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Advanced Micro Devices, Inc. (NYSE:AMD)

Q4 2012 Earnings Call

January 22, 2013, 5:00 pm ET

Executives

Ruth Cotter – VP of IR

Rory Read – President, CEO

Devinder Kumar – SVP, CFO

Lisa Su – SVP, General Manager Global Business Units

Analysts

David Wong – Wells Fargo

Patrick Walsh – Credit Suisse

Hans Mosesmann – Raymond James

CJ Muse – Barclays

Joseph Moore – Morgan Stanley

JoAnne Feeney - Longbow Research

Adeline Lee – Citi

Mark Delaney – Goldman Sachs

Steven Eliscu – UBS

Aashish Rao – Bank of America

Operator

Good day, ladies and gentlemen, and welcome to the AMD fourth quarter 2012 earnings 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 follow at that time. (Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to introduce your host for today’s conference, Ruth Cotter, Vice President of Investor relations. Please go ahead.

Ruth Cotter

Thank you and welcome to AMD’s fourth quarter and year-end earnings conference call. By now, you should have had the opportunity to review a copy of our earnings release and the CFO commentary. If you have not reviewed those documents, they can be found on AMD’s website at quarterlyearnings.amd.com.

Participants on today’s call are Rory Read, our President and Chief Executive Officer, and Devinder Kumar, our Senior Vice President and Chief Financial Officer. Lisa Su, our Senior Vice President and General Manager Global Business Unit will be present for the QA portion of the call.

This is a live call and will be replayed via webcast on amd.com. I’d like to take this opportunity to highlight a few dates for you. John Burn, Senior Vice President and Chief Sales Office, will present and the Goldman Sachs Technology and Internet conference on February 12th in San Francisco.

Rory Read will present at the Morgan Stanley Technology and Media Telecomm conference on February 26th in San Francisco. Our first quarter quiet time will begin at the close of business on Friday, March 15th.

And lastly, we intend to announce our first quarter earnings on April 18th. Dial in information for the call will be provided in mid-March. Please note, non-GAAP financial measures referenced during this call are reconciled to their most directly comparable GAAP financial measures in the press release and CFO commentary posted on our website.

Before we begin, let me remind everyone that today’s discussion contains forward-looking statements based on the environment as we currently see it. Those statements are based on current beliefs, assumptions and expectations, speak only as of the current date and, as such, involve risks and uncertainties that could cause actual results to differ materially from our current expectations.

Please refer to the cautionary statement in our press release for more information. You will also find detailed discussions about our risk factors in our filings with the SEC and, in particular, AMD’s quarterly report on Form 10-Q for the quarter ended September 29, 2012.

Now with that, I’d like to hand the call over to Rory Read, AMD’s President and CEO. Rory?

Rory Read

Thank you, Ruth. We made progress in the fourth quarter delivering on our commitments, managing expense and cash, and beginning to transform AMD for long term growth and profitability. However, full year results fell short of our expectation, as the challenging macro-environment resulted in a weaker than expected PC market.

As I mentioned on our last earnings call, we are executing a turnaround that will take several quarters. We expect continued choppiness in the PC market in the first half of 2013, and we will closely manage the business as we reset, restructure, and ultimately transform AMD.

We have the right strategy and a new set of products coming to market in 2013. We continue to make the investments required to drive a larger percentage of our revenue in the high-growth adjacent markets: dense server, semicustom, embedded, and ultra-low power client markets.

We are implementing three phases of our turnaround. First, complete the restructuring of our business. This is a critical step in reducing our operating cost model to enable a return to profitability. Second, accelerate our business in 2013 by executing the delivery and launch of a new set of powerful product offerings. And third, transform AMD to take advantage of high-growth opportunities in adjacent markets where our IP provides a competitive advantage.

As with any turnaround, it is critical we meet our commitments throughout each step. To that end, we effectively managed our costs, reduced our inventory, and maintained our cash above our minimum acceptable levels in the fourth quarter. Revenue of $1.55 billion met our guidance, while decreasing 9% sequentially and by 32% from a year ago.

For the second year in a row, we had a successful Black Friday as sales of AMD-based notebooks in North American retail grew from a year ago. As a result, nearly one in every three notebooks sold in U.S. retail in the fourth quarter were powered by AMD.  

We also saw a sequential increase in desktop microprocessor ASP based on strong channel adoption of our new Athlon FX CPU and A-Series APUs in the quarter. The value proposition of our latest processors drove demand and helped reduce channel inventory. Customers continued to embrace the differentiated value proposition of our APUs.

We added Visio as a new customer based on the industry-leading graphics performance and long battery life of AMD’s APUs. Visio’s first AMD-based products will include two touch-based ultrathin and a Windows 8 tablet.

Now turning to our server business, we recorded significant revenue growth for our SeaMicro dense servers, driven by large-scale cloud data center wins. SeaMicro solutions are being deployed and evaluated by a broad variety of marquee customers, demonstrating the value of our investment in dense server and setting the stage for continued future growth.

Our graphics business performed well in the quarter as well, highlighted by record workstation and gaming revenue and the launch of the Nintendo Wii U game system powered by AMD graphics technology.

To help accelerate desktop GPU sales in the channel and reinforce our long term strategy to be a leader in gaming, we launched the “Never Settle” campaign in the quarter. This promotion was well-received by partners and consumers, as we bundled some of the season’s hottest games with our highest-performing graphics cards.

