LSI Management Discusses Q3 2013 Results - Earnings Call Transcript

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 |  About: LSI Corp. (LSI)
by: SA Transcripts

LSI (NASDAQ:LSI)

Q3 2013 Earnings Call

October 23, 2013 5:00 pm ET

Executives

Sujal Shah - Vice President of Investor Relations

Abhijit Y. Talwalkar - Chief Executive Officer, President and Director

Bryon Look - Chief Administrative Officer, Chief Financial Officer, Principal Accounting Officer and Executive Vice President

Analysts

Sujeeva De Silva - Topeka Capital Markets Inc., Research Division

Hans C. Mosesmann - Raymond James & Associates, Inc., Research Division

Vivek Arya - BofA Merrill Lynch, Research Division

James Schneider - Goldman Sachs Group Inc., Research Division

Srini Pajjuri - CLSA Limited, Research Division

Blayne Curtis - Barclays Capital, Research Division

Joseph Moore - Morgan Stanley, Research Division

Christopher Rolland - FBR Capital Markets & Co., Research Division

Betsy Van Hees - Wedbush Securities Inc., Research Division

Joseph Wittine - Longbow Research LLC

Steven Chin - UBS Investment Bank, Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the LSI Corporation Investor Relations Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the call over to our host, Sujal Shah, Vice President of Investor Relations at LSI. Please go ahead.

Sujal Shah

Good afternoon, and thank you for joining us. With me today are Abhi Talwalkar, President and Chief Executive Officer; and Bryon Look, Executive Vice President and Chief Financial Officer. Abhi will begin the call with some opening remarks and highlights from our business, and then Bryon will provide results for the third quarter and guidance for the fourth quarter of 2013.

During this call, we will be mentioning non-GAAP financial measures, which we may refer to as results excluding special items. Today's earnings release describes the differences between our non-GAAP and GAAP reporting. You can find reconciliations of our non-GAAP financial measures to corresponding GAAP amounts on the Investor Relations section of our website at www.lsi.com/webcast.

At that site, you can also find a copy of the earnings release and a presentation highlighting the key points from today's call and providing additional information about our business. We also have an Investor Education Center on this site, which contains video presentations about each of our businesses. This may be particularly useful for new investors.

Today's remarks will include forward-looking statements. Our actual results could differ materially from those suggested by the statements made today. Information about factors that could affect our future results is contained in our Form 10-K for the year ended December 31, 2012, our second quarter 10-Q and today's earnings release.

With that, it is now my pleasure to introduce Abhi Talwalkar.

Abhijit Y. Talwalkar

Good afternoon, and welcome. As you've now seen through recently earnings announcements from some of our customers and peers, end markets remain mixed with uncertainty due to various macroeconomic factors. This has led to sluggish growth and in some cases, a deceleration of growth in our end markets versus expectations several months ago.

As a company, we continue to focus on what we can control, which is delivering great products that customers want, growing our design win pipeline, building new growth engines and tightly managing expenses in order to expand operating margins. With this backdrop, there are several key takeaways I would like you to get from this call.

One, we delivered solid results in Q3, with 55% non-GAAP gross margins, strong expense control and non-GAAP operating margins expanding to 17.3%. Two, the LSI growth story remains intact. Our design win pipeline is growing, and we have line of sight to growth in data center, mobile network and flash applications in excess of market growth rates next year and beyond.

Three, in Q3, our PCIe flash-based microproducts grew 55% year-over-year, and our networking investment area products grew 10% year-over-year. We expect solid year-over-year, again, growth in fourth quarter. And last, as a management team, we are committed to getting to our business model, and we will be keeping non-GAAP operating expenses flat at $230 million per quarter until we achieve this. We now expect to attain 20% non-GAAP operating margins at approximately $660 million of quarterly revenue, a level we are confident we can reach given our numerous growth opportunities.

We have aggressively repositioned the company over the last 4 to 5 years to be increasingly centered in exciting end markets such as data centers, mobile networks and flash. Despite macro challenges, the basic fundamentals of data and traffic growth, along with growth in related mobile services, are expected to be solid over the coming years. We estimate that nearly 50% of our revenues come from data center IT spending, with over 10% of the company's total revenue influenced by the top hyperscale web companies. Mobile networks and flash now each make up double-digit percentages of the total company's revenues.

Our Q4 guidance takes into account market weakness, related inventory adjustments at key customers and a cautious stance given uncertainty in our end markets. As a result of the challenging environment we are facing, the management team is taking a more aggressive path to drive business model performance while not jeopardizing our growth franchises.

We are continuing to see great productivity benefits from a number of major initiatives we executed over the past 3 to 4 years that can enable us to generate growth while maintaining current expense levels. These initiatives, which we've touched upon with our investors in the past, include a large and highly capable R&D base in China and India, working in concert with the development teams in the U.S., a common technology platform leveraged across all product lines and a significant site consolidation.

