that is because we see that upstream, there -- all of our suppliers are -- or some of our suppliers, at least, certainly in assembly, they are running really at full capacity. Somehow this will not go away. So that means that the lead times might again, be stretched in 2021. That's why I think it's a good thing that we kept that inventory as high as we did and, of course, it surged a lot at the end of the last quarter because everybody stopped ordering and didn't want -- and even postponed their orders, which creates this bullwhip effect, as you well know. But you see that the sudden surge in orders that we saw in the third quarter and particularly in September, yes, we could manage that because of that high inventory, even though some of the some of the orders we could not deliver, but most of them we could live up to.

[Francois-Xavier Bouvignies]

So you don't see a risk of double ordering -- yes, you don't see a risk of double ordering in this context given the COVID and you said -- yes?

[Francoise Chombar, CEO, MD & Executive Director]

No, we have no indications of that. Of course, there is some restocking. But again, we've taken the opportunity in 2019, but also now in 2020 to have more insights in the levels of inventories of our direct customers, but also of -- so we keep a much better eye on the end markets. And that's how we can relate to what is necessary when we do supply and demand reviews inside and taking decisions on which inventory to build on which type of products.

[Francois-Xavier Bouvignies]

Okay. That's very clear. And maybe a follow-up on this inventory and maybe it's a question for Karen on the gross margin. So can you explain a bit what is this evaluation of inventory because of the currency, I mean, why do you have to do it now? And what will be the impact in Q4? And you mentioned as well underutilization charges. When you started the year, you expected a few hundred basis points negative for the year. You don't talk about underutilization charges this quarter. So do you have any -- I mean, just trying to understand the gross margin really between revaluation, underutilization charges and mix would be great.

[Karen Van Griensven, Chief Financial Officer]

Okay. I can give you a bit of color on that. So yes, the revaluation has to do with -- well, for years, we had pretty stable euro-dollar conversion rates. But over -- yes, everybody has noticed as well that over the last few months, the dollar is now trading in another range versus the euro. We also buy quite some material in dollars so that we have a big portion of our inventory that is valued in U.S. dollar. And as you all know, we have more than 3 months stock. So it's a pretty -- well, it's a relative high inventory versus a few years ago. So if we need to revalue that, that has an impact temporarily. Once the dollar stabilizes again, and now the dollar has been trading in a narrow range for quite a few months but that's difficult to predict how that will move forward, then this effect will disappear. But yes, for the third quarter, this effect was in the range of 2.4%. As we have more than 3 months stock, this effect will also last in Q4. But the effect will be -- we expect it, depending on how it will further evolve, of course, the dollar. But with a dollar that we see today, we expect the effect to be less, but there will still be an effect. Going then to underutilization. There, we can say that in the short term, we expect that -- yes, the underutilization is in the range of -- or we can improve 1% to 2%. In the longer term, it is 3%. But looking 1 year ahead, it's in the range of 1% to 2% that we could see regain from better utilization.

[Francois-Xavier Bouvignies]

Okay. So you still have today -- today, you have still 1 or 2 percentage points drag to underutilization charges. Is that right, in Q3 and Q4? Okay. Okay.And just so to explain, the inventory is down roughly 10% quarter-on-quarter. So how much is because of the currency -- is driven by the currency on the balance sheet. It's...

[Karen Van Griensven, Chief Financial Officer]

You mean?

[Francois-Xavier Bouvignies]

On your inventory of EUR 132 million, your current -- it's down 10% or so quarter-on-quarter. This is mainly due to currency then affected revaluation?

[Karen Van Griensven, Chief Financial Officer]

It's both. It's reduced material, but also reduced a few millions. It's also due to the devaluation of the dollar.

[Francois-Xavier Bouvignies]

Okay. But -- okay. That's very clear. And okay. Okay, I see. And last time, very quickly, last question is on your tax rate and OpEx for Q4, what should we expect? And the tax rate has been very low. So you just give us an idea of what we think for the full year and maybe '21, would be great?

[Karen Van Griensven, Chief Financial Officer]

So in Q4, we expect operating expenses -- well, seasonally, we see Q4 as stronger in operational expenses. We see no reason why not. Well, we expected also somewhere to be this year. But moving forward, in general, we want to keep the growth in operational expansions at a low level so that we can have leverage, in general, from stronger growth in sales and growth in our expenses. That is moving forward, what we expect. But in Q4, we do expect definitely our operational expenses to be higher, yes. Is that clear?

