InvenSense Management Discusses Q2 2014 Results - Earnings Call Transcript

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InvenSense (NYSE:INVN)

Q2 2014 Earnings Call

October 29, 2013 4:30 pm ET


Leslie Green

Behrooz Abdi - Chief Executive Officer, President and Director

Alan F. Krock - Chief Financial Officer, Principal Accounting Officer and Vice President


Mark McKechnie - Evercore Partners Inc., Research Division

James Schneider - Goldman Sachs Group Inc., Research Division

John Vinh - Pacific Crest Securities, Inc., Research Division

Tristan Gerra - Robert W. Baird & Co. Incorporated, Research Division

Joseph Moore - Morgan Stanley, Research Division

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Richard C. Shannon - Craig-Hallum Capital Group LLC, Research Division


Good afternoon, ladies and gentlemen. Thank you, all, for joining. Welcome to the Second Quarter 2014 InvenSense, Inc. Earnings Conference Call. My name is Lisa, and I'll be your coordinator for today. Today's conference is being recorded. [Operator Instructions] I'd now like to turn the conference over to Leslie Green, Investor Relations, InvenSense, Inc., for opening remarks. Please proceed. Thank you.

Leslie Green

Thank you, Lisa. Good afternoon, and welcome to all. I'd like to begin our call with a Safe Harbor disclaimer related to forward-looking statements. Statements in this conference call, that are not historical, are forward-looking statements as the term is defined in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements are generally in the future tense and/or preceded by the words such as will, expects, anticipates or other words that imply or predict a future state.

Forward-looking statements include any projection of revenue, gross margin, expense or other financial items discussed in this conference call, including the expansion of our customer design pipeline and the potential for a continued gain in our share of the mobile, computing and consumer segments.

Investors are cautioned that all forward-looking statements involve risks and uncertainties that can cause actual results to differ from those currently anticipated, due to a number of factors, including, without limitation, the continued adoption of microphones, motion tracking and motion sensing as an interface in customer electronics products; our achievement of design wins; customer acceptance of our customers' products that incorporate our solutions; intense competition in our industry; our dependence on a limited number of customers for a substantial portion of our revenue; our lack of long-term supply contracts and dependence upon limited sources of supply; our ability to continue to develop and introduce new and enhanced products on a timely basis; and potential decreases in average selling prices for our products, as well as changes in economic conditions and other risk factors discussed in documents filed by us with the Securities and Exchange Commission from time to time.

Copies of InvenSense's SEC filings are posted on the company's website and are, therefore, available from the company without charge.

Forward-looking statements are made as of this date of this conference call, and the company does not undertake an obligation to update its forward-looking statements to reflect future events or circumstances.

With that, I'll turn the call over to Behrooz Abdi, President and CEO of InvenSense. Behrooz?

Behrooz Abdi

Thank you, Leslie, and good afternoon, everyone. Welcome to our fiscal 2014 second quarter call. Our record first half of fiscal 2014 results are a reflection of realizing growth opportunities in emerging markets such as China and optical image stabilization opportunities, or OIS as we refer to the market, as well as continuous share gain of top-tier customers with our 6-axis and 9-axis MotionTracking system and software solutions.

Furthermore, with the added complexity of managing multiple sensors and their impact on end-product features, we're seeing very early signs of customer traction to a higher value system on chips or SoCs in our portfolio that use our algorithms and software to offer world-leading performance and design simplicity with a true plug-and-play experience for any product requiring a motion-tracking solution.

In the fiscal 2014 second quarter, the InvenSense team achieved higher than our stated revenue outlook for Q2 of $68 million to $70 million, with revenue for the quarter reaching a record $70.9 million, while delivering consistent gross margins.

Our revenue increased 28% year-over-year in the September quarter, with smartphones and tablets leading the growth, representing 72% of total revenue.

Our team was able to achieve this feat in the face of rapid and frequent product mix changes that are characteristics of the consumer mobile market.

In addition to a seasonally stronger gaming segment this past quarter, we observed strength in unit volumes with our OIS products, as well as in emerging markets such as China smartphones where both attach rates and share continue to increase.

Finally, our continued share gain as other top rank customers contributed to broad-based growth in the last quarter.

