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Xilinx, Inc. (NASDAQ:XLNX)

F2Q10 Earnings Call

October 14, 2009 5:00 pm ET

Executives

Maria Quillard - Investor Relations

Jon A. Olson - Chief Financial Officer, Senior Vice President - Finance

Moshe N. Gavrielov - President, Chief Executive Officer, Director

Analysts

Uche Orji – UBS

Glen Yeung – Citi

Ruben Roy - Pacific Crest Securities

Tim Luke – Barclays Capital

Tristan Gerra – Robert W. Baird

James Schneider – Goldman Sachs

Chris Danely – JPMorgan

David Wu – Global Crown Research

Srini Pajjuri – CLSA

Mahesh Sanganeria – RBC Capital Markets

David Wong – Wachovia Wells Fargo

Adam Benjamin – Jeffries & Company

John Pitzer - Credit Suisse

Sumit Dhanda – BAS-ML

Hans Mosesmann - Raymond James

Brendan Furlong - Miller Tabak

Operator

Good afternoon. My name is Christian and I will be your conference operator today. I would like to welcome everyone to the Xilinx second quarter fiscal year 2010 earnings release conference call. (Operator instructions) I would now like to turn the call over to Maria Quillard. Thank you. Ms. Quillard, you may begin your conference.

Maria Quillard

Thank you and good afternoon. With me today are Moshe Gavrielov, CEO; and Jon Olson, CFO. We will provide a financial and business review of the September quarter, then we will open the call for questions.

Let me remind everyone that during our conference call today, we may make projections or other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution you that such statements are predictions based on information that is currently available and that actual results may differ materially.

We refer you to the documents the company files with the SEC including our 10-Ks, 10-Qs and 8-Ks. These documents contain and identify important factors that could cause the actual results to differ materially from those contained in our projections or forward-looking statements.

This conference call is open to all and is being webcast live. It can be accessed from our Xilinx Investor Relations website.

Now let me turn the call over to Jon Olson.

Jon A. Olson

Thank you, Maria. During today’s commentary I will review our business results for the September quarter. I will conclude my remarks by providing guidance for the December quarter. September quarter sales increase 10% sequentially to $415 million, higher than our original guidance of up 2% to 6% sequentially and in line with the revised guidance we provided on September 23rd.

Compared to the same quarter a year ago, total sales were down 14%. Turns business was 57% for the quarter, flat with the prior quarter. Virtex-5 sales posted exceptional growth during the quarter above and beyond the delinquency carry-overs from last quarter’s supply constraints. Sales from this product family currently exceed 20% of our total revenues. While delinquencies on a few parts remain, by the end of the December quarter, we believe that inventory will largely be at full safety stock levels.

New product sales increased 36% sequentially during the quarter, driven primarily by the Virtex-5 and Spartan-3 FPGA families. Mainstream products increased 4% as we experienced strong growth from Virtex-4 family and base products, which consist of our oldest products, experienced only a slight sequential decline of 1%.

All geographies increased sequentially during the quarter with Europe and Japan posting the strongest growth of 15% and 26% respectively. Strength in Japan was driven by consumer and communications applications, while strength in Europe was related to a broader base of end markets, including communications, industrial, and audio-video broadcast.

Japan sales now represent 9% of total sales, up from 8% in the prior quarter. European sales represent 21% of sales, up from 20% in the prior quarter. North American sales also posted double-digit sales growth in the September quarter, increasing 12% sequentially to represent 35% of total sales, flat with the prior quarter.

Strength in North America was driven by enterprise networking, defense, and audio-video broadcast. Asia-Pacific sales were more or less as expected, increasing 3% sequentially with growth in wireless and consumer offset by declines in wireline. Asia-Pacific sales now represent 35% of total sales, down from 37% in the prior quarter.

In terms of our vertical markets, sales from all major end market categories increased sequentially. Sales from the consumer automotive and data processing categories were particularly strong, increasing 27% and 31% sequentially with strong double-digit growth in all sub-segments.

Consumer and automotive sales now represent 16% of total sales, up from 14% in the prior quarter.

Data processing sales represented 7% of total, up from 6% in the prior quarter. Sales from the industrial and other category increased for the first time in five quarters with growth from all sub-segments. This category comprised 31% of total sales in the September quarter, flat with the prior quarter.

Communication sales increased 4% sequentially, representing 46% of total sales, down from 49% in the prior quarter. Wireless business increased during the quarter while sales to wired communications were flat.

Gross margin for the quarter was 61.9%, up slightly from the prior quarter and above our forecast due to higher-than-anticipated sales growth, lower costs, and the sale of previously reserved inventory.

Operating expenses were $175 million, including $6 million in restructuring charges, in line with our original guidance as higher variable spending associated with higher sales was offset by lower mass cost and overall expense reduction efforts.