We are confident in our ability to maintain quarterly non-GAAP operating expense levels at the current $230 million level while supporting our large design win pipeline, driving our upcoming product cycles and fueling future growth engines. With non-GAAP gross margins at approximately 55%, this lowers the required quarterly revenue level to hit 20% non-GAAP operating margins to $660 million versus the previously stated $700 million.

While near-term revenue growth is being impacted by market and demand weakness, our strategy, execution and outlook for future growth remain intact. We believe that we are simply witnessing a delay to a solid growth story, which we expect to materialize in 2014. At the same time, the management team remains committed to driving towards our business model target of 20% non-GAAP operating margins.

Our confidence in our ability to grow revenues going forward is based on a large pipeline of design wins, new product ramps and numerous other contributing factors. One, LSI is now established as the #2 provider in the rapidly growing PCIe flash adapter market segment, with Q3 revenues growing 37% sequentially and 55% year-over-year.

Two, in flash controllers, we believe our revenue will trough in Q4, and we will soon benefit from a new product cycle based on our third-generation SandForce flash controller. Numerous major NAND and SSD vendors have active development programs underway.

Three, in networking, we're still at the early stages of ramping Axxia and custom products into wireless base stations and enterprise switches. With Cisco, where we just won Supplier of the Year, we have over 10 unique designs and development across our enterprise and data center portfolio, with the initial program shipping in production now and the rest releasing into production over the next 1 to 6 quarters.

Four, in HDD, we have now begun volume shipments to a new client SoC customer and have received confirmation that LSI SoCs will ship in tens of millions of new client hard disk drives in 2014 with this customer. And lastly, we expect our enterprise HDD share to increase in 2014 as we ramp 28-nanometer SoCs at 3 out of 4 HDD OEMs.

Now I'd like to briefly review additional product highlights and growth drivers for our businesses. In flash, there is no other company that has LSI's breadth of products. Only LSI offers standard and custom flash controllers, PCIe flash adapters and caching software. This capability has enabled us to engage a broad base of customers, including vertically integrated NAND suppliers.

LSI now has 17 different custom flash controllers that are either in production or in development with multiple NAND and SSD OEMs and we expect to see revenue growth as these programs ramp into production in 2014. For standard product flash controller silicon, we have sampled our third generation of SandForce controllers that have been specifically architected to bring out the full performance benefit of PCIe technology while also supporting the ubiquitous data interface.

Silicon validation and performance testing is progressing well ahead of expectations, and numerous NAND and SSD customers are in full development. The SF-3700 solution offers firmware with customization capability to meet the needs of a broad range of customers. Based on customer feedback, we believe we are ahead of our competition with this class of controller.

We also continue to win designs with our current controller in SATA-based SSDs, which remains the largest category of SSDs. Intel and LSI have just developed a unique solution with SandForce flash controllers used in the new Intel SSD Pro 1500 Series and SSD 530 Series, which are targeted for business, mobile and ultrabooks, an area that we expect to grow going forward.

I'll now move to PCIe flash market segment where LSI is established as the #2 provider of merchant PCIe flash solutions and uniquely positioned as the supplier with the industry's broadest PCIe flash portfolio.

To further our penetration at end customers, we recently announced a partnership with VMware and are working with Cisco to deliver solutions for big data in Hadoop environments. Our customer base includes Oracle, JPMC, Intel, Dell, IBM and a leading social networking company, and we expect to add even more customers in Q4. As a proof point of our progress, we saw our revenues grew 37% quarter-to-quarter and 55% year-over-year.

To summarize our overall opportunity in flash, we remain very bullish about the growth prospects for LSI. We expect the size of our available market across our aggregate flash offerings to go from over $1 billion today to over $3 billion in 2016. There is no other semiconductor company that is positioned as well as LSI to serve this large and growing opportunity.

In our SAS and RAID business, we continue to lead the market in the transition from 6-gig to 12-gig SAS. As a proof point, LSI 12-gig SAS storage solutions will power more than 100 new server models based on Intel Xeon Processor, including those from Tier 1 OEMs, ASUSTeK, Fujitsu, Gigabyte, Huawei, Intel, Quanta, Supermicro and many others. We have also talked about expanding beyond our traditional SAS and RAID business with our Syncro product family, with Dell launching their VRTX platform in Q3 based on this solution.

In hard disk drives, we are solidly positioned in the most resilient segments of the storage market. Our revenue is driven by shipments in the desktop, enterprise and nearline drives, which are collectively expected to be a driver of storage capacity for cloud and hyperscale buildouts. In the enterprise space, we have begun initial production shipments of 28-nanometer SoCs to 3 of 4 HDD OEMs, and a new 40-nanometer SoC to the fourth HDD enterprise OEM. We are also ramping into Seagate's 500-gig and 1 terabyte hybrid drives where LSI is currently sole sourced as the SoC provider.