The specific gains supported by customer product teardowns include applications such as the Samsung Galaxy Note 3, wearable Samsung Galaxy Gear watch, LG's new G2 IS module, Amazon Kindle Fire, and Nintendo 2DS and the now well-publicized Google Glass wearable application.

Our 6-axis product family, including our world-leading MPU-6500 product comprised over 60% of unit shipments while 2-axis OIS and 3-axis gyro volume ramps also increased substantially, driven by gaming and mobile customers.

Within the Android-based ecosystem, we're pleased to see continued ramp of our flagship 6-axis MotionTracking products, MPU-6500, and multiple customers and several flagship devices.

We're equally excited to see top brand OEMs introduced and grant to production mobile phones with OIS, where the central theme of their product marketing and commercialization is around DSLR-like camera performance.

We believe this differentiated consumer experiences will help expand our opportunities in this new and growing space.

In the second quarter of fiscal 2014, our customer design pipeline continued to expand significantly across all of our product in multiple applications, regions and customers. Led by our MPU-6500 product family, we won multiple new designs as customers who are using our patented digital motion processor, or DMP capabilities, along with our MotionApps-embedded software to implement high-performance, low-power algorithms for gaming, imaging and navigation applications.

These design wins include products such as the MPU-6521, the thinnest 6-axis motion-tracking device in the market.

We're also very pleased to receive multiple request from top-tier customers to tailor our motion algorithms to their specific applications.

We anticipate this trend will continue and is well aligned with our strategy in delivering a complete motion-tracking solution.

In the last quarter, with the announcement and commercialization of smartphones using OIS-enabled cameras by top brand OEMs, we've observed a heightened level of enthusiasm and design win activity with our 2-axis OIS products.

These mobile product modules are space constrained and require high-performing reliable components. InvenSense is helping enable this exciting product feature with high precision and highly robust command structures in a size that is close to 60% smaller than the closest competitor.

We're also excited to see increased designing activity with our 6-axis and 9-axis solutions in the wearable device market, where health and fitness applications are driving demand for higher accuracy activity monitoring and tracking.

We believe that wearable device category, which includes health and fitness tracking, smart watches, wearable computing and immersive gaming, is in the early stages of a multi-year extension, which will create new and exciting growth opportunities for InvenSense.

In addition to direct customer engagements, we've continued to collaborate and integrate closely with our ecosystem of application processor suppliers, as well as with operating systems such as Google Android and Windows 8.

These partners increasingly realize that a strategic partnership with InvenSense and internet product integration are critical to achieving an always on, motion-tracking experience.

We're excited to be working with these valued partners and the community of now over 10,000 registered developers who continue to create innovative new applications for MotionTracking on the InvenSense platform.

On that front, and in order to help accelerate the expansion of wearable device market, in Q2, we shipped a wearable device reference kit to our customers and development community. This kit includes our 9-axis MotionTracking solution and other sensors, along with our MotionTracking algorithms and embedded software for activity recognition and monitoring, complete with wireless local connectivity and reference mobile app.

InvenSense is excited to be contributing to and shape the rapid evolution of this emerging opportunity.

In the fiscal second quarter, our partner fabs, TSMC and GLOBALFOUNDRIES, as well as our backend packaging and test partners responded swiftly and with terrific flexibility to all of our product mix changes and short-term demand increase, which helped us to deliver on time to nearly 100% of our commitments, further validating advantages of the fabless business model with the fabless business model offers over legacy integrated device manufacturers.

In summary, in the first half of 2014, we witnessed the continued transition of our customer platforms away from this grid motion sensing and towards integrated MotionTracking as they continue to recognize increased complexity of managing multiple sensors and their impact on product features.

We believe this trend will continue, and it's well aligned with the InvenSense strategy of delivering superior MEMS performance with patented digital motion processor, or DMP, and motion app software algorithms, thus enabling OEMs with new and improved product features for imaging, navigation and context-aware applications.

I will now turn the call over to Alan for more details on the fiscal Q2 2014 financial results. I will then provide an update on our products and other developments, and Alan will discuss the third quarter fiscal 2014 financial outlook. Alan?

