Jul 23, 2015
Executives
Kathy Ta - Managing Director, Investor Relations Tunç Doluca - President and Chief Executive Officer Bruce Kiddoo - SVP and Chief Financial Officer
Analysts
Harlan Sur - J.P. Morgan Ross Seymore - Deutsche Bank Tore Svanberg - Stifel Blaine Curtis - Barclays Ambrish Srivastava - BMO Capital Markets John Pitzer - Credit Suisse Craig Hettenbach - Morgan Stanley C.J.
Muse - Evercore ISI Ian Ing - MKM Partners Christopher Danley - Citigroup
Operator
Good day, ladies and gentlemen, and welcome to the Maxim Integrated Fourth Quarter of Fiscal 2015 Conference Call. At this time, all participants are in a listen-only mode.
Later we will conduct a question-and-answer session, and instructions will be given at that time. [Operator Instructions] As a reminder, today’s program is being recorded.
I would now like to introduce your host for today’s program, Kathy Ta, Managing Director, Investor Relations. Please go ahead Kathy.
Kathy Ta
Thank you Jonathan and welcome everyone Maxim Integrated’s fiscal fourth quarter 2015 earnings conference call. With me on the call today are Chief Executive Officer Tunç Doluca, Chief Financial Officer, Bruce Kiddoo.
I would like to highlight that we have posted a supplemental financial presentation to our external investor relations website. The information in this presentation accompanies the financial disclosures in our earnings press release and on this conference call.
During today’s call, we will be taking some forward-looking statements. In light of the Private Securities Litigation Reform Act, I would like to remind you that these statements must be considered in conjunction with the cautionary warnings that appear in our SEC filings.
Investors are cautioned that all forward-looking statements in this call involve risks and uncertainty, and that future events may differ materially from the statements made. For additional information, please refer to the Company’s Securities and Exchange Commission filings which are posted on our website or available from the Company without charge.
Now I’ll turn the call over to Tunç who will start the call with an important update on our business.
Tunç Doluca
Thanks you, Kathy and good afternoon to everyone on the call. We appreciate your interest in Maxim Integrated and thank you for joining us today.
This is a pivotal time for our company with multiple initiatives; we are improving the way we run our business in manufacturing and in R&D. We are transforming our manufacturing footprint in a way that will enable us to improve flexibility and profitability, while also lowering capital expenditures.
And we are optimizing our product lines and organization for better returns on R&D investments. Based on these new initiatives, we now expect to achieve $180 million in annual long-term savings.
Bruce will provide more details right after me. Let me next provide color on our manufacturing and R&D initiatives starting with manufacturing.
We are taking three steps to increase flexibility and profitability while collaborating with our manufacturing partners on technology development. First, we’ve planned to convert one of our fabs to a strategic foundry partnership which will include a long-tem supply agreement.
This conversion will help us improve the utilization of our internal fab capacity. Second, we are planning to outsource manufacturing activity that is currently performed at our internal wafer level packaging fab.
And third, our previously announced closure of our San Jose fab is ahead of schedule and we expect to achieve the full savings benefit starting from our fiscal second quarter of 2016. With this manufacturing transformation, we expect to expand the company’s gross margin by approximately 400 basis points over the next two years.
When completed, our manufacturing cost will rise or fall with the volume of production and we will optimize the utilization of our remaining internal fab. This change to our manufacturing operations will significantly reduce our fixed cost, support greater agility and flexibility in manufacturing and enable us to achieve higher gross margins with less variability.
Another significant benefit of this manufacturing change is that it will enable sustainable lower level of capital expenditure for the foreseeable future. Turning to R&D, we are optimizing our R&D and sales organization to reduce funding in non-core areas while continuing to fund key growth product lines.
Last quarter, we reorganized our company to bring together all Maxim business units as well as sales and marketing under Matt Murphy’s leadership. This is enabling faster decision-making, agility in product development, quicker resource shifting, better engineering collaboration and improved responsiveness to customers.
All of these benefits will accelerate design wins. We stopped investment in lower profitability and higher risk businesses including consumer MEMS and completed the sale of our touch business in the June quarter.
In addition to these actions, we are pursuing business alternatives for several other non-core product lines. To drive long-term growth, we are increasing on R&D spending in high performance power management where Maxim is a leader.
Power management is the largest market with an analog comprising an $11 billion opportunity annually and it’s forecasted to grow faster than the overall analog semiconductor market. Growth in power management is driven by new socket opportunities in multiple end-markets that we serve.
In automotive, the number of electronic control units continues to grow with new infotainment and safety features in cars. These control units require multiple power supplies into tight spaces while also minimizing battery drain.
Healthcare devices are becoming portable and require new power solutions to reduce size and extend battery life. In Industrial, factory control and automation applications require a new generation of power management solutions with higher conversion efficiencies.
In consumer, wearable devices with efficient power management are becoming established as a product category in addition to our strong presence in high performance power solutions in smartphones and other mobile devices. And in the server market, cloud datacenter customer increasingly demand smaller and more power-efficient solutions to lower the cost of ownership of their datacenters.
We have leading expertise in creating differentiated efficient power management solution in all of these markets. Maxim is unique and that we have brought engineering know how and talent to serve mill lot wearable applications all the way up to hundreds of amps in small footprint solutions that lead the industry.
Our technologies span ultra low voltage capabilities with dense digital content, two hundreds of volts with high quality and reliability. Beyond power management, we are targeting multiple vertical markets, where we have differentiated highly integrated solutions.
We are being very selective in our investments. This means, we are choosing to only invest in areas where we have significant presence already or we have ideas and expertise to make breakthrough performance improvements that customers value.
These technologies include sensors, embedded microcontrollers with security or analog, robust communications interface circuits audio and several others. And the target markets for these technologies include automotive, cloud datacenter, industrial, healthcare, and mobile products.
In addition, we recognized that approximately one-third of our business is driven by a broad portfolio of core products. We have increased our focus in this area with a dedicated team, which will maximize our return on these long life profitable products.
With that overview of our business, let me now turn to our quarterly results and outlook. Our June quarter revenue performance was slightly below the midpoint of our expectation.
Smartphone revenue was lower than expected, and we experienced broad based weakness in communications market. Industrial was slightly above expectations and automotive grew strongly as forecasted.