Regarding customer expansion, we have now begun volume SoC shipments to a new HDD customer and have received confirmation that LSI SoCs will ship in tens of millions of new client hard disk drives in 2014. We believe this, combined with our new enterprise SoC programs at all 4 HDD OEMs, positions us for healthy share gains in 2014.

I would now like to discuss our networking business, where our products address the wireless mobile network and data center market segments. We believe our Axxia processors are the most technologically advanced standard product multi-core communications processors in the industry. Last quarter, we began delivering to customers the Axxia 5500, which integrates 16 ARM cores, and LSI is well ahead of any competitor for this class of solution. Today, Axxia processors are shipping in both macro and small-cell base stations and into the line cards for data center switches.

We compete with several companies who are limited to offering standard products. LSI is unique in providing a combination of some custom silicon products along with our family of Axxia standard products. This formula is producing results as Tier 1 customers increasingly partner with LSI to meet the more stringent performance and integration requirements of next-generation systems. As new base stations come to market over the next several years, we expect our aggregate share for communication processors and baseband silicon in base stations to go from less than 15% today to over 40%, with our dollar content per base station going up significantly as well.

The same formula is producing success in the enterprise space. We have design wins across 15 strategic sockets at leading data center and enterprise networking OEMs, with custom solutions and Axxia products, and we'll see revenue as these programs go into production.

To wrap up, while we are being impacted by some near-term factors, we continue to demonstrate solid performance and have established product cycles to drive growth going forward. We are committed to driving business model performance and now expect to achieve 20% non-GAAP operating margins on just $660 million of quarterly revenue, a level that is well within our reach.

Now I'll turn the call over to Bryon, who will take you through our results and provide guidance.

Bryon Look

Thanks, Abhi, and good afternoon, everyone. I'll start with a few highlights for the quarter. Revenue at $607 million came in slightly under the midpoint of guidance. Non-GAAP gross margin expanded to 55.1%, which was above the midpoint of guidance. Non-GAAP operating expenses were $230 million, just under the low end of guidance. Non-GAAP operating margin improved from 14.7% in Q2 to 17.3% in Q3. Non-GAAP diluted earnings per share were $0.17, just above the midpoint of guidance. Operating cash flows were strong at $63 million, and we paid dividends of $16 million in the quarter or $0.03 per share.

Now turning to a more detailed discussion of our financial results for the quarter, beginning with revenues. Q3 revenues were $607 million, up 3% sequentially and down 3% on a year-over-year basis. Our server and storage semiconductor revenues, which include products from our server rate adapter and software, flash, SAS, SAN and HDD businesses, were $470 million, up 3% sequentially and down 5% on a year-over-year basis. We saw sequential growth from all our server and storage businesses in Q3. Server and storage semiconductors represented 77% total revenues in the third quarter.

Q3 revenues in our networking business were $109 million, up 4% sequentially and up 3% on a year-over-year basis. We saw strong sequential growth from our investment areas, offset by declines in our legacy products. Networking represented 18% of total revenues for the third quarter. Revenues for the IP business were approximately $28 million, essentially flat sequentially.

Moving next to gross margins. LSI's Q3 gross margin, excluding special items, improved to 55.1%, above the midpoint of guidance we provided in July, benefiting primarily from a more favorable mix. In terms of operating expenses, R&D, together with SG&A expenses, excluding special items, totaled $230 million in Q3, just under the low end of guidance. We continued to maintain very tight control over our operating expenses as we make progress towards our business model.

Non-GAAP operating income for the quarter was $105 million or 17.3% of revenue, an increase of 260 basis points sequentially. Interest income and other, net of interest expense, excluding special items, was $1 million for Q3.

Now let me turn to the special items we recorded in the third quarter, which netted to approximately $57 million. Special items, primarily noncash, included $30 million in amortization of acquisition-related items, $20 million of stock-based compensation expense and $7 million of restructuring costs and other items.

Moving next to tax. Our tax provision on both a GAAP and non-GAAP basis can vary significantly quarter-to-quarter based on our profitability in different geographic tax jurisdictions and discrete items. The tax provision we recorded for Q3 for both GAAP and non-GAAP purposes was approximately $12 million.

On a GAAP basis, third quarter net income was approximately $37 million or $0.06 per share. Non-GAAP net income was $93 million or $0.17 per diluted share, just above the midpoint of guidance. The diluted weighted average share count for the period for both GAAP and non-GAAP purposes was 564 million shares. This includes the weighted average benefit of purchasing approximately 5 million shares during the period under our share repurchase program.