Alan F. Krock

Thank you, Behrooz. Please note that all financial results will be discussed on a generally accepted accounting principle, or GAAP basis, and additionally, the company provides certain non-GAAP financial information that excludes stock-based compensation expense and other non-GAAP financial adjustments, such as patent litigation costs, cumulative benefits associated with changes in our estimated effective tax rates and severance costs associated with prior year executive transitions.

The company uses these non-GAAP measures in its own financial and operational decision-making processes. Further, the company believes that these non-GAAP measures offer an important analytical tool to help investors understand the company's core operating results and trends and to facilitate comparability with the operating results of other companies that provide similar non-GAAP measures. Realizing some analysts wish to track our financial information on a GAAP and non-GAAP basis, I will provide information that includes both financial measures.

For the second quarter of 2014 ended September, net revenue was record $70.9 million, an increase of 28% from the second quarter of fiscal 2013 and up 27% sequentially from the first fiscal quarter of our fiscal year 2014.

For the first half of the fiscal year 2014, net revenue was $126.9 million, an increase of 34% over the first half of fiscal year 2013 revenue of $94.5 million.

Our customer segments split for the second quarter of fiscal '14 were smartphones and tablets, 72%; gaming, 14%; and all other segments, including imaging, 14%.

For Q2, our 10% customers were Samsung Electronics, 36% of sales, and Nintendo, 14% of sales.

For the first half of fiscal year '14, our customer segments were smartphones and tablets, 74%; gaming, 9% in all other market segments served including imaging, 17%.

Record unit sales to Samsung Electronics during the September quarter contributed to our strong revenue results. Seasonally, the September quarter is historically been a stronger revenue opportunity for us, strengthened by the upcoming holiday shopping period, especially for tablet and gaming-related applications.

Given that, we believe that our revenue out performance relative to our outlook represents a strong result.

Gross margin for the second fiscal quarter of 2014 on a GAAP and non-GAAP basis was approximately 52%.

For the first half of fiscal year 2014, gross margin was also 52% on a GAAP basis and non-GAAP basis and 55% for the comparable period in fiscal 2013.

Turning to operating expenses. On a GAAP basis, our total fiscal Q2 fiscal '14 operating expenses were $21.2 million for the quarter versus $17.3 million in the immediately prior quarter. Excluding stock compensation and patent litigation, legal expenses, operating expenses were $15.1 million on a non-GAAP basis versus $12.9 million in the prior quarter.

R&D expenses were $9.8 million, or 13.8% of revenue for fiscal Q2. On a GAAP basis as compared to $8.1 million, or 14.5% of revenue in the prior quarter.

Excluding stock compensation, R&D expenses were $8.6 million, or 12.1% of revenue on a non-GAAP basis in fiscal Q2 versus $7.0 million in the prior quarter.

SG&A expenses were $11.4 million, or 16.1% of revenue in fiscal Q2 as compared to $9.2 million, or 16.4% of revenue in the prior quarter. Excluding stock comp and patent litigation, legal expenses, SG&A costs were $6.5 million, or 9.2% of revenue on a non-GAAP basis versus $5.8 million in the prior quarter.

The year-over-year changes in absolute dollar OpEx spend to comparable current and prior year periods can be attributed to the following: one, for research and development, primarily engineering headcount increases and project-driven mask and wafer costs and the company addressing the substantial leverage opportunities available within the InvenSense fabrication platform-related software applications to drive further integration, innovation and customer product features in MotionTracking and the consumer electronics mobile space.

Additions to SG&A are primarily, sales and headcount-driven to establish the company's substantial global customer opportunity, including the establishment of -- and growth of sales channels and geographies like Greater China where adoption of MotionTracking solutions by major consumer electronics customers represent significant opportunity for the company and expansion of our marketing efforts to target new opportunities.

Three, increased legal costs expenses related to the ongoing patent litigation activities. We are still in the discovery phase of litigation, the ITC lawsuit, initiated by STMicroelectronics, which is costly and we continue to pursue our own claims against ST as well.

Stock-based compensation included in the September quarter for fiscal Q2 was $3.4 million in total versus $2.8 million in the immediately prior quarter and $2.0 million for the Q2 fiscal year 2013.

