Q3 Earnings Conference Call Remarks
Tuesday, October 25, 2011
Carlo Bozotti, President and Chief Executive Officer
Thank you for joining us on today’s conference call to discuss our financial results, product advances and outlook. I would also like to share with you our initial views on the early part of 2012.
Turning first to an overview of the third quarter, as you have seen from our press release, our third quarter results were substantially in line with the outlook we had provided. At that time when we set the third quarter range in July, our outlook may have surprised people but in fact we were subsequently proven correct by the number of semiconductor companies that pre-released in the September timeframe.
Looking at ST’s results, net revenues decreased 4.9% sequentially, at the low end of our range, reflecting the overall weaker economic situation in different regions and end-markets we had begun to note in June as well as further progressive weakening over the course of the third quarter.
Gross margin also came within our guidance range, in fact slightly above the mid-point with a gross margin of 35.8%. One of the key components of the sequential decrease relates to the anticipated underloading of our wafer fabs and resulting unused capacity charges. Here, we were responding to lower demand from a major customer as well as working to bring down our inventory levels in general due to the softening we were seeing in several product families, including digital consumer and microcontrollers.
Beyond revenue and gross margin, our various product families’ revenues and operating results also tracked to our expectations.
In line with our approach to the third quarter, let me share our outlook for the fourth quarter and directionally for the 2012 first quarter. We think it is appropriate to report the broader and more significant weakness in the semiconductor market environment that we are experiencing. There is a good deal of macro-uncertainty and so we think it is reasonable to take this level of caution going into the fourth quarter and beginning of 2012.
Today our best judgment is that fourth quarter net revenues will decrease sequentially approximately 8%, within an overall revenue range of about $2.15 billion to $2.30 billion. We expect weakness in most of our product segments with the exception of wireless where a slight sequential increase in net revenues, driven by new product penetration, is anticipated.
Our fourth quarter gross margin outlook is about 33.5% with a plus or minus range of 1.5 percentage points compared to our normal 1 percentage point assumption to take into account increased market uncertainty. Our gross margin outlook mainly reflects lower volumes and further substantial unsaturation charges, higher than those experienced in the third quarter. Our goal had been to bring inventory into full alignment or close thereto in the third quarter. While we did make progress, given the further weakening of the semiconductor market we are continuing to take aggressive actions. For example, we have initiated programs to significantly reduce activity using the highest flexibility provided by the local laws in each jurisdiction we operate, during the fourth quarter to align with where we believe the market will be.
With respect to capital expenditures, we anticipate that second half expenditures in total will be substantially lower than the first half as we outlined last quarter and that remains our expectation. The third quarter level of $384 million reflects equipment that was delivered in the first half and paid for in the third quarter, so there is some lag to the reduced spending. Looking to the fourth quarter the figure will be very significantly reduced.
Without giving a specific free cash flow outlook, based upon our investment plans and fourth quarter revenue outlook we anticipate a very substantial improvement in our free cash flow during the fourth quarter following the last two quarters of negative free cash flows.
Based on our experience with industry cycles, we proactively took action steps last quarter to help navigate through this period and maintain our solid financial position rather than wait for more concrete signs of more than a multi-quarter semiconductor inventory correction.
At October 1st, cash and short-term deposits equaled $2.54 billion, total debt, including 100% of ST-Ericsson’s debt, as consolidated by ST, was $1.71 billion and our net cash financial position was $827 million. Our about $1 billion in committed credit facilities remain in place and we plan to continue in the near term to reduce debt, including the potential redemption of our convertible debt in February 2012. Let me be very clear here. Even with the heavy investments to support R&D at ST-Ericsson our financial position is strong and will remain so.
We do anticipate at this point that fourth quarter market conditions will likely impact sequential revenue trends into the first quarter so our caution extends into 2012. At the gross margin line, based on current visibility, fab underloading will continue into the first quarter of 2012.
At this point, now let’s turn back to the third quarter sales in further details. As I indicated total revenues were substantially in line with our expectations.
Looking by product segment, ACCI’s revenue came in slightly below $1 billion. Sequential results reflected market weakness and also our anticipated exit from hard disk drive SoC. We did benefit from year-over-year growth in both automotive and imaging which were also two areas of strength during the second quarter.
As we outlined last quarter, our Power Discrete Products sales are being negatively impacted by lower demand largely related to a major customer and softer than expected demand in Industrial markets.
AMM was lower sequentially but posted year-over-year growth thanks to our MEMS business. We remain on track for our MEMS business to double in 2011 compared to 2010 as MEMS sales for the first nine months have grown by almost 130% compared to the year ago period.