Turning now to the balance sheet and cash flows. We ended the third quarter with cash and short-term investments of approximately $665 million. This reflects operating cash flows of $63 million, our dividend payment of $16 million, as well as stock repurchases of $41 million in the quarter. We have approximately $315 million remaining in our stock repurchase authorization, and we continue to operate with no debt on our balance sheet. Finally, with respect to Q3 results, depreciation and software amortization was $16 million and capital expenditures were $22 million.

Next is a discussion of our guidance for Q4 2013. Q4 revenues in the range of $580 million to $620 million were sequentially down approximately 1% at midpoint, with product revenues approximately flat. We expect our server and storage semiconductor revenues to be flat to slightly up. We expect our networking semiconductor revenues to decline, primarily due to lower revenues from our legacy business. And we expect IP licensing revenues to be sequentially down by approximately $5 million as that business returns to a more typical quarterly run rate.

Gross margin, excluding special items, is expected to be 54.5% plus or minus 1%. Operating expenses, excluding special items, are expected to be in the range of $225 million to $235 million. While we are providing a range on our operating expenses, we are very focused on keeping operating expenses at $230 million until we achieve our business model target for non-GAAP operating margins.

Interest income and other and interest expense, excluding special items, is expected to net to income of approximately $1 million. Special items are expected to net to approximately $45 million to $65 million. GAAP and non-GAAP tax provision is expected to be approximately $7 million for Q4. We expect Q4 GAAP net income in the range of $0.01 to $0.11 per share and non-GAAP net income in the range of $0.13 to $0.19 per share.

The share count is expected to be approximately 565 million shares for both GAAP and non-GAAP purposes. In addition, we expect depreciation and software amortization of approximately $16 million for Q4, and $62 million for the full year and capital expenditures of approximately $20 million in Q4 and $85 million for the full year.

In closing, despite ongoing challenges within the macroeconomic environment and end markets, we delivered solid third quarter results. Revenues grew sequentially across our server and storage business, as well as our networking business. We significantly expanded operating margins, and we continue to generate strong cash flow from operations. We also initiated a quarterly dividend, reflecting our continued confidence in the business and a robust balance sheet. Returning capital to shareholders through a dividend complements our share repurchase program and allows us to reward our shareholders with a consistent quarterly return.

Now let me turn the call to Sujal.

Sujal Shah

Thank you, Bryon. At this point, we will begin the Q&A portion of the call. Lisa, will you please give the instructions for the Q&A session?

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from Sujee De Silva.

Sujeeva De Silva - Topeka Capital Markets Inc., Research Division

On the financials. The OpEx side, I know you guys want to keep OpEx flat. Just want to know if that -- if there's any redeploying of folks between projects there or whether certain projects are being pushed out or whether you have the right headcount in place to continue the roadmap with a flat OpEx.

Abhijit Y. Talwalkar

No, Sujee, we absolutely do. I mean, as we mentioned in the prepared remarks, we've been driving a number of significant productivity initiatives over the last 3 to 4 years. And frankly, they're delivering great dividends, allowing us to continue to maintain the full roadmap that we need across all our product lines, the competitiveness, as well as supporting what is a very large design win pipeline that we are active in developing and getting to market.

Sujeeva De Silva - Topeka Capital Markets Inc., Research Division

And maybe on the gross margin side, Bryon, it looks like mix helped you this quarter. It's going to, I guess, with the storage part of the business coming in, it comes back down. What's the level we can think about gross margin being in 2014? What are the puts and takes there?

Bryon Look

Yes. We've been driving things like optimize cost and things like that, and we've been able to operate very close to our business model target of approximately 55% non-GAAP. And we would expect to be able to continue at approximately that level going forward.

Operator

Your next question will come from the line of Hans Mosesmann.

Hans C. Mosesmann - Raymond James & Associates, Inc., Research Division

A couple of questions. At the beginning of the prepared remarks, there is commentary. In addition to macro issues, there is an inventory dynamic. Can you provide more granularity on that?

Abhijit Y. Talwalkar

Yes, Hans. I mean, I think the way I would characterize sort of the GAAP between what consensus might have had for the company versus our guidance, I'd say 3 quarters of that was related to overall market demand and inventory adjustments that are taking place at 1 or 2 of our customers. And I think it's just consistent with the deceleration that we've seen in end markets and our customers who are reacting to that deceleration based on shipments that they took in the prior quarter and adjusting for sort of new levels of end markets.

Hans C. Mosesmann - Raymond James & Associates, Inc., Research Division

Okay. And those customers are being the HDD side of the business?

Abhijit Y. Talwalkar

No, not on the HDD side. And this is largely isolated to the server side, and I would say largely 1 or 2 customers there.