Operating margin increased to 20% for the quarter, up from 15% in the prior quarter. Net income during the quarter was $64 million, or $0.23 per diluted share, including the $6 million in restructuring charges, or approximately $0.02 per diluted share.

Operating cash flow for the September quarter was $118 million before $4 million in CapEx. We paid $39 million in cash dividends.

Our durable business model has enabled us to continue to generate healthy cash flows throughout the recent economic downturn. As a result, we announced a $0.02 per common share increase in our quarterly dividend to $0.16 per share. This translates to a dividend yield of nearly 3%, among the highest in the technology industry.

The tax rate in the March quarter was 20%, higher than the 16% previously forecasted. The increase is primarily due to a change in the jurisdictional mix of our profits. As I stated in the call last quarter, as our sales increase in the U.S., our tax rate will increase. We believe that revenue for our fiscal year will exceed previous expectations and as a result more profits in the U.S. are also anticipated.

Let me now comment on the balance sheet. Cash and investments increased $95 million during the quarter to $1.9 billion. We have approximately $690 million in convertible debt and our net cash position is approximately $1.2 billion.

Day sales outstanding increased three days in the September quarter to 50 days. Combined inventory days in the September quarter were 75, down from 78 days in the prior quarter. We have increased our wafer starts in order to keep pace with the increase in orders. As a result, we expect inventory levels to increase to the low-end of our corporate target of 90 to 100 days in the December quarter.

Now let me turn to a discussion of guidance for the December quarter of fiscal year ’10. Our backlog heading into the December quarter is up double-digits sequentially and is broad-based across our end markets. As we stated on the call last quarter, we will observe an additional accounting week this quarter. We expect this 14th week to contribute to incremental sales growth for the quarter. Given this week occurs at the end of a holiday impacted quarter, our expectation is that it will contribute less than a full week of incremental sales. Additionally, we expect continued growth from Virtex-5 as well as substantial growth from our Virtex-6 and Spartan-3 families. As a result, we are expecting sales to be up 6% to 10% sequentially in the December quarter, with the strongest growth from North America and Europe.

We expect sales from Asia-Pacific and Japan to increase slightly. From an end market perspective, we expect communication sales to be up sequentially, driven by wireline communication, as wireless sales takes a breather. Industrial and other business is expected to increase again, driven by particular strength in test and measurement and industrial, scientific, and medical. We are expecting consumer and data processing to be flat to up slightly sequentially.

The midpoint of our sales guidance is predicated on a turns rate of approximately 53%. This is low relative to our turns rate over the last several quarters but we believe it is prudent in light of prior quarters long lead times on certain devices and the uncertainty of the impact on sales of the additional week.

Gross margin is expected to be approximately 62% to 63% sequentially as higher sales are partially offset by strong new product growth. As previously forecasted, operating expenses in the December quarter will be impacted by the additional accounting week, as well as an increase in mass costs, including approximately $3 million of restructuring charges. We are expecting operating expenses to be approximately $186 million in the December quarter.

Other income and expense is expected to be a net expense of approximately $1 million. The share count is expected to be 278 million shares.

The tax rate for the year is expected to be 19% for the same reasons discussed previously impacting our fiscal Q2.

Let me now turn the call over to Moshe.

Moshe N. Gavrielov

Thank you, John and good afternoon to you all. I am very pleased with how our second fiscal quarter turned out from all perspectives, including sales, operations, development, and ongoing cost controls. Definitely a great quarter by all these measures.

During the first half of calendar 2009, Xilinx revenue was driven primarily by our China wireless business. Now we are beginning to see a resurgence in nearly all of our other end markets, strong seasonal growth in our consumer business and with recovery in our industrial, scientific, and medical, automotive, test and measurement and data processing are very encouraging trends.

In the September quarter, we satisfied the majority of pent-up demand for Virtex-5 parts. We also accelerated our ongoing 65-nanometer wafer starts. We expect to build sufficient safety stock for Virtex-5 in the December ending quarter. The lead times for these devices are expected to return to normal levels. Consequently we are well-positioned to address our customers’ supply needs.

Our 65-nanometer leadership position is unparalleled. Virtex-5 continues to be the industry’s largest revenue generating FPGA family shipping today and demand for this product remains strong. Orders in backlog are broad-based across end markets and customers. We expect this family to continue to be the primary sales driver throughout both this fiscal year and next.

In the September quarter, Virtex-5 revenue surpassed 20% total sales and we estimate our 65-nanometer high-end FPGA market share to be over 80%. We expect to see additional growth from Virtex-5 sales in the December quarter as it is approaching $100 million per quarter, a sales milestone achieved by only two previous products in our history. We are building upon our Virtex-5 success with our next generation of FPGA products, Virtex-6 and Spartan-6. By applying all that we have learned from Virtex-5 near flawless execution, we expect the Virtex-6 family to have a faster ramp to volume production than Virtex-5. To date, we have met every key milestone with both our foundry partners, [inaudible] on 40-nanometer with Virtex-6 and Samsung on 45-nanometer with Spartan-6. We have significantly improved our development quality and turnaround cycles versus prior generation. Virtex-6 design wins are outpacing Virtex-5 design wins; at the same point in time, the number of opportunities identified is significantly greater.