Let me provide more color by major markets. Consumer June quarter revenue was sequentially up from March.
However, growth was lower than we expected. We expect the ramp for a new smartphone at our largest mobility customer in the September quarter.
This ramp will partially offset significant projected declines in their flagship line. We are gaining dollar content per unit in this next generation smartphone product and the revenue profiles from our largest mobility customer has become far less wearable compared to prior years.
Our wearable s revenue spanning multiple customers is expected to be down into the September quarter. Overall, we expect that our consumer segment will be strongly down in the September quarter.
Let me next turn to the industrial market. Our June quarter industrial business was slightly up from last quarter driven by core industrial which was sequentially up better than expected.
This was driven by improved orders that we turned within the quarter. Revenue from the industrial verticals was flat as we experienced weakness in smart meters, offset by growth in financial terminals.
In the September quarter, we expect our industrial business to be flat. Let me now provide some commentary on our distribution business.
Globally, end-market bookings were up 3% sequentially and re-sales were flat. In end-market bookings, we saw recovery in China with seasonal declines in other regions.
Globally, we ended the June quarter with 57 days of inventory in the Vis-D channel which was flat from March. Our largest distribution partner, Avnet, is again our largest account, at 20% of total company sales.
Next let me discuss communications and datacenter. Our June quarter communications and datacenter business was down sequentially.
We continue to see broad-based weakness across our portfolio of products in this segment. We are experiencing particular weakness in our optical business related to China infrastructure.
We expect our comms and datacenter business to be down in the September quarter with continued broad based weakness in this sector. Next, I’ll comment on Automotive.
Our June quarter automotive business was up strongly in fact, it was up from the same quarter of last year by 23% and up 8% sequentially. This performance reflects solid content growth in high-end and mid-range cars, and the launch of a new model year of vehicles.
In the September quarter, we expect automotive to again be up, stronger than seasonality driven by our pipeline of design wins ramping into production. A broad set of infotainment applications remains the largest driver in this business.
In the computing market, June quarter revenue was down sequentially. We expect computing to be down in the September quarter.
As you know, computing is a small percentage of our business and we have not been investing in it for several years. To summarize our view for the September quarter, we expect growth in automotive as we deliver on our robust pipeline of design wins for the next model year of cars.
We expect consumer to be strongly down, with a decline of a flagship smartphone only partially offset by the ramp of a new smartphone at our leading mobility customer. We expect industrial to be flat.
Communications and datacenter, and computing are expected to be down. In closing, our revenue is stabilizing with excellent growth opportunities in the future.
Our employees continue to develop innovative, differentiated technology that our customers love, and this will provide a high return on our R&D investment. We remain financially strong and have compelling margin expansion opportunities in our control.
Our plans for transforming our manufacturing structure will improve gross margins with lower variability make us more responsive to changes in customer demand and reduce our capital spending. These initiatives will improve Maxim’s profitability and we will maintain our leadership in the return of cash to shareholders as evidenced by our announcements today of a 7% increase in our dividend payout.
Through our cost saving initiatives and R&D focus on high return investments, we are taking the necessary actions to drive the long-term growth and profitability of Maxim. With that, I will now turn the call over to Bruce for a summary of our financial performance.
Bruce Kiddoo
Thanks, Tunç. As Tunç outlined, we are transforming Maxim, both in how we manufacture products and in maximizing our return on R&D.
As a result, we expect to achieve $180 million in total annual cost reduction. Manufacturing cost reductions are estimated at $100 million annually.
Half are achieved in the upcoming December quarter due to the closure of our San Jose fab plus other cost savings. The other half are expected to be achieved in phases after the upcoming December quarter with the majority of the savings recognized during fiscal 2018 due to additional fab restructurings.
Operating expense savings are estimated at $80 million annually, compared to our just completed Q4 normalized run rate of $200 million. Half are expected to be achieved over the first half of fiscal 2016, while the other half are expected to be achieved over the second half of fiscal 2016.
The closure of the San Jose fab, the conversion of another fab to a strategic foundry partnership and our outsourcing strategy for internal wafer level packaging fab will generate substantial and sustainable improvements to gross margin for the company. The conversion of this fixed cost to a wearable cost model will enable Maxim to improve our flexibility and improve our responsiveness to customers.
Our new manufacturing structure is expected to improve gross margin by up to 400 basis points. When these actions are complete, our gross margin target will increase to the mid-60s percent.
With these structural changes, we also expect to improve our long-term CapEx to revenue model to a range of 1% to 3%. This will lower our annual CapEx to revenue ratio to less than half of the past five year average.
We previously announced a number of initiatives to substantially reduce Maxim’s operating expenses through targeted reductions. I am pleased to announce that we are again ahead of our plan.
Today, we have achieved $80 million in annual savings as reflected in our normalized operating expense level of $200 million in Q4. As previously announced, we stopped investment in the consumer MEMS business, and we also completed the sale of our touch business in the June quarter for $39.5 million.
We are now targeting another incremental $80 million in operating expense savings to be realized in six to 12 months. These savings will be achieved in multiple areas including reducing funding or divesting of non-core businesses, efficiency savings in SG&A and facility downsizing.
As a result of the San Jose fab closure and operating expense reductions achieved by the end of fiscal 2016, we expect to meet our 30% operating margin commitment at revenues in the mid $500 million range. As we execute this plan, we are increasing profit margin and lowering CapEx to revenue.
As a result, we expect to continue to increase our free cash flow and earnings per share. We are confident in our ability to grow free cash flow and therefore are increasing our dividend by 7% to $0.30 per share.
Now, I will turn to Maxim’s fourth quarter financial results. Revenue for the fourth quarter was $583 million, up 1% from the third quarter and slightly below the midpoint of our guidance.
Sequential growth was primarily driven by continued strength in our automotive business. Our consumer business was up sequentially, but below expectations due to weakness in unit volume sales of a flagship smartphone.
Our revenue mix by major markets in Q4 was approximately 32% from consumer, 27% industrial, 22% comm and datacenter, 14% automotive and 5% computing. In the June quarter, our consumer business was up sequentially due to a flagship smartphone ramp.
Our largest mobility customer’s revenue as a percentage of total company revenue was approximately flat with the prior quarter. Our industrial business was slightly up sequentially, better than expected, driven by improved bookings and turns in our core industrial end-market within the quarter.