Hans C. Mosesmann - Raymond James & Associates, Inc., Research Division

Okay. And then as a follow-up, can you provide us an update, if you can, on the timing of your ARM silicon in 2014 sampling, when you expect production, that kind of stuff?

Abhijit Y. Talwalkar

Yes. The 16-core Axxia product, which is referred to as the Axxia 5500, we sampled that in the last quarter. And as I noted, the silicon is extremely healthy, and our customers are very happy with what they're seeing, both in terms of functionality across their systems, as well as performance and so forth. And I'll go as far as saying that the lead deployment on that will have production shipments at the end of '14. And we'll see more designs going into production after that.

Operator

And your next question will come from the line of Vivek Arya.

Vivek Arya - BofA Merrill Lynch, Research Division

So first question, Abhi, when the year started, the flash market overall was expected to grow closer to a 40% or so annual base. Now it seems like it's growing closer to a 15% to 20%, in that kind of level. Is that a market issue, a market share issue? Is this the new sustainable growth rate? How should we think about your flash growth opportunity overall?

Abhijit Y. Talwalkar

Yes. I mean, our overall flash, aggregate flash this year will grow nearly 10% for the full year over last year, certainly below the expectations that we had coming into the into the year, Vivek. And at the very beginning of the year, we expected growth to be closer to 35% to 40%. Clearly, the market itself ended up performing a little bit less than its expectations. So that certainly was a contributor, I think. So the other things that we've discussed along the way: One, relative to our flash controller business, we are impacted by several things. One, just a general pricing environment of NAND, which has been up, as well as the limited availability that a number of our customers had to contend with. And as you know, sort of the current generation of SandForce processors is exposed moreso to sort of Tier 2, Tier 3 SSD companies that had difficulties in terms of securing NAND supply. So both pricing and supply played a pretty meaningful role in terms of the performance of our standard product flash controller. And then in the PCIe Nytro space, as we commented through the year, developing that business and getting through qualifications, getting through proof of concept cycles and evaluations and so forth, going into production, took a little bit longer than we anticipate in the beginning. But the good news is the momentum has absolutely sort of turned the corner, and we've gotten through significant calls and are starting to see the benefits of that with very solid quarter-to-quarter at 37% and year-over-year growth at 55%, and we certainly expect that to grow again solidly year-over-year, quarter-to-quarter.

Vivek Arya - BofA Merrill Lynch, Research Division

So Abhi, maybe just to follow-up on that. I know predictions are predictions. But as you sit here today and look at your pipeline, how should we just conceptually think about the flash market growth for next year?

Abhijit Y. Talwalkar

Well, I -- we certainly believe the market itself will grow nicely next year. That's still expected from an SSD unit standpoint. We very much believe in the PCIe flash market as well that's delivering real value to end customers. We expect our aggregate flash business to grow next year. I'm going to stop short in terms of providing an actual percentage at this time, but a couple of comments. One, we've got a lot of momentum as the #2 player now in PCIe flash and solid momentum across the current customer base, as well as adding new customers in the fourth quarter, especially in sort of a hyperscale and web space. In the flash controller, there's 2 things that I think people need to focus on. One is we're on the precipice of a major product cycle here with our SF-3700, which is sampling. We'll start to see revenues from that product in the first half. We do believe we've troughed overall for that particular business. And I think the other key point, which I think is may not be fully understood is around what we do in custom flash controllers. The 6 NAND vendors that are out there use a combination of standard product and custom, and they do custom to differentiate. We're really the only players doing that today, and we have 17 different custom flash controllers across many different interfaces and segments of the market. I think it's that collection and the product cycle that gives us confidence that we'll see our flash controller business grow from here at the levels we're at.

Vivek Arya - BofA Merrill Lynch, Research Division

Okay. One last one, if I may. On the LTE opportunity, I think yesterday, when Altera reported, it suggested that the China ramp would be somewhat more measured. And when I look at your Axxia exposure -- it appears to be more of a direction and perhaps not as much with some of the Chinese domestic suppliers. So if you could just discuss, what gives you confidence your networking business can grow quite well? And how much of that is China, how much of it is outside China?

Abhijit Y. Talwalkar

Yes. I mean, I would say, relative to LTE, your statements are accurate. Our exposure to at least the initial deployment here by China Mobile, which I would say is partial in Q4 and more of it in the first half, but it is taking place, we do have the exposure there, but it's less so just given Ericsson's share of that tender and its award to the different players. But keep in mind, Axxia is not only Ericsson, but also in data center applications as well. And our overall networking business is Axxia, as well as a large base of custom silicon solutions that we've developed for the enterprise space in addition to wireless as well. And we commented on more than 10 different silicon programs that are either entering production now or will enter production in the next 6 quarters. And these are programs that will take share and are going into established multibillion system product lines at our customer.

Operator

Our next question will come from the line of James Schneider.