In the channel, unit shipments and revenue for our high-end Radeon graphics grew, driving a richer mix and increased ASP from the previous quarter.

We will launch a follow-on promotion this quarter pairing our highest performing graphics cards with some of the most anticipated game titles of 2013.

Now I want to return to the trends impacting AMD and the industry overall and the steps we are taking to restructure, accelerate and, ultimately, transform our business. We are well on our way toward implementing a new operating model that will allow us to achieve lower operating expense and enable a return to profitability.

In addition, the new products that will accelerate our business in 2013 have passed several key milestones in the quarter as we began shipping Richland and secured solid design wins for the Brazos follow-on Kabini and our new ultra low power Temash APU.

Both Kabini and Temash are currently going through final internal validation in parallel with customer evaluations in anticipation of launches that are planned for the first half of this year.

AMD’s first mobile GPU is based on our graphics core next architecture also began shipping in the fourth quarter. Asus, Lenovo and Samsung have already announced plans to offer these low power GPUs and we are seeing strong design win momentum for these GPUs because they deliver discrete level graphics performance while stretching battery life in both traditional and ultrathin notebook.

Our longer-term transformation to drive growth in adjacent high growth markets continues to gain momentum. In the server space, we will combine our extensive 64 bit design experience, X86 processor IP and ARM processor cores with our SeaMicro Freedom fabric to continue to drive leadership as the industry transitions to dense servers.

We believe we already have significantly more dense server customer installations than any other competitor making our SeaMicro technology the most tried dense server solution available in the industry.

Now, in ultra low power clients, we bolstered our SOC design capabilities with new engineering talent, simplified our development processes to improve our execution speed and quality.

Our Kabini and Temash SOCs for notebooks, tablets and convertibles are exceeding our expectations. More importantly, the strong value proposition and differentiated features of these products are exceeding customer expectations as well.

Kabini will be the first industry quad core X86 SOC and Temash is expected to be the highest performing tablet SOC available in the market, more than doubling the graphics performance of our current generation tablet offering.

Finally, we have strong design wins for our embedded and semi-custom APUs. Initials products based on these APUs are expected to launch later this year, driving our embedded semi-custom business to more than 20% of our revenue mix by the fourth quarter.

So in summary, we have made good progress in the fourth quarter with our turnaround. We delivered on our financial and customer commitments, effectively managed cash, reduced inventory and lowered operating expense in the face of a difficult market.

We will complete the majority of our restructuring actions this quarter with a goal of reducing our overall cost structure by 25% from early 2012 levels by the third quarter of 2013.

We are introducing strong new APU and graphics offerings in the first half of 2013 that will accelerate our AMD business with the ultimate goal of returning AMD to profitability and positive free cash flow in the second half of this year.

We are also making good progress on the multiyear transformation of AMD that will allow us to deliver 40% to 50% of our future revenues from high-growth markets where our IP is a differentiator. Our embedded semicustom APU business remains on track to contribute approximately 20% of our overall revenue by the end of this year, and our SeaMicro dense cloud server business continues to gain momentum.

We remain focused on the steps we must take over the next several quarters to turn AMD around and deliver consistent profitability and growth. With that, I would now like to turn the call over to our newly appointed CFO, Devinder Kumar. Devinder?

Devinder Kumar

Thank you, Rory. 2012 was a challenging year in which we made strategic investments and began to take the actions necessary as part of our corporate and financial reset to position the company for future success in a changing computing landscape.

In the fourth quarter of 2012, we announced restructuring actions and operational efficiencies designed to reduce our expense structure and help return AMD to future profitability and free cash flow generation. The restructuring plan includes a reduction of AMD’s global workforce in the fourth quarter of 2012, and the first quarter of 2013, by approximately 14%, and will result in operational savings of approximately $190 million in 2013.

By the third quarter of 2013, we expect to reduce operating expenses to $450 million per quarter, down 25% from the first quarter of 2012. As we ended 2012, we also successfully amended our wafer supply agreement with GLOBALFOUNDRIES to better align our wafer purchase commitments with current PC market dynamics, strengthen our balance sheet, and help us achieve our operating goals.

Broader macroeconomic issues impacted consumer PC spend in the second half of 2012, as the challenges we faced in the second quarter continued through the end of the year. We faced a difficult selling environment, which negatively impacted our overall 2012 financial performance.

Let me provide some details on the full year 2012 financial results. Revenue for the year was $5.4 billion, down 17% year over year. Non-GAAP gross margin was 41%. Non-GAAP operating expenses were $2.2 billion, lower than what we guided, due to the restructuring actions and alignment of expenditures with business expectations.

We achieved non-GAAP operating income of $45 million. We managed capital expenditures down to $133 million in 2012, below guidance of approximately $200 million.

Tax benefit was $34 million, better than guidance, due to a one-time benefit of $36 million related to the SeaMicro acquisition.

Cash balance as of the end of the fourth quarter was $1.2 billion, above the optimal zone of approximately $1.1 billion and well above the target minimum of $700 million needed operationally.

Let’s turn to the fourth quarter results. Revenue for the first quarter of 2012 was $1.16 billion, down 9% sequentially, driven by a revenue decline in the Computing Solution segment of 11% and a decline of 5% in the Graphics Products segment. Revenue declined due to lower volumes across both segments.

