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Executives

Charles Liang - Chairman and Chief Executive Officer

Howard Hideshima - Chief Financial Officer

Pierre Hirsch - PR, Breitburn Energy Partners L.P.

Analysts

Alex Kurtz - Merriman, Curhan Ford & Co.

Glenn Hanus - Needham and Company

John Roth - Argent Capital Management LLC

Super Micro Computer, Inc. (SMCI) F2Q09 Earnings Call January 28, 2009 5:00 PM ET

Operator

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Super Micro Computer, Inc. second quarter fiscal 2009 conference call.

The Company’s news release issued earlier today is available from its website at www.supermicro.com. In addition, during today’s call, the Company will refer to a slide presentation that has been made available to participants, which can be accessed in a downloadable PDF format on its website at www.supermicro.com in the Investor Relations section under the Events and Presentations tab.

During the Company’s presentation all participants will be in a listen-only mode. Afterwards, security analysts and institutional portfolio managers will be invited to participate in a question-and-answer session but the entire call is open to all participants on a listen-only basis.

As a reminder, this call is being recorded Wednesday, October 29th, 2008. A replay of the call will be accessible until midnight, November 5th by dialing 1-888-203-1112 and entering conference ID number 4598285. International callers should dial 1-719-457-0820. With us today are Charles Liang, Chairman and Chief Executive Officer; Howard Hideshima, Chief Financial Officer; and Pierre Hirsch, Senior Vice President, Investor Relations

And now, I would like to turn the conference over to Mr. Hirsch. Mr. Hirsch, please go ahead sir.

Pierre Hirsch

Good afternoon and thank you for attending Super Micro’s conference call on financial results for the second quarter fiscal year 2009, which ended December 31, 2008. I would like to make a quick remark with regard to the replay of the call. It will be accessible until midnight, February 13th.

The Company will be presenting and meeting with investors and analysts at the Thomas Weisel Technology Conference on February 9th in San Francisco. An audio webcast of our presentation will be available on our website, www.supermicro.com in the Investor Relations section.

By now, you should have received a copy of today's news release that was distributed at the close of regular trading. A copy of it maybe accessed on the Company's website. As a reminder during today's call, the Company will refer to a presentation that is available to participants in the Investor Relations section of the Company's website under the Events and Presentations tab. Please turn to slide two.

Before we begin, please note that during the course of this conference call, management will be making forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Such forward-looking statements may relate, among other things, to our expected financial and operating results, our ability to build and grow Supermicro, the benefits of our products and our ability to achieve our goals, plans and objectives.

Such forward-looking statements are subject to a variety of risks and uncertainties that could cause our actual results to differ materially from those anticipated. These include, but are not limited to: the current economic uncertainty, our dependence on continued growth in the markets for X86, blade servers and embedded applications, increased competition, difficulties of predicting timing, introduction and customer acceptance of new products, poor product sales, difficulties in establishing and maintaining successful relationships with our distributors and vendors, shortages or price fluctuations in our supply chain, our ability to protect our intellectual property rights, our ability to control the rate of expansion domestically and internationally, difficulty managing rapid growth and general political, economic and market conditions and events.

Most of today's presentation will refer to non GAAP financial results and outlooks. For an explanation of our non GAAP financial measures, please refer to slide three of this presentation or to our press release published earlier today.

I will now turn the call over to Charles Liang, Chairman and Chief Executive Officer.

Charles Liang

Thank you, Pierre and good afternoon everyone. Please turn to slide four.

Super Micro's revenue in the second quarter was $128.6 million or 6.1% lower than last year. Non GAAP net income was $6.7 million or 21.4% lower compared to last year. Super Micro's non GAAP earnings per share were $0.17 per diluted share compared to $0.22 last year. Please turn to slide 5.

Given the deep decline of economic condition in rest of the quarter, our industry struggle as IT spending was been reduced. As our result, our revenue was not as strong as we would like to have. Nevertheless, as our result indicated, we have managed to gain much share against our competitors. We are confident about our Super Micro's future shift. It had traditionally performed strongly in soft market condition. We see this difficult time as an opportunity to demonstrate our ability to create truly application optimized solution. They are the basic value for performance solution in the market today.

Our market share gain proved that we are getting the attention of careful IT managers who had to operate under tight budget. We had shown them our fundamentals are strong and our product strategy is succeeding. Moreover, our margin is healthy. Our cost structure is well controlled and that we are continuing to be profitable. Please turn to slide 6.