James Schneider - Goldman Sachs Group Inc., Research Division

I was wondering if I could follow-on for a second on the client SSD discussion. You talked about the 3700 part sampling right now. Can you maybe give us some metrics about the customer design activities that you're seeing for that product versus the prior generation product? And maybe how much cost reduction that controller offers versus the previous one?

Bryon Look

I'm not going to get into the specifics around the product and its cost attributes or even features to that degree just given competitive information. This is something we don't want to provide to our competitors out there. But I would say that the poll for the product is very strong and very strong across major NAND players, in addition to sort of the traditional Tier 2, Tier 3 base as well. There are numerous development programs that are well underway as we sampled silicon several months back. We feel very good. We feel very good about the product. It's a brand-new architecture that will also yield many derivatives and allow us to very comprehensively cover the SSD marketplace.

James Schneider - Goldman Sachs Group Inc., Research Division

And as a follow-on, just turning to the HDD market for a second. Can you talk about your expectations for Q4 in terms of -- will you grow that business in line with the TAM growth of the market in Q4? And maybe talk about some the puts and takes going on there in terms of game consoles or enterprise drives or just the overall desktop nearline drives overall.

Bryon Look

Okay. You're talking about HDD with switched ACD. Yes, I think our expeditions for the HDD market is the market will be down from Q3. Q3 market is probably somewhere around 139 million units. We're baking into sort of our assumptions and guidance, roughly 135 million unit sort of TAM. Within that context, our business is growing and our share is growing, obviously supported by the fact that we are ramping into production relative to a new client SoC that we have.

Operator

Our next question will come from the line of Srini Pajjuri.

Srini Pajjuri - CLSA Limited, Research Division

Abhi, to follow-up on that question, the HDD, you mentioned that you're shipping to 3 customers on the enterprise side. Just trying to understand, given that you already have, I think, a majority share in enterprise, how should we think about your market share as you go from this year to next year? I mean, where is it today, and where do you expect that to go into next year?

Abhijit Y. Talwalkar

Yes. I mean, our market share in enterprise, as I think people know that have been following this particularly closely, declined over the course of this year. And we believe that we're -- we've probably troughed relative to our enterprise SoC share. And so we'll see our share in enterprise go up from here. And you're right, we do have more than 50% share, but certainly not at the levels that we had a year ago. But we definitely expect to be in a very strong share position over the course of next year and beyond given not only the 3 design wins that we have that are now going into very early sort of production shipments in 28-nanometer, but also the fact that we also have a program that's gone into production with the fourth guy that has enterprise products. That happens to be a 40-nanometer design. But nonetheless, that is completely new business for us.

Srini Pajjuri - CLSA Limited, Research Division

So would you say the share declines have bottomed out in enterprise before they start to go back up?

Abhijit Y. Talwalkar

Yes, pretty much.

Srini Pajjuri - CLSA Limited, Research Division

Okay, great. And then just a follow-up on the PCIe, the flash business as well. Is PCI Express larger than the client business today? If not, when do you anticipate that crossover to happen?

Abhijit Y. Talwalkar

Let me just -- you're not talking about PCIe Express in terms of an interface in SSD? Are you talking about our PCIe-based flash adapter business?

Srini Pajjuri - CLSA Limited, Research Division

The adapter business.

Abhijit Y. Talwalkar

Well, I mean, I think the adapter -- the PCIe flash-based adapter business itself, its TAM is slightly higher. It's higher today than the flash controller silicon TAM, if that's your question. And we expect in 2016 to -- there'd be about $1 billion SAM for LSI or at least a TAM in terms of flash controllers that's standard product and custom. And again, we're really the only ones that offer both. And then we expect the PCIe flash adapter market to be at least $2 billion but likely more than that.

Operator

Our next question comes from the line of Blayne Curtis.

Blayne Curtis - Barclays Capital, Research Division

I was wondering if you could provide, you've done this in the past, within the server and storage, just a rough breakout of the different segments.

Sujal Shah

Yes, sure. Blayne, this is Sujal. So HDD within the $470 million [ph] we did in server and storage semi, it was about 45% of the total was HDD, about 40% or so was server products, and the remaining 15% roughly was flash.

Operator

Our next question will come from the line of Joe Moore.

Joseph Moore - Morgan Stanley, Research Division

You talked about canning up the share in the hard drive TAM in Q4. Is that the new customer stuff that you alluded to? Or is that sort of desktop doing better than notebook? And then can you give us some clarity on when that new customer opportunity will ramp?

Abhijit Y. Talwalkar

It's the new shipments that played a role in terms of our business growing in the fourth quarter. Relative to any further color, I would just sort of reiterate what we said in the prepared remarks that we have confirmation that we will ship in tens of millions of drives in 2014.

