GSI Technology, Inc. (GSIT) Q2 2014 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. Thank you for standing by. Welcome to GSI Technology's Second Quarter Fiscal 2014 Conference Call. [Operator Instructions] Before we begin today's call, the company has requested that I read the following Safe Harbor statement. The matters discussed in this conference call may include forward-looking statements regarding future events and the future performance of GSI Technology that involve risks and uncertainties that could cause actual results to differ materially from those anticipated. These risks and uncertainties are described in the company's Form 10-K filed with the Securities and Exchange Commission. Additionally, I have also been asked to advise you that this conference call is being recorded today, October 31, 2013, at the request of GSI Technology. Hosting the call today is Lee-Lean Shu, the company's Chairman, President and Chief Executive Officer. With him are Douglas Schirle, Chief Financial Officer; and Didier Lasserre, Vice President of Sales. I would now like to turn the conference over to Mr. Shu. Please go ahead, sir.

Thank you. Good afternoon, everyone, and thank you for joining us. Today we reported second quarter net revenue of $15.5 million, slightly below our guidance for the quarter due to continuing softness in the telecommunications market, and in particular, weaker-than-expected sales in Asia. However, second quarter gross margin was strong at 27.6%. We're above our operating model due to a favorable product mix. Litigation-related expenses in the second quarter -- second fiscal quarter were $1.7 million, down from $2.3 million in the previous quarter and up from $0.3 million in the same period a year ago. We currently expect litigation-related expense to be approximately $1.7 million in the December quarter. The litigation-related expenses again were primarily related to a pending patent infringement and antitrust litigation involving Cypress Semiconductor operations. On August 7, 2013, the parties agreed that the terms in the original Minnesota patent case with respect to 3 of the asserted patents will be dismissed without prejudice and that the terms with respect to the remaining 2 patents will be transferred to and consolidated with the California case. On August 20, 2013, the court in the California case ordered the case consolidated. Discovery in the patent litigation and in the antitrust litigation is proceeding. We continue to believe that we have the most advanced technology in the SRAM industry and look forward to competing on the basis of our superior technology and the product performance. In this regard, we expect to see orders for our new SigmaQuad-IIIe blend [ph] in the coming quarters. This quarter, we will tape out our newest family with 288-megabit SigmaQuad devices that will be the highest-density monolithic SRAM in the market and have highest clock speed targeted at 1 gigahertz to improve better bandwidth, at 40% over our current industry-leading SigmaQuad-IIIe device. This new device will be the first of our 40-nanometer product families to further improve the performance of our industry-leading SRAM products. Beyond our expectations for increased order from our existing SRAM customers, we are also excited that our entry [ph] into lower-legacy DRAM space in which we expect to ship products in volume in fiscal 2015. We continue to believe LLDRAM will be a significant growth driver in future years. With that, I'll now turn the call over to Doug.