Our communication and datacenter business was down sequentially with broad-based weakness in this market. Our automotive business was strongly up sequentially, as we continue to gain share across a broad base of customers and products.
And finally our computing business was down sequentially. Turning to the P&L, Maxim’s gross margin, excluding special items, was 60.9%, up from 59.6% in the prior quarter and above the midpoint of our guidance.
Gross margin benefited from lower spending and higher utilization in the March and June quarters. Special items in Q4 gross margin included intangible asset amortization from acquisitions and accelerated depreciation from the closing of our San Jose fab.
Operating expenses, excluding special items, were $194 million, down from $200 million in the prior quarter. The decrease in operating expenses was driven primarily by savings from year-end credits and our cost reduction initiatives.
Without the one-time credits, the normalized operating expense level was $200 million. Special items in Q4 operating expenses included normal acquisition-related charges and restructuring charges related to our cost reduction initiatives.
Q4 GAAP operating income, excluding special items, was $160 million, or 27.6% of revenue. This increased from 25% in the prior quarter and 22.2% two quarters ago.
The Q4 GAAP tax rate, excluding special items was 19%, up from 17.6% in the prior quarter which benefited from one-time items. GAAP earnings per share excluding special items, was $0.43, above the high-end of our guided range, primarily driven by higher gross margin and lower operating expenses.
Turning to the balance sheet and cash flow, during the quarter, cash flow from operations was $222 million, or 38% of revenue. Inventory days ended at 115, down 1 day from Q3.
Inventory dollars were down 3% from last quarter. Capital additions were $13 million in the quarter, net of nominal proceeds from asset sales.
Capital additions are well below our normalized level of $38 million per quarter of depreciation, enabling free cash flow to outpace earnings. Trailing 12 months free cash flow ending in Q4 was $647 million, or 28% of revenue.
Share repurchases totaled $36 million in Q4 as we bought back 1.1 million shares. We also paid dividends of $0.28 per share which totaled $80 million in the quarter.
With the increase in our dividends at $0.30 per share, the yield is approximately 3.7% at yesterday’s closing stock price. Overall, total cash, cash equivalents, and short-term investments increased by $159 million in the fourth quarter to $1.63 billion.
Moving on to guidance, our beginning Q1 backlog is $366 million. Based on this beginning backlog and expected turns, we forecast Q1 revenue of $545 million to $585 million, which reflects above seasonal growth in automotive and consumer strongly down sequentially.
Q1 gross margin excluding special items is forecasted at 60% to 63%, flat to up slightly at the midpoint from the prior quarter. Special items in Q1 gross margin are estimated at approximately $49 million, primarily for amortization of intangible assets and accelerated depreciation related to the closure of San Jose fab.
Q1 operating expenses, excluding special items, are expected to be flat from the prior quarter with ongoing cost reduction initiatives offset by year-end credits in the prior quarter and our annual merit increase in September. Special items in Q1 operating expenses are estimated at approximately $4 million for amortization of intangible assets.
Our Q1 and all of fiscal year 2016 tax rate, excluding special items will be 18%. Starting in fiscal 2016, we are changing to a fixed tax rate excluding special items to minimize quarterly variations due to timing of discrete items and tax law enactment days such as renewal of the US R&D tax credit.
We will review this tax rate annually and adjust as appropriate for major changes in our structure or changes in tax laws. For Q4, GAAP earnings per share, excluding special items, we expect a range of $0.35 to $0.41.
For fiscal year 2015 gross capital additions are expected to be at the low end of our target range of 3% to 5% of revenue. Due to the sale of capital assets net capital expenditures are expected to be well below the low end of our target range.
We expected to continue to repurchase shares in Q1 consistent with our buyback metrics. In summary, we are seeing the results of targeted steps to reduce spending, which enable us to improve profitability at any revenue level.
We remain committed to meet and exceed our 30% operating margin target, which will benefit from expected revenue growth and planned spending reductions. And finally, we remain focused on growing free cash flow and returning cash to shareholders, as demonstrated by our dividend increase and high dividend yield.
With that, I’ll turn the call back over to Kathy.
Kathy Ta
Thanks, Bruce. That concludes our prepared remarks and we now welcome your questions.
In the interest of reaching everyone in the queue, please ask just one question with one follow-up. Jonathan, please begin polling for questions.
Operator
[Operator Instructions] Our first question comes from the line of Harlan Sur from J.P. Morgan.
Your question please.
Harlan Sur
Hi, good afternoon. Thanks for taking my question.
On the manufacturing footprint realignment, Tunç, I think you mentioned conversion of one fab to a strategic foundry partnership. Can you just give us a bit more detail?
I mean, are you partnering with someone here to keep the fabs loaded? I am not sure what this new structure actually entails?
So any help here would be great.
Tunç Doluca
Yes, so, okay, so le me give some more information on that. So the idea here is that, in the long-term, we have our newest generation technology that we’ve developed that we are beginning to put into production.
Essentially, it’s going to be sourced externally in 300 millimeter sources and that means that it’s going to reduce some of the loading we have and in the long-term, we expect that to lighten the load more on our internal fabs. So, we thought that the best way to approach this was to set up a strategic foundry arrangement where we have a long-term supply agreement to continue to support us.
We do have a lot of customers that rely on that type of agreement. So we’ll be able to support them.
And the balance of the fab can be loaded by other customers, our strategic foundry partner can have with their own technology. So, it essentially bring up their own technology in the same fab.
And this gives us the best of both worlds. We keep the fab loaded.
It also enables us to fully load the fab that we will continue to own for a foreseeable future and that keeps all of the loadings good and then the fixed cost gets reduced for us in the long-term.
Harlan Sur
Okay, great. Thanks for that.
Tunç Doluca
Sure.
Harlan Sur
And then, on the September quarter, it sounds like automotive continues to be strong. Industrial looks seasonally flattish, but within this, can you just give us some color from a geographical perspective?
Because I know, I think last quarter, you guys saw weakness in China and a little bit of weakness in Europe at the margins. Have demand trends normalized a bit to a point where you are seeing sort of seasonal trends in industrial or there is still some pockets of weakness within your geographical base?
Could you just give us some color there as well?
Bruce Kiddoo
Hi, Harlan. This is Bruce.
