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Executives

Wanyee Ho – Director of IR

Jeffrey Kang – CEO and Chairman

Will Davis – SVP of Business Development and Chief Marketing Officer

Frank Zheng – CFO

Analysts

Brian White – Collins Stewart

Mike Walkley – Piper Jaffray

Amir Rozwadowski – Barclays Capital

Quinn Bolton – Needham & Company

Nathan Johnsen – Pacific Crest

Adele Mao – Susquehanna

Rob [ph] – Jefferies & Co.

Cogo Group, Inc. (COGO) Q1 2009 Earnings Call Transcript May 6, 2009 4:30 PM ET

Operator

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Cogo Group Inc. First Quarter 2009 Results Conference Call. During today's presentation all parties will be in a listen-only mode. Following the presentation the conference will be opened for questions. (Operator instructions) This conference is being recorded today, Wednesday, May 6, 2009.

I would now like to turn the conference over to Ms. Wanyee Ho, Investor Relations Director. Please go ahead, ma'am.

Wanyee Ho

Thank you. Good afternoon to everyone. I am Wanyee Ho, Cogo's Investor Relations Director, and I would like to thank you all for joining us today to participate in Cogo's 2009 first quarter earnings conference call.

After the markets closed today, Cogo issued a press release reporting final un-audited financial results for the quarter ended March 31, 2009. This release can be accessed in the Investor Relations section of Cogo's website at www.cogo.com.cn and on most other financial websites.

The discussion today will be hosted by Jeffrey Kang, Chairman and CEO, who will discuss the company's business operations; Frank Zheng, our CFO, who will report the company's financials; and Will Davis, our Senior Vice President of Business Development and Chief Marketing Officer will also discuss guidance.

Before we begin, I would like to remind everyone that the call today may contain forward-looking statements regarding future events and the financial performance of the company. We wish to caution you that such statements are just predictions and actual results may differ materially as a result of the risks and uncertainties inherent in the company's business. We refer you to the documents that the company files periodically with the SEC, specifically the company's Form S-1 and the most recently filed Form 10-K, as well as the safe harbor statement made in today's press release.

These documents contain important risk factors that could cause actual results to differ materially from those contained in the company's current projections. Cogo assumes no obligation to revise the forward-looking information contained in today's call.

At this time, I would like to turn the call over Jeffrey Kang. Jeffrey, the floor is yours.

Jeffrey Kang

Thank you, Wanyee, and thanks to everyone for joining our earnings call. During the first quarter of 2009, Cogo posted revenue of 63.3 million in US dollars up 5.1% percent year-over-year and down 23.2% sequentially. And our non-GAAP EPS diluted was $0.12 with gross margin of 14.2% and operating margin of 7.3%. We continue to target gross margin of 13% and operating margin of 10%.

Cogo's revenue breakdown in the first quarter is as follows. Mobile handsets comprised of 34.5% of total revenue showing a sales decrease of 10.7% year-over-year and a decrease of 17% quarter over quarter. Digital media made up 27.9% of total revenue representing a sales increase of 1.8% year-over-year and a decline of 27.5% quarter over quarter. Telecom infrastructure represented 25.6% of total revenue showing a sales increase of 1% year-over-year and a decline of 32% quarter over quarter. Service business represented about 1% of total revenue with a revenue decline of 2.7% year-over-year and a decrease of 16.7% quarter over quarter. The industrial applications business segment represented almost 11% of total business. This segment grew about 1500% year-over-year and a decline of almost 2% quarter over quarter.

In first quarter of 2009, Cogo had 1,248 active customers essentially flat from the 1251 in the previous quarter and average revenue per user of around $51,000, down about 23% from the previous quarter and down slightly over 8% year over year. In the first quarter, our repeated customer ratio was over 90%. Overall, we're very pleased with Cogo's business results in the first quarter, particularly given the continued challenging global economic environment. Our focus has been to ensure that the quality of our accounts receivables and inventory as we face the continued global economic uncertainty. However, we feel that the worst of economic difficulties has past in China and we believe Cogo should move more aggressively to pursue goals in the second half of the year. We are encouraged by the opportunities that Cogo has, and we expedited our growth prospects in a variety of areas. Additionally, we continue to make progress towards our margin target and we are very pleased with our operating cash flow generation in the first quarter of nearly $10 million.

Economic situation and China's stimulus, well, we are not immune to the current global economic conditions. We are encouraged by the Chinese government's monetary and fiscal policy to stimulate demand. We continue to believe that China's economic growth will accelerate that most of other developed market in 2009. Business discussion, additionally we are benefiting from a number of the tailwinds that we believe put us in a unique position to grow our revenue in 2009. This includes China 3G, growth of our export business, and opportunities in our industrial segment.

Let me talk a little bit more about each of these areas. Handsets, on the handset front, Cogo saw an improvement in demand in the first quarter particularly in our export business. However, shortages in the components left us unable to fully capitalize on all of the demand potential. We believe that supply and demand of handset components could reach an equilibrium at some point in the second quarter and expect the business to grow sequentially quarter over quarter. We also anticipate being able to gain some market share as competition weakens.