I am very encouraged by our product positioning on the high-end of 40-nanometer Virtex-6 FPGA family extends our undisputed 65-nanometer leadership position. Building up on this success, Virtex-6 is the most complete full-featured high-end FPGA family on the market.

In addition, this quarter we announced support for our 11-gigahertz serial technology which is optimized for ultra high-end bandwidth systems in the wire telecommunication and data communications markets. In parallel, Spartan-6 is the industry’s only 45-nanometer high volume FPGA family and the only high-volume FPGA family with embedded transceiver technology. This is an incredibly key technology for Xilinx because it makes us far more competitive in the high-volume arena, as lower cost and lower power -- as the lowest cost and lowest power volume FPGA solution on the market, design wins for Spartan-6 are very strong. Spartan-6 LXD devices are currently being designed into our customer’s next generation products with design win strength coming from consumer, defense, and wired communication. Several Spartan-6 devices are currently shipping. We continue to hit the key milestones in our rollout with this product family.

I am delighted that our R&D success is being delivered while operating within a more financially disciplined environment. We are delivering on our commitment to return more value to our shareholders. The increase in our quarterly dividend this quarter is yet another way that Xilinx is creating additional shareholder value.

To summarize, I am extremely pleased with our performance this quarter and the excellent execution on all fronts. As John mentioned earlier, our backlog position entering the December quarter is strong. In our outlook, we believe we have appropriately taken into account changes in consumer ordering patterns due to tightening capacity across the semiconductor industry.

Our exceptionally strong new product portfolio positions us to further capitalize on future growth opportunities. These are presented both by the recovering economy as well as the more favorable competitive positioning. This relates both to markets historically serviced broadly by ASICS and selectively in some segments by ASSPs.

Now let me turn the call back to the Operator to open it up for the Q&A session.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Uche Orji with UBS.

Uche Orji – UBS

Just very quickly, two parts to one question -- the first is when do you think that Virtex-6 will be ready for volume production and for transitioning from initial R&D wins from your [customers and start to go for volume]?

And then secondly, following on top of that, when do you think that we shall start --what will be the -- when should we start to think about your 28-nanometer development and what impact will that have on your R&D say next year?

Moshe N. Gavrielov

Okay. Well, we -- no, as I mentioned, we are doing really well on all of the deliverables in the Virtex-6 and Spartan-6 programs are on schedule and they are expected to move into production by the end of this fiscal year or earlier.

And then obviously we do all of the programs staggered in time, so we are working on numerous generations of products in parallel and so the next -- we are working on the generation beyond the 40-nanometer as we speak and most of our engineering resources have already moved to implement the new generation of product.

Uche Orji – UBS

And just one quick follow-on to that -- John, if I look at your gross margins, you are guiding 62 to 63. You know, as we start to see recovery in some of the higher gross margin areas like industrial, should we not expect to see a higher fall-through to gross margins or -- what are the things that are going on within gross margins that drive the high end or the low end of that guidance? Thank you.

Jon A. Olson

There is a lot of dynamics going on right now, particularly one of the things we’ve learned in the recession is there isn’t anything that’s typical about much of what’s been going on in our business from a lot of perspectives. And in margin, in the margin area, we certainly have been impacted by a customer mix situation in this recession, meaning the small and medium sized customers have not -- you know, went away in larger percentages and proportions than the large customers. And this quarter we saw a slight improvement there, meaning that we got some business increase disproportionately from the medium-sized and small customers and I think as that mix improves, assuming it does depending on how the recovery of the recession is, I think that’s going to be an upward pressure on our margins.

At the same time, there was always a product mix going on, depending on what’s going on out there. We continue to work very strongly towards cost reduction activities on both the new products coming out as well as our V4 and V5 product line that is generating so much of our profit at the company and we will continue to improve those margins out in time, which then also should help our margins go up.

We are committed to our 63% to 65% range in our model and so we are working towards that.

Operator

Our next question comes from the line of Glen Yeung with Citi.

Glen Yeung – Citi

Thanks. So my question is kind of looking back on the one hand and then looking forward on another. You know, I know you -- neither of you were at Xilinx's back in 2003 so kind of a question as industry veterans -- if you look back at 2003 and you compare that to now, I wonder if you can give us a sense as to what you think the similarities and differences are broadly from an industry perspective.

And then the second part of this question is as you look into the fourth quarter and to the extent you can look beyond that, that’s great. Just your level of confidence in your three month view here. And I ask this because a lot of chip companies have given guidance and I sense varying degrees of confidence and I just want to know where you fall out on that scale.