To derive non-GAAP gross margin and other non-GAAP financial measures, among other items, we excluded the impact of the lower of cost or market charge related to the GLOBALFOUNDRIES stake or pay obligation of $273 million discussed in more detail in my CFO written commentary, which has been posted online.

Non-GAAP gross margin was 39%, up 8 percentage points quarter-over-quarter. Gross margin in the third quarter of 2012 was 31%, and this was adversely impacted by an inventory write-down of approximately $100 million or 8 percentage points. Fourth quarter 2012 gross margin also benefited from sales of higher priced second generation desktop APUs.

Non-GAAP operating expenses were $506 million, lower than guidance, primarily due to tight spending controls in the quarter. R&D expenses were $313 million, 27% of net revenue. SG&A expenses were $193 million, 17% of net revenue.

Non-GAAP operating loss was $55 million and non-GAAP net loss was $102 million. Interest expense was $45 million, flat compared to the prior quarter. Tax provision for the quarter was $4 million compared to zero in the prior quarter.

The non-GAAP loss per share was $0.14 calculated using 747 million basic shares. Adjusted EBITDA was $30 million, better by $65 million from the prior quarter’s negative $35 million, excluding the LCM charge of $273 million.

Now, switching to the business segments, computing solutions segment revenue was $829 million, down 11% sequentially. Client product revenue declined 13% sequentially primarily driven by lower microprocessor unit shipment.

Server business revenue increased sequentially, driven by an increase in unit shipments of compute systems focused on dense servers. And chipset revenue declined in line with microprocessor unit shipments.

Computing solutions operating loss was $323 million, an increase of $209 million sequentially primarily due to the $273 million SEM charge.

Graphics segment revenue was $326 million, down 5% sequentially primarily due to an 8% sequential decline in GPU revenue partially offset by record game console revenue and record work station graphics sales.

Graphic segment operating income was $22 million, up $4 million from the prior quarter primarily due to the higher game console revenue.

Turning to the balance sheet, our cash, cash equivalents and marketable securities balance including long-term marketable securities at the end of the quarter was $1.2 billion, down $297 million compared to the end of the third quarter of 2012.

The decrease is primarily due to operating cash flow of $286 million, which included a few specific cash payments as follows: payments to global foundries of $130 million comprising of $50 million for the limited (inaudible) exclusivity and $80 million termination fee related to the take or pay agreement and cash payments of $46 million related to restructuring actions taken in the fourth quarter of 2012.

We exited the quarter above our target optimal cash level and well above the target minimum cash level of approximately $700 million. That, as of the end of the quarter, was unchanged at $2.04 billion.

Accounts receivable at the end of the quarter was $630 million, down $53 million compared to the end of the third quarter of 2012 primarily due to lower revenue.

Inventory was $562 million exiting the quarter, down $182 million or 25% from the prior quarter due to a decline in MPU inventory primarily as a result of the amendment of the wafer supply agreement with global foundries.

Now turning to the outlook, for the first quarter of 2013, AMD expects revenue to decrease 9% sequentially plus or minus 3%. Gross margin is expected to be flat sequentially.

Operating expenses are expected to be approximately $495 million and we expect inventory to increase sequentially ahead of new product introductions and technology transitions.

For 2013, we expect operating expenses to be at $450 million by the third quarter of this year, capital expenditures of approximately $150 million for the year, taxes of approximately $4 million per quarter.

We plan to be free cash flow positive by the second half of 2013 and we expect to maintain cash balances in the optimal zone of $1.1 billion for the year and well above the target minimum of $700 million.

Overall, we have taken significant steps to align our business with today’s PC environment and position the company to capitalize on new opportunities in adjacent, high-growth markets in 2013 and beyond.

We expect our restructuring actions and our (profit) reset to position us to return to profitability and free cash flow generation in the second half of 2013. I will now turn it back to Ruth for the Q&A. Ruth?

Question-and-Answer Session

Ruth Cotter

Thank you, Devinder. Operator, we’re now happy to pole the audience for question.

Operator

(Operator Instructions) Your first question comes from the line of David Wong from Wells Fargo.

David Wong – Wells Fargo

Embedded revenues, Rory, I think you said you’re still on track to hit 20% of revenues by 4Q for the embedded revenues. Can you give us some idea as to how things will ramp in the first, second and third quarter? Will you get any significant embedded sales in those three quarters?

Rory Read

Yes, David, we already have an interesting embedded business already in place. What we’re going to see as we continue to invest in that area to leverage our differentiated IP and our leadership APUs is a move into some of the higher growth segments.

We mentioned on previous calls that those are currently confidential and they’ll be announced as the year moves on. We should see us build that revenue starting in the next several quarters and it ramps throughout the year to that 20% level.

David Wong – Wells Fargo

And my other question is over the last several quarters since you’ve been at the company and you’ve been forming your long-term strategic goals, has your thinking changed on how AMD should be transformed? Are there new segments you now think AMD should address or, alternatively, areas that you’ve decided AMD should exit?

Rory Read

Yes, it’s interesting, David. Over the past 16 months of being here at AMD, it’s clear that this company has a deep base of intellectual property. It has a huge asset pool in terms of the talented engineers and dedicated AMD-ers across the planet.

And this is an unprecedented period of change in the industry. Our strategy remain basically fundamentally consistent throughout this. The only thing that’s really changed is the time period that we need to execute that change and accelerate into that.

