Summary and Comments on LSI's First Quarter 1999 Conference Call:
In room are Wilf Corrigan, Diana Matley, Doug Norby, Ellie Antoun, John Dahne, Rick Marzs Joe Alietta, and Bruce Entin.
Diana eschews the usual reading of the press release highlights but goes straight to Safe Harbor Statement. ( Comment: Great Start—the old reading of press release was a waste of time).
Wilf : LSI had record revenues in Q 1 up 41 % in Q 1—$457 million. 4th consecutive quarter of sequential revenue growth. 8 cents vs. First Call of 5 cents. Operating expenses declined in dollars and as a percent of revenue.
Storage components, communications, and computers increased quarter to quarter. Storage systems had record revenues. Consumer showed normal seasonal patterns.
North America accounted for 50% of revenues. Steady growth in Europe, which increased in revenues for the fourth consecutive quarter. Pan Asia (non-Japan) grew rapidly. No one customer accounted for more than 10% of revenues. Gross margin of 35% in Q 1 is on target. As they fill Gresham, margins will improve and 45% margin by mid 2000 is a comfortable figure.
Operating expense: Reduction program is showing results in
R&D and SGA as both declined in both dollars and as a % of revenues for the next Q. They look for operating expenses to decrease as percent of revenues throughout '99
Cash position: At end of Q1 there is $282 million in cash after paying bank debt down by $366 million. Depreciation and amortization was $82 million and Good Will was $11 million
Q2 Outlook: Robust bookings in Q1 confirms upcycle. Q2 shows they are taking steps to increasing capacity. Expect 5 to 6% top line growth. They are comfortable with 18 cents for Q2. Manufacturing fabs are filling and lead times stretching. Accelerating new fab ramp and also increasing output in Colorado fab. Fab 1 (11 year old fab in Japan, which had been scheduled to close) will open for one more quarter and perhaps one additional month afterward.
Thus, LSI's sights are set on revenue growth, expense control and Achieving 20 % operating income in mid 2000
(Comment: Obviously an awful lot of good forward looking news, and over the next twelve months this does portend for a forward look of $2.00 per share going forward.)
Ellie Anton (On consumer market)
Consumer BB was over 1.2 for Q1.
PS 1 was very strong and exceeded earlier forecasts-expect to increase quarter to quarter possibly meeting peak level this year. In early March LSI participated in announcing PS II. Will supply key I/O with backward compatibility. PS II also shows connectivity not seen before in that sort of market. They expect volume shipments later this year for PS II. Current Playstatinon CPU will ship in significant volumes thorough 2003. Based on system demos , PS II opportunity is as compelling and attractive as current CPU has been for five years.
(Comment: One of the repeated themes of this CC was the fact that there will be NO diminution of revenues from PS I in the next year or so and that PS II will be even stronger than PS I. This obviously is a very compelling picture, since SONY is already LSI's largest customer. It also suggest that the expected life span of PS II could be a full decade. In short, it will be like clipping coupons for a long time to come.)
In set top box and digital TV, volume shipments of the COF-DM demodulater products for the consumer market for UK showed an initial response that was favorable. Phillips is already in production with Sony, Hitachi, and Toshiba, ramping up soon. The QPSKD Mod 4 satellite set top boxes continue to ship in significant quantities. By the end of Q1 the tuner IC set which is most cost effective and complete solution is ready for production.
LSI is shipping to ACER who was selected by AIWA to supply Sky Perfect set top for Japanese market. Also in Q 1 LSI sampled single chip audio video transport and CPU system on a chip called SC 1 to early access partners. Entered into development to design set top box with internet access in US that will deliver NCPU and audio-video capability and internet access. They continue to push into the Chinese market. Have demonstrated VCD VCS DVD compatible reference design and platform is already in production at two companies with design ends at multiple sites.
DCAM 103 second generation is in production shipped to Casio and in production. Konica will be ramping up soon
John Dahne
LSI is building on momentum in computers, storage components, telecom networking, and MINT increased Storage components and communications were particularly strong. Bringing out New ASIC, Coreware and ASSPs. Alcatel, Apple, Cannon, Cisco, Compaq, Ericson, IBM Nokia, Lucent, Nortel, Hewlett, Seagate, Xerox Sun, and Quantum as well as distributors are key customers. LSI is tracking over 700 design opportunities. They are building momentum with market leaders in their various vertical markets. (Comment: This can be placed just about anywhere in this post. The fact is that ASIC SOC is just now becoming a reality. High end ASIC production is of course dependent upon large volume customers far more than PLD. So the reality is that we simply do not know what will happen with LSI over the next five years—to some extent. If the world is exploding and going digital, it makes sense that LSI could just begin to be seeing explosive growth in its markets with far more products than ever before, and given the number of design wins, this seems to be as likely a scenario as any other. On the other hand, it is possible that the little twin terrors of PLD and fabless semi houses could be constantly nipping at LSI's heals to the extent that LSI is never ever able to maintain sustainable long-term growth.)