We continue to see several potential drivers including continued ramp up of the CDMA handset at China Telecom and expect higher income per device on certain newer models driven by the new applications like CMMB, a version of the mobile TV presented in the domestic Chinese market. Additionally we expect to benefit from our relationship with VIA Telecom and BYD the sales of TD-SCDMA handset at China Mobile. However our visibility of the TD-SCDMA is currently limited.

Telecom segment, our telecom business reflected normal seasonality of the March quarter. We expect to show strong sequential growth in the second quarter driven mostly by the continued build out of 3G networks in China. Note that we began benefiting from China 3G network expansion well before official announcement in January that 3G license would be available. Relationships with Huawei, ZTE, Alcatel and Lucent continue to benefit Cogo and they are all likely share gainers in Chinese wireless market. Additionally, Cogo benefits from continued rapid international telco growth by Huawei and ZTE.

Industrials, while our industrial business is still only about 11% of our total sales, we continue to believe that this segment should be our toughest growing segment by far in 2009. Currently Cogo isn't an active participant in the rapid growth of both domestic railway system and the modernization of China's electric grid. Longer-term, we see potential in automotive, cleantech, security and the medical sector. While some of our end customers in our industrial segment are different from those in our core segment, the business model is the same. Cogo is a gateway for components suppliers wanting to do business in China and this would be the time to market for our customers. We expect that Mega Smart deal to close in the second quarter and we expedited our prospects of quickly integrating the sales and engineering pattern on overall Cogo platform. We believe that this transaction will provide a cost-effective way to quickly broaden our exposure to several rapid growing industrial verticals. Lastly, Cogo is making astounding progress with its recently signed components relationships including Maxim, Microsoft and Freescale.

M&A segment, even though we are currently focused on closing the Mega Smart results deal, we continue to pursue the M&A targets to take advantage of the sharply lower multiples of potential targets. We continue to view M&A as a critical part of Cogo's long-term growth strategy and diversification into vertical segments. However, it is just as important to ensure that any acquisition to be ratified for Cogo. We believe we will have the access up to $100 million in net cash following the close of the Mega Smart deal.

With that I would like to turn the call to Will to discuss our guidance. Will, the floor is yours.

Will Davis

Thank you, Jeffrey. Good afternoon everyone and thank you for joining our call. In the second quarter of 2009, we expect that our revenue would be in the range of 70 million to US$72 million with non-GAAP EPS of $0.14 to $0.15. We expect gross margins to remain roughly stable from the first quarter in the range of 14% and we anticipate good OpEx discipline given current market conditions while also staying flexible to pursue new opportunities where appropriate.

As with last quarter, we are not providing specific annual guidance for Cogo in 2009. While we continue to have good visibility over most of our end markets for the next one to two quarters, we know that the global economic situation makes full year 2009 predictions more difficult. Nevertheless, given our current visibility and tail winds including China's 3G rollouts, continued growth of our export businesses, and the rapid growth of our industrial segment, we remain optimistic about our revenue growth potential heading into the backup of 2009.

We expect to continue to broaden our customer base and see opportunities to gain share versus some weakened competitors. Additionally, we expect to continue to add new component suppliers in 2009 while also enhancing our status with current suppliers such as Broadcom, Freescale and Maxim. We should begin to record a small amount of revenue from the Mega Smart deal in our third quarter of 2009 assuming a close in the second quarter as previously indicated.

Here are some specific items to help you in your modeling for the second quarter of 2009. Non-GAAP operating expenses for SG&A and R&D in the second quarter should be approximately US, split approximately 25% for R&D and 75% for SG&A. As indicated, we maintained our longer-term growth and operating margin targets of 15% and 10% respectively. Interest income in the second quarter is estimated to be around US$300,000 and we would expect that to remain roughly constant for the rest of 2009. We expect to continue to be affected by these lower interest rate environments and we do not believe it is prudent to alter our current cash strategy to pursue higher yields. However, it is worth putting out that we certainly expect to generate a much higher return over the long run from the Mega Smart acquisition than we would leaving the cash on our balance sheet.

We continue to estimate our effective tax rate to been around 8% in 2009. In the second quarter, stock composition is estimated to be around 2 million which will likely be split evenly between R&D and SG&A. Acquisition related costs including amortization and impairment of intangibles assets would be approximately 2 million. Other than those items noted above, there are no significant differences between GAAP and non-GAAP results.

With that I would like to turn the call over to Mr. Frank Zheng, our Chief Financial Officer to review our unaudited first quarter balance sheet and cash flow.

Frank Zheng

Thank you, Will. Good afternoon everyone. For clarity, all the figures I'm discussing here unless otherwise are in US dollars. Now let me review items from the first quarter. Since Jeffrey highlighted the main points of the P&L statement, I will focus on the balance sheet and cash flow. Cogo continues to have a very healthy balance sheet and we are pleased with our ability to generate consistent operating cash flow. In the first quarter, Cogo (inaudible) 27 million in operation cash flow and ended the quarter with total cash of 108.17 million in bank deposits. Therefore our total grew by about 8 million sequentially to over 125 million, currently equaling about $3.35 per share. We have no bank borrowings as of March 31, 2009. We did not buy any stock back in the first quarter but will continue to view buying back stock on a strategic basis to be an important element of our use of cash going forward.