First, it’s a three-phase turnaround. One, reset and restructure the company. And I think here in fourth quarter you see us making that kind of progress where we’re delivering on the commitment, we’re executing and managing our expense, we’re managing our cash properly and we’ve improved our inventory position significantly.

With that, we’re on a drive to get to $450 million by 3Q. Then we need to execute and accelerate in 2013. That’s where we hit the top of the curve of this restructure and reset phase and begin to move into the launch of these powerful new products that we have in place.

At CES, Lisa and I spent a lot of time with customers and they were excited about Richland, which has now launched, and they were excited about Kabini and Temash. Kabini is a follow on to our most successful Brazos platform.

And then, Temash, into the low power segment, these are very interesting products and we’re going to continue our industry leadership into the graphics segment. And then dense server had its best quarter ever and showing the foundation for future growth.

But ultimately where we have to take this company is we need the transforming and need to take advantage of where the market is going. The high-growth segment, those areas where we can apply our innovation to lead, that’s where we have to take the third part of our step.

And we’re making those investments now. In dense server, we’re already seeing the early progress with SeaMicro that I mentioned. And then moving into embedded, semi-custom. This year will be 20% but our ultimate objective within the next three years is to move to 40% to 50% of our revenue in those segments.

And then obviously the opportunity for us to build on our long heritage in the client segment around low form – new form factors in the low power segment. These are areas where AMD can create leadership, diversify its portfolio, build on its long history of success and its differentiated IP for leadership.

Dave, I think that’s the one, two, three-step approach that we need to take.

Operator

Your next question comes from the line of John Pitzer from Credit Suisse.

Patrick Walsh – Credit Suisse

I just had a quick question relative to some of the charges. So in the fourth quarter it looks like you guys took a larger-than-expected charge. How should we think about these one-time charges going out through 2013?

Devinder Kumar

I think if you look at Q4 you’re right about the one-time charge and let me just take a moment to explain that. We had previously said a $165 million one-time charge and $110 million of our termination fee related to the WSA would be spread over Q4 and Q1.

As we completed the analysis from an inventory standpoint, it was more appropriate to record almost the whole charge in Q4 and we went ahead and did that and that is $273 million.

At this point in time, even with the restructuring charge that has been taken in Q4, we do not anticipate anything significant happening in the 2013 timeframe. There are some actions that might be taken that would lead to it, but at this point, I don’t think anything is anticipated.

Patrick Walsh – Credit Suisse

Then just another question on the embedded segment; just curious if you could give any color how that mix could look over time in terms of what percentage of that is gaming versus other embedded revenue.

Lisa Su

Just a comment on the embedded revenue, so we put embedded and semi-custom designs in one bucket and we would certainly see the embedded business tends to have a long design in cycle and then a long lifecycle as well.

So we have very good visibility in terms of execution for the target that Rory mentioned, 20% of our revenue by the fourth quarter of this year. And then as we go forward, we would expect to add additional high volume design wins to that bucket.

Rory Read

It’s interesting, as we mentioned in the earlier comments, those parts are already in their validation phases here. We’re working through those tracks and that protects those key design wins that drive that 20% in terms of the revenue objective by 4Q. So we’re on track and making solid progress in terms of the delivery of those key new solutions.

Operator

Your next question comes from the line of Hans Mosesmann – Raymond James.

Hans Mosesmann – Raymond James

Rory, a couple of question, you’re going to end up being about six, maybe nine months ahead of the competition in a quad core type of (inaudible). What are the skill sets that you’re bringing forth to do that?

And the second question is any commentary about the capacity additions that your rival is going to be making for next year and subsequent to that.

Rory Read

So, Hans, from the standpoint, we are working to create strength in our core businesses at the same time working to capture those new opportunities outside of the traditional space. And over the next two years you’re going to see us rebalance that business where we have a more even split across the non-PC portions and the PC portions.

What’s kind of interesting, as you talk about the leadership in the quad core space of the SOC, that’s a powerful product with Kabini that’s launching this year. Again, it’s in its final phases of test. I’m sure Lisa will comment in just a second.

What we’re trying to do in this segment is, again, create the leadership that we’ve done in the past with Brazos and then to apply that same kind of knowledge into Temash, which brings us down into the fan lift tablet segment.

Now, from a talent standpoint, what we’ve really focused on is a mix of industry knowledge across the semi-conductor space and you’ve seen us bring in interesting players across the past 12, 15 months, players that are from the who’s who of the industry, they know the semi-custom space, they know microprocessor design, they know semi-custom and of course embedded.

These talents also you can see with the (Kellers) and Mark Papermasters and obviously Lisa Su, the experience to deliver that in industry leading microprocessor design and that’s why I think you’re seeing some of that progress around Kabini. Lisa, you want to add a thought or two?

Lisa Su

Yes, Hans, just to answer the question about the tablet category, we’re very excited about our Temash tablet because it really is satisfying a new space in terms of performance tablets that’s separate from what today’s consumption and the higher power tablets that are out there.

I think it is an opportunity for us to lead. I think from a mobile standpoint, this is where we think there’s sweet spot for full Windows 8 capable tablets and extending down to quad core to very low power points. So as we build out this part of the roadmap, it’s about system on chip designs, getting much more flexible in how we reuse IP, and getting products out to market at the right time. So having these products out the first half of 2013, very, very important to catch the strong back to school cycle.

Hans Mosesmann – Raymond James

Thanks, and the follow up is comments on capacity?