During the quarter, our stock price was adversely affected by the financial meltdown on Wall Street. As a result, the Board of Directors took the change to support our stock for the benefit of our shareholders. Utilizing the strong cash position of the Company, the Board authorized a buyback program that enabled the Company to purchase up to 2 million shares of our common stock. The buyback program will expire in June of this year. Our CFO, Howard Hideshima, will provide you with an update for the result or the buyback in a few minutes. There were many successes for Super Micro during the quarter and I would like share some of them with you now. Please turn to slide 7.

During the quarter, we were acknowledged in CRN's annual survey as the number one X86 server vendor in the Channel as published in November 24th issue of CRN's 2008 Channel Affinity Index. Based on the result of 8,000 surveyed in this country conducted with the solution providers, it ranked Super Micro as the top X86 server vendor. We will continue to innovate and build a way to increase our channel opportunity to efficiently compete in the marketplace. This collaboration within Super Micro, our channel partners and our customers worldwide is one of the key foundations and the strength of our Company.

Another recognition we achieved was from the Government Computer News where they rated Super Micro's SuperServer 6015W the overall best product of 2008. GCN described our product a truly SuperServer and truly the best of the best for the year. This will continue the trend that we have seen when independent groups compare our product to competitors based on power efficiency, thermal management performance and value.

Our engineering capability and company infrastructure enabled us to launch many new products along the technology innovation as well as extended the global market we serve. In the recent quarter, we launched the addition of the world's most affordable personal supercomputer featuring our OfficeBlade solution. This product line is ideal for scientists and researchers in life science, biotech, physics, chemistry and similar fields of engineering and science. Moreover, we launched our 5046A workstation system and highly affordable [5035A] cost effective server storage. They are truly optimized for small office and home called SOHO application.

Both of these single-socket systems feature 25 to 27dB whisper-quiet operation and deliver the superior energy efficiency that SOHO customers demand. We also had several key wins during the quarter which highlights Super Micro's continual technology leadership in complete intensity, high memory capacity and performance optimization. For example, our 1U Twin solution was recently selected for the prestigious Hyperion Project at Lawrence Livermore National Lab. Now, let me talk about some of our main product innovation that will be released in the coming quarters. Please come to the slide 8.

In particular, we are gearing up for the important launch of Intel's Nehalem process technology which is one of the most significant technology transitions in years. We are ready to launch the strongest and broadest Nehalem product line with the cover of our brand new system architecture innovation. We are planning to introduce over 50 SKUs of server and work station board, alongside more than 30 optimized chassis power supply model at the launch which can be easily build into hundreds of application optimizers’ system model. Thank you to our [30:32] solution designs.

Building our own success of our 1U Twin by continuing our engineering innovation, we had created an even better product with higher performance per watt and per dollar plus hide the complete density. This new product named 2U Twin2 will be launched in current quarter. This new generation of double density product will support full dB node in a 2U size enclosure with 93% in the high efficiency power including [AF] for sharing technology targeting the HPC and Datacenters market.

We also introduced our SOHO product line that is just in CPU and we are seeing very promising demand. In addition, we will also launch high-speed connectivity product such as 10GbE switch and the QDR InfiniBand solution. Moreover, the main storage subsystem is planned to launch in this summer. This had been the advantage of Super Micro that we can react quickly for the changing market in creating new technology and extend our product offering which allows us to continue our technology leadership. Based on this strong product line, I am confident that our business is well positioned for continued succeed.

Now, I would like to turn it over to our CFO, Howard Hideshima who will discuss our financial result and outlook for the coming quarter. Howard?

Howard Hideshima

Thank you Charles and good afternoon everyone. I will focus my remarks on earnings, gross margins, operating expenses and similar items on a non GAAP basis, which reflects adjustments that include stock compensation expenses. Reconciliation of GAAP to non GAAP is included in the financial statements of the Company in today's earnings release and in the supplemental details in the slide presentation accompanying this conference call. Let me begin with the review of the second quarter's income statement. Please turn to slide number 9.

Revenue was $128.6 million, down 6.1% from the same quarter a year ago and down 10.8% sequentially. Revenue for the six-month period was up 7% over the same six months period a year ago. Slide number 10. The decrease in revenue was widespread among our customer base as the financial crisis was started in September, affected all parts of the economy. The proportion of revenue from server systems was 38.7% of total revenue, which was a decrease from 42.4% a year ago and 41% last quarter.

ASP for servers was comparable the last quarter at about $1300 per unit. Decrease in server products was primarily due to a decrease in shipment of our 6000 series and OEM bundled server. During the quarter, component decreased due to a decrease in shopping which resulted in less full through of motherboard. For the six months period, components and server revenues were up 8.5% and 4.8% respectively for the same six months a year ago.