This concludes my comments and thank you everyone for joining the call to discuss our 2009 first quarter unaudited results. Jeffrey?

Jeffrey Kang

Thanks, Frank. And at this time, let's turn the call over to the operator to open up the floor for questions. We will look to end this call around 5:30. Operator?

Question-and-Answer Session

Operator

Thank you, sir. We will now begin the question and answer session. (Operator instructions) And our first question comes from the line of Brian White with Collins Stewart. Please go ahead.

Brian White – Collins Stewart

Okay. Hi. Jeffrey maybe you could a little bit about the Mega Smart deal, what does it mean to revenue, how big is it over the next two months, give us an idea of what you think in terms of accretion and really maybe what it does for Cogo, the three items?

Jeffrey Kang

Well, thanks very much Brian. As we noted in our press release, we signed stock purchase agreements with – in the second quarter and we are – this deal has broadened our products offering, especially in electric grid area and which we will significantly increase our revenue from the industrial segment. And we expect – and this deal we expect to close in the second quarter. That is why we expect because it is an accretive deal immediately, so we expect the revenue contribution since the second half of this year. So we expect in the next like after deal closing and 12 months, we expect the revenue range from anywhere from 15 million to $25 million in revenue contribution and we certainly believe it is from a strategical value or from immediately number contribution, it will all give us a very positive impact to us. And more importantly we're going to use this deal, integrating Mega Smart team, and we're going to change the Mega Smart Company's name to Comtech Industrial, that will significantly increase our business exposure to the initial business.

Brian White – Collins Stewart

Okay. So for the June quarter Jeffrey when do we think it is going to close in the June quarter?

Jeffrey Kang

I think you know we certainly are going to close before June quarter end.

Brian White – Collins Stewart

Okay. So there is no revenue contribution in your outlook for Mega's margin in the June quarter?

Jeffrey Kang

In our guidance number, yes, you are – we didn't include any Mega Smart deal.

Brian White – Collins Stewart

Okay. And Jeffrey just the smart meter opportunity that it is what mega Smart is about, if you can just really go over maybe examples of the types of product, how big is the opportunity, and how quickly is this going to ramp, how quickly is Cogo going to get involved with smart meters and scientific products?

Jeffrey Kang

I think we will have – well, can you just explain a bit about the business opportunity and the $6 billion of the planned the Chinese government tried to launch to replace the existing meters to smart metering?

Will Davis

Right. Thank you Jeffrey and Brian for the question. We see a pretty substantial opportunity from the smart reader meter reading point of view. We estimate that there are probably 200 million at least meters that need to be upgraded over time, and there have been many countries who have discussed this to date, but they are all in various stages, but we feel very confident that in China they would progress with this. And I think that the nuts and bolts of it involves creating a two-way radio communication between the power grid and the meter so that you can choose to use power at more opportune times. It is cheaper, you can sell power back to the power plants, these are all general ideas that have been proposed in other countries and we feel pretty strongly that they will pursue this in China aggressively also. So there have been a number of companies who have discussed being involved in this, some of whom we have partnership already including, Skyworks, Maxim, et cetera. So we feel pretty good about this potential.

Brian White – Collins Stewart

Okay. And do you think we will generate revenue in 2009 from smart meters through contracts we have now or that remains to be seen, those contracts will have to be signed at some point this year?

Jeffrey Kang

Because this is (inaudible) I think that Mega Smart they already have certain contracts already on their hand, so that is why immediately after closing the deal, we're going to see certain revenue ramp up from this segment.

Brian White – Collins Stewart

Okay, great. Thank you.

Will Davis

And Brian, I would just add, just to go back to Jeffery's original answer, the 15 million to 25 million, that is for the first half of 2010 and the backup of 2009. So there is first four quarters after closing. I would also point out that in general the industrial business has a higher gross margin than our corporate average. So I would just raise those two points.

Brian White – Collins Stewart

Great, thank you.

Operator

Thank you. And our next question comes from the line of Mike Walkley with Piper Jaffray. Please go ahead.

Mike Walkley – Piper Jaffray

Mike. Hi Jeffrey, Will and Frank.

Jeffrey Kang

Hi, Mike.

Mike Walkley – Piper Jaffray

Hi. Thanks for taking my question. Just a few for me. Will, I think when we talk last, you talked about some potential for maybe double ordering given some of the component shortages at some of the just concerns among the supply chain, any more visibility to that, maybe for Q2 and what you're thinking about for Q3 2009?

Jeffrey Kang

Well, from the – that business mostly is in – I think mostly refer to the mobile handset. In general, I think the (inaudible) in inventory building potential in the second quarter because first of all the demand is still quite healthy and from our existing visibility from Q2 and part of Q3 within our visible period. So at the same time because some components deal in service shortage like in nor-flash and many other components, so certainly we believe there are certain double booking problems in the value chain. But I don't think we believe it will close the inventory building up in the near term. So that is why we are still confident about the demand, the demand side of the second quarter, and our business of mobile handset business and revenue potential in the second quarter.