Operating margins were 22% this quarter on a GAAP basis versus 22% in the prior quarter. On a non-GAAP basis, excluding stock-based compensation and legal expenses, our Q2 fiscal '14 operating margin was 31%.

Our long-term operating margin target models remains in the high 20s and low 30%, but will vary primarily based upon sales seasonality.

On a GAAP basis and non-GAAP basis, our income tax provision was 12% and 14% of income, respectively, before tax for fiscal Q2.

On a GAAP basis, net income for the second quarter of fiscal 2014 was $13.6 million compared with net income of $10.3 million in the first quarter of 2014 and a net income of $13.7 million for the same period in fiscal year 2013.

For the first half of fiscal year '14, GAAP basis net income was $23.9 million compared with $21.3 million in the first half of fiscal year 2013.

On a non-GAAP basis, net income for the second quarter of fiscal 2014 was $18.8 million compared with net income of $14.1 million in the first quarter of 2014 and net income of $15.7 million for the same period in fiscal year 2013.

For the first half of fiscal year 2014, non-GAAP basis net income was $32.9 million compared with $25 million for the first half of fiscal year '13.

Fully diluted GAAP EPS was $0.15 for Q2 fiscal year '14 based on fully diluted shares of 89.8 million on a non-GAAP basis. EPS was $0.21.

For the first half of fiscal year 2014, fully diluted GAAP EPS was $0.27 based on fully diluted shares of $88.8 million and non-GAAP EPS was $0.37 as compared to fiscal year 2013 first half GAAP EPS of $0.24 and non-GAAP EPS of $0.29.

Cash generated from operations for the second quarter of fiscal year 2014 was $11.4 million, increasing our cash and investments to $218 million, with essentially 0 debt.

Working capital increased primarily due to increased inventories resulting from ordering products for significant increases and projected customer demand for our 2-, 3- and 6-axis motion sensor products and slightly increased receivables.

Our net day sales outstanding were 54 days, up from 52 days in the prior quarter. All customer accounts are substantially current to payment terms. As of the end of Q2 2014, our total inventories stood at $38 million versus $34 million at the end of the prior quarter.

Finally, with respect to legal matters, we are satisfied with our progress in defending the company from ST's allegations and pursuing our own claims as we demonstrate that ST has created for itself potentially significant financial exposure from the use of Invensense IP and products sold in volume today.

With these remarks, I will turn the call back to Behrooz Abdi.

Behrooz Abdi

Thank you, Alan. Turning our attention to the fiscal third quarter, with the seasonally strong gaming and tablet market largely behind us, as well as inventory adjustments at key customers, we expect lower unit shipments to most existing customers, offset partially by growth in emerging markets such as China, as well as continued share growth at existing and new customers.

Additionally, we continue to believe that we have near-term opportunity at another large mobile OEM customer, which we're working to realize in the coming months and quarters.

We expect to see our 6-axis integrated gyroscope and accelerometer product line to continue to comprise close to 50% or more of our unit and revenue shipments, with continued transition to our second generation 6-axis MotionTracking SoC, MPU-6500 at multiple customers.

We also expect to see several of our customers continue to transition from motion-sensing components to MotionTracking solutions, allowing us to gain additional value by performing sensor fusion and calibration, as well as other algorithms in their applications.

These customers clearly understand the challenges of delivering an end-customer experience with low-power, highly accurate sensors.

They rely more on suppliers like InvenSense to help shorten their development time by offering a complete solution that removes the complexities of managing multiple sensors.

Our world-class R&D and algorithm teams have been busy developing the next generation of low-power multi-axis MotionTracking solutions, which we expect to announce in the coming months.

These products are intended to enable a new generation of context-aware devices and applications which is a wearable computing, activity recognition and navigation and imaging, which are expected to drive big data services based upon information gathered from always-on sensors.

This trend is well aligned with the announcement of our intention to acquire MEMS' microphone assets from ADI and our vision of enabling an always-on sensory experience. We believe audio to be a complementary sensor to motion in determining a device context and location. We intend to apply the same innovations to audio as we have in MotionTracking, to combine superior MEMS performance and signal processing in order to enable a plug-and-play product development experience for our customers.