[Francois-Xavier Bouvignies]

Okay -- yes, yes. And tax rate, I mean, it's very low. And no words on -- yes.

[Karen Van Griensven, Chief Financial Officer]

The tax rate, and it's very difficult to predict, certainly now with COVID. The product mix is a bit different than we saw. It has also to do with the profit split between the different locations in Melexis. So it is quite low in Q3. Longer term, we still expect -- we still guide for the 10% to 15%. It might be a bit against what we see today, but when profits increase again, we also expect that our tax rate will increase again to range of 10%, 15%.

[Francois-Xavier Bouvignies]

Okay. That's very, very good. And I have a lot of question from investors about dividend as well. Do you -- you don't talk about dividend. Is there any plan because the situation is improving to announce again? And this is my last question.

[Karen Van Griensven, Chief Financial Officer]

It's early -- it's a bit early. We just paid out a dividend -- well, an interim dividend, I think, this week, more or less.

[Francoise Chombar, CEO, MD & Executive Director]

Last week.

[Karen Van Griensven, Chief Financial Officer]

Or last week. And we will -- well, the next decision will be a preparation for the shareholders' meeting. So that will be decided on earlier -- I mean, in January, early February. So -- and that is still too early to say, considering all the uncertainty with COVID, what will be the decision then.

[Operator]

We have a next question from the line of Stephane Houri from ODDO BHF.

[Stephane Houri, Research Analyst]

This is Stephane Houri from ODDO BHF. I have 2, actually. The first one is that on Q4 sales guidance, honestly, I'm a little bit surprised by the optimistic tone that you have, while some large countries in Europe are speaking about a new lockdown, especially in France, which is an important market for cars. So I would just like to understand how you built your Q4 guidance, if you integrated some cautiousness in it or not at all? Or is it based only on the visibility that you have up to now? That's the first question. And the second question was to come back on the gross margin. So I understand that there will be another valuation -- revaluation impact from the inventories in Q4. But I was looking at my model and the last time you reached EUR 140 million of sales quarterly, the gross margin was close to 45%. So excluding this valuation impact, is that the kind of gross margin that you are targeting?

[Francoise Chombar, CEO, MD & Executive Director]

Okay. Thank you, Stephane. On the first question, I don't think the tone that I gave was optimistic. I think it was rather realistic. The new lockdowns that you're talking about, let's face it, Europe is just a small part of this world. And the Asian countries are faring far better than we are. I think there are also reasons to believe, because of the low stocks that there are, that Q4 is going to show growth as well. And is there -- how much cautiousness is there in there? Well, I think the -- we also mentioned in our -- or I mentioned in my comments in the press release, that, of course, if the COVID-19 pandemic in Europe or elsewhere in the world, in the U.S., it's still -- it's equally bad, let's say, as in Europe, if that will have major effects, knock-on effects, yes, then, of course, it could be that it will affect also already the Q4 sales. But today, we have no indications of that, right? Now -- yes, I think -- I don't think you should qualify my tone as optimistic. We -- what we like to do is see as realistic as possible with the inputs we have at this moment in time. And nobody knows what will happen in the next month. So that's -- well, that clarifies the -- somewhat your question. Is that okay?

[Stephane Houri, Research Analyst]

Yes. Yes. Yes, I was not saying that you were overly optimistic, but you were just speaking about improving demand and shorter lead time, et cetera. And I thought it was a bit surprising compared to the fact that the market is also currently acknowledging the fact that there is an inflection point in the situation as we speak. But I understand what you say.

[Francoise Chombar, CEO, MD & Executive Director]

Okay, good. And then Karen, you say...

[Karen Van Griensven, Chief Financial Officer]

On the gross margin, yes, we have short-term then the effect of the dollar on the revaluation. We have some potential up, thanks to -- I mean, by better utilization. But indeed, there is another effect that is -- that has been influencing the gross margin quite negatively over the last years and that is the product mix. So the new products we've -- the growth is coming from different products than in the past. We are growing more with drivers and products like pressure sensors, also temperature sensors. Some have -- yes, the temperature sensors have strong margins, but others have quite weak margins, and that is also putting pressure on the gross margin, making the 45% gross margin not realistic in the foreseeable future. Does that answer your question?