Mike Walkley – Piper Jaffray

Jeffrey, in your comments, you talk about especially to Cogo for the component shortages, how much of that opportunity do you think is lost or maybe just got pushed out to Q2 and maybe there is some upside to your sales numbers for the mobile handset from this component shortage?

Jeffrey Kang

Well the first thing, in the first quarter, the demand is much stronger than what we conservatively expected in the beginning of this year, especially after Chinese New Year. We saw strong demand given the rebound after Chinese New Year. And so that is but we because of the component shortage, a lot of the demand has been shifted to the second quarter, so that is why we are quiet confident about the Q2 and Q3 numbers in terms of the strength in demand from end market perspective. So we still believe in the second quarter that component shortage will not be completely resolved in the second quarter. So that is why we believe certain demand will be shifted to the third quarter that which makes the demand look quite healthy the next at least one or two quarters.

Mike Walkley – Piper Jaffray

Okay great. And just building on one of the previous question about ramp in sales for the industrial division, just to get to the 15% I think which you all have talked about for total sales by the end of the year, we need a pretty nice ramp in this business. So maybe if you could just talk about some of the deals in the pipeline and also more importantly the risks assumptions, are these deals done, or given the macro could they be canceled at some point and what strategy do you have in place?

Jeffrey Kang

Well you actually mentioned a very good point. So the reason why we are pretty much focused on the industrial business in this vertical is the growth drivers even though we plan to grow in every line of our business segments. I think industrial the growth drivers is actually driven by Chinese government's stimulus plan as I just mentioned like the smart meters in the electric grid area. That area, the spending is actually driven by the Chinese government stimulus plan which testing in a small area, their CapEx is like 60 billion, the Chinese currency, Chinese renminbi in the next few years. And orders business usually have a much better visibility because their business has a better pipeline, better planning than the shelf or like consumer demand driven business. So that is why from the industrial business we think we have much better visibility from those segments. So that is why in this economic downturn situation we're pretty much focusing on a more this will business and industrial related business. So from – given the Cogo's business model, we didn't say too much of the downside risk there and I think the major thing you should trust is lot of growth plan and how fast we can ramp up the business from this segment.

Mike Walkley – Piper Jaffray

Okay great.

Will Davis

I would just add that we are feeling increasingly confident about some of the specifics within the stimulus business plan and the willingness of the government there to ramp the spending et cetera. So I think that that provided even an excellent encouragement to get the Mega Smart deal closed given the technology expertise and the relationship that the folks at Mega Smart bring to our team. So we are anxious to get back closed and this isn't a situation of trying to create synergies by merging two operations etc. This is layering on a totally new skill set and so we're excited to get that closed.

Mike Walkley – Piper Jaffray

Okay great. Just a housekeeping question, if you can maybe give some expectations for the cash flow from operations for 2009, have you set any targets and also the stock-based comp, if you could give that by line item for SG&A and R&D in this quarter?

Will Davis

Sure. All we have said today is that we expect to be – have positive operating cash flow in every quarter in this year and certainly we did in the first quarter very strong and would expect that to continue not really comfortable with giving too much in the way of specifics beyond that. We feel comfortable that the remaining three quarters will be positive. In terms of the stock comp split about 50-50 SG&A and R&D and we expect that should remain reasonably constant in the last three quarters of the year also.

Mike Walkley – Piper Jaffray

That's it for me guys, thank you so much.

Will Davis

Thank you.

Operator

Thank you. And our next question comes from the line of Amir Rozwadowski with Barclays Capital. Please go ahead.

Amir Rozwadowski – Barclays Capital

Thank you very much and afternoon Jeffrey, Frank and Will.

Will Davis

Hi, Amir. Thank you.

Amir Rozwadowski – Barclays Capital

One question I wanted to zero in on is sort of the telecom business. I mean obviously we have seen a lot of discussions about network build outs within the domestic market, Chinese market, and how that the growth is progressing. So I want to get your color in terms of whether or not that serves as a benefit for you folks and how we should think about that?

Jeffrey Kang

Well you can – can you take this question?

Will Davis

Sure. Thanks Amir. Our viewpoint of the telecom segment is that we saw some reasonably normal market seasonality and we expect a pretty good snap back in the second quarter and we are still expecting growth in that segment in 2009 versus 2008. 3G is a driver for us certainly and but it doesn't solve all of our problems and I think what we're getting at there when I say that is that we have already been benefiting from many quarters for instance with the China Mobile build on the TD-SCDMA front. So it is certainly a nice tailwind but keep in mind that 2G spending in 2009 will likely decline versus 2008, so there is some offsetting factors there, and we have been benefiting from 3G for some time. So when you look at it on a year on year comp, it is not all gravy if you know what I mean. But that being said, it is certainly a nice growth driver for us. ZTE, Huawei and Alcatel Lucent, three of our key partners, likely all pretty big share gainers in 3G versus 2G. So from that standpoint and I would also add that we feel like there would be a tail on these 3G builds. I know that some component suppliers like Xilinx and Altera have discussed how there could be a reasonably long tail on 3G spending and certainly we anticipate this having traction for quarters to come. So from that standpoint, we have pretty good visibility and feel like it will last for some time into the future. Additionally, on the telecom side, we continue to benefit from export gains by ZTE and Huawei, so that continues to be a nice benefit for us.