I’ll take that. So I think, as we guided, industrial, we are saying it’s flat.
The core industrial we expected to be down seasonally and we do expect overall our vertical markets the absence of that how we get to the overall flat. What you talk about from a geographic point of view, your memory is good.
Last quarter we had talked about weakness in China. We’ve actually seen a nice recovery in China both in re-sales in the June quarter and in end-market bookings.
So that market is doing better than the prior quarter. We’ve seen a normalization in Europe.
Remember last quarter we had talked about how kind of the inventory in the channel in Europe had gone down significantly. We’ve seen that come back up and re-sales and end-market bookings are kind of inline with normal seasonality now.
I would say the one area that might be a little bit weak for us is North America. But when we dug into that, it seems like a majority of that is maybe Maxim-specific, some of our specific customers that go through the North America channel.
So overall, China has improved. Europe seems kind of inline with normal seasonality and North America maybe a little bit weak, but maybe due to Maxim-specific customers there.
Harlan Sur
Got it, just one last question. So, given the heavy restructuring and the improvements in profitability, obviously a part of it as you mentioned is going to be rationalizing some of the business lines.
At a high level, when you think about the Sam – so I guess, my question is, does that change the Sam opportunity longer term for Maxim and as you size your expense structure, do you expect that your revenue opportunity is at the same time lower relative to what you were thinking, six to nine months ago?
Tunç Doluca
So, we do – there will be some small effect to the Sam opportunity, obviously as you reduce investment in some of the individual markets or product lines, there will be some. But it’s minor and also it’s the markets or product lines that we feel are high risk.
So, from that point of view, there was growth opportunities there, but it carried, in our view a higher risk. So, with these changes, what we believe is going to happen is that, in areas that we have really increased investment and focused on the core product areas that I mentioned in my prepared remarks, that will enable us to grow in those markets faster and as a result, we believe the overall growth of the company in the future is really not compromised.
Harlan Sur
Great, thank you.
Kathy Ta
Thanks, Harlan.
Operator
Thank you. Our next question comes from the line of Ross Seymore from Deutsche Bank.
Your question please.
Ross Seymore
Hi, guys. Thanks, for letting me ask the question.
I guess, the first one is for Bruce. Just trying to fold in the old restructuring with the new restructuring and where they overlap assumingly in the back half of this year.
Can you just walk us through again how the old goes the new with the half in OpEx in the first half of this year and the half in the second. Can you just give us a little more of a roadmap that would be helpful?
Bruce Kiddoo
Sure, when you look at the – let’s kind of split it up between cost of goods sold and operating expenses. In the cost of goods sold side, we had indicated that we are going to save about $100 million annually from our – kind of our Q4 run rate.
Of that, about half of that or a little less than half, right, we had said about $45 million would come from the closure of the San Jose fab and so that piece we had previously announced. But we kind of wanted to kind of reset everybody to the June quarter as the baseline for comparison.
So about half of the operating of the – excuse me – of the COGS comes from San Jose fab. The other half is going to come from really the two fabs actions.
The conversion of the one fab to a strategic foundry partner and the outsourcing of the other fab and ultimate closure of that fab, that package fab. In the operating expense side, we’ve basically achieved what we said we were going to achieve.
We took from last October when we are running at about $220 million in operating expenses. We got down to $200 million.
In the June quarter, we actually came in at a $194 million in operating expenses. However, there was some kind of just the normal year-end true-ups that occur kind of pluses and minuses, but this year, that brought us down below our guidance and if you kind of look at that on an ongoing basis, that baseline is really $200 million and of that base, we think we can get another $80 million.
Again, this is kind of the type of things that Tunç talked about around the funding, lower funding or divestiture of non-core assets and just other savings across the company and including some facility downsizing. And we’ll get half of that probably in the – we’ll achieve all of that $80 million during FY 2016.
So that exiting the first half of the year, you should see us at a $190 million level and sort of exiting the end of FY 2016, we should get down to the $180 million. I would say the one item you have to always think about there is bonus, to the extent that you know we continue to execute on our growth plans and profitability improves.
That would be the one offset to that math.
Ross Seymore
So, there is really no impact of the new stuff in the September quarter itself in the exact guidance you gave flat sequentially in OpEx and in the gross margin that you had?
Bruce Kiddoo
When you…
Tunç Doluca
In the September quarter, you are asking about, Ross?
Ross Seymore
Yes.
Bruce Kiddoo
Yes, September is, there is nothing really in there from a meaningful way, right. Obviously, we have the merit normally that occurs in the September quarter and we had those one-time credits in June.
But even with both of those, we are still keeping OpEx flat. So there is, we are getting some benefits that we are absorbing the merit, right.
So that’s the piece you have to worry about and then the one-time credit for resetting the baseline to 200. So if you start at 200, in essence, we’ve been able to absorb the merit and still achieve the incremental $80 million in savings.
Ross Seymore
I guess, my one meaningful follow-up question then more for Tunç, as you look at the profile of the company, you are exiting some businesses, you are consolidating, your thoughts, a lot of things I think investors are going to like. One aspect is the mix to your business still is relatively consumer heavy, with those tweaks that you are making in areas that you are de-emphasizing, how do you think your end-market revenue mix will look a couple of years down the road?
Tunç Doluca
So, the best way to get at that is to see, which markets we expect to grow in terms of revenue and that will give at least directionally give you some idea. First of all, we think automotive is going to continue to grow for us.
We grew significantly. Last year, it was, as I said in my prepared remarks, it was 23% year-over-year and it will be probably be even better than that on a year-over-year basis in the September quarter.
So we are kind of modeling that as maybe in the mid-teens longer-term because it will, as we get bigger and bigger it will probably slowdown. But it still will be our highest growth segment.
Industrial, we expect to benefit from the longer-term growth of our dual-prong strategy to invest in the verticals and our core business. Comms and datacenters, we are seeing softness today, but ultimately, we believe that the infrastructure side of comms will begin to build out geographically.
And also we expect some business to begin to come in for our cloud datacenter customers, which is very low right now. So we’ll see some growth in comms and datacenter as well.
And mobility the way we are essentially modeling that is that it’s kind of stabilized at the level we are at. We expect that to happen.
And really, it will grow at a level that’s kind of modest for us, is the way we are planning it. So, if you look at two years from now, obviously the automotive piece of the pie will be bigger.