Joseph Moore - Morgan Stanley, Research Division

Okay. And is that tied to a particular platform with that customer or is sort of a multisource situation?

Abhijit Y. Talwalkar

I'm not going to get into the specifics on that.

Operator

Our next question comes from the line of Christopher Rolland.

Christopher Rolland - FBR Capital Markets & Co., Research Division

In PCIe, actually on the client side, I believe. So on that, how do you guys sort of see that market? Where do you see the ramp in PCIe on the client side? And is there any sort of ASP benefit for you guys there? Or is it actually the same SKU for PCIe versus SATA?

Abhijit Y. Talwalkar

No. I mean, there are ASP benefits. I mean, we -- our 3700 will scale across a number of different segments and obviously, we'll have different features and so forth and we'll yield a range of ASPs. Relative to PCIe, I mean, today, it's still a minority sort of interface in terms of the SSD space. We certainly expect to see more PCIe SSD deployments, adoption and so forth not only across sort of PC segment, but obviously across the enterprise segment, starting in the middle of next year, with PC cycles and we believe that our SF-3700 has been well timed to take advantage of that mass market sort of adoption.

Christopher Rolland - FBR Capital Markets & Co., Research Division

Okay, great. And could you guys talk about what you see for growth in your various segments into 4Q? You could force rank or color or whatever you can provide?

Abhijit Y. Talwalkar

Yes. I mean, I can give you some color relative to what the business is doing in the fourth quarter. Our overall sort of server storage semiconductor business is sort of flat to slightly up, and that implies HDD to be slightly up as we discussed, flash to be sort of flattish, server to be flattish as well. Our networking business will be down really entirely because of legacy business. Our investment area, networking business is flat. And then in the IP space, we'll see IP business down. And I think, just a further color relative to the flash segment being flattish, we're seeing our sort of flash controllers to be down quarter-to-quarter as we sort of trough in the fourth quarter, but we definitely see our PCIe flash or our Nytro product line to grow quarter-to-quarter.

Operator

Our next question will come from the line of Betsy Van Hees.

Betsy Van Hees - Wedbush Securities Inc., Research Division

I was wondering if we could go back to the flash and if we could talk about -- you talked about the availability and pricing as being issues that you saw. And I was wondering if you've seen that improve and how you're looking at 2014 for NAND supply and pricing and how that's going to impact your business. That's my first question.

Abhijit Y. Talwalkar

Yes, there hasn't been too much improvement over the course of the second half. And in fact, the fire that took place in Hynix certainly didn't help matters. So we haven't seen a material improvement to that. And it certainly has been a factor to our sort of Tier 2, Tier 3 SSD customers.

Betsy Van Hees - Wedbush Securities Inc., Research Division

And then you talked about the large design win pipeline. I was wondering if you could give us a little bit more color or granularity, if you could kind of talk about the different businesses, where we're seeing that lower design win pipeline and how we can see that flowing to the model next year.

Abhijit Y. Talwalkar

Yes. I mean, it's across all the product lines. On an annual basis, in our Analyst Day, we've been disclosing the annual design win levels for the company, and we've done that since 2007 or 2008. And we've seen that grow significantly every year, which is sort of a testament to the competitiveness, but also the breadth of the product line. And from a growth standpoint, the company had 17% sort of average growth CAGR from 2009 to 2012. '13 certainly has been difficult for everyone because of the overall economic environment. But that pipeline that we have, we believe, is a very high quality and established sort of market leaders in established segments. And we feel very good that we should be able to grow in excess of the markets that we participate in, in 2014. And many of the items that I had in my prepared remarks in terms of product cycles, virtually all of them are ones that we derive share gains from.

Betsy Van Hees - Wedbush Securities Inc., Research Division

That was very helpful. And then my last question, Bryon, you guys have done -- it's just a fabulous job of maintaining the OpEx. And as we look at next year, normally there's a step up in Q1 for FICA and merit and things like that. So you guys are still going to be able to maintain that target of $230 million, or you're just going to take it out in other places?

Bryon Look

Yes, we factored that in terms of thinking on a go-forward basis. We're committed to holding our spending at that level. We have, as Abhi noted earlier in the call, driven over quite a bit of time here, significant productivity gains and we're starting to benefit from that, just efficiencies with our R&D organization sites, locations and things like that. So yes, that's factored in and again, high-priority goal for us is to really drive that business model target and using OpEx as one of those vehicles to get there faster.

Operator

[Operator Instructions] Our next question will come from the line of Joe Wittine.

Joseph Wittine - Longbow Research LLC

You guys are always really good at laying out your individual, I guess, industries' SAMs, respectively. I'm curious, just given all the growth initiatives you have in place, it seems to be coming together nicely for 2014 if you could say. Which areas of the market do you expect to outgrow your SAMs or TAMs in '14? If you could give us some direction there, I think it would be helpful.