Amir Rozwadowski – Barclays Capital

And then how should we think about the opportunity on the handset side for you folks? I mean it seems like if you look at for example China Telecom's subs for the quarter, you know we picked up and perhaps are expected to ramp through the course of the year, and certainly you folks are positioned with the partnership with VIA Telecom on the CDMA side, so just wanted to get a little bit more color on the handset opportunity there?

Will Davis

Yes. I will take this one. Jeffrey, feel free to jump in if you would like to add anything. Yes I think that there are a couple of different elements at work on the 3G side. One is you have got the China Telecom build as you pointed out is progressing fairly well and that is relatively new business for us on the CDMA side through these relationships. So that is definitely giving us a nice benefit. The China Unicom build on the WCDMA side, I think they're still talking about a soft launch on May 17, and we will see how that progresses, but we would expect to participate as their WCDMA handsets ramp in the back half. Visibility there isn't quite as good as it is on the China Tel side just simply because that network hasn't been launched yet but certainly we expect to participate there. And on the China Mobile side, we are waiting for the big TD-SCDMA ramp to occur and I think a lot of people have been waiting for that. It is coming at some point, so I'm not exactly sure when we can draw a line in the sand and say that this is definitely happening. It hasn't been that much of a benefit for us yet but we view that to be certainly providing us some growth potential towards the back half of this year and into next year. So all three flavors of 3G, we expect to continue to give us a boost on the handset side.

Amir Rozwadowski – Barclays Capital

Great. Thanks a lot for incremental color.

Will Davis

Sure.

Operator

Thank you. And the next question comes from the line of Quinn Bolton with Needham & Company. Go ahead.

Quinn Bolton – Needham & Company

Hi everyone. Just wanted to follow up on TD question, Will or Jeffrey. You talked that you have seen some benefit for a few quarters now from the infrastructure build out but it still sounds like your visibility into continued build and/or the handset side is pretty low, can you just talk – just provide a little bit more color there on sort of how you expect things to roll out over the next 12, 18 months?

Will Davis

Jeffrey, do you want to…

Jeffrey Kang

Yes. Basically we are quite optimistic about this opportunity. Will can and more his thoughts about this business. So we are seeing already starting benefit from this trend and we still believe in terms of our benefit from this trend just started, and we are going to see continue the network rollout and more importantly the sales potential is still in a very early stage, and we're going to benefit from the boost in a telecom million infrastructure side as well as in the mobile handset business in the next few quarters to continue to benefit from this 3G rollout and also the CapEx from the Chinese government.

Will Davis

Yes. I would just add Quinn is that it is if you look at a snapshot of in time right now off the China handset market, 3G early even shows up in terms of total units. I mean granted China Telecom has started to ramp and we see that, but we haven't really seen any WCDMA and the TD to date has been pretty limited. So you can look at that one of two ways. One is well it is behind schedule, it is not great so far. Sure, that is want to point. But the other way to look at it is say, the handset business is doing fairly well right now, and we really don't even have any 3G in there yet. So I think if you look at it from an optimistic point of view and you think about the potential for more 3G models to come out, I mean I was just at the China Mobile store a few of them in China when I was last there last month and a couple of models per store. And I think it is hard to expect a big ramp when you have only got two out of hundred models being new technology but as more vendors put out more product I think media tech's discussed similar types of situation while they will start to ramp TD and some more smart phones in the back half. So from that standpoint, it is – 3G really isn't a huge factor for us yet but we're pretty optimistic that over the next three, four, five, six quarters, that it will become increasingly relevant.

Quinn Bolton – Needham & Company

Have you seen the more aggressive actions by China telecom resulting in any increased activity by China Mobile on the TD front?

Jeffrey Kang

We have seen both of them are quite active in terms of the launch in the license CDMA ramp up from the China Mobile or China Unicom and TD, the 3G from China Mobile. So we are, as I just mentioned, we just started to benefit from this two trends and we are adding more revenue from new trends. But it is just the beginning, we expect to continue to benefit in the next couple of quarters.

Quinn Bolton – Needham & Company

Okay. Moving on to the component shortages, just wondering if it was limited mostly to nor-flash or were other components involved? I believe last year you had seen some shortages on the power amp side, is it more broad than just the flash memory?

Jeffrey Kang

You know that component shortage is changing very quickly from time to time. For example in the first quarter, you can find a lot of things actually are in shortage, not only with flash, even including the base band chipset and LCD panel and power amplifiers and just the reason today I think the major bottleneck is the nor-flash at this moment.

Quinn Bolton – Needham & Company

Got you. Okay, that is helpful. And then lastly I know a number of companies have decided that visibility is still fairly low, just wondering if you had any sense kind of on a quarter – on a month-to-month basis how the month of June looks for your business? I think that there is some fear that we have seen a very strong rebound in order rates in the last 2 to 3 months but heading into a seasonally slower May and June if that order rates could pause here for a month or two before we get that back to holiday builds starting over the summer, so just wondering if you could talk about sort of month-to-month patterns of order rates and whether you specifically have any visibility into what – whether there is any fall off in June or whether June right looks like it will be kind of comparable to April and May?