The industrial piece of the pie will be bigger. Comms and datacenter will be larger, but not by that much is our view.
And mobility will be slightly smaller probably, because of the other market is growing faster. So, I can’t give you numbers, but I think directionally, that’s the way we are headed.
Ross Seymore
That’s perfect color. Thank you very much.
Kathy Ta
Thanks, Ross.
Operator
Thank you. Our next question comes from the line of Tore Svanberg from Stifel.
Your question please.
Tore Svanberg
Yes, thank you. First question for Bruce.
Bruce, you talked about getting back to the mid 60s gross margin. Now, I know you – talked about some of the closures and changes of mix and so forth that, should we imply that you will get there at that mid – I think you said 550 level or is there sort of no timeline when you expect to get there?
Bruce Kiddoo
Well, I think at the 550 level, I think that’s based on just the San Jose fab closure and then the OpEx savings that we expect to get in fiscal year 2016 and so, that would get you half way there. If you think of that San Jose fab and what we are doing in fiscal year 2016 about half of the $100 million in the COGS savings.
So I don’t think that will get you all the way to that, mid-60s gross margin. I think that will happen in FY 2018 when we start to really realize the full benefit of the fab restructurings.
Tore Svanberg
Very good. And then on the OpEx restructuring, obviously you can’t get into detail on product lines and divisions on this call, but, from an end-market perspective should we assume that most of that restructuring will happen in the consumer bucket?
Tunç Doluca
As you said, we don’t give the details on a call, but, it’s not really restricted to the mobility or the consumer side of the business. I mean, we’ve looked at some of our other businesses and other segments and in some of those areas as well, there are product lines or markets that we found are sub-markets where the returns are long and the risk is high.
So it’s kind of across multiple markets. It’s not really in consumer side only.
I think the large consumer ones we’ve done and announced that’s the consumer MEMS that we talked about and the touch product that we already completed the sale of. So, it’s – that piece of that is mostly done.
Tore Svanberg
Great, thank you very much.
Kathy Ta
Thanks, Tore.
Operator
Thank you. Our next question comes from the line of Blaine Curtis from Barclays.
Your question please.
Blaine Curtis
Yes, and thanks for taking my question. Bruce, just want to follow-up on some of these moving pieces obviously a lot.
On the strategic agreement, do you have a partner in place and is the timing in 2018, just the right way to think about it, you need to ramp your 300 millimeter and so you get really the full benefits there and then just curious, you lowered the CapEx number, but obviously as this agreement takes hold in 2018, does that go down even further?
Bruce Kiddoo
So, when we – from a status of the conversion, we are in negotiation. So I don’t think it makes sense to say much more than that.
I do think the ultimate agreement will probably take, let’s say around three, six months to finalize. The savings that we’ll get from that, so the agreement will be done in three to six months, the savings really begin to materially improve as our partner has the ability to improve the loadings in that fab by bringing in outside customers.
And so that’s really the piece that we are allowing the time for and say, and indicating the savings won’t be until FY 2018 for that conversion. From a CapEx point of view, I think the 1% to 3% is probably a good long-term view.
I mean as you would expect, we are not investing today in those fabs that we are looking to restructure. And so from that point of view, I think, this is probably a good long-term CapEx model to use.
Blaine Curtis
Thanks. And then in just terms of product segments, wireless base station have been weak, you don’t have much exposure there.
You mentioned optical in China, is that pawn and just curious what you are referencing there? Is there inventory or is it just a slowdown in demand?
Tunç Doluca
So, on the communications front, we are – it’s hard for us to say. We didn’t really have any indications of an inventory build.
So our assumption is that it’s really end-market consumption of these modules. So, that’s pretty much – the only that we’ve got.
So it’s really slower infrastructure spending is what we are seeing. It’s really not – we’ve not noticed an inventory build.
Blaine Curtis
Okay, thanks.
Tunç Doluca
Thank you.
Kathy Ta
Thanks, Blaine.
Operator
Our next question comes from the line of Ambrish Srivastava from BMO Capital. Your question please.
Ambrish Srivastava
Hi, thank you very much. I had been the critical for you in this forum.
So now I’ll take the opportunity to say good job in leading the call up to your shareholders then and taking some concrete steps. Tunç, my question really on the longer-term is, if you look at the core franchise area that you are focusing on and let’s look at automotives where you have grown the business over the last few years, everybody focuses on that.
Could you maybe help us just understand a little bit better the differentiating metrics that Maxim build – brings to that end-market? Thank you.
Tunç Doluca
Okay, so, in the automotive market, just to kind of give you an overall view of why we are excited about it. First of all, as I said, in terms of electronic content in cars, it’s increasing very rapidly and obviously everybody is benefiting from that, not just us but other’s companies as well.
And in that what we are seeing is, is that there is a huge need for a lot of high performance power management products. That’s our largest driver of growth.
And what we are seeing is, that the customers are really needing to build because of the increased electronics in the cars they need more power supply, it’s more power supply rails and this increased loading on the battery especially, when the care is not running or when you have start stop engines that you see for more efficiency. The power supply needs to get smaller.
So customers value that. They need to get more efficient in terms of the ability to delivery energy to their electronic loads but not waste any of it.
And you need to get much more lower in quasi current. So, when the car is turned off the battery drain is reduced as much as possible.
So all of those are really leading to need for higher performance and in many cases, higher integration power supply. So those are the things that we know very well how to do.
And it’s enabling us because of our expertise to really win a lot of sockets especially in infotainment applications, but also in safety applications going into the future. The other area that’s been exciting for us is in video distribution in the car.
This is capability that we developed over the years. These are high speed serial links that are extremely robust.
And those products are really being very successful in either video distribution, in entertainment systems for video signals or the large format displays. But they are also now being used in all kinds of safety applications like 360 degree view around the car, those cameras all have to bring signals back.
And these links are getting – or required to get faster and faster because the resolution keeps increasing of, the requirements keep increasing. So, in these areas we really have much better performance than our competitors that have been able to deliver and that’s what’s been giving us the ability to win.
We also make the most robust USB interface products. Those are also helping us with a lot.