Rory Read

In terms of capacity, what were you curious about?

Hans Mosesmann – Raymond James

Your competition across the way there is going to add a lot of capacity it seems.

Rory Read

Our focus, again, I think, is clear and very focused. We’ve got to stay on this reset/restructure, get that done and behind us. I think we’re moving through that well in terms of getting the cost model, then getting into the execution of the acceleration. That’s the key. It’s about getting those products in market.

Lisa just talked about it in terms of Kabini and talked about it in terms of Temash. It’s around the embedded segment. That’s the key for us, and the customer acceptance, whether it’s in the industrial segment, the gaming segment, our traditional OEMs or ODMs, they’re very interested in the products that we’re creating in ’13. That’s the key for us.

We do that, we correct the turnaround, we get to the lower operating model, and we return to profitability and growth. At the same time, continue to focus on where the market is going around dense server and around the areas of that tablet, mobility segment, as well as continue to expand into the embedded semicustom opportunity. I think we have to focus on what we’re good at and getting the products executed. That’s key for us.  

Operator

Our next question comes from CJ Muse from Barclays. Your line is open.

CJ Muse - Barclays

I guess first question on gross margin, guided flat despite revenues down 9%. Can you walk through the drivers there between mix? Any sort of moving parts with the WSA, with GF, or with any other drivers that we should be thinking about? And then how we should think about the trajectory post-Q1?

Devinder Kumar

I think all of the factors you mentioned come into play from a product standpoint. WSA is behind us. We renegotiated that and amended that, as we announced in December, so it is in effect for 2013. We see stability from a gross margin standpoint, even though the PC environment continues to be dynamic. And from that standpoint, we are projecting in Q1 of 2013 that we’ll be able to maintain approximately flat gross margin at 39%.

CJ Muse - Barclays

And I guess, given what you’ve seen and what you’re guiding to here on the gross margin side, is there an update in terms of what you expect breakeven was in terms of top line on an operating level basis? I believe a few months ago you had said $1.3 billion.

Devinder Kumar

Rather than focus on that, I would just like to reiterate and maybe add some color on the guidance we’re providing for 2013. The PC market, as Rory said earlier, you know we see it as challenging for the next couple of quarters at least. And therefore, we’re not providing any guidance from a revenue standpoint for the year.

From an OpEx standpoint, we have a trajectory to get to $450 million by Q3 of 2013. CapEx, as I said earlier in my remarks, $150 million for the year. And then finally, free cash flow positive and profitable by the second half of 2013. So that’s the guidance we’re providing for the 2013, from a viewpoint of the financials as we sit here right now in the early part of 2013.

CJ Muse - Barclays

And then last question from me, in terms of the cash outflows in Q1, can you confirm what those positions are? I believe you owe $175 million for SeaMicro and another $175 million to GF. Is that correct? And are there other moving parts there?

Devinder Kumar

You are correct. Luckily just for one of the $175 million that you mentioned. The SeaMicro acquisition happened early part of 2012. We’ve paid for that. That was all done as part of last year. But you are correct about the $174 million to GF to be paid in Q1 of 2013.

And the other payment that we have, which I mentioned in my remarks, is the $31 million for the severance charges for the actions we are taking from a restructuring standpoint. But those are the two specific payments that will occur in Q1 2013.

And then from our standpoint, as I’ve said several times, from a cash standpoint, you know, we have a target minimum of $700 million but we plan to maintain a cushion between the $700 million and actually maintain closer to the $1.1 billion which is what we call the optimal cash balance.

Operator

Your next question comes from the line of Joseph Moore from Morgan Stanley.

Joseph Moore – Morgan Stanley

First, just a quick follow-up on the last question. Have you – where do you stand on the sale leaseback of the headquarters?

Devinder Kumar

It’s in progress and we are targeting to complete that within this quarter and we should net somewhere between $150 million and $200 million for the sale leaseback transaction. The only clarification I’ll make there is this is the Austin Campus. Our headquarters are still in Sunnyvale, California.

Joseph Moore – Morgan Stanley

And then with the R&D, you’ve taken a lot out of R&D spending already. You’re going to take that down further by Q3. But it seems like there’s more on your plate, now. You’ve put the ARM server roadmap, SeaMicro, the embedded opportunities.

Is there something coming out of R&D to let you make those cuts and feel like you’re not cutting back or is there a risk that you cut too far in any one area?

Rory Read

No, the focus around expense management in terms of driving that off expense line is really across all parts of the business. We’ve tried to focus those areas where we thought there was efficiency and productivity to be gained.

For example, there is opportunities for us to dramatically reduce the number of different process technologies we’re running in our various foundries. That drives all the IP to be written to multiple libraries.

We very much focused in terms of efficiency to drive the number of metal layers, the way we reuse our IP, the IP development process that Mark Papermaster and Lisa Su have implemented through our technology board.

We are seeing efficiencies and productivities through that. At the same time, we’re driving to improve our focus in terms of the types of design wins we go after. We don’t – it’s really not the best business practice to go after just a gigantic number of design wins. We want those high runners, those design wins that drive volume.

Every design win drives cost, drives back end execution, testing resources. When we drive to hundreds of design wins, some of those are 25,000, 50,000 units. Those are not efficient.

We’ve been focusing with Lisa’s business unit teams and John Byrne’s sales team to really identify those design wins that get the volume and get to the most efficient usage. That’s how we’re driving that kind of focus in terms of efficiency and productivity and those are just a few.