Jeffrey Kang

We didn't, as you know this mobile handset business is a faster changing business which from a single customer, the demand perspective, it could change very quickly from this week to next week. But Cogo as you know we pretty much cover almost every place in China, so our business can be viewed as an overall demand from the end market. So from our visibility, we feel quite comfortable in terms of the demand in April this month May and we still believe that June the demand is quite healthy. So that is why we don't think that demand is increasing in a particular quarter. And I just said when we study into the third quarter in July, especially in August, it is the summer season, usually has got a little bit of weight in terms of demand in the summer season. That is the normal seasonality, but right after August, especially in September or October, usually the demand will rebound back very quickly. So that is the – so in addition to the normal seasonality, we didn't see any unusual at this moment.

Will Davis

And Quinn I would just add just to keep in mind a lot of the different elements that go into the handset business, you have obviously got domestic consumption which can be influenced by some of the world subsidies which are now under way in certain provinces, still waiting for a CMMB ramp on the mobile TV side, that hasn't really impacted our numbers significantly. As we talked about the three flavors of 3G that are all coming out kind at kind of different times, although I think if you have looked at these operators long enough, I think you can make some kind of assumption that they will that have to be aggressive in terms of marketing and subsidizing their products versus each other, and I think that is a fair assumption to make. That is not a prediction, but when you have got three tests bringing out three new networks, there is going to be some stiff competition that I think ultimately that is probably good for handset vendors. And finally you have got the growth of some of the export guys, ZTE, Huawei, et cetera, growth in Brazil and Kenya and India and the rest of the emerging Asia et cetera. And so we've got a lot of different factors to look at and that export business has been reasonably strong for us in the first part of the year. And although it is off a small base, we continue to see that guys like ZTE and Huawei can gain some share. And that is largely in emerging markets, but we are seeing some nice benefit there.

Quinn Bolton – Needham & Company

Great. Thanks, Will. Thanks Jeffrey and Frank.

Operator

Thank you. And our next question comes from the line of James Faucette with Pacific Crest. Go ahead.

Nathan Johnsen – Pacific Crest

Hi, this is Nathan Johnsen calling in for James. Could you comment a little bit on looking at telecom equipment segment, you talked about Cogo already seeing a good amount of benefit from the 3G build out, I was wondering given your guys view into the deployment schedule et cetera, whether you saw deployment of equipment has kept up with the rapid amount of purchasing that has been done in the last quarter or whether you think there is a likely to be kind of a natural pause in spending by carriers just to say digest the equipment and sort of catch up the deployment schedule?

Will Davis

I think that is a tough question to answer generically. I mean obviously we have seen some big order discussions from ZTE and Huawei and we've seen Altera and Xilinx talk about good order trends. I think different players are effective at different times as you look throughout the food chain, I think you look at somebody like a China Unicom, they are preparing for a soft launch, but how much coverage and more capacity they are going to need over the next 2 to 3 years, I think there are a lot of financial questions. But from our vantage point, if you look at who is gaining share, and that is the domestic vendors, and a little bit of Alcatel Lucent, and we participate with all of those. And we feel pretty confident that the operators will spend the CapEx that they think that they need to spend. And we don't anticipate seeing an environment where an operator say's, well, we need to watch our cash flow. That is the most important thing, so we're not going to spend aggressively to build these networks out. We don't view that as the most likely scenario.

Nathan Johnsen – Pacific Crest

I guess that I don't think there is probably less degree than on that in terms of the carriers needing to continue to spend, I guess what I'm trying to get a sense for is you talked about that segment likely seeing growth this year…

Will Davis

Yes. I was – there was more to what I was getting at there. Yes I mean we expect some pretty nice sequential growth from our telecom business in the second quarter. And then going into the back half, we expect more sequential growth. So and we're still expecting growth in 2009 versus 2008 and given that global I think that Nokia took its global CapEx picture down to 10% in 2009 versus 2008, and given that we expect to show growth, so I think on a relative basis, certainly to what the rest of the world is seeing, it is nice to be able to see growth there.

Jeffrey Kang

You know from according to the feedback from our customers like Huawei and ZTE, so we are confident in their business and their demand is actually increasing in the second half of this year and also in next year. So for telco business, from our perspective in the next four quarter until middle of 2010 or even end of 2010, the demand from China domestic market is still quite healthy and stable.

Nathan Johnsen – Pacific Crest

Great. That is very helpful. The other thing I was just curious you had mentioned that the export portion of your business had been increasing but that it is relatively small portion; can you give an indication of what percent of that business currently makes up your revenue?

Will Davis

Last year we like 70% of our end product sales goes to the Chinese domestic market and around 30% goes to the new emerging markets for exporting.

Will Davis

And that is it is tough to pinpoint that to an exact scientific number because sometimes you're not exactly sure which – for instance let's say there is a low end handset from ZTE and in some cases you may not know if it is going to end up in Beijing or in Delhi for instance.

Jeffrey Kang

So in general our exporting is roughly like 30% of our total business and (inaudible) that portion slowing down in the first quarter even though people expect it could be slowing down, because it happens that way. So from another angle we are seeing most of our customers and they're actually getting their marketing share by taking advantage of this slowing down global financial crisis. Most of our customers feel getting the market share in the last two quarters.