Dataquest figures were given for cell based revenue results for semi markets. The results were for merchant and captive markets. LSI posted the largest year over year gains for any company assisted by Symbios. LSI went from fourth to third place. They expect to be the clear number one merchant leader. ASIC is poised for a 12 % increase in the cell based market to $5.8 billion for cell based market alone.
On the product side in computers, LSI announced completion of core ware for SGIs new NT work stations. Incorporated both digital and analog core blocks. Also announced availability of Rambus or DRAM cores including a design win for HP's networking products.
In Networking division SEEQ acquisition will close in June Q—highlights from SEEQ 1Q announcement recently had a 20% revenue increase fueled by growth in Quad 100 shipments. BB was “above unity”.
Storage division Announced Ultra 2, SCSI 2 standard expanding product. Used for SAN clustering and storage enclosure application.
Announced additional post adapter board for PCI Ultra II and Legacy SCSI applications for work station and server products.
Very strong growth for host adapter boards as well as other storage components--both ASSPs and ASICs
In Telecomm announced delivery of CBP, which stands for CDMA based band processor based band processor. Includes DSP Arm 7 CPU and mixed single functions which is a single chip based band controller for CDMA handset terminal applications. Product is currently in field test in North American and Japanese markets. Anticipating volume shipment in Q3. (Comment: I would really like to track just this product, since it seems as if it is truly cutting edge in the CDMA market>)
LSI continues to get strong endorsement on its .18 G12 technology with 95,000 gates per millimeter squared capability. LSI believes it has highest density for the industry. Also announced optional modules for mixed signal in G12 technology including precision resistors and metal to metal plate capacitors that will enable library of planned elements up to 150 mixed signal building blocks. Believe this will build on LSI's past strength of integrating LSI's mixed signal and designs and accelerate that development. Density performance and integrated mixed signal make G12 premier SOC technology platform.
(Comment: John Dahne still needs to go a little slower, but his style was much more relaxed at this CC. He is of course ultra sharp and generally very impressive)
Questions
Terry Ragsdale JP Morgan;(the brightest semi guy on the Street)
Does it make sense to talk about the utilization of Gresham?
Wilf : Not really. Factory is ramping very quickly and is on schedule. Gresham was held back for most of last year. People are well prepared. Fastest and smoothest execution that they have seen Coming quickly up to ramp. Expect to see target utilization will be achieved by end of June. By end of year, plant will above target.
Ragsdale: If you guys are comfortable with the 18 cents for the next quarter, than you must be looking for significant gross margin leverage. What is range of gross margin leverage?
Wilf: Two things: One is top line and the other is utilization of overall capacity. Had planned to close down oldest plant. Demands are holding it open. Could be two quarters before plant is closed. Demand is good so will see steady improvement in margin as move through the year. Feel comfortable with 18 cents for Q2. Expect to keep on moving up in second half of year. Comes form utilization and of course revenue which is most important driver in the business.
Ragsdale: Where do you expect to GM at end of year's exit?
Wilf: Somewhat north of 40%.
Ragsdale: Can you give the absolute dollars in operating expenses in next couple of number of quarters?
Doug Norby: We will see an absolute decline in operating expenses in the next quarter and a continuing decline as a percent of revenues over the rest of the year.
Erica Klauer of BT Alex Brown (who is lucky to be employed at anything given her “brilliant” call of bailing on LSI at its five year low, but with a last name like Klauer, one can overcome one's mistakes. To be fair to Ms. Klauer, I have included a verbatim transcript of her question) :
Ah Thank you very much. I just wanted tooo ask your thoughts on two things. One is Um actually a housekeeping question which is what is your capital spending and depreciation going to be for this year? I apologize if I missed that at the beginning of the call. And secondly, I just want to um ask your opinions about the digital camera and the opportunities there. Um it seems as though that market is really starting to pick now as da price points have started to come down and I was just curious as to what your expectations are.
Doug Norby: $20 million is 1Q, and $200 million for year for capital expenses. Depreciation plus software amortization is $325 million for the year.
Anton: In ‘98 4 to 5 million [DVD]units shipped worldwide. We expect fairly solid growth in '99—at the 20% to 30 % range
Wilf: This market is skewed in back half of year. Quite Xmas sensitive. Think at price points these things are moving down to two things are happening--the mega pixel market will dominate. 500000 pixel cameras and below moved slow. Whole range will be mega pixel this year. Depending on what price point, volume could be quite sensitive. 35 mm market is 50 to 60 million units a year. Bring it down to 200 bucks and you are hitting “great buttons” in the retail market, and we are very optimistic for this year.