We’ve implemented the financial transformation system on the back end. John Docherty on the supply chain has an intense focus across each of his processes to drive that efficiency, to improve our execution.

And what’s interesting, we had some schedule challenges in the middle of summer last year. The second half of the year, the progress that the business unit teams and the technology teams have made on our 2013 roadmap part has been very consistent and on schedule. So I think we’re making the right moves to push for that efficiency, look for the reuse of IP, create the ambidextrous architecture that’s reusable and to drive efficiencies across the portfolio.

And, in fact, we announced a new Senior Vice President, Chekib Akrout, who is driving that transformation and efficiency focus across our entire business as a full-time job.

Devinder Kumar

If I might add, I’ll just add one comment to that. If you look at our OpEx in Q1 2012, it was closer to $600 million and in Q4 we’ve ended closer to $500 million level, so we’ve already taken out approximately $100 million of expenses and the restructuring actions that we took from headcount and some facilities actions that we are putting in place happened very late in Q4 and obviously we have some going on in Q1 2013, so those benefits obviously as you know, lag the actions and we’ll see the full benefit of that expense reduction in Q2 of 2013 and that should help us while protecting the R&D investment that Rory talked about to get to the full $50 million by Q3 of 2013.

Rory Read

And again, at the end of the day, our company hinges on the products that we create. ’13 roadmap looks strong. It’s across the board in terms of the execution, the schedules and the launches are tracking right to the schedules that we laid out.

We’re working on ’14, ’15 and ’16 in terms of how to transform our business, in terms of those high-growth segments, and how do we continue to leverage our leadership in the client space and the graphics space to continue to deliver that product focus. We have protected through this process of budgeting those areas where we know the highest growth will come over the next several years.

Operator

Our next question comes from JoAnne Feeney from Longbow Research. Your line is open.

JoAnne Feeney - Longbow Research

I wanted to go back to the discussion about gross margin. So in the last quarter, desktop was stronger. I was wondering, first of all, if you could clarify whether that was purely a mix shift within desktop, say on lower volume shipments, or if you actually saw an increase in units sequentially in the fourth quarter in addition to, it sounds like, an ASP rise. So that’s sort of number one.

And then number two, what are you thinking about for mix for 2013? Do you see more lower-end PCs and tablets? And then how are your margins across those different kinds of products and what do you think could drive either gross margin to stay where it is or perhaps to expand into 2013?

Lisa Su

Let me take some of the comments on the mix on the gross margin in the fourth quarter. So in the fourth quarter, I think we took a very balanced approach to managing the margins. I think we saw some positives and some negatives in the desktop business. We did see an increase in desktop ASP, primarily because we introduced our higher-end Athlon FX series as well as the new A-Series Trinity APUs into the channel, and that drove ASPs up a little bit on the desktop side. There were some competitive pressures on the notebook side. So all in all, very balanced approach to the margins.

I think as we go forward for 2013 mix, we’re not talking about full year gross margins. Devinder mentioned our guidance into Q1. When you look at the mix there, we would expect that as we get into the second half of the year, we will have the higher end of the A-Series, the A8s and A10s, but there’s of course a balance with what happens in the market. So all in all, I think that’s where we are.

JoAnne Feeney - Longbow Research

And then a quick follow up. The changes that you have been talking about, you and Rory and Mark, on simplifying the manufacturing process, reducing the number of wafer processing steps for example, adopting a more standard process, presumably is expected to do two things: one, lower unit costs, and two, speed your time to market. I guess from our perspective of trying to understand where gross margin might go, can you give us any sense of the quantitative impact that you foresee from those simplifications on the cost structure?

Rory Read

Well, from a cost structure, that’s part of the way how we drive to the 450. That’s one piece of it as I kind of highlighted. The idea across the development process, the way we interlock now, the focus that we have. In the past, custom, hugely long, complex designs were the way the PC market moved. In the future, it’s going to be quicker, low power, more efficient design.

What also you get from this approach, obviously you’ll get time to market, you get lower costs. You also get better yield, which is also important in terms of really managing the business. So it has benefits across the board. And speed of execution, as we move forward in a model where you’re going to see a consortium based model, and the proprietary control points, as some of X86 break down, these kinds of models are going to be key. So we’re going to stay the course on that. That’s helping us on the 450.

From the gross margin, I think we’ve given the guidance in first quarter. We need to focus on executing first quarter, and then from there we’ll go forward.

JoAnne Feeney - Longbow Research

And then just one quick follow up. It sounds like the simplification and manufacturing is doing both. It’s reducing OpEx and potentially improving your gross margin. But perhaps you could just give us an update on how the spread is on gross margin across your different products, from your mainstream Trinity Richland to your lower-end Temash and Kabini. Is that something that’s widened, or narrowed? Or can you really not talk about that yet?

Rory Read

We wouldn’t get into that level of detail. I think we’ve given a good outlook in terms of the guidance for Q1.

Operator

Your next question comes from the line of Glenn Yeung – Citi

Adeline Lee – Citi

Can you discuss your gaming consoles, which is a potential market for you? And we just want to know when can we expect revenue to ramp and is that part of the inventory build that you have discussed in your CFO remarks?

Rory Read

Devinder, why don’t you touch on inventory, how we manage it and how it progresses from here and then we’ll touch on our embedded strategy which we covered before for Adeline.