Nathan Johnsen – Pacific Crest

Do you anticipate the export portion outpacing the rest of the business? I mean if you look at, I guess if I look at India as an example, they are adding subscribers at the faster clip than China, do you anticipate again the emerging markets to outpace China or do you think domestic is going to still grow faster?

Jeffrey Kang

In this year, actually the domestic growth is more visible is what I can say because in other model have very a conservative term of exporting business because it still has a lot of uncertainty there. But what I can say is domestic demand is more visible to us. But given – presented opportunity, the exporting business could be a platform, could be drilled much faster than what we expected. But just at this moment our modeling, so we have given quite conservative estimate about exporting business, we're pretty much focusing on our domestic market demand in this year.

Nathan Johnsen – Pacific Crest

Great, thank you very much.

Operator

And our next question is from the line of Adele Mao from Susquehanna. Go ahead.

Adele Mao – Susquehanna

Thank you. Could you first of all discuss your digital media business a little bit? We have seen weakness in growth in the past few quarters as you ramp up the additional media business, but this quarter it seems that year-over-year growth is roughly about 5%? What type of growth do you expect to see for digital media in 2009?

Will Davis

Adele, we haven't given any specific numbers there except that we have said that we think that digital media business will grow in 2009 versus 2008. I mean obviously large numbers makes it more difficult to see the 50% growth that we have seen in past years. But we are still seeing some nice trends there and our relationship with Broadcom is still very strong in that segment, so we are continuing to expect to see growth there.

Jeffrey Kang

So Adele, I will add a little bit more about the digital media business. You know because we covered the many revenue (inaudible) coming from like the set top box, like the GPS and the like, so we see – that market is relatively, the demand is increasing, is very limited for the new – for the segment like set top box, like GPS. But at the same time, we are also finding some of the new areas from the digital media business. For example we have seen on the PDP business, portable devices business is growing very strongly this year, with adding of new features, example the embedded mobile TV function into the portable media players. So for example that is one of the salient points is the last one or two quarters we saw from in the market. So we continue to believe that more and more and new features, new functionalities will be embedded into the PDP and other portable devices, so that will mix. From another angle, we still believe we still have growth opportunities, growth potential from the digital media segment in this field.

Adele Mao – Susquehanna

Okay. That is helpful. If the digital media business, setup box business is currently sort of slowing down a little bit compared to 2008, are you shifting any of the – any of your engineering resources to the more high growth industrial vertical like the smart meter opportunities that you highlighted earlier?

Jeffrey Kang

we have seen in addition to the – the common part of the technology, so we are – we actually – we want our digital team pretty much focusing on the other new areas in the digital media segment because we still believe we have decent growth opportunity and potential there. But we in terms of our industrial team, we started building that team since last year, and we are going to continue to increase our teams in that portion. So we do see so much of a shifting from our digital media team into the industrial team thee, but we still believe that digital media will continue to be one of our growth areas this year.

Adele Mao – Susquehanna

Okay, great. My other question was related to your guidance, regarding your guidance of 2Q09 EPS of $0.14 to $0.15, I just want to make sure I got stock-based comp and acquisition related charges right. Is the $2 million each for the quarter or 2 million in total?

Will Davis

That is 2 million each.

Adele Mao – Susquehanna

Could you just tell us what (inaudible) into the acquisition related charges? I meant which acquisition is being written off? The number seems to be a little higher than what we are seeing in the first quarter.

Will Davis

It is higher, but I think that we are trying to take a very conservative approach to the GAAP accounting there and I think unfortunately I think if you look across the universe of companies, deals that are made in 2007 and 2008 unfortunately are going to lead to similar charges. So it is in an inexact science. We try to be as conservative as we can and take the charges as they come and discussing with our auditors and then determining the best number, it is an inexact science, but we want to be as transparent as possible and take the charges as they come.

Adele Mao – Susquehanna

Okay. And lastly just want to go back to the Mega Smart acquisition a little bit, could you provide a little bit more logistical details on the franchise that you're going to buy or close in the second quarter, specifically how many employees are being moved over to Cogo's industrial group and what is the name of the company and where is the current operation registered and located?

Jeffrey Kang

Well, this is – we have a team mostly based in our Beijing center and a part of that team based in Shanghai area. So we are – that team is pretty much focusing on electric grid area and their customers are like electric grid equipment vendors and as well as meter customers. And they already have the solution this time sold through the existing customer base. And in terms of employee, after closing the deal, we think we can add around like 15 to 20 employees, and most of them are the engineers. So we can – and part of their sales team. It is not a big team, but it kind of expands our offering to both the equipment side as well as the meter customer side. This team has been there in this segment for over five years and they benefited from those – we saw this business opportunity and we acquired them and integrated them into our industrial platform. So we are because in terms of the customer base they actually have a certain overlap with our existing customer base, but at the same time, it is going to be increasing our apps with some of the key customer in this area. For example, customer like (inaudible) which is one of the largest electrical grid equipment vendor in China, and we previously only have a small portion of business with them but after this acquisition we have a significant increase in our revenue from that account. So we expect that account could someday become like a Huawei position in the telco sector in the electrical grid area. So we saw this opportunity, that's why we planned to close this deal and integrated their team into our platform in the second quarter as a basic base of our industrial business platform.