Wireless, showing the progress of ST-Ericsson, posted a sequential increase in net sales of 18.8%, but it is down significantly year-over-year with substantial operating losses.
Let me turn now to a brief review of our nine months results which demonstrate the sales advances and improved profitability for all of our wholly-owned businesses.
Looking at the top-line, net revenues from our wholly-owned businesses increased over half a billion dollars, or 9.3%. AMM’s net revenues increased by 18.6%, ACCI’s rose by 5.7% and PDP by 3.5%.
When you think that this sales expansion was made while also facing headwinds, including the market softening and customer-specific issues affecting several product segments, it is certainly a solid result. In particular, we saw growth in MEMS, automotive ICs, microcontrollers and imaging products.
Based upon these figures, our wholly-owned businesses have clearly performed higher than expected market growth.
Secondly, operating income from our wholly-owned businesses totaled $779 million for the first nine months of 2011. This represents an increase of 28% year-to-date. Again, we did this with headwinds so not all clear sailing.
And from a profitability perspective ACCI, AMM and PDP all saw important improvement in their operating margin, with AMM at 21.0%, PDP at 12.5% and ACCI at 9.7%.
So all in all we made very good progress on a year-to date basis with our wholly-owned businesses. And we think there is more value to be extracted and so we are making some changes to our product segments internally in order to further sharpen our focus and leverage our resources.
We intend to grow and capture value in both analog and digital.
Specific to digital, in order to further enhance R&D effectiveness, reduce time to market and better exploit synergies, we have decided to combine all efforts in our wholly-owned businesses in the area of multimedia processors in one unit. Therefore, effective January 1st we will bring together all application processor activities related to non-wireless digital platforms in a new product group named Multimedia Convergence Platforms. And we have decided to combine all activities concerning Imaging and CMOS ASICs in a new product group called Imaging and ASIC Group. The microfluidic division and the BCD Power division, today in CCI, will be moved to AMM. These transfers will create important synergies in the areas of MEMS and BCD technologies and will support our goal of ensuring we have the appropriate focus on key parts of our digital business.
So our objectives are clear: for analog and mixed signals we want to expand our sales opportunities over the mid-term and in our digital businesses our goals are both higher sales and improved profitability.
Before concluding just a few brief comments on some of our new products and design wins:
We are continuing to build our leadership in Sense and Power. During the quarter we introduced our new family of microcontrollers, the world’s fastest microcontroller based on the ARM Cortex-M4 core, and low-cost discovery kits to help customers get started using it.
In MEMS, we’re committed to maintaining and growing our leadership position in consumer and portable applications and in Q3 we launched several new members of the iNEMO family of advanced motion-sensing modules as well as the iNEMO Engine Sensor Fusion suite. We also announced two new gyroscopes, including the world’s smallest and another with exceptional noise immunity.
Step by step, we continue to strengthen our position in Multimedia Convergence. This has been a quarter of breakthrough launches for this pillar of our vision. We introduced and demonstrated Orly, the most powerful Set-Top Box System-on-Chip on the market. Because it is able to decode four full HD streams simultaneously, Orly enables a truly connected home where consumers can seamlessly stream content across their TV sets, tablets and laptops with the highest performance and speed, while accessing operators’ app stores as well as open-market stores.
Moreover, we launched our latest-generation broadband-TV home entertainment platform, which recognizes the TV is the center of our connected homes and allows a more personalized and socially interactive viewing experience, with amazing 3D graphics and easy-to-use smart navigation.
In automotive, we achieved major design wins for an embedded microcontroller from a leading Korean car maker for a chassis-controller application, and in car body applications with a major US Tier1 customer. We also won a major anti-collision system design with a worldwide leader in automotive safety and we were awarded the main processor socket in a multimedia car radio for a leading global automotive supplier.
To wrap up, I want to be clear that we anticipate that the fourth quarter and early part of 2012 will reflect a weak semiconductor market environment. Also, ST-Ericsson is currently in a transition from legacy to new products. The Company’s innovative product roadmap well positions ST-Ericsson for success as an industry leader and will translate our current efforts into a value opportunity in the future. As you saw last week, ST-Ericsson’s third quarter results show progress in that respect. However, in the event of a significant worsening of the current market conditions or a lack of results, we will consider additional actions to improve performance.
At the same time we have made solid progress in a number of areas so far this year in an environment that is quite mixed. Our financial position is strong and will continue to be the case in the quarters to come.
We would be happy to take your questions now.