Devinder Kumar

Adeline, inventory, as you’ll observe, down 25% quarter-on-quarter but that’s largely in the MPU inventory space and partly and largely due to the WSA amendment. From my standpoint, if you’re talking about inventory going forward, it’s more in the $650 million, $700 million range is what I would call it for 2013.

And in particular, as you can imagine, as new business opportunities arise, new product introductions take place and, in particular, when you have process technology transition, that is going to lead to some increase in inventory and that’s where it will be. But I’ll let Lisa or Rory answer the other part of the question.

Lisa Su

So on the gaming revenue, I think we talked about the Nintendo Wii U that was announced in the fourth quarter and that was part of the revenue that was reported in the graphics segment.

In terms of going forward, what we said is the embedded in the semi-custom business will ramp over this period in 2013 and we are on track for that 20% revenue target by the fourth quarter.

Adeline Lee – Citi

That would be more second half than first half. Can I make that assumption?

Rory Read

Our embedded business will continue to grow toward the 20% in the second half.

Adeline Lee – Citi

And the follow-up is that now that you are seeing some success in the dense servers market, do you have an opinion about ARM versus 86? And also, by the way, did you see – did that strength at SeaMicro that you saw came with Intel or AMD processors?

Lisa Su

So the dense server market is where we believe the growth is in the server business. So we were pleased with the progress of our SeaMicro systems in the fourth quarter. I will say that in the fourth quarter we started shipments of AMD-based SeaMicro systems as well as Intel-base and they’ve gotten a good reaction.

I think as we go forward, we are committed to both ARM and X86 in the appropriate markets and, clearly, we’ve stated that we will be doing ARM-based server chips and that will be in the 2014 timeframe and we continue to offer a strong lineup of X86 as we go through both our client and our dense server business.

Rory Read

Yes, and this is all consistent with our focus to drive reusable IP and true SOC methodology in an ambidextrous architecture. This is an area where AMD can clearly differentiate and create leadership in the marketplace.

Operator

Your next question comes from the line of James Covello – Goldman Sachs.

Mark Delaney – Goldman Sachs

I was hoping at first you guys could talk a little bit about your guidance on the revenue for the first quarter and why you think it is that you’re guiding below your biggest competitor.

Rory Read

From my perspective, as I look at the PC market, Mark, that market is going to continue to be choppy in 2013, particularly in the first half. Remember, if you go back to 1Q last year, there was a lot of concern about the flood that affected Thailand and the hard disk file and it was quite surprising as we suggested the supply chain would be quite resilient.

The numbers were quite strong out of 1Q. We think there’ll be continued chop and pressure in that first half of 2013. And this market’s a bit dynamic right now. We do think (inaudible) is a very important event in the industry and I think that impact or effect will build over the course of the year.

We expect the second half to be stronger than the first half from my perspective. And if I looked at the overall year, weaker in the first half, stronger in the second half, probably a net flat to slightly down. That’s our view of it in terms of where we’re expecting the market, and how we’re planning to balance that in terms of the gross margin and in terms of the revenue line. And that’s how we came to the conclusion.

Mark Delaney – Goldman Sachs

That’s helpful. As a follow up question, the mobile space in particular, and tablets, there’s been a lot of new entrants, companies that don’t historically participate in the PC market that have been introducing products. And now that you guys are closer and farther along with some of your products for that space, I was hoping you could help us understand to what extent you guys are working closely and partnering with some of these new companies that you traditionally haven’t worked as closely with.

Rory Read

Well, I think what’s important is that we see that same high-growth opportunity in those new form factors. And you can see it with the introduction of our relationship with Visio just here at CES, and that introduction of those two ultrathins and obviously in the tablet space. You’re going to see us continuing to work across OEMs in the embedded space, new partners, and across the ODM segment to get that expansion and begin to build that market. But again, our focus is to build that over a two to three year period to drive that to 40-50% of our revenue across those high-growth segments. Lisa, any additional comments you’d like to add?

Lisa Su

No, I would agree. I think the key with the mobile space is that there are a lot of new innovations happening, both in the traditional OEMs as well as in some of the new entrants, as you mentioned. So yes, we are working across the board with a number of customers with these new products.

Operator

Our next question comes from Steven Eliscu from UBS. Your line is open.

Steven Eliscu - UBS

Actually, regarding the last question, I want to take a glass half full approach. This quarter, with your guidance, it appears you’re going to lose a lot less market share to your competitor. Is this about Richland ramping? Or is this just about clearing excess inventories that you had on Llano in the channel last year?

Rory Read

I think we’ve had a clear focus for the past several quarters to improve our channel execution from a push model to a velocity model, where I have sell-through tracking in the relationship and data all the way through the channel. I think we’re making steady progress in 3Q, 4Q, and as we move forward there. I think that inventory in our finished goods position, Devinder touched on it with our WSA work and the focus.

We, at the end of Q2 and even in to 3Q were seeing pressure in terms of potentially building more inventory. And while we did have to take a charge in 3Q to address some of that, I think we’ve done a strong job in terms of focusing on that inventory. That positions us for the new product introductions that we talked about at CES: Richland, Kabini, and Temash.

And I think that’s what positions us to move forward and begin to build this turn and acceleration in 2013 with the objective to get to profitability in the second half and positive free cash flow at that timeframe again. That’s the key to our business.