These are – there are more and more USB ports added in cars and in terms of the robustness for things going wrong, the car manufacturer are a far more careful of those than other consumers type applications and we are able to deliver that protection much better than our competitors. So, these are some areas where we have a differentiation and the fact that we keep growing revenue at 30% per year is, I think it’s proved that the customers are valuing these technologies and the performance of these products.
Ambrish Srivastava
I had a quick follow-up on the process technology front, process is also an important part of in the envelope company. With all the cutbacks that you are planning, how do you balance the needs and the investments in that area versus the areas that you are de-emphasizing especially in light of also on the manufacturing front, you are talking initiatives to bring down your manufacturing footprint.
Thank you.
Tunç Doluca
Sure, and actually thank you for asking that, because we didn’t talk about that, well we just mentioned it as we are collaborating with them, but I can expand some more on it. So, obviously, we will have one of our fabs still running under our ownership.
We will continue to run our process technologies that are extremely specialized for many analog applications. And that will be a workhorse for us and continue to do process development there.
But we’ve also found that, in these collaborative arrangements with our foundry partners, especially in higher volume type applications, we really do need 300 millimeters for cost reasons and also for flexibility in terms of changing demands from our customers. And what we find that we can do process development actually more efficiently through those foundry partners than we’ve been able to do internally, especially in geometries in analog they were not used to.
So when we get down to like a 90-nanometer technology, or fabs have trouble during the back-end and we usually work on trying to solve those problems which have already been solved by our external foundry partners. So we find that we can do process development that is specialized for Maxim even quicker than our foundry partners than we can in-house when you talk about finer geometries and mixed analog and digital chips.
But as I said, we are keeping a key manufacturing facility for wafers for us and we’ll continue to do specialized process development there as well. So we believe we are going to have the best of both worlds and we will keep these technologies proprietary.
We are working with strategic partners with arrangements, so that process technologies we developed are just for us and not for other potential competitors to use.
Ambrish Srivastava
Thanks for the detail. Good luck.
Kathy Ta
Thanks, Ambrish.
Operator
Thank you. Our next question comes from the line of John Pitzer from Credit Suisse.
Your question please.
John Pitzer
Good afternoon guys. Thanks let me ask the question.
Bruce, I guess my first question, on that mid 60% gross margin target, I guess, I am just trying to help understand a little bit better is that all coming from the restructuring on the manufacturing side, because there is still kind of a big gap between D&A and CapEx and given your commentary around CapEx, as those two converge, there is gross margin leverage inherent in that. So I am trying to figure out does the mid 60 encapsulate sort of D&A and CapEx convergent or would that be upside to a mid 60 gross margin target?
Bruce Kiddoo
That will be upside to that target. When we look at the restructuring activities, obviously some of that restructuring activity will reduce our depreciation.
And so for at this $39 million, $40 million run rate for when you add up the San Jose fab and the other two fab restructuring that probably takes off about $10 million worth of depreciation. But then you are still at, let’s say $30 million a quarter in depreciation and we are spending $12 million in CapEx so then we’ll get that tailwind as the $30 million goes down to $12 million.
The one thing to understand, that really starts out in FY 2017 with sort of our asset lives. We are not going to see much of that benefit in FY 2016.
But then we’ll start seeing that in 2017 and we really look at that, that sort of a long-term tailwind on gross margin on top of the restructuring that we articulated today.
John Pitzer
Helpful and then in terms, I want to go back to the question that Ross asked about, sort of long-term mix projection in the business and I think you said consumer will be smaller because it will grow at a slower rate than other markets. And I guess, I want to challenge a little bit, because you are now coming on to the eighth consecutive quarter of sort of double-digit year-over-year declines in consumer.
Since consumer peaked back in March of 2013, the overall business is down 5% plus or minus, the non-consumer business is up 30%. So I am just curious on what the long-term commitment from you is on the consumer market and to the extent that you see this as a growth market, where do you think the growth is going to come from?
Tunç Doluca
Well, okay, so we do see it as a growth market, but essentially we are modeling it as a slower growth. There is always upside there.
But we do – we are doing as we are picking areas where we think that we have a sustainable advantage over our competitors and if you look at those areas, those areas are in power, obviously, you have a good foothold in there. And we are doing various things in the mobility market to let us grow and we’ve articulated this about a year ago or maybe two years ago where we are trying to do two – three things.
Remember number one was, we are working on diversifying the customer base. So we are looking at winning more designs at some of the other customers in this space where we have less presence and we are making progress on that.
And number two was, we wanted to diversify the technologies that we sell. Almost all of our revenue came from power.
And now we’ve got significant revenue base both in sensors and in audio. And in those spaces, our market space is still relatively small.
So that gives us more opportunity or more upside there. And then finally we wanted to – our strategy was to really expand our revenues on the platforms we sell into meaning, in addition to smartphones get a revenue base in tablets and e-readers and wearables.
And we are making good progress there as well. So, if you look at our overall share in these three base technologies, there is room for us to be able to grow these as long as we come up with highly differentiated products for our customers.
But in our modeling we are being – we are making sure that we don’t gear for it to be a huge growth area for us. But the potential is there in terms of these three technology areas that we are investing in.
John Pitzer
Just to quickly follow-up to help me better understand, on the R&D side, does consumer take up a larger portion or approximately same proportion of the R&D budget as it does as a percent of revenue and/or are there technologies that are developed in consumer that are leverageable into other? I am just trying to figure it out from an OpEx perspective.
Tunç Doluca
So, no, I mean the R&D is more efficient. We’ve made adjustments as we saw the declines that you remind me of.
We did make adjustments to the level of spending we had on the mobility or the consumer side. And absolutely, some of the technologies that we develop, especially on the sensor front, we find that they are useful in other markets in healthcare and wearable and so on.
And clearly, on – for example, a great example is in power. I mean, the basic technologies that we developed that goes side-by-side with applications processor and our mobile applications, we really, with minor modifications and go them sell them in automotive.
So, some of that R&D is getting us revenue in other markets and that’s just one example that I could give you.
John Pitzer
That’s helpful, Tunç. Thank you as always.
Tunç Doluca
You are welcome.
Kathy Ta
Thanks, John.
Operator
Thank you. Our next question comes from the line of Craig Hettenbach from Morgan Stanley.
Your question please.
Craig Hettenbach
Yes, thank you, just going back to the topic of longer-term growth as you slim down a bit, is the target to grow inline with the analog space and then as part of that question, what are the thoughts around M&A at some point to supplement growth?