Moshe N. Gavrielov

John, why don’t you do the confidence thing and then I’ll think about comparing it with 2003. I assume that the veterans is a euphemism for being old, but I’ll take the compliment.

Jon A. Olson

The confidence in our December quarter I think is quite high, as we sit here. Going into the quarter with a strong backlog that we have and then knowing that the breadth of end markets that we have booked relative to I would say what had been holding us up for the most part this calendar year has been wireless business and to some extent, aerospace and defense. And we are certainly seeing strength in a variety of different areas and a broader base of customers coming for increased orders. You know, the enterprise network business is pretty significant for us and we certainly have seen strength of late in there, both a little bit this past quarter and in our booking patterns going forward for the December quarter.

So quite frankly, we are feeling pretty good as we sit here right now in the position, even though there are still a lot of turns dollars that have to be booked but by and large our confidence is pretty high for the quarter.

Moshe N. Gavrielov

And when I compare this downturn to the previous one, the previous large one, what we -- what characterized that downturn was it was narrow in terms of the applications and it was primarily communications driven but also there was a huge build-up of inventory and to some extent, if you look at the current recovery, the downturn was broad but we are seeing now thankfully broader recovery in numerous areas, so that is good. What didn’t happen this downturn is there wasn’t any huge multi-year inventory build-up and that build-up in the year 2000 was driven by the fact that communications was assumed to continue to grow at a very aggressive compound rate and when we went into this downturn, I think the expectations were a lot more rational and there was a huge focus on inventory management, maybe too much of a focus, hence there was some difficulty in addressing the recovery once it started. But we are seeing breadth now and -- which is encouraging and we are not seeing the issues with inventory that happened then.

Jon, do you want to add --

Jon A. Olson

I think from an internal Xilinx perspective, I’ve been here since the middle of ’05, we’ve certainly focused a lot more on the supply chain, both backwards to us but also forward looking through our customers and we really tightened up the signals, shortened them up and I think some of the impact that impacted Xilinx back between 2001, 2003 not just because of the over-supply, it was also Xilinx's inability to get the right mix of product and inventory and we’ve leaned that out tremendously and we have much better systems now to manage those kinds of things and our customers are much -- we’re much tighter to them and it just feels like we know what’s going on a lot better than maybe we did three or four, five years ago.

Operator

Our next question comes from the line of Ruben Roy with Pacific Crest.

Ruben Roy - Pacific Crest Securities

John, can you talk a little bit about the data processing segment? I realize it’s the smallest contributor to revenue today but going back a few years, it was up around 13%, 14%, 15%. Can you just remind us what that consists of? In the past storage has been a big contributor and do you expect growth to continue to the point where that segment can get back up to that type of revenue contribution for Xilinx?

Jon A. Olson

Today this business is largely been bounced around by what’s going on with GDP and with the -- what’s been going on in the server space. We don’t have -- we haven’t had for a couple of years a very strong penetration into the pure storage business and so mostly we are ancillary devices in -- somewhere in this chain of servers or processing and storage kinds of devices.

Of late there has been a resurgence of penetration into some new technologies, solid state memory going into the mass storage market for network attached devices, et cetera. And we’ve been participating pretty heavily in that particular segment as a controller device in there and that is actually providing a lot more value in the value chain then maybe the more common glue logic, so it has been a decreasing emphasis of ours over the last few years in terms of trying to find a new opportunity there, mostly because there is not -- it’s not a rich area for SOC kinds of things where we have primarily been focused on.

That being said, we found several opportunities there and I really can't say if it’s ever going to return back to the levels that it did before or not but I think we will always participate in that segment at some level.

Ruben Roy - Pacific Crest Securities

Thanks, Jon and then just quickly on the gross margin, can you tell us what the contribution from the zero cost inventory was this quarter and is that going to -- are you going to see that in the December quarter as well?

Jon A. Olson

The things that are in there, the zero cost inventory was not super significant but we are talking about in the neighborhood of less than a half a margin point but still positive there, so it’s not something that is likely going to repeat itself. It just happened to be some devices that we found homes for that we didn’t think we were going to find some homes for and managed to sell through.

Ruben Roy - Pacific Crest Securities

Great. Thanks a lot, Jon.

Operator

Our next question comes from the line of Tim Luke with Barclays Capital.

Tim Luke – Barclays Capital

Just with respect to what you are outlining on guidance, it sounds like the wireless is going to take a breather -- I just want to clarify that means lower sequentially, I’m imagining. How do you see that shaping going forward? Should we think about the China stuff being sort of flat to lower for the next several quarters with the wireline -- I’m imagining wireline includes all the networking stuff -- increasing going forward? What sort of opportunities do you see in com there?

Separately, it just seems that your turns are lower and you talked about lead times stretching a bit -- could you give us some color on that? I noticed that your primary rival was talking about a 40% turns level with the stretching inventory lead times. And they also separately talked about a 40-nanometer, 60% to 70% share that they are anticipating. Could you give us some color on kind of just what you see there, given that you are now ramping production? Thanks.