We continue to maintain a diverse revenue base with none of our over 400 customers making up more than 10% of net sales in the second quarter. Furthermore, 65.1% of our revenue came from the US and 66.5% from our distributors and retailers. Internet datacenter revenue was 7.9%, which is comparable with the prior quarter of 10.5%.

Slide 11 and 12; Gross profit was $24.2 million, down 11.5% from $27.4 million in the same quarter last year and down 13.4% from $28 million sequentially. On a percentage basis, gross margin was 18.9%, down from 20% a year ago and down from 19.4% sequentially. Price changes from Ablecom resulted in a zero basis point change to gross profit in the quarter with total purchases representing approximately 22.8% of total cost of good sold which is down from 28% a year ago and 27.3% sequentially.

The year-over-year decrease in gross margin resulted from lower margins in motherboards and accessory product, offset in part by higher margins in server and chassis. In addition, our inventory reserve was lower year-over-year due to the emphasis on managing our inventory. The sequential decrease in gross margins resulted from lower margins in server products and accessory products offset by higher margins of motherboard and chassis and lower inventory reserve as noted above.

Slide 13: Operating expenses were $15.6 million, up from $14.2 million in the same quarter a year ago and up from $14.9 million sequentially. As a percentage of revenue, operating expenses was 12.2%, up from 10.4% year-over-year and up from 10.4% sequentially. The year-over-year increase in operating expenses is also from higher payroll and related fringe benefits primarily related to our R&D headcount which remains a competitive advantage of the Company and a priority. Nonetheless, headcount addition and expenses are leveling out.

Sales and marketing expenses were controlled during the second quarter at some sales headcount grow and consulting expense was offset by lower variable compensation by the sales volume. G&A expense was flat year-over-year due to lower consulting expenses related to certain taxes offset by slightly higher payroll cost. Sequentially, R&D expenses were up primarily due to lower NRE of approximately $415,000 and an AR reserve of $350,000 recorded in G&A.

Operating profit was $8.6 million or 6.7% of revenue, down $4.6 million or 34.6% from $13.2 million a year ago and down $4.4 million or 34% sequentially. Net income was $6.7 million or 5.2% of revenue, down $1.8 million or 29.4% from $8.6 million a year ago and down $1.6 million or 19.2% from $8.3 million sequentially.

Our non GAAP fully diluted EPS was $0.17 per share, down $0.05 from $0.22 per share a year ago and down $0.04 from $0.21 per share sequentially. The number of fully diluted share that is used in the second quarter was 39,233,314. The tax rate for the second quarter on a non GAAP basis was 20.8% compared to 36% a year ago and 36.1% sequentially. The R&D credit was reinstated retroactively during the second quarter of fiscal 2009 and there was a one-time charge for this credit during the quarter. We expect the effective tax rate to be approximately 33% which is similar to fiscal year 2008 when the credit was stable.

Turning to the balance sheet on a sequential basis, slide 14. Cash and cash equivalent in short term and long term investment was $74 million, $34.9 million, down $5 million from $79.9 million in the prior quarter. In the second quarter, free cash flow was a negative $3.8 million and a net change in cash was a negative $4.5 million. For the six months period, free cash flow was a positive $7.5 million and a net change from cash was a positive $8.8 million.

Slide 15: Accounts receivable decreased by $6.6 million to $39.6 million and DSO was 31 days, which is the same as the prior quarter. The inventory decreased by $11.7 million to $89.1 million with days’ inventory increasing by 10 days to 84 days. While the Company made significant progress in reducing inventory in the quarter, inventory days increased to slow sale volume. Accounts payable decreased by $21.3 million to $65.6 million and the days payable outstanding increasing by one day to 57. Overall cash cycles were 48 days, an increase of 9 days from 39 days in the prior quarter.

Free cash flow for the quarter was a negative $3.8 million. Cash flow was impacted by the significant decrease in our accounts payable during the quarter of $20.9 million, partially offset by improving our inventories and receivables. As Charles said earlier in the same fiscal quarter, Super Micro's Board of Director authorized buyback of stocks. During the quarter, we spent approximately $1.8 million to purchase 390,000 shares of common stocks.

Now, for a few comments on our outlook: Current uncertainties in the global economic conditions make it more difficult to predict such purchasing decision and Super Micro business comp outlook for the third quarter affected the uncertainties in a demand cycle and coming of sales. The Company currently expects net sales for the quarter ending March 31, 2009 in a range of $115 million to $125 million. Assuming this revenue range, the Company expects non GAAP earnings per diluted share of approximately $0.11 to $0.14 per share for the quarter. It is currently expected that the outlook will not be updated until the release of Company's next quarterly earnings announcement, notwithstanding certain development; the Company may update the outlook or any portion thereof at any time.