Adele Mao – Susquehanna

Right. I think this makes a lot of sense. What is the name of this company, because my understanding is that Mega Smart is an entity that you guys set up right?

Jeffrey Kang

Yes. So as I mentioned we are for every deal in China, for small deals like this, in order to avoid the tax and legal liabilities, so we usually acquire business, rather than acquire a company instead. So that is why the typical way for us to acquiring the small business is we set up a vehicle and we acquire the team and the business and then we integrate that into that vehicle. So that is the typical way for us to do the small acquisition in China.

Adele Mao – Susquehanna

Right. I'm sorry. What is the name of the company that you have purchased?

Jeffrey Kang

So that is why we acquired Mega Smart and even we are – we acquired the team and the business and then we integrated to this Mega Smart to avoid tax and legal liability.

Adele Mao – Susquehanna

Right. Is there a name that they currently operate under?

Jeffrey Kang

Basically we don't want to disclose that specific information because it may involve a lot of personal tax issues there.

Adele Mao – Susquehanna

Okay. I understand. Thanks very much Jeffrey.

Operator

Thank you. (Operator instructions) Your next question comes from the line of Will Choi with Jefferies & Co. Go ahead.

Rob – Jefferies & Co.

Hi guys. This is Rob [ph] in for Bill. Just following up on the Mega Smart deal, I know you mentioned earlier that it was looking at next 12 month sales of 15 to 25 million, can you say how that compares to the trailing 12 months, and also is 5 to 6 million, assuming that the deal closes in Q2, is 5 to 6 million a good assumption to use for revenue contribution in the back half?

Will Davis

I haven't really Rob gotten to the point yet where we want to discuss trailing sales. I mean I think that certainly a lot of the stuff is in the infant stages, handling a lot of these relationships, and a lot of the spending is just starting to happen. So when we give these ranges, we are trying to give some color, but I think that there is still some uncertainty in terms of the actual timing of when this starts to ramp. So 5 to 6 million in the back half, I think that that is a reasonable assumption, and I would say for maybe a couple million per quarter and we will see certainly expect a much steeper in 2010. I would think that that is a reasonable assumption at this point.

Rob – Jefferies & Co.

Okay. And a couple of questions on the core business if I may. On the gross margin, if I back into a little bit, it seems like in the mobile handset business somewhere in the mid-high single digits just having come down over the past few quarters, how should we think about gross margins in that segment in particular over the next few quarters and can you get that back into the double digits?

Will Davis

I mean from our vantage point, the gross margins within the handset business has bottomed. And you know it is tough to put a specific number on it but certainly we feel like with that bottoming and ticking upwards combined with continued growth of the industrial segment which is a higher gross margin, that is how we ultimately go from 14 heading up towards 15% gross margin.

Rob – Jefferies & Co.

Okay. And then as you look at on the OpEx side of things, you guys did a pretty good job this quarter just bringing that level down, and it sounds like you can hold that relatively flat next as well, how should we think about have OpEx in the back half, particularly I guess as you begin to ramp more on the industrial front?

Will Davis

There'll be small incremental cost certainly in ramping new projects and getting the Mega Smart team up to speed et cetera. But we feel pretty good about the OpEx just to point at this point. And certainly on a year on year pro forma basis we feel like the back half is going to be materially lower than last year. So should pick up, 3Q and 4Q sequentially, which I think would be expected given the expected ramp in revenue and pursuing new deals and et cetera. But we feel good about our ability to hold the line there. And I think that is, at the end of the year, I think you'll see further evidence of how much leverage there is in this model given the right projects and share some revenue growth.

Rob – Jefferies & Co.

Okay. Great. Thank you very much. Appreciate that.

Will Davis

Sure.

Operator

Thank you. And I show no further questions at this time.

Will Davis

Okay, Jeffrey?

Jeffrey Kang

Yes. Thanks very much. I believe Cogo is in a unique business position within the Chinese market and are in a broad relationship with a lot of customers and our net cash position also supports sustainable revenue growth in 2009. And even in this expected continued economic downturn, we plan to continue to gain market share against weakened competition and by expand business with both new and existing suppliers and increasing the exposure to new end markets.

We are also making positive strides towards reaching our profitability target. We would like to reiterate that we believed that the worst of the China economic situation is behind us and we feel confident about a variety of growth prospects as we head into the second half of 2009. I want to take this opportunity to thank all Cogo's believers, employees, customers, partners and long term shareholders. You have provided Cogo with the opportunity to deliver robust and a sustainable growth in the past and we appreciate your support as we move into 2009. Management team is committed to driving sustainable high-growth and providing significant returns to our shareholders.

Thank you again for joining this call. I'm looking forward to talking with you soon. Thank you.

Operator

Ladies and gentlemen, this concludes the Cogo Group Inc. first quarter 2009 conference call. This conference will be available for replay today through May 13, 2009. You may access the replay system at any time by dialing 303-590-3030 or 1-800-406-7325 with access code 4060212. All participants may now disconnect.

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