Jon A. Olson

I saw the wireless statements for December, so yes, the interpretation of what I said on the breather means it is going to be -- our wireless business in total will be lower in December, we believe, than September, and that’s driven by the ending or the ramp-down of phase 3 of the TDS CDMA rollout not being offset by additional devices we’re selling into the wide band CDMA business segment. So we are -- overall our total 3G number will be down and for the most part, that’s been driven by China and not by anything else going on the rest of the world. And we do believe that next quarter that our wired business driven primarily by enterprise network activities will increase. Beyond December, we’re really not making a call, other than from the wireless business from China. We do anticipate next year that phase 4 is going to be happening. We have been very active in quoting there’s no -- anything significant in our backlog for that yet and so it’s just really too early to tell exactly when that is going to start and come in, so we are not talking about that at this point.

The turns piece are definitely lower than our run-rate and I think that’s a combination of the fact that our lead times for the last several months have been longer because of the supply constraints and we believe there has been some early positioning in our backlog, therefore we don’t think turns levels will be back I would say to our historic norm of the mid to high 60s in this particular quarter.

Our lead times -- I want to be clear though -- by the end of this quarter our lead times are going to be back to normal more -- pretty much broadly four week lead times as the safety stock will be built up.

Your third question is around share count.

Moshe N. Gavrielov

Yes, let me answer that -- so this relates to what is happening at 40-nanometer and so a couple of things are happening. The first thing which I think is most important is that the 40-nanometer is really a transition point to where a larger, much larger number of applications cannot afford ASICS and are moving to FPGA so my expectation is that generally that transition is happening, we are seeing it across the board. Everything except ultra-high volume applications just need to -- if they won't differentiate the hardware, they go to FPGA. ASICS are no longer viable there, and so our expectation is that from 40-nanometer onward the market potential for FPGAs is growing.

Typically what we have seen in the past is we have had on the high-end 60% of the market, 65-nanometer was -- you know, there really was not very significant competition and our market share rose to 80%. Our expectation is as each of these new generations has a multi-year design in cycle and the designs don’t happen during six months or during a year of these products -- even for design-ins have a multi-year design-in cycle and that design-in cycle we expect to extend due to the transition away from ASICs. Our expectation is that we will have in excess of 50% of the market are traditional customers who have always gone with us, best we can tell are staying with us for most of their designs going forward.

So we view the 40-nanometer node both on the Virtex and in particular also on the Spartan side as a very attractive node for Xilinx.

Operator

Our next question comes from the line of Tristan Gerra of Robert W. Baird

Tristan Gerra – Robert W. Baird

Did you get any sense from your customers, and I understand it’s still early, in terms of the size of phase four spending relative to phase three in China?

Jon A. Olson

Based on the quotes, you would say it’s an equal or maybe even slightly larger than phase three but that doesn’t -- just because they are asking us to quote certain volumes over certain time periods doesn’t necessarily guarantee that’s the case but the way the quote activity is shaking up and is shaking out on the size of the orders for us, if those would come in based on those quotes, we think we’d be equal or greater. Some of that could be penetration also and higher penetration into the base stations, for example, of FPGAs versus alternatives that they have.

Operator

Our next question comes from the line of James Schneider with Goldman Sachs.

James Schneider – Goldman Sachs

First of all, could you tell us, John, give us an update on whether you still expect to be in terms of OpEx at the low $160 million level exiting this fiscal year? And then separately, do you expect the same strength you saw in the quarter in terms of small customers to continue into the December quarter? In other words, is that continuing to accelerate as far as you can see?

Jon A. Olson

On the OpEx number, I wouldn’t characterize the 160 as the right place to be, so we had talked about 186 is our forecast for December and in that 186 was $8 million of impact, approximately, from the extra week and then we would see mass costs, which are still significant, in the March quarter decline $3 million to $5 million, so that essentially takes $12 million reduction off the 186 and that puts you in the range of 170 to 175, all things being equal. We still have quite a bit of mass costs going on in the March quarter, so the trend has been up -- this is the peak quarter coming up in December, then we’ll decline in March and next fiscal year there should be a lower mass cost profile for the company in total.

Operator

Our next question comes from the line of Chris Danely with JPMorgan.

Jon A. Olson

Chris, before you ask me a question, I want to answer the second question that Jim asked around the small customer increase in December, so yes because of the broad base around our end markets growth that we think we will have next quarter, I would anticipate small and medium sized customers to grow.

All right, Chris, sorry.

Chris Danely – JPMorgan

No problem -- you guys talked about your lead times coming back to normal. I guess that’s about four weeks -- how long did they get?

Jon A. Olson

I think we had some devices that were 14, 16 weeks, that kind of range. Again, not all devices -- this was a handful of V5 or maybe a dozen in the peak of V5s that we had this issue with and it stretched out to be in the 14, 16 week category and then we’ve moved them back some and then by -- basically by the end of December we’ll be back to four weeks pretty broadly.