With that, let me turn it back to Charles for some closing remarks.

Charles Liang

Thank you, Howard. Clearly, we have a stable quarter of challenged economic conditions ahead of us like everyone else. However, Super Micro fundamentals are strong and our product strategy is built to succeed for today's market. Our products represent the basic value proposition in the market today when measured by performance per dollars, performance per watt. We are winning important new clients and are gaining much share as a sign of our ability to perform in tough market and to support our long term success.

In summary, we believe we are well positioned to outperform our competitors in today's market. In particular, we are well prepared for the upcoming significant launch of Nehalem product.

I will now turn the call back to Pierre.

Pierre Hirsch

Operator, at this time, we are ready for questions.

Question-and-Answer Session

Operator

Thank you, sir. Ladies and gentlemen, our question-and-answer session will be conducted electronically. (Operator's instruction) Your first question comes from the line of Alex Kurtz - Merriman, Curhan Ford & Co.

Alex Kurtz - Merriman, Curhan Ford & Co.

So, what steps are you guys taking to improve your visibility with your channel partners so investors can have some increased confidence in the guidance you just gave? I know it is a challenging market there right now, but are you guys taking any visible actionable steps to inspect your pipeline more or do something so you feel that investors will get behind the guidance that you just gave?

Howard Hideshima

Yes, this is Howard. We are increasing our efforts to get closer to our partners and so we are working even harder with our partners to help them during the challenging times. I do not understand exactly what the requirements are going to be.

Alex Kurtz - Merriman, Curhan Ford & Co.

Howard, does that mean your channel team is doing more reviews every week or doing more inspection of the pipeline? Is there something different happening?

Charles Liang

Yes. I mean we have a regular sales meeting almost twice a week so we have a very good feedback from customers from the market both channel and OEM customers.

Alex Kurtz - Merriman, Curhan Ford & Co.

Okay. Then Charles, can you put a stake in the ground and give us a better sense of when you guys start expecting the shift of Nehalem for revenue in the next couple of quarters like can you give us a month or a couple of months when you start to expect the ramp to happen?

Charles Liang

Okay, as you may know, Intel official launch will be at end of March, right? But traditionally, because our tender market, so usually we are able to service fitting solution or some really special appeal so this year will be a similar opportunity. So we will shift something this quarter will show and maybe this quarter or early April for sure. That will start to shift at regular volume. So, other than Nehalem, we also have some new product line that will support Nehalem or also support tour current product. So a couple of important products also will be start shifting about February.

Alex Kurtz - Merriman, Curhan Ford & Co.

And just last question, Howard, just on what Charles is just saying, how should we think about gross margin between March and June as Nehalem starts to ramp? And thanks again.

Howard Hideshima

I think, Alex, if you just think about it, again the economic conditions are tough out there and traditionally, it is lower seasonal quarter. However if you go back in time when we introduced the last introduction with Intel, we did see gross margin boost because of the newer products. So again those factors all affect what our ultimate gross margins will be.

Charles Liang

This quarter, we also have some changes to some Itanium product line.

Operator

Your next question comes from the line of Glenn Hanus - Needham and Company.

Glenn Hanus - Needham and Company

Just following up on the gross margin a little more, it sounds like you have some offsetting factors with lower volumes but then there is sort of Nehalem coming on. I am just wondering if you can talk a little bit more about the puts and takes on gross margins and to what extent do lower volumes tend to hurt your margins that could offset the Nehalem coming on?

Howard Hideshima

Glenn, this is Howard. Lower volumes obviously affect some of our overhead consumption rates but they are not very large, within 10% there. So, that would be the impact fairly from a lower margin or lower volume perspective and then as I just said to Alex, we got some counter daily forces with regards to release of new products that helped our margin.

Glenn Hanus - Needham and Company

Okay. Any other factors there with gross margins which you think about?

Howard Hideshima

Nothing that I have not mentioned already, I do not think.

Glenn Hanus - Needham and Company

Okay. How about maybe you just talk about operating expenses here over the next few quarters, sort of flattish or up a little, down a little, kind of any guidance there please?

Charles Liang

Basically with this economic downturn, we have better control our headcount, right, like we go 40 certain percent in engineering headcount and that is why today we have a very strong engineering team that is why we are able to support more OEM customers. However, given the poor economic condition, we have really much freeze headcount hiring and also we better control over time fairly for production and operation department. So, we believe we will save some money from kind of tight headcount control as well as reducing expenses with daily operation and some other employee benefit. So I believe we are prepared for this downturn.