For the second quarter ended September 30, 2013, we reported net income of $386,000 or $0.01 per diluted share and net revenues of $15.5 million compared to net income of $1.1 million or $0.04 per diluted share and net revenues of $16.0 million in the fiscal quarter ended September 30, 2012. In the prior quarter ended June 30, 2013, we reported net loss of $441,000 or $0.02 per diluted share and net revenues of $16.4 million. Second quarter direct and indirect sales to Cisco Systems were $3.4 million or 22.2% of net revenues compared to $2.8 million or 17.1% of net revenues in the prior quarter and $4.9 million or 30.6% of net revenues in the same period a year ago. Sales to Alcatel-Lucent were $3.2 million or 20.4% of net revenues during the quarter. Military/defense sales were 12.3% of shipments compared to 13.3% of shipments in the prior quarter and 7.4% of shipments in the comparable period a year ago. SigmaQuad sales were 42.3% of shipments compared to 41.6% in the prior quarter and 33.9% in the second quarter of fiscal 2013. Second quarter fiscal 2014 operating income was $241,000 or 1.6% of net revenues compared to an operating loss of $541,000 in the prior quarter and operating income of $1.5 million or 9.4% of net revenue a year ago. Total operating expenses in the second quarter fiscal quarter of 2014 was $7.2 million, up from $5.7 million in the second quarter of fiscal 2013, down from $8 million in the second quarter -- in the first quarter. Research and development expense was relatively unchanged at $3 million compared to $3 million in the prior quarter and $2.9 million in the prior year period. Selling, general and administrative expenses, which include the litigation-related expenses, were up substantially year-over-year to $4.2 million compared to $2.8 million in the fiscal quarter ended September 30, 2012, but down sequentially from $5 million in the prior quarter. Included in SG&A during these periods, respectively, was $1.7 million, $300,000 and $2.3 million in litigation-related expenses. Total second quarter pretax stock-based compensation expense was $563,000 compared to $565,000 in the prior quarter and $560,000 in the comparable quarter a year ago. At September 30, 2013, we had $75 million in cash, cash equivalents and short-term investments, $34.6 million in long-term investments, $91.6 million in working capital, no debt and stockholders' equity of $135.6 million. Accounts payable at September 30, 2013, was $3.7 million compared to $3.8 million at March 31, 2013. Net inventories was $11.2 million at September 30, 2013, down from $13.8 million at March 31, 2013, down from $12.2 million at the end of the prior quarter. Inventory turns at September 30, 2013, were 2.9x compared to 2.4x at March 31, 2013. Depreciation and amortization expense was $504,000 for the quarter. Looking forward to the third quarter, we currently expect net revenues to be in the range of $14 million to $15 million, with gross margin of approximately 44%. We also expect the ongoing legal expenses related to the patent litigation and antitrust litigation will continue to affect our operating income and our bottom line. These expenses are difficult to forecast. We currently estimate that they will be approximately $1.7 million in the third quarter. Operating expenses in total is expected to be approximately $8.8 million, which include approximately $1.3 million in total related to R&D mass sets, one for the 288-megabyte device, which will be our first 40-nanometer tape-out, and the second for next-generation LLDRAM device, in addition to the estimated litigation-related expenses of $1.7 million. Operator, at this point, we'll open the call to Q&A.

[Operator Instructions] At this time, we'll take a question from Ross Silvestri [ph] with [indiscernible].

Just looking at the third quarter, coming up -- down sequentially, I mean, typically, you guys are relatively flat seasonally. Why is the -- why are we experiencing a down quarter?

For the quarter just ended, we mentioned the Asia market was soft for us -- I'm sorry, was it the next quarter? I'm sorry, the next quarter. So the next quarter, so again, the visibility is very difficult for us. We're actually turning more in the quarter than we have in the past. Our lead times are at an all-time low. We're running 4- to 6-week kind of lead time, and certainly associated with that is the backlog is not as extended as it used to be due to that. So we're certainly turning more. So the visibility is a little less. But in the current quarter that we're in right now, we did see one of our very top customers actually push out a program from this quarter. And this is a piece of business that's sole source, so we know we haven't lost market share. And it's not clear why we're pushed out. We certainly have discussions going on, but we're starting to feel it's a controlling inventory and cost kind of push-out. So it certainly was a significant push-out that we hadn't anticipated.

And then with inventories being lower, I assume then that means that your customers pulled inventory at the end of the quarter?

Yes. Well, I think the runoff capacity at the manufacturing is pretty good. So we don't need to stock inventory as much. So we believe we can turn it much faster. So we hold or reduced our inventories together with the customers, and we still can maintain our normal lead time.

Yes. If you take that look at inventory levels over the past couple of years, they've come down significantly, and there are really 2 reasons for that. One, prior to the ITC action being completed, we didn't want to put a lot of inventory in place that if we were to lose, would be problematic. And secondly, given the status of the market in the recent quarters for networking and telecom, we just haven't to put a lot of inventory in place.

And you don't think -- that's not limiting sales at this point in time?

No, I don't think so because there's a lot of manufacturing capacity. It's very easy to get product through the back end. No issue on wafers. No issue on test capacity. No issue on assembly. So we don't see a big problem.