Tunç Doluca
From a growth perspective, historically we’ve said, we wanted to grow, if you’ve been following us for a while and I assume you are, we said we grow at three to five points above the analog market. But then, that’s what when projections were 8%, 9% for the analog market.
So, I think, we’ve continued to believe that we can grow faster than the market, but not twice the market frankly. But I think that our goal is to increase our market share by really focusing in on areas where we have significant presence or we have significant differentiation from our competitors.
So, our goal is to outgrow the analog market growth, but not by a margin that was as wide as we thought it would be a few years ago.
Craig Hettenbach
Got it. And then just as a follow-up…
Tunç Doluca
Yes, you asked about M&A, right, that was the second part of your question.
Craig Hettenbach
Yes.
Tunç Doluca
Yes, so on the M&A front, obviously there is – the industry is having many consolidations that are going on. Our goal is really to look at opportunities for us as well all the time.
We’ve got open eyes. I think in terms of doing our – if we go along with our old strategy which was to do tuck-in acquisitions, there are fewer and fewer candidates that are in the small area, because there have been fewer start-ups.
In terms of other companies that could move the needle for us, we kind of look at them, but we want to make sure that it makes sense for us from a strategic fit standpoint as well. So, we are looking, but we haven’t obviously not pulled the trigger on anything at this point.
Craig Hettenbach
Got it. Appreciate that, the color there.
And just as a follow-up on just the industry conditions, we’ve seen kind of a large range of outcomes and guidance from a couple of companies this week. As you pool your distributors and customers, just love to get your thoughts on just kind of their level of inventory, maybe you can touch on linearity to the quarter you just completed and just how that trended kind of into the start of this quarter as well?
Thanks.
Tunç Doluca
Yes, so, I am very well aware of kind of the mixed news that came up in the last few days, to say at least. We really don’t know the inter-workings of obviously of our competitors.
But if you look at our business, we saw some order weakness. For example, in industrial going into the June quarter and we communicated that actually to investors at the beginning in our call.
It came in better for us than we expected. We had stronger turns orders than we thought.
And in terms of seasonality we are not seeing anything abnormal in our core industrial business and when I say core, these are products that sell to many different small customers in the market. So, we are not experiencing anything that’s really abnormal.
We look at distribution inventory levels. Those look like they haven’t really changed for a long time.
So, things look kind of normal to us right now frankly. And as I say, we don’t really know what goes on in other companies and you have to also consider the fact that we all have the different customer ordering patterns as well.
So some of us get longer lead time orders, some of us get shorter lead time orders. So all of those play into differences you see between different suppliers even when they supply into the same market.
So that timing difference does make a difference. And I don’t, Bruce, I don’t know if you want to add anything?
But that’s kind of what we see.
Bruce Kiddoo
Yes, no I think you covered it well.
Craig Hettenbach
Okay, very helpful. Thanks guys.
Kathy Ta
Thanks, Craig.
Operator
Thank you. Our next question comes from the line of C.J.
Muse from Evercore ISI.
C.J Muse
Yes, good afternoon. Thank you for taking my question.
I guess first question, regarding your new foundry partnership, do you have plans to sell the fab or will this be a JV and I guess the question is, what are the implications to cash flows and should we be thinking about an equity earnings line in the future?
Bruce Kiddoo
No, we don’t see this as – we see as moving down the path of selling the factory. We don’t see this as a JV.
When we talk about a partnership, it’s a similar partnership that today we have with our strategic foundry partners where we work closely with them. We’ve talked before how we transfer our proprietary manufacturing processes to those foundry partners.
In this case, those processes exist at the fab today. But the buyer of the fab will have the long-term supply agreement with them.
So they will continue to support our proprietary processes which are critical for our customers and for the nature of the analog business which has very long product cycles.
C.J Muse
That’s helpful. And I guess, as my follow-up with your lower annualized tax rate of 18%, curious how we should think about the implications to your cash generated onshore versus offshore?
Bruce Kiddoo
Sure, I think, we’ve generally done a good job. I think, we’ve historically been about having kind of 40%, 45% of our cash onshore.
And we’ve actually, I think done a good job continuing to manage that. So I don’t see any major change in that.
If you look at our tax rate over time, we’ve always given 20% long-term tax rate. But that’s always had excluding R&D tax credit, maybe or and so what we try to do is we kind of look back over the last couple of years, and said what is our on average sustainable tax rate and set that as our tax rate ex special item.
So that we can forecast and look at a stable tax rate not have the quarterly gyration. So that’s what – I wouldn’t read the 18% as any change to what we’ve said before or any change in how we view onshore offshore cash.
It was just an attempt to try to provide a more stable tax rate for investors and for the company to plan things.
C.J Muse
Thanks and if I could see one last one and you talked about that incremental $50 million COGS savings in fiscal 2018, should we be thinking that about that in terms of entirely loadings and savings from outsourced packaging or are there other smaller items in there that will help drive the savings?
Bruce Kiddoo
There are other smaller items. But I think the bulk of it you should think of it as from the two fab restructurings.
C.J Muse
Wonderful. Thanks so much.
Kathy Ta
Thanks, C.J.
Operator
Thank you. Our next question comes from the line of Ian Ing from MKM Partners.
Your question please.
Ian Ing
Yes, thanks. So with the opening backlog I am getting turns of 35% to meet the midpoint of guidance.
I mean, is that conservative or is that normal for September, what the consumer more fully booked?
Bruce Kiddoo
That’s normal for us. I think if you look at us historically, we are almost always pretty close going into a quarter about two-thirds booked and so I think we feel comfortable at with this level backlog going into the quarter.
Ian Ing
Okay, great. And then it looks like, consumer is sort of stabilizing here, I mean, what are the key areas you would need some contributions to keep the consumer with business stabilized and perhaps going from here?
Tunç Doluca
So from a consumer standpoint, obviously our largest customer is the bulk of our consumer sales. The important thing for us is to make sure that we are maintaining our dollar content and we are able to do so with our great products.
So we think that we will do so in next generations as well. It’s hard for us to predict what the revenues are going to be because we don’t really know how many unit sales are going to happen.