Chris Danely – JPMorgan

And then as my follow-up, you talked about getting back to your gross margin target of 63% to 65%, I believe. Can you just put a little more color on how you expect gross margins to trend following this quarter? Should they be gradually up next calendar year?

Jon A. Olson

I don’t really want to venture an answer on that and get too specific because of the dynamics of product mix and customer mix and the fact that the recovery, if it happens as interestingly as the recession hit us, it’s really difficult to forecast kind of quarter by quarter going forward. I would anticipate a -- like I said, a positive contribution from the customer mix and a positive contribution from continued cost reduction and we have quite a few cost reduction programs lined up with contribution scheduled over the next four quarters, so I’m hopeful it will keep moving up but it’s too hard to know for sure.

Operator

Our next question comes from the line of David Wu with Global Crown Research.

David Wu – Global Crown Research

I was wondering, Jon, on the issue of product mix, if we are going to be in a ramp phase for both Spartan-6 and Virtex-6 in fiscal ’11, would the usual hit in -- newer products tend to get lower gross margin show up in terms of your improvement in gross margin for fiscal ’11 relative to what progress you have made to date? And the other thing I was just wanting clarification on, what’s the mix of your large versus small customers, small, medium-sized customers in terms of percentage revenue contribution?

Jon A. Olson

So David, on the first one on product mix, well clearly the introduction of a new product family, and in our case two new product families, doesn’t -- those products don’t come out of the chute with high margins and it’s dependent on how many units we put through and how much yield earnings is going on and all the classic things, so yes, just categorically they are a drag on our overall margin but at the same time, I want to remind you that Virtex-5 is a huge contributor to our profits and we’ve been doing a really good job of increasing our yields there and improving margins there and there is more capability to do that in our -- we would do everything we can to try to help make sure that offset any of the decline and hopefully even make up more than that through a broad-based cost improvement. So it is a fact that product mix has a downward pressure but we have a lot of other things we are working on to try to offset that and improve margins overall.

On the large customer versus small customer mix, I think the way I characterized it in the past is we look at our top 50 customers and describe how much our top -- how much revenue is defined by our top 50 customers and we’ve been -- in the worst point we’ve been in in the recession, it’s been in the low 60s, low 60% number and it’s starting to move its way back up a little bit. So you can do the math on that.

Operator

Our next question comes from the line of Srini Pajjuri with CLSA.

Srini Pajjuri – CLSA

Jon, you said the extra week is helping you in terms of the revenue impact for the December quarter. As we look out to the March quarter, I guess my question is what kind of impact do you think that will have on your normal seasonality? And also if you can share with us what your normal seasonality for the March quarter is, that would be great.

Jon A. Olson

Well, I don’t think having 14 weeks in December has much to do at all with March, other than there’s a few percentage points of revenue maybe that we are getting out of it. You know, when you look at the way the calendar has worked for us, our 14-week ends on January 2nd, so essentially we’ve gotten our calendar back to more normal and closer to the monthly cycle. So in and of itself, I don’t think it’s a huge detractor or contributor to any change one way or the other.

Basically it’s way too early to understand how this recovery is going to impact us. There’s no seasonal patterns anymore, it seemed like. I mean, what we would have normally anticipated for a September based on seasonal or December on a seasonal seems to be kind of out the window. We’re not growing a few percentage points in the recovery -- we’re growing 10 in each of these quarters, or eight and 10 and eight respectively and that’s really not what you would look historically about the company.

So it’s really hard to say gee, our normal seasonal pattern is up in March and you know, you can count on us being up because I don’t know if that is the case or not.

Srini Pajjuri – CLSA

Okay, and then quickly on the wireline, coming back a bit here. I’m just wondering if you have any visibility into saying that whether this is just a year-end [inaudible] or if these are new programs -- if you can provide us any color, that would be great. Thank you.

Jon A. Olson

I don’t know about the budget flush issue. I think one of the things that is encouraging in the wireline area is that some of our medium-sized customers there are forecasted to order more parts, which would indicate that there’s more breadth going on in the wireline than just the networking people holding us up. And so that’s kind of encouraging from that perspective. So it does feel like this isn’t just the network guys getting better and starting to sell more products through. It does feel like there’s a little more breadth going on.

Srini Pajjuri – CLSA

Thank you.

Operator

Our next question comes from the line of Mahesh Sanganeria with RBC Capital.

Mahesh Sanganeria – RBC Capital Markets

The industrial segment, you said that most of the growth is coming from that. Usually Q4 is a strong defense quarter. You didn’t call out that one. Can you give us the color on how defense is doing?

Jon A. Olson

Defense was up some in the September quarter and we are really not anticipating it to grow I would say to our typical rate of increase in the December quarter, and that’s really predicated on a few specific programs that we’ve been monitoring and the buying patterns, and maybe some of that is explained by getting caught up in some of the program budget changes going on in the Department of Defense, even though we believe over the long haul we are a net benefactor from some of those changes. In the short-run, that could be part of the explanation. I’m really not sure of that.