Okay. And then what's up on -- next on the legal playbook?

Currently, there's a lot of activity going on with both the patent litigation and the antitrust litigation. Both cases are in the discovery phase, soon to be in the deposition phase. That's why we're seeing the expenses higher this quarter and next quarter.

And the slated trial date is what?

We've been talking about a July-August time frame next year for the antitrust litigation. We're actually having a meeting with a law firm that's handling that next week and we'll get a more current update. I know there have been some things pushed out at quarters related to the data gathering, discovery and deposition. So we still think that the trial should hit sometime in the September quarter next year or thereabouts.

And the patent trial? Are they together?

Yes. The patent trial, we're 3 years or so into -- it will be by the time we go to court on the antitrust litigation, and then the patent litigation is well beyond where we are in the antitrust litigation. I wouldn't be surprised if that went to court at least a year beyond the antitrust litigation.

At this time, we'll move to Kurt Caramanidis with Carl M. Hennig.

I'm hearing similar things about the, I guess, calendar fourth quarter compared to third. One of your customers reported yesterday and said that it seems as though people are going to close into the end of the year, but they were a very bullish on 2014. Any indication on your part about 2014 from customers or anything like that?

Well, it's actually funny you say that. So this particular push-out that I talked about a second ago, this customer has given us some very nice rewards of business start into the calendar first quarter of next year. So certainly, though the push-out was certainly not foreseen, on top of this piece of business, there's other piece of the business that we had lost during the ITC process that are now coming back to us and specifically in the first calender quarter. So we anticipate that hopefully once we can get past this December quarter, that things moving in the upper direction.

And then LLDRAM, what's the update there?

So we're still where we were last quarter. We're in qualification stages. Our internal calls are done. We've done L1 and L2 calls, and all of our other electrical calls are complete. The qualification of our customers, which we talked about, especially the large ones that we're chasing, were going to take some time. As I mentioned in the last call and I believe in the call before, one of the largest ones we're chasing will be closing sometime at the end of this year. Right now the feedback we've gotten from the customer is that they're still on schedule. All the tests they're doing on the different platforms are all passing at this point, which is good news. It's just a matter of making sure that all the calls for, again, all the different boards and line cards that use this parts are complete. So at this point, we're still tracking where we were.

The fourth quarter should look -- at this point, looks pretty good.

For qualifications, not for -- yes, I mean, certainly, we're not going to be seeing much orders. There's some prototype order type on the LL. But certainly, we're looking at revenue in calendar 2014.

You're talking about our fourth fiscal calendar quarter?

Yes, like first calendar quarter...

Yes, we agree. From the things Didier has just said, we expect to have a much better March quarter.

Yes, okay. So that's kind of what I'm thinking. I've just been hearing that people kind of spent money in the first 3 quarters and whether it's government dealings going on or ObamaCare, they're just kind of coursing through. But it seems 2014 in a couple of different areas, some like I said your customers that there's quite a confidence for 2014, which is interesting. And I guess that seems to be the case in some respect for you guys as well. So appreciate it and good luck.

Moving forward, we'll hear from Rajvindra Gill with Needham & Company.

This is John [ph] for Rajvi. I was hoping you could talk a little bit about how's your market and what you're seeing there from a competitive standpoint with Cypress and now with Renesas?

So haven't seen any changes there. I mean, it's certainly steady as far as that goes. I mean, for us, we're tied. As you know, we're at the very high end of the SRAM market, so we're tied to the networking, telecom and military markets. The military market actually has been steady for us, but as you know, the networking and telecom have certainly been slowing and the visibility has been poor. As far as the competitors go, we haven't seen anything unusual out of either one. There's been no new product announcements. As Lee-Lean mentioned earlier, we do have our next-generation 288 meg taping out this week. And so we'll have a first look in next quarter. But we haven't seen anything like that from the other folks. And nothing strange as far as pricing goes at this point. So I would say it's just kind of been steady as we go as far as competitors go.

So you think we're pretty much worked through the Samsung backlog inventory?