Now in terms of our modeling, we are assuming that Samsung will really not change that much as a customer in terms of revenue and we are trying to win other designs in variables and I think everybody is well aware of our content now and the wearable product that got announced in the beginning of the summer. And then we have other wins that are happening especially on the fitness side with many other customers in that space.
So those should be tailwinds for us as they ramp into production in the second half of this year. But, it still depends a lot on how our largest customer does.
There is no denying that. Although they have become a smaller percentage now of our consumer business compared to what they were last year.
And they also are doing a better job of managing inventories. So we are getting gyrations from that large customer that are much more muted than they were last year, it’s probably about a half in terms of how much it changes from the revenue changes from quarter-to-quarter.
So, I guess, I gave a few examples of product areas where we can set up and start growing again.
Ian Ing
Okay, nice design wins, we keep our fingers crossed on the units. That’s all I had, thanks.
Kathy Ta
Thanks, Ian.
Operator
Thank you. Our next question comes from the line of Chris Danley from Citigroup.
Your question please.
Christopher Danley
Hey, thanks guys. I have two questions.
The first is kind of a quick one. When all said and done with all the manufacturing changes, what will be your approximate percentage of outsourced manufacturing and how much do you think will be on 300 millimeter?
Bruce Kiddoo
Yes, so, we’ll have to wait and see exactly because clearly what we are going to – one goal this is to improve loading in the remaining internal fabs. But it will certainly be significantly less and probably quarter to a third.
It probably be kind of a reasonable range at this point in time. And when we look at that from a 300 millimeter point of view, today, probably about half of our external is on 300 millimeter and going forward with our new 90-nanometer process, that’s all on 300-millimeter.
So our present 300-millimeter will go up over time.
Christopher Danley
Thanks.
Tunç Doluca
Yes, we can provide direction like Bruce just did, but given percentages is kind of difficult, because it’s hard to predict the, as I said, the unit sales of our largest customer.
Christopher Danley
Yes, I just wanted some approximation and then bit of a longer winded question. So, I guess, just on both sides of the M&A, if you guys have plenty of cash, you said that, you’ve been looking really haven’t found anything yet.
Would you consider going up the ladder and doing some sort of I guess transformative acquisition and do you guys have some sort of timeline so, in other words if we are sitting here, or if you are sitting here six months to a year you saw that sound that if you thought about other uses of the cash and then on the other side, it sounds like you want to do some divestitures. What do you think the approximate revenue impact would be?
Is it just a few percent? Or 5% or any kind of color there would be helpful.
Bruce Kiddoo
Yes, this is Bruce. So certainly we have no timeline on any acquisition, whether it’s a smaller one or a larger one.
Our clear goal is, if we do an acquisition and especially to the extent, as they sort of increase in scale to get it right and make sure we are buying a quality asset, a quality team and we are getting it at a reasonable price and can obviously create value for shareholders. We’ve certainly talked about and looked at type of companies that are sort of in – that are suffering from scale today and whether those are in sort of a $1 billion, $2 billion market cap range.
So there are larger acquisitions out there, certainly than deals we’ve done in the past. But because they are larger, it’s a requirement on us to make sure we are very selective in that process.
So that’s how we are thinking about it from an M&A point of view.
Tunç Doluca
And the other part of your questions was about, what’s the revenue impact of product lines we divert. They are low single-digits in terms of revenue dollars as a percentage of our sales.
But in terms of operating profit dollars, it actually increases our operating profit dollars.
Christopher Danley
Great. Thanks, guys.
Bruce Kiddoo
It kind of vary about single-digits.
Christopher Danley
Okay.
Kathy Ta
Yes, thanks a lot Chris. And Jonathan, I think we can squeeze in one more question.
Operator
Certainly. Our final question comes from the line of Steve Smigie from Raymond James.
Your question please.
Unidentified Analyst
Thanks, this is [Indiscernible] for Steve. I was hoping to quickly touch upon the die center.
I was wondering if you could breakout the revenue contribution, our traditional enterprise server as compared to that more of the emerging cloud and if you are seeing any different trends between the two?
Tunç Doluca
We do not breakout our revenue between those two. But I can tell you that we – our revenue coming from cloud datacenter customer is pretty small.
So, and that’s the growth area that we are really investing in very heavily after we bought the Volterra area both the power and also in our optical products. So, frankly there is no need to break it out, because there is not much of it in the cloud datacenter today.
So that’s all upside for us.
Unidentified Analyst
Okay, perfect. Thanks.
And then, moving on to small cell wiring, what kind of opportunity do you see over the next few years? Is this time that you see ramping perhaps in 2016, I mean what kind of size of revenue you can achieve?
Bruce Kiddoo
So, in small cells, we’ve really developed products and technology that’s very appropriate for it, but the market really has not taken off. So, it’s kind of like we’ve prepared everything and waiting, but in terms of the design wins we’ve got, they are not really getting – our end-customers are not getting a lot of traction in terms of deploying these things.
So, it’s a market that we are waiting for something to happen is the best way to put it. And we are being very cautious about further investments in it for that reason as well.
Unidentified Analyst
Okay, great. Thank you.
Kathy Ta
Thanks.
Bruce Kiddoo
Okay, so this is Bruce. I just wanted to kind of step in and clarify one answer Kathy, kind of indicated maybe I wasn’t that clear as I should have been.
So to Ross’s question and really thinking about our Q1 guidance for OpEx. We are guiding it flat to $194 million.
We are benefiting from some additional cost savings in the first quarter, which are in essence replacing the one-time items that occurred in Q4, that allows us to bring our spending on a permanently down to that $194 million range and just for clarity the reason we’ve kind of centered on the $200 million as a normalized level, we fundamentally are telling you, we are going to be when we are all done at $180 million. So if there is any questions on modeling, with the one-off that to that of course is the – to the extent our profit sharing goes up.
And, so hopefully that’s clear. We understand there is a lot of moving parts on that.
Certainly, Kathy and I and Mike will be available to provide further clarification after the call.
Kathy Ta
Okay, Jonathan, I think that wraps up our Q&A session.
Operator
Thank you and thank you…
Kathy Ta
So with that, I’d like to conclude our conference call today and we’d like to thank you for your participation and for your interest in Maxim.
Operator
Thank you ladies and gentlemen, for your participation in today’s conference. This does conclude the program.
You may now disconnect. Good day.