[Stephane Houri, Research Analyst]

Yes. And so what is realistic in your view?

[Karen Van Griensven, Chief Financial Officer]

Well, we give some guidance, 2.4% for the revaluation. 1% to 2% for -- so this -- yes, these are the main elements that can help you in guiding for moving forward.

[Stephane Houri, Research Analyst]

Okay. Okay. So roughly between 40% and 41%, something like that, right?

[Karen Van Griensven, Chief Financial Officer]

It will be closer to these. It's always difficult to predict because the product mix, some products have positive impact. So we cannot guide it exactly. But yes, we should talk in these ranges.

[Operator]

We have a next question from the line of Janardan Menon from Liberum.

[Janardan Nedyam Menon, Technology Analyst]

Congratulations on a very strong set of results. Many of my questions have been answered, but just a few more. Your comment on that half of the products launched in the sensor and driver components were specifically designed and conceived for adjacent markets. I was just wondering, what is the timescale for those new launches to start getting designed in and starting to convert into commercial revenue streams. Is that something that we should expect, say, within 2021 itself? And would that be more in the second half of the year? And as that comes through, should we be expecting sort of a stronger upturn in your nonautomotive revenues?

[Francoise Chombar, CEO, MD & Executive Director]

Well, the attention -- or the high retention that we spend towards looking at how we can apply our technologies into more than just automotive, that strategic intent has been there since a couple of years, but it does take time to identify the right areas where we can play best. And that translates, of course, first, into new product launches because you have to design the products. It takes 1 or 2 years to really design the products, but it takes also a couple of years before you can identify the right specification that you can design them to. So it has taken us a bit of time but the product launches are a lead indicator, indeed, for future growth in adjacent markets that we feel can be more -- can be higher, let's say, that growth can be higher than the one we also still see in automotive. Some of the products that we have launched are already in production with lead customers and we see quite some traction going forward in several of those. Probably in the -- I mean, you will see that gradually growing over the next couple of quarters, a bit in the same way as you've seen it in the last couple of quarters. So we expect this to continue. It will not move the needle immediately, again. It will not move the needle immediately as such. But it's -- because it is spread out over different products and different applications and different end markets, you will see a slow growth going forward. And that's how we like it also. I've mentioned also in my introduction that adjacent, if you look at the adjacent portion of our sales year-to-date in the 9 months of 2020, and you compare it to the same period in 2019, we've grown 50%, 5-0 percent. So -- and of course, that, as I mentioned before in one of the answers to the questions, was the first question, is temperature sensors, for example, was largely helped by the pandemic. And as we know, this pandemic is probably not the last one and we see that health-related and well-being related also mental health-related applications will continue growing, we believe we're in the right market. So pretty sustainable.

[Janardan Nedyam Menon, Technology Analyst]

Understood. And then just on the demand pattern. One area in the automotive market, which has been doing exceptionally well in Europe, has been the EV market where growth rates are very high right now and China has also started showing improvement from the second half of the year. There has been a feeling that perhaps Melexis was a little bit more focused in the past on the internal combustion engine powertrain. But your comments also earlier were on the fact that your embedded motor drivers, magnetic sensors, current sensors were seeing quite a strong pull from electrification, battery management, et cetera. So can you just give us a qualitative comment on how you are seeing electrification, oil or EV growth rates come through on your order book? And whether you see that as being a more important driver going forward on your overall automotive sales than it has been in the past?

[Francoise Chombar, CEO, MD & Executive Director]

Well, electrification is not a new trend. It has been there for quite a long while. And we've seen it coming, and therefore, it's also -- we've also directed our R&D investments in the past couple of years towards the electrification of vehicles. And that has an effect on the powertrain, of course, as you say. So that will definitely continue. But it's not only powertrain. I mean, you see a lot of needs -- or we see a lot of needs in the market for everything else as well, meaning body safety chassis, is increasing -- we see increasing demand. What we do see that has somehow changed, let's say, is that the autonomous drive is further away than people thought. However, there is a strong drive towards still assisted driving. So driver monitoring systems, helping both the driver and the road users so also pedestrians, et cetera, to understand what's happening. And you see also light applications that are needed for electric vehicles, for example, to show state of charge, I don't know, all these things. So you see that the electrification or the EVs and the new energy vehicles are driving a lot of innovation overall, not only in the powertrain but also on the edges of that electrification. So -- and I think Melexis -- it's fair to say that Melexis plays in a bit everything surrounding that new energy as such. So we're not at the end of our inspiration as far as innovation is concerned in mobility as a whole.