Well, this whole Samsung question has really been a difficult one certainly for myself and I think for all the other suppliers to answer. I think we underestimated some of the last-time buys that happened with Samsung. I think we underestimated the inventory. I mean, as I mentioned in the last call, and this still holds true, we have customers that have asked for samples from us to do some calls, and we know that they're associated with Samsung devices. And it's just a question of the priority of those calls. Right now, they're just not top priority. As I mentioned, lead times are low from us. They're also low from our competitors as well. And so there's not a real issue with supply in today's market, and so these companies that right now had Samsung are certainly running, in a lot of cases, single source and taking their time with these calls. So we do see some calls coming from the Samsung. It's just difficult to quantify exactly how large that opportunity is going to be going forward.

[Operator Instructions] We'll take the question from Anthony Cambeiro with Anthology Capital.

Just curious if any of the 10 customers that were in side-by-side [ph] letters with Cypress and since that's been resolved, did any of them come back -- did any of that revenue from them? Did you see any of that in this quarter or do you expect to see any of it in Q3 or Q4?

So we did. So certainly, we've seen some very good indicators from most of them. And in a lot of cases, we've been elevated -- our status has been elevated from a normal supplier to a preferred supplier. And so we've certainly seen that. We have one of the customers specifically did give us a higher award in the fourth quarter -- I'm sorry, in this December quarter. Unfortunately, because of the backlog that was in place with other suppliers and inventory levels, even though we had the higher award, it didn't really translate to any orders so much this quarter. But it will definitely filter through for the March quarter. So the answer is yes, we have seen some movement with certainly the significant customers that we had. As you know, some of the folks that sign those agreements were not significant customers of ours, and so there's really not much change there.

And then finally on the buyback, can you just kind of walk through the philosophy that you -- it didn't look you had bought back any shares in the quarter. And what is your ability to buy back stock once your black out period is resolved?

Yes. So our board approved an additional $10 million in August that brings approximately $16 million that we can buyback. We put a new 10b5-1 plan in place during our open window in the month of August. The attorneys won't let us buy immediately. There's approximately 30-day window where we couldn't do anything. So the plan was effective October 1, and we have been buying our shares throughout the month. And we'll do a summary of that when we get to the conference call next quarter. But there is currently no maximum price stated in the 10b5-1 plan. It's a calculation and then -- and it's a calculation that we believe that will buy back -- just to buy back, likely [ph] more shares than we did previously. Like I said, we have been active throughout the month of October.

But nothing in September due to the 30-day window you had in...

Correct, correct. That's why we didn't announce anything in the press release for the earnings this morning.

At this time, we'll take a question from Brad Hathaway with Far View Capital Management.

Just to follow up little more on the buyback. You're going to have to disclose the amount of shares in the 10-Q, which will be coming up in a couple of days, so is it possible you could just tell us where you're at right now in terms of the share count versus the end of the quarter?

Yes. We bought back since the 1st. I think it's been about 25,000 shares. That's not going to be disclosed in the 10-Q. There's no requirement for it because it wasn't during the last quarter but...

But it will be on the front page how many shares are still as of October 1.

Yes, yes, I guess that's one way to look at it. But that also includes any option exercises or anything subsequent to the close of the quarter. But yes.

Fair enough, fair enough. Okay, 25,000 shares in October.

Yes. And we've been buying increasingly more in the last couple of weeks.

Okay, great. And I think all of your shareholders would support you guys being very aggressive with that buyback given the cash you have and kind of the opportunities for the company over the next couple of years.

That's true. So we do have that $10 million in the 10b5-1 plan, and we also have an additional $6 million that we didn't put into a plan that we can use on a discretionary basis. I believe we'll be buying back shares throughout the quarter.

Great. Yes, the more aggressive, the better.

This will conclude the question-and-answer session. At this time, we'll turn it back over to management for any additional or closing remarks.

Thank you all for joining us. We look forward to speaking with you in January when we report our third quarter results. Thank you.

And ladies and gentlemen, this does conclude today's conference call. Thank you for your participation. You may now disconnect.