Steven Eliscu - UBS

And as a follow up, you lost a lot of graphics share in Q2 and Q3, and want to get your view if the new [GCN] parts reverse that share materially or you get back to a level you were in earlier in 2012, or is this just about stabilizing share since your competitor isn’t standing still either?

Lisa Su

Let me take that on the graphics business. The graphics business is very strategic to our overall strategy. I will say that we have lost some share over the last couple of quarters. I do believe we’re at the low point in our graphics share based on what we can see in terms of new design activity.

We have a very strong channel approach with our never-sell bundle that we talked about last quarter and we will be building upon that this quarter. And we also launched our new HD8000 series at CES that’s now shipping in a number of mobile OEMs.

So I think the share is indicative of decisions that were made 12 months ago. What we’re looking at is really a strong portfolio as we go forward in graphics.

Rory Read

Yes, I may just a brief comment from the standpoint of my experience as I joined AMD. The graphics team here that we have is leadership. The kind of IP, the kind of engineering skill, the ability for them to innovate and drive, you – I don’t know if you had a chance to walk through, Steven, the CES work that we showed there.

Yes, and I thought you showed some really interesting application of how you could create a surround compute environment leveraging the graphics capability. And imagine that kind of solution moving forward.

Say they’re building a brand new building and that that building’s not even built. You could create, with our technology, a sales room that created the windows and the graphics representation.

You say, well, what’s this building on the 22nd floor look like at night and all the sudden the graphic engines fire up the windows. You can see that world and you could apply that kind of surround compute that we see emerging, this new trend of conversions that the cloud is fundamentally driving and it’s our graphics IP that’s going to be a fundamental enabler of that future.

That’s the world we’re chasing. We’re not going after the past. That standalone data and application on a singular device protected by a couple of proprietary control points, that era is ending.

The era that is in front of us is an interconnected world where there’s almost a tsunami of new devices that begin to emerge and they’re all graphically linked because the data and information, the applications are running on cloud-dense servers and these mega data centers and they’re distributing information across a whole set of client devices.

They’re efficient. They’re low power. They’re across embedded devices. This is the opportunity, Steve, in front of us to really get after it and where we can see graphics taking the business moving forward.

Ruth Cotter

Operator, we’ll take two more callers, please.

Operator

Your next question comes from the line of Romit Shah with Nomura.

Unidentified Analyst

The question I wanted to ask was if you could share some updates on 28 nanometer progress at global foundries as it relates to some of the issues you faced last year at 32 nanometer.

Rory Read

From our perspective, our supply chain has focused with our foundry partners across 2012 in improving execution. And as I’ve commented several times before, the work that we’ve done with global foundries and across the foundry supply chain environment has significantly improved with that kind of disciplined approach.

We introduced last year the first 28 nanometer graphics products and leadership and now as we move forward, we’re positioning ourselves with that refocus, better executing supply chain to move forward in 28.

Lisa Su

Yes, Sanjay, just to your questions about 28 nanometer and global foundries, we’re pleased with our overall 28 nanometer bring up in all of our foundries. So from a 28 nanometer standpoint, we feel very good about where the technology is and what it’s delivering for us from a product standpoint.

Rory Read

And one of the things, Sanjay, that we’re focused on is to make sure that those parts are delivered in time to the market, the (two seed) launches and that we get the parts in volume as we ramp through it so that it’s not just an announce in a back end.

These are focused in terms of the execution of the supply chain to build the ramp at the beginning of the launch. So that’s something we focus very hard not to repeat the (Lano) kind of events of 2011.

Unidentified Analyst

As a follow up, I wanted to go back to the gross margin question and I was wondering if you could give us a sense on your (inaudible) semi-custom business. What’s the gross margin of that product line related to your PC business? Is it lower? Is it higher? If you could give us any color there.

Devinder Kumar

Yes, we don’t get to that level of granularity, Sanjay.

Operator

Your next question comes from the line of Vivek Arya – Bank of America.

Aashish Rao – Bank of America

Question for Lisa: could you provide an update on when you expect pile driver architects for (Optron) servers to come out? And related to that is could this refresh your server business or do you think long-term growth is more functional SeaMicro dense servers as well as ARM-based servers?

Lisa Su

Yes, so when we talk about our server business, we are definitely focused on increasing our investments in the dense server portion of the business. So we recently announced our (Abudabi) lineup in Q4. We also announced earlier this month an open compute reference platform that was based on a system that we call Roadrunner.

Those are both based on the pile driver architecture. As we go forward, as we said, we are going to ensure that we double down in the dense server business and that includes RC Microfabric as well as our chip technologies with APUs and CPUs.

Aashish Rao – Bank of America

Devinder, let me try asking you the semi-custom embedded business question a different way. You have noted that you expected to represent about 20% of sales exiting the year. Directionally, how should we think about growth and op margins both on a percent as well as on a dollars basis as you go from progress through the year?

Devinder Kumar

Yes, I think as I said earlier, the PC environment, it continues to be dynamic. Our business model, based on what you observed with the 20% obviously is evolving. We are providing guidance for gross margin for Q1 2013 and we’re not providing guidance beyond that time period.

Ruth Cotter

Operator, that concludes today’s earnings conference call. We’d like to thank everybody for participating and for you to sign off now, please, operator. Thank you.

Operator

Ladies and gentlemen, thank you for participating in today’s program. This concludes the program. You may all disconnect.

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