[Janardan Nedyam Menon, Technology Analyst]

Understood. And this is a very last small question for me. You said that you think -- you estimate that inventory levels are low at customers. Does that also apply to the channel? Or is your comment specifically on your Tier 1s or OEM customers?

[Francoise Chombar, CEO, MD & Executive Director]

It's more outspoken in the direct customers, in that area. In distribution -- in the distribution channel, we would say it's rather at level or a little too low, but definitely not too high. But the distribution channels are better equipped, I would say, than the inventory levels at our customers. And that's, as I mentioned before, it seems to be a concrete choice of many of our direct customers and a choice that we don't like that much because, of course, they want to preserve cash and they get consultants to tell them that's the way to do it is to keep their inventories low. But the collateral damage of such policies is often worse than the disease they are -- that they want to reduce. So yes. So inventory levels, direct customers, lower than in the distribution channel. That's how -- that's what we're seeing.

[Operator]

We have 2 more questions in the queue. And our next question comes from the line of Marc Hesselink from ING.

[Marc Hesselink, Research Analyst]

Firstly, I also want to come back on those inventories. So quite nicely, you have been able to set it out of your countries. I think that's something you discussed before in the call and also in previous calls, that's where you were positioned. Does it mean that over the coming quarters, you want to build up the inventories a bit again, to be able to react again? And if you want to build it up, what kind of time frame can you do that because I guess that the -- the cycle times in your foundry are relatively low and maybe you'll have some time to prepare your supplier there. How do you think of that?

[Francoise Chombar, CEO, MD & Executive Director]

Well, the inventory at the end of Q3 was, of course, lower than at the end of Q2 but that was, of course, because the end of Q2 was also particularly high because of the bullwhip effect. What we try to do is to keep it at least as stable as possible so that we can anticipate on potential surges in demand or short-term demand. It's not so much the surges in demand, but the short-term reaction time that is put upon us by our customers. I think we are going to continue, the policy that we've carried over the last 2 years, let's say, is to pre-produce, not be too pre-produce where there is a decent confidence that these products will not be obsoleted soon. So if it's -- if we see that products like current sensors or latches and switches, smart drivers, whatever, I mean, all these products where we know that they are used by multiple customers, that they are not going to disappear soon, there, we sometimes take more risk but, of course, risk is very relative in that sense. It's more risky to not build up inventory and then not be able to deliver than it is to have it in inventory for a little longer. The cost of not being able to deliver is much higher. So I think we are not going to change our inventory policy as such. But it will, of course, depending on supply and demand, it will continue to fluctuate. There is no -- that's the idea, inventories must fluctuate.

[Marc Hesselink, Research Analyst]

Okay. Very clear. And second question is on the CapEx. You continue to run in a very low level. And yes, I'm not sure what exactly now is the status of the new facility Sofia, if you still have to put a lot of CapEx in there? What do you expect for the fourth quarter? And also, is there going to be a catch-up effect in the years after? Or is that not the case?

[Karen Van Griensven, Chief Financial Officer]

Yes, we expect an increase in Q4 because the Sofia building, yes, is going -- is moving quite fast now, although there is -- there have been delay throughout the year, we will see an upturn in Q4 to be continued in Q1 or to even further increase in Q1. So overall, we expect investments of -- in the range of EUR 25 million for the full year where we were at around EUR 17 million, I think, at the end of Q3. On the other hand -- yes, so for the normal CapEx, that means that we stay at low levels still for a while. The increase is mainly coming from the investment in book in Sofia.

[Marc Hesselink, Research Analyst]

Okay. Also clear. Then, final question also coming back on the gross margin. You already explained that it's a 41%, 42% level because of the mix is probably where it should be now for a while. But if we look further out when the Sofia facility is fully up to steam and the new products become more mature, is there that any structural reason why you not move back to the 45%? Or is that really -- how is that trajectory over the year, let's call it, the 5-year period?

[Karen Van Griensven, Chief Financial Officer]

That's a very long period. But it can improve indeed because of, indeed, further capacity utilization. Correct. But to reach the 45%, that is extremely stretched in the foreseeable future.