So we are expecting I would say a flat to modest increase in defense in the December quarter, but not our usual jump up.

Operator

Our next question comes from the line of David Wong with Wachovia Wells Fargo.

David Wong – Wachovia Wells Fargo

Thank you very much. Can you give us some idea as to wafer supply? Are you seeing any tightening in wafer supply? Does this affect the pricing or is there some reason to think that there might be constraints in the future?

Jon A. Olson

I don’t think we are really seeing any tightness in overall wafer supply now that we are -- you know, we started a huge number of wafers and we feel that we are going to be caught up this quarter pretty much. We don’t see to be having an issue getting any starts for this quarter. It will be delivered into the March quarter, so we are really not experiencing any significant tightness there. And the pricing patterns really haven’t changed a great deal either. I mean, we negotiate on a multiple rolling quarters going forward and we typically have price declines as technologies become more mature every quarter or every other quarter and those have continued per our roadmap and our budgetary negotiated prices.

So we are not experiencing anything there that’s detrimental.

David Wong – Wachovia Wells Fargo

Thanks.

Operator

Our next question comes from the line of Adam Benjamin with Jeffries.

Adam Benjamin – Jeffries & Company

Thanks, guys. I just wanted to follow-up a little bit on the wireless business and the extra week and if you can just talk about the linearity of the orders in Q4 for what you expect, just in terms of the business being down if the extra week has an impact or not, in terms of how we should be thinking about that business.

And then secondly, if you can talk a little bit about competitive lead times which we’ve heard from several of the semi companies stretching out and impacting them. I’m just curious what you are seeing and where you are seeing the most significant lead times right now in terms of end markets. Thanks.

Jon A. Olson

From the wireless perspective, I would say we are average to above average book for the quarter business for the December quarter. I think some of the strength that we’ve seen or some of the issues around our long lead times earlier over the last few months has caused them to do some early booking and some of that would be in the wireless business, hence our lower turns number.

The 14-week, I don’t think that has a huge impact, again because we’ve encompassed both the Christmas and New Year’s week in this 14-weeks and it’s just kind of -- you know, typically we’ve been relatively slow in at least one of those two weeks, pretty slow in one of those two weeks and historically and so that is why we are counting on it to be a small impact.

Lead times, I’d say the only thing that we might be experiencing that’s considered more tightness on lead times has been in the assembly and test areas. We’ve been pretty clear as we’ve gone through our transition of moving more tests to outsource, as we’ve described in our restructuring of the company a couple of quarters ago, working very closely with suppliers, both assembly and test in this case in order to reestablish our volume expectations there. And I think because we were very early in going through all that, we certainly aren’t experiencing any issues with respect to Xilinx builds going on but I think there is a sense that there’s more tightness going on overall in that part of the supply chain.

Operator

Our next question comes from John Pitzer with Credit Suisse.

John Pitzer - Credit Suisse

Jon, you alluded to earlier the fact that with the Virtex-5 family you still think there’s some cost-savings there. Is it meaningful? Can you help me quantify it? If you look at where yields are today versus where you think you can take them, how much of a gross margin driver is left there or is it mainly volume?

And then my second question, just quickly, when you look at the automotive and industrial segments, help me understand your concern around the sustainability, especially in automotive, given some of the stimulus that we had in the calendar third quarter relative to end demand?

Jon A. Olson

Yeah, on the V5, let’s start with the V5 cost-savings -- I mean, every point of yield that you can lower, you know, we’re talking about $1 million or more than you can benefit yourself, right? So there’s -- at this stage of our volume, in terms of cost of goods sold, so the more we can work on these things and find improvements, not just back at the fab but anywhere in terms of cost reduction, in terms of negotiating better prices with suppliers on substrates and packages and things like that, it’s really a full court press that could -- you know, that can contribute these things and we are certainly aware that with new technologies coming on, that there’s going to be downward pressure with product mix and we need to find ways to offset this to support our business model.

I’m not -- I don’t know that this is any -- usually different than maybe some past generations but we certainly are keenly aware of it and it’s a big focus of ours.

On the auto area in terms of the auto part of our business, we definitely had strength there and we do feel like we are returning from the depths of hardly anything, it seemed like, to some business there, which is good but it’s got to move up and down with the GDP and the automobile sales over the long haul. You know, the stimulus package obviously had some impact on builds of automobiles and I am sure we are participating in that but we are not expecting a sequential quarter after quarter increase necessarily in that part of the business. It will be choppy, I suspect.

Operator

Our next question comes from Sumit Dhanda with BAS-ML.