We also intend to apply the same fabless business model to the microphone as we have in our current products.

We're very pleased to continue to get validation from our customers who see us an innovator and the emerging leader in MotionTracking solutions.

As we expand our product portfolio with additional sensors, as well as innovating new algorithms and better software, we're viewed as more than a supply partner by these customers, an increasingly strategic technology partner.

We remain hard at work executing on a compelling roadmap, which in combination with our fabless business model, should position us well for the various coming trends and market opportunities.

At this point, I will turn the call back over to Alan to discuss financial outlook for the second -- for the third fiscal quarter, and then we'll open up the call for your questions.

Alan F. Krock

Thank you, Behrooz. Now to conclude. I'll provide our financial outlook for the third quarter of our fiscal 2014.

First, as announced, with the announced MEMS microphone asset purchase transaction between Analog Devices and InvenSense is not yet closed, we are not providing specific financial outlook nor financial remarks associated with that expected asset acquisition during this call.

As indicated in our press release announcing the transaction, we do not expect that the acquisition will have a significant impact on our near-term business outlook.

As was included in ADI's press release announcing the transaction, "These microphones were primarily used in consumer applications and are expected to represent less than 1% of ADI's total revenue in the fourth quarter of fiscal year 2013, which ends November 2, 2013."

After closing the transaction, it is not expected to significantly impact earnings for the balance of InvenSense's fiscal year ending March 2014, and is expected to be accretive to earnings thereafter.

As you've heard us -- as you've heard from us before, our end markets are seasonally slower during the first half of the calendar year, in particular, in the consumer electronics, gaming and tablet segments.

As such, our fiscal Q2 ending September has generally become our strongest revenue quarter. We

see continuing progress and strength in adoption of our products across customers and mobile due to our products' higher performance and attractive features and size. We see this progress at a number of major customers and we believe our product strength at these customers offers an important opportunity to continue our revenue growth in fiscal periods beyond the current year.

We expect fiscal '14 Q3 revenue to be in the range of $65 million to $68 million. To support this Q3 fiscal year '14 revenue outlook, we currently have backlog in place representing majority of this total current quarter revenue target.

As in past quarters, we expect sales at our largest customer, Samsung Electronics, to be in the mid-30% range of this target, reflecting strength in applications where we have existing designs, as well as opportunity to participate in new design launches.

We expect our tablet and gaming opportunities to be slower this quarter, consistent generally with the cautious stance adopted by customers and peers.

As mentioned before on this call, we also have broader opportunities at new customers and a new applications such as microphones and optical image stabilization, which we also expect to contribute, albeit with somewhat uncertain timing.

In fiscal Q3, we expect continued penetration of our new 3-, 6-, and 9-axis MotionTracking products along with the product mix this quarter that continues to favor our highest volume mobile customers and should generate gross margins at approximately Q2 level. We believe that on a GAAP basis, our fiscal Q3 '14 gross margin will be approximately 52%, and that in future quarters, our new lower-cost products and additional production volumes will continue to have a favorable impact on our gross margin.

In Q3, on a GAAP basis, we expect operating expenses of approximately $22.9 million made up of $11.1 million for R&D and $11.8 million for SG&A. On a non-GAAP basis, we expect operating expenses of $16.5 million made up of $9.6 million for R&D and $6.9 million for SG&A.

We expect the current quarter operating margin in the range of 17% on a GAAP basis and then 27% on a non-GAAP basis.

We expect the fully diluted share count of approximately 98 million shares, a GAAP income tax rate in the range of 13% to 15%, and therefore, GAAP basis earnings per share of approximately $0.10 to $0.11, primarily depending upon levels of revenue achieved. We expect the non-GAAP tax rate 15% and therefore, earnings per share of approximately $0.16 to $0.18 per share on a non-GAAP basis excluding certain legal and stock compensation-related expenses.

With respect to our annual business model, we plan for our margins and operating expenses to stay within our long-term model of gross margins of mid-50%, R&D expense of 13% to 15% of sales and target SG&A expense of 9% to 10% of sales, which is currently achievable, but for continuing litigation-related costs.