Abhijit Y. Talwalkar

Yes. I mean, I think by just the statement that I made earlier that we expect to grow in excess of market growth rates, it implies we're growing share in every one of our product categories. I mean, if I think about what I said earlier relative to flash controller, we do expect the market to continue to grow in terms of overall units. With 17 different custom flash controllers and a product cycle upon us here soon over the next 1 to 2 quarters in the standard controller space with the 3700, it's clearly our expectation to grow share next year in PCIe flash. The market continues to grow nicely. We've got a lot of momentum. We clearly have established ourselves as a solid #2 and frankly making very good progress against the #1 player. In networking, we are still probably at 30%, 35% sort of transitioned into our lead base station customer with Axxia, and that will continue to transition over the course of next year. And then we certainly got the more than 10 chips that I alluded to that are going to go under production over the next 1 to 6 quarters. And I believe virtually all of those are new, as in they're not replacing LSI silicon today. So that's all share gains as well. We certainly gave you color relative to HDD, both in the form of enterprise, as well as shipping into a new client SoC customer. So we feel pretty good across all our product lines. And obviously, we're assuming a stable end market. But as long as the end markets are stable, we feel very good about our ability to outpace markets.

Joseph Wittine - Longbow Research LLC

That's really helpful. And then since everything else have been picked over pretty well, just on cash deployment, the expectation that you should stay in the $40 million to $60 million band that you've been in on the repo through the last 4 or 5 quarters here.

Bryon Look

Yes. We, again, had a very strong quarter in terms of generating cash from operations, and we maintained a very strong balance sheet, solid cash position. So in addition to the recently announced dividend, which is a vote of confidence that we have in terms of growth drivers, continued cash generation, we'll also continue to evaluate our share buyback opportunities.

Operator

Our next question comes from the line of Steven Chin.

Steven Chin - UBS Investment Bank, Research Division

Abhi, first question for you, if I could. In terms of the PCIe Express adapter business, the 0.16 TAM estimate that you provided earlier, that's quite helpful. My question is in terms of Express [ph] adapters, do you see that as potentially cannibalizing other types of enterprise storage technologies such as [indiscernible] and even nearline storage type hard drives such as hybrid class or enterprise class hybrid hard drives? And also any thoughts on other up and coming enterprise NAND flash interfaces such as the DRAM DIMM interface?

Abhijit Y. Talwalkar

Yes. I mean, there's a couple of questions. I think the first question is to -- relative to PCIe flash-based solutions and whether they are cannibalizing. Clearly, in many different applications and deployments, if deployed correctly, the end customer has the ability to lower acquisition costs or total cost of ownership by buying less hardware, and that may be less servers or less storage systems. But I think on the margin, for us, it's a net positive just because of the overall content and ASP that we have in the solutions. So from our standpoint, it's really all upside for us. And what we've seen in situations with these customers, they take the savings that they get and they deploy more, which is a positive as well. So we don't see it as cannibalizing and certainly not cannibalizing any of LSI's sort of TAM or SAM.

Steven Chin - UBS Investment Bank, Research Division

Okay. Any thoughts on the NAND flash, on the DRAM DIMM interface?

Abhijit Y. Talwalkar

Yes, I know who you're talking about, a startup that has introduced the ability to put flash in DRAM. I mean, I think that is going to be deployed in a very small slice of the application space. And we've sort of sized that market overall to be potentially $100 million in size 2, 3 years out. So we think that's fairly small and certainly aren't concerned about that application diminishing in any way, shape or form the great opportunity we have in PCIe-based flash.

Steven Chin - UBS Investment Bank, Research Division

Okay, great. And just one quick one for Bryon, if I could, on the gross margin side. Bryon, what are some of the puts and takes for the high and low end of the gross margin guide?

Bryon Look

Well, there are always numerous factors that go into that guide. We'll look at mix, we'll look at where we have advance relative to cost structures behind these products and so forth, and we've generally been able to operate within that range. We had a strong quarter in terms of gross margin performance, and that's our best view of it that we will be solidly within that range that we provided.

Sujal Shah

Looks like we have no further questions. So I'd like to thank all of you for joining us this afternoon. If you have any questions, please call Investor Relations at LSI. Thank you, and have a good day.

Operator

Ladies and gentlemen, a telephonic replay of this conference call will be available beginning today at approximately 5:00 p.m. Pacific Daylight Time and full rerun through 9:00 p.m. Pacific Daylight Time on October 31. The replay access numbers are 1 (855) 859-2056 within the United States and 1 (404) 537-3406 for all other locations. The conference ID is 83885560. The webcast will be archived at www.lsi.com/webcast. That does conclude your conference for today. Thank you for your participation. You may now disconnect.

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