Sumit Dhanda – BAS-ML

A couple of questions -- so the first question I had, Jon, was the current assumption of 53 versus 57 in the September quarter -- and that’s 53% based on a full 14 weeks, meaning that if you compare it apples to apples, 13 weeks, are you assuming flat turns because of the holiday week and the assumption that they will do -- that you will do very little business then?

Jon A. Olson

Well, it is the turns considered in the full 14 week quarter. I haven’t tried to quite trace that through my head yet about what normalizing it to 13 weeks would be. I think the two factors that are impacting us on the lower turns assumption is the fact that we think we are reasonably booked going in and because of the long lead times that we had a couple of few months ago, and the fact that that last week isn’t -- that last week isn’t going to contribute very much. I think those are probably the biggest factors to why that number is lower than our historic.

Operator

Our next question comes from the line of Hans Mosesmann with Raymond James.

Hans Mosesmann - Raymond James

More a strategic question for Moshe -- your foundries, Samsung and UMC, are these strategic partners or are you going to hold with them for the next node beyond 40-nanometer? Are you considering using perhaps DSMC? What’s the foundry strategy going forward?

Moshe N. Gavrielov

Hans, every process node we look at everyone how is available and trust me, they all want do business with Xilinx and we choose who are the best partners based on having the technology, having the right commercial arrangements, and so we are very good at doing this. We’ve done it several times very successfully and we’ve managed to demonstrate leadership throughout, so no, at any point we feel very comfortable in our ability to use the best foundries available. We don’t have anything to announce at this point in time. When we do decide and we will roll it out, we’ll definitely figure out who the right foundry partners are and communicate that.

Hans Mosesmann - Raymond James

Okay, fair enough. And then a more technical question --

Operator

Our next question comes from the line of Glen Yeung with Citi.

Glen Yeung – Citi

Could I just clarify that when you talk about a recovery, a return to normal in your safety stock, are you referencing Xilinx safety stock or distributor safety stock? And then the second question is Moshe, at the beginning you mentioned that you are seeing more breadth in your business. If you were to kind of say one is the limited amount of breadth that you saw in the worst part of the down cycle and 10 is normal breadth you would see in an up cycle, where would you characterize your breadth today?

Jon A. Olson

The safety stock issue, I was referring to Xilinx's safety stock, which is generally typified by what we hold in tie banks, so the distributor safety stock issue isn’t really appropriate. Our distributor inventory is based on their order patterning and keeping them as lean as we possibly can jointly in order to reduce their working capital and to increase our flexibility in die bank to build the right part. So I was referring to Xilinx inventory, primarily die bank safety stock.

Moshe N. Gavrielov

And with regard to your question on the breadth, no, there was a period of time during the downturn where there were two sources of light at the end of the tunnel. One was Chinese wireless and the other was [AND] and in reality, most if not all other markets were suffering and shrinking. They hadn’t gone away but they were down significantly.

What we are seeing now is across the board, across all of our markets and across all of our geographies and the numbers Jon has shared with you we are seeing much better results and we are seeing a recovery in terms of orders and so it went down and there were two points of light and now it’s coming across -- it’s coming back up and there’s significant light in all areas at this point and significant interest and a lot of shipments in all of our markets.

Operator

Our next question comes from the line of Brendan Furlong with Miller Tabak.

Brendan Furlong - Miller Tabak

My apologies -- I thought I took myself offline. Sorry, I’m good. Thank you.

Operator

Mr. Furlong has withdrawn his question. Our next question comes from Tristan Gerra with Robert W. Baird.

Tristan Gerra – Robert W. Baird

Just a quick follow-up -- how much more decline do you expect in mass costs beyond the March quarter in fiscal ’11? And also, when do we expect 65-nanometer crossover with 90-nanometer?

Jon A. Olson

On the first one, we are really not characterizing our fiscal year ’11 yet in terms of mass costs but I would expect just generally the quarter following March, we would again see a similar kind of decline again that we did -- that I stated between December and March, so I think it will gradually come down over two or three quarters.

And then the 65-nanometer crossover with 90 -- is that what --

Moshe N. Gavrielov

Well, if you are referring to mass costs, they don’t cross over.

Jon A. Olson

Right, but --

Operator

There appear to be no further questions at this time. Maria Quillard, do you have any closing remarks?

Maria Quillard

No. Thank you, everyone, for joining us today. We have a playback of this call beginning at 5:00 p.m. Pacific, 8:00 p.m. Eastern. For a copy of our earnings release, please visit our IR website. We will not be providing a scheduled mid-quarter update for the December ending quarter. Our next earnings release date for the third quarter of FY10 will be Wednesday, January 20th after the market closes. This quarter we will be presenting at the Wachovia tech day and Barclays Capital semiconductor conferences. This completes our call. Thank you very much for your participation.

Operator

Ladies and gentlemen, this does conclude the second quarter fiscal year 2010 earnings release conference call. You may now disconnect.

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Source: Xilinx F2Q10 (Qtr End 9/26/09) Earnings Call Transcript
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