Vladim Zlotnikoff from Standofr dBernstein . Could you give us the scheduled rollout of G12 process and what products it will target. Also could you address the storage market? Is it high end SCSI or across the line?
John Dahne:
On G12, they have developed some fairly complex developments For example One process is capable of multiple voltages. From 1.8 volts all the way up to 5 volts on the IO and has two different libraries--one optimized for very high performance and the other optimized for very low power for battery operated applications. So for the initial user standpoint this has broad acceptance from high-end next generation servers to wireless handset designs. From a schedule LSI is already engaged in many programs with customers they have delivered libraries, processes—very stable running through the fabs.
On storage front growth is both in SCSI storage and Fibre Channel technologies. Both standard products that are supplied to computer manufactures that is host products that go into computers as well as ASICs to disk drive manufacturers for drives. SCSI and Fibre Channel goes to high end of the market.
(Comment: I would like to see these analysts ask more broad reaching questions, such as does LSI have any copper in the making, or given LSI's position in MINT, what does it see for the future of fabless semis. Nevertheless, this was a most encouraging development, because at .18, you are truly seeing SOC.)
Manish Quoya of Newberger Berman ( I apologize if I have misspelled the name)
What products are you seeing stretching lead times in? Could you also talk about what markets you are trying to address in xDSL and what are your intentions for'99?
Wilf: The longest lead times are now in storage—ramping up capacity in Colorado on the older technologies and bringing up newest in Oregon. Storage is longest lead-time. (Comment: Thus to some extent, the noise we have heard about long lead times is really a little misplaced since it reflects “old” products at “old” fabs, rather than cutting edge products as Gresham.)
Other increases are fairly modest, since LSI has adequate capacity in many areas. Will take to 3Q to bring leads times down in storage End of 2Q will bring down lead times, in other areas but generally seeing strong demand in all sectors. Consumer will get stronger Q by Q. LSI has the capacity
John Dahne: On xDSL LSI is in ADSL currently in production—several programs both central office and subscribers—both core ware programs where customers have integrated their own custom logic in ASIC fashion around LSI's technology to create cost efficient programs . Have two major companies in production on ADSL and we have seen significant ramp and shipments. LSI is partnering with ALCATEL on the modem for central office and market and Orchid is OEM with Fujitsu.
Mark Edelstone.
Three questions: How far out you are booking in key product areas? What is current thinking on time frame to breakeven on Gresham given accelerated ramp? What is increase in profit with later closing of fab in Japan?
Wilf : We have much more forward visibility than last couple of years and 3Q and 4Q commitments. Break even at Gresham is end of year, which is one quarter ahead. That ramp is going very well
Margin on Scuba (oldest Japan plant) is OK –fundamentally is good. Reserves were taken in restructuring. Would not want to hazard a number as to extra profit if any.
Clark Westmont of Solomon Smith Barney
Wanted to know if B to B of 1.2 was consumer only or entire company
Wilf misunderstood and got a little snappy saying they had not given out book to bill. Ellie Anton interceded and said that it applied only to consumer. Westmont graciously backed off saying it was consumer.
Westmont then asked for a revenue breakdown by application market.
Wilf : What we are going to do is break out systems business, which is different from component business. We will give an indication of what business is. Over the last two quarters LSI has been moving from one market segment to another. They have been arbitrarily moving sectors. The strength is in all sectors, and they are growing. Only problem is seasonality in Q1
Jack Gerraty with Gerard Klauer. Controversy about Y2K, does it affect LSI's storage business?
Wilf: We have that debate internally. Systems people out of Wichita have different perspective versus component business.
In component it's somewhat different. Second half will be affected by fear of customers. Same syndrome where individuals to fill all bathtubs with water and keep candles He thinks will happen. Sees some of the leading edge of this in the components business. Lets put a few weeks in place. With some cushion this is a significant boost in some components demand even if there was a slowdown in the second half. Net effect is that if they can put away a month inventory—might happen if there was some slowdown of equipment in second half. Expect no internal problems. Have same sort of concerns in their off shore producers. Could be second order effects. Not unduly concerned.
Is this due to double ordering?
Wilf: There is some effect. Seeing it with some customers—not the major effect—some secondary effect
People are looking for some insurance Not just based on Decmber 31st. A computer based on COBOL will have problems on September 9. However, long programs are in 2000 environment already and LSI sees no problems. (Comment: Wilf's integrity shows through here more than any where else. He concedes that there is disagreement within his own company and he concedes that some of the increase in business in the upcoming quarters may be Y2K related.