[Operator]

We have a last question from the line of Robert Sanders from Deutsche Bank.

[Robert Duncan Cobban Sanders, Director]

I just got 2 questions. Can you remind me first, your exposure to automotive lighting. The reason I ask is AMS are being quite vocal about wanting to do the driver IC alongside Osram's LEDs, Osram, as you know, are the clear market leader. And I have a follow-up.

[Francoise Chombar, CEO, MD & Executive Director]

Yes. I was waiting for your second question, but okay, let's answer your first question. I believe that the automotive lighting of Osram is a little different from ours. But I think that it's more exterior light for the time being, whereas we are more interior lighting. We do not give out an exposure as such versus our sales. But as far as we know, in the area where we play, mainly the interior lighting and the animated lighting, we, today, have about 70% -- at least, 70% market share as far as we know.

[Robert Duncan Cobban Sanders, Director]

Got it. And then the second question -- the second question would just be about the combustion engine business. I think it's about 30%, 35% of your revenue. As development slows down and maybe even stops for combustion engines, do you think that would mean your business here will become a kind of cash cow, the sort of position sensing business? Or do you think that those platforms because they'd be restructuring would push more price pressure down upon you?

[Francoise Chombar, CEO, MD & Executive Director]

If I understood you well, Robert, you're saying combustion engine is 75% of our business?

[Robert Duncan Cobban Sanders, Director]

Yes, something like that. Something like 35%, right?

[Francoise Chombar, CEO, MD & Executive Director]

Where did you get that information because that seems like a bit.

[Robert Duncan Cobban Sanders, Director]

Too high?

[Francoise Chombar, CEO, MD & Executive Director]

Wrong, I would say.

[Robert Duncan Cobban Sanders, Director]

Okay. What is the number?

[Francoise Chombar, CEO, MD & Executive Director]

Definitely not. I mean, no, no. I don't think where you got that information from, definitely not from Melexis. I can definitely tell you that this is not the case at all. It might have been that maybe 10 years ago. But yes, BVs were, at that time, also not really -- I mean, was less than 1% of the market. Of course, it's far less. I'm not going to give you a percentage because it's difficult to say, certainly because it's not only about powertrain. It's also about all the other devices that we delivered for chassis body and safety systems. So difficult to put a percentage on that, but I can assure you that the exit out of the internal combustion engine cars has been anticipated years ago. And that, meanwhile, we have been investing quite a lot in multiple areas that are even powertrain-agnostic to begin with. And there are a lot of new applications in electrified vehicles, whether they are hybrids or EVs or fuel cells that provided for a lot of opportunities for our drivers and sensors to get designed into. So I have 0 worries on the ICE exits because the ICE exit is part of our business plan. So please, let's kill that 35%...

[Robert Duncan Cobban Sanders, Director]

Sure. Sure. But just in principle, as these companies restructure, I'm sure you see that they're laying off tens of thousands of people and potentially, they will stop altogether, innovating on that platform. Do you think that the most likely scenario is that the remaining business you have, however, small, will become a kind of cash cow? Or is it just too early to say?

[Francoise Chombar, CEO, MD & Executive Director]

That -- okay, in that sense. Usually, in automotive, you have little chance to increase your prices at the -- at end-of-life. The customers, usually -- I mean, the customers were -- you always have some products that are end-of-life, but you have many more others that are not end-of-life and that are starting up. So it's hard for a company like Melexis or any semiconductor company to just say, okay, I'm going to raise the price on our old products, yes, then you don't get any new business. So I don't think that is a realistic avenue to follow. We like our customers -- like all of our customers and we try to make it a balanced relationship. And of course, competition is always there. It's not that we're going to lower our pricing at the end of life, but we cannot increase it that heavily either.

[Robert Duncan Cobban Sanders, Director]

Got it. So the R&D goes away, but the gross margin doesn't change. Okay.

[Francoise Chombar, CEO, MD & Executive Director]

Yes, you could say it like that. Yes.

[Operator]

We have no more questions in the queue. So I will hand it back to you for any closing remarks. Thank you.

[Francoise Chombar, CEO, MD & Executive Director]

Okay. Thank you for having joined us today and for your sharp questions. Our next earnings conference is scheduled on February 3, next year, when we will publish our full year results. And until then, please do keep safe and stay healthy. Goodbye.

[Operator]

Thank you for joining today's call. You may now disconnect your lines.