We expect operating margins of high 20s to low 30s of sales. We expect the tax rate of 15%. As a result, we expect net income after tax percentage in the range around approximately 25%.

That completes our remarks with respect to the earnings and business aspects of this call.

With that, I'll turn the call over to the question-and-answer session. Thank you. I apologize for the cold that I have. Thank you very much.

Question-and-Answer Session


[Operator Instructions] And your first question is from the line of Mark McKechnie of Evercore.

Mark McKechnie - Evercore Partners Inc., Research Division

It looks like you're facing some seasonal challenges in December that others are. If you may, could you comment a bit, you talked about some new opportunities, new customers and what have you. And you said coming months, coming quarters, what kind of visibility do you have on the timing of that, Behrooz? And if you think things could kick in December, March. Is there a swing factor for the December quarter based on the new customer ramp? Or is that going to be more of a March, June opportunity?

Behrooz Abdi

We hope to be earlier than that. We certainly hope to be much earlier than that. But we can't comment much due to the specific opportunity other than, we have a product that is ready to go and it's a matter of sourcing decisions and product mixes that customer needs to make. But we're ready in that front, so we hope to see it earlier, but we don't want to talk about it and specific at this point, we can't talk about it specifically. But we hope to see it earlier than later, but we have not really put much of a waiting on that into the numbers for this quarter.

Mark McKechnie - Evercore Partners Inc., Research Division

Got you. And then one last question, and I'll turn it over. But in terms of the Galaxy S4 -- not sure how much you can share with us, I know you're pretty well represented in the mini and the Note 3, but relative to the S4, I know that was -- there was a pricing issue there, are you starting to gain share there or do you expect to take some slots back with that flagship product in the near term?

Behrooz Abdi

I think, in general, we're very, well positioned with that customer. Again, in terms of products that's not announced, there are different SKUs that they have for different regions that we participate in, but without talking about something that hasn't been torn down, the products that I can talk about have been torn down -- and their teardowns are publicly available are Note 3, mini and Gear at this point. But we believe that we're very well represented with that customer and hope to improve our situation with them going forward, but we will be improving.


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

James Schneider - Goldman Sachs Group Inc., Research Division

I was wondering, Behrooz or Alan, can you maybe comment on what your typical seasonality is in the March quarter? I mean, obviously, it's typically down, but it seems like you're seeing a little bit of a worse seasonality in the December quarter than you have been in the past years. So can you maybe talk about how to think about normal seasonality for the March quarter this time around? And what swing factors you might expect to make it better or worse than that?

Alan F. Krock

Okay, thanks, Jim. It's Alan, I'll take a crack at that one first. Behrooz can supplement if need be. I think your observation relative to the gaming seasonality affecting the December quarter more than in the past is a reasonable one. Clearly, we had a very strong gaming-related quarter in the September quarter because that was a 14% of our sales up from significantly less than 10% in the prior periods. It looks like, to us, quite a bit of the inventory for the holiday season was built within the September quarter because of the elevated level in this most recently reported quarter and looking forward than the seasonality and the decline of that revenue opportunity has begun to take hold in the December quarter. And therefore, relative to how much further that revenue could decline in March, while very difficult to say precisely, a substantial portion of the seasonal decline what we'd normally expect in March is already present in the December outlook given. So hopefully, directionally, that's hopeful. In the outlook given, the amount of gaming revenue would be again -- once again, significantly less than 10%, so it would appear they had one strong quarter this quarter, and going forward, the exposure is, again, fairly minimal.

Behrooz Abdi

Yes, just to supplement that. Again, the gaming segment typically has been flat quarter-on-quarter. And as you know, this year, it's broadly acknowledged that the consumer gaming console market is faced with significant challenges. And in addition to that, there's the typical inventory management that you're hearing from other customers that's impacting both our multi-axis motion device, as well as the OIS products. So we are partially offsetting that with game share, both the top customers or top ranked customers as well as quite a bit in China.

James Schneider - Goldman Sachs Group Inc., Research Division

Okay. And as a follow-up, I was wondering if you could you maybe address the gross margin results and outlook. I think gross margins came in slightly under what you had talked about. Could you maybe discuss what gives you the confidence that gross margins can start to rebound again up even to the 52% level in the current quarter, and then better in the out quarters?