Glenn Hanus - Needham and Company

Okay.

Howard Hideshima

Let me answer that a little bit. Again, as I mentioned in the call, some of our reductions here are bad debt expense was about $350,000 and we have in our lease portfolio off 400. So we did not have those things actually. Our expenses from OpEx is meant to be flat comparatively speaking.

Glenn Hanus - Needham and Company

Okay. Any progress report on how you guys are doing in the Blade market?

Charles Liang

We still see the continued, steady growth although the power market has some impact but here we still see a clear improvement, just not quite but steadily growing.

Operator

(Operator's instruction) Your next question comes from the line of John Roth - Argent Capital Management LLC.

John Roth - Argent Capital Management LLC

Howard, could you just repeat your comments about your tax rate expectations going forward?

Howard Hideshima

Sure, John. I have mentioned on the call that we do expect about a 33% tax rate going forward and a lower tax rate from a historical perspective of 36.6 which is due to the reinstatement of the R&D credit. We will credit benefits for that all throughout the rest of this year.

John Roth - Argent Capital Management LLC

Okay, great and lastly, what was the size or relative scale of the inventory adjustments in gross margin this quarter?

Howard Hideshima

About a positive 0.2%.

John Roth - Argent Capital Management LLC

Positive 0.2%, okay.

Operator

(Operator's instruction) You have a follow up question from the line of Alex Kurtz - Merriman, Curhan Ford & Co.

Alex Kurtz - Merriman, Curhan Ford & Co.

Yes, just to clarify the OpEx question that Glenn was asking, you expect the sequential decrease, Howard, in the OpEx line for March?

Howard Hideshima

As I mentioned, if I did not see the charge and if we turn back NRE, basically we would have been flat with Q1 as far as OpEx expenses.

Alex Kurtz - Merriman, Curhan Ford & Co.

So then thinking for the next couple of quarters, you are going to try to maintain that OpEx line around where you were in September?

Howard Hideshima

I think there is going to be puts and takes to it going forward but as Charles mentioned, we have got programs where we are reviewing basically all of our various cost working with our vendors to manage ourselves during this economic time.

Alex Kurtz - Merriman, Curhan Ford & Co.

Okay and just a question on the accounts payable change quarter over quarter, can you just give us a little bit insight there?

Howard Hideshima

Sure, with regards to, as we place and build up inventory last quarter, I mean again timing of the accounts payable comes in various points in the quarter so again that decrease hurt due to the prior buys of inventory and then as we looked to manage our inventory as we started seeing the headwinds again, those in 80s we can do. So, again we are getting on how we will run through from the benefits of us reducing our overall inventory during the quarter and we expect to continue to manage it that way.

Alex Kurtz - Merriman, Curhan Ford & Co.

And just remind me, Howard, you recognized from ship in or ship out of the channel?

Howard Hideshima

We recognize ship in to the channel.

Alex Kurtz - Merriman, Curhan Ford & Co.

So what is your sense right now about inventory levels among your channels partners when you are talking to them? Is there sort of a glut coming or do they feel like they have managed it pretty well over the last couple of months?

Howard Hideshima

I think as you know our products are fairly unique. Our applications are optimized. So, they keep very low inventories in the channels.

Operator

You have a follow up question from the line of Glenn Hanus - Needham and Company.

Glenn Hanus - Needham and Company

I am just wondering in this more challenging environment whether you are seeing greater pricing pressures either from your customers directly or results of competitive activity.

Charles Liang

Yes, including that past market for sure, competitors tried to be more aggressive in pricing. However, we feel we win by performance, by application optimized. So, we did not really have to lower our old price significantly. However, for some product line to grow much share, certain level we will try.

Glenn Hanus - Needham and Company

Sorry, I missed the last two sentences there.

Charles Liang

I mean for certain market segment to grow our market share, we will try to lower our price a little bit but overall, our profit should be in very healthy condition.

Operator

I am seeing no further questions. I would like to turn the conference back over to Mr. Liang for any additional or closing remarks.

Charles Liang

Thank you everyone for joining us today and we look forward to talking to you again at the end of this quarter. Thank you everyone. Have a great day.

Operator

Thank you, ladies and gentlemen. That has concluded the Super Micro Inc. second quarter and fiscal year 2009 conference call. We do appreciate your participation. You may disconnect at this time. Thank you.

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Source: Super Micro Computer, Inc. F2Q09 (Qtr End 12/31/08) Earnings Call Transcript
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