Hans Mossellman of Prudential Bache: PS I v PS II when is average dollar cross over going to occur? Could you give us the average selling price or Silicon content of the two?
Wilf: PS I is not replaced by II. PS I will be in production through 2003. PS II is incremental. Will see two different price points. Sega is really in a panic. PS II is actually casting pallor over competitive products. And PS II actually helps PS I. PS I will have the same volume this year. When SEGA drops price on Dreamcast, which is next generation, market will see a drop in PS I prices below 99 bucks (already on Internet sites), and as a result you will see a secondary explosion in demand for product. SONY has been careful about PS II release date. Could be before or after XMAS. Wilf says winters last three or four months (Not really—it's three months in the States). But LSI expects to see the leading edge of revenue at the components level toward the end of the year. Expects it to ramp pretty rapidly. PSII is backward compatible to I, which means they are not obsolete. If you estimate installed base of 50 million units and 10 disks in place for each installed unit, this means half a billion disks in market place. With Dreamcast, there is a totally new software investment. Yet staying in PS II channel will not require this. Will sell PS I for less money. PSII will have a price point at about $400 to $500 dollar range. Were some discussions of $700 to $800. It will be multiples of current product which ships 20 million a year.
Ellie Anton: Will see crossover point deep into second year or later. Cannot comment of ASP which will reflect significant value added to the PS II product.
Charles Bosher with DLJ: What percentage of business is from Core Ware?
John Dahne Currently 30% plus and its going to be up to 50% by the end of the year. We are having success in analog as well as digital. (Quite possibly the single comment that most justifies Corrigan's vision for his company.)
Dan Scovill with Fahnstock: What is Wilf's view on overall industry?
Wilf: Most of estimates were from 7% to 15% for the year
Most of the people are going back to 12% to 17%. The forecasts must be separated into PC related and non PC related. They will behave differently. Expect non PC related which will be affected by communications, or consumer or different aspects of the Internet. The common driver is the Internet infrastructure. For example there is many concerns about X86 architecture that goes into desktops and the servers. But with X86 there is much more strength in the servers. The PCs are at much lower price points.
If one looks at SCSI type business, it is much more host connected for LSI than the target or the disk drives. And as they move forward, you see other aspects of the Internet such as Cisco with routers. You can't have a doubling of Internet activity without building infrastructure. If one follows where the signals are going and all of equipment has to be built, put in place with continuing increase in capacity. The Internet is really the driver of most of the business. Even consumer Internet access through the TV will gather momentum including the consumer devices connected to TV.
As you expand facilities, do you expect demand to cover up any discontinuities?
Wilf: No, Now we are in the process of running the facilities and this is what we mean by absorption.
Raymond Gee with Concord Investment: Can you talk about Intel's comments about moving into networking on a non ASIC approach? What is your feeling on the competitive front?
John Dahne : Intel is moving into the networking arena in two areas. One is a systems supplier in that they make boxes and they are producing standard product components. Currently Ethernet LAN switch market today is dominant . It uses for switch fabric and media access controller MAC layer which uses ASIC where LSI Logic does a good job. Two things, no competition for ASIC in switch boxes from Intel. And since Intel, is in the systems business and they compete with same customers to whom they sell, that is very difficult. He refers to BRCM's statement. So LSI is not overly concerned with Intel. (Comment: Neither would I be unless I were an LSI shareholder, which I am in which case I am very concerned.)
Terrry Ragsdale with follow up questions
What is the pricing environment like today?
John Dahne: We are in an even environment, There is relative stability LSI is constantly introducing more and more value that fits the model.
Terry Ragsdale: What about a willingness to carry customer specific inventory?
Dahne We are not in that mode. We are looking at dealing with partners and building to their forecasts and this can be done with ASIC. LSI is open to building to their forecasts. This is difficult given the constraints of capacity..
Terry Ragsdale: When you build a forecast and they don't want it whose problem is that?
Dahne: We have different agreements.
Wilf: One of the things about the Internet is that it shows the increasing willingness to substitute information for inventory. Customers are not as willing to give insight into detailed build schedule. Rather the emphasis is much more at what shipments they want to make rather than a blind purchase order, so more and more logistics systems are getting interlinked so they can look backward at LSI's supply chain which mean it's a much tighter system.
Ragsdale: Is ASP on PS II compared to PSI higher in dollars per unit to LSI?
Wilf : You have essentially two products here and as it reaches the price point it's now down to, PS I will target games to children in the 3 to 9 year old group. The initial target was a nine year old male. The consumer market has rediscovered young female market and at a $99 dollar price point, this is a very attractive price for parents of young children. At equivalent volumes PS II will be above PS I.
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