Alan F. Krock

Sure, Jim. Generally, I think a range of around 52% was discussed in both outlooks. And generally, the variables are the mix of other customers versus our other largest customer because of volumes, our largest customer tends to get the best pricing. And certainly, we've enjoyed a position of strength at that customer and we're in the process of transitioning certain of their products to the new generation, integrated 6-axis part that we sell. So as those -- as they begin to buy more and more of that product, and as other customers come online and/or transition to other of our newer products, whether it be a 2-axis optical image stabilization, 3-axis gyroscope, 6-axis integrated accelerometer, gyroscope or the second-generation 9-axis part that we have in the market, all of those products contribute at higher gross margins than we currently have published. So therefore, based on product mix and customer adoption of new product technology, we believe our gross margins can improve in the future.

James Schneider - Goldman Sachs Group Inc., Research Division

And then just last one for me is, related to the earlier question, can you maybe just address the confidence interval that you have that you will indeed to start to ramp with one of your large new customers over the next several quarters?

Behrooz Abdi

Well, I think, that is a difficult one to answer other than we have a product that is qualified, it passed through all the gates that you would normally pass through. Other than that, I'm not really at liberty to talk about any specific product and the timing of those ramps. So it's a really a matter of sourcing decisions then and that's going to be made at some point in the product mix and sourcing decision. So beyond that, I'm not at liberty to discuss.


Our next question is from the line of John Vinh of Pacific Crest Securities.

John Vinh - Pacific Crest Securities, Inc., Research Division

Just a follow-up question, Behrooz. I know you're very limited in terms of what you can talk about, but my question is just asked another way is, with only a couple months left in the year and with the supply chain, lead-time requirements, can you maybe just talk about why you seem to only have so limited visibility on this kind of new customer opportunity?

Behrooz Abdi

Well, we're very limited in what we can say, that's what I can say at this point, John, unfortunately. So all I can say, we have products ready to go, we have manufacturing all lined up and we have ample product ready to go. So I think I'd leave it at that at this moment.

John Vinh - Pacific Crest Securities, Inc., Research Division

Okay. And then my follow-up question is, if you look all these new mobile products in the marketplace, you're seeing a lot more and more products come shipped with a sensor hub. I know in the past, you've seen a much lower attach rates than you have now. Can you just talk about kind of your competitive position in your ability to integrate with some of these new sensor hub platforms versus your competitors?

Behrooz Abdi

Well, actually, the sensor hub, as I talked about it before, it really highlights the complexity of fusion and calibration. You can either use a sensor hub with raw sensor with some of our competitors supply and try and do the calibration within the sensor hub or you do it within the sensor itself, within the sensor SoC, which is what we have. So I think if you look at the products that we ship today, the MPU-6500 family platform, we have basically the functions of calibration and fusion built in into the DMP with our software algorithms. And what you're going to see soon is as operating systems come out that have specs around doing more of a sensor processing closer to the sensor, you're going to see products from us that have that. So it's not quite the large sensor hub that some of these phones use in a very, very high-end, and there's really 1 or 2 phones, there are 2 products that I can say that have the sensor hub. The majority of them really are going to rely for cost and power reasons. They're going to rely on the more intelligent sensor SoC, which is why we're getting really significant traction in the customer base. In the last quarter, we have seen an accelerated design win based on the software algorithms, based on the fusion and calibration, and these are things that customers used to do or want to do in the sensor hub and now they're able to do it in our chips. So you'll see some product announcements, hopefully soon from us that will reflect that.


The next question is from the line of Tristan Gerra of Baird.

Tristan Gerra - Robert W. Baird & Co. Incorporated, Research Division

Could you give us an update on image stabilization and whether you still have the confidence that you can ramp revenues over the next couple of quarters? I think you had a target for $40 million plus centralized revenues potentially by a couple of quarters from there. Do you feel that this is on track?

Alan F. Krock

Thank you, Tristan. It's Alan. Yes, we're very confident in optical image stabilization as an important market to us. The current customer that's out there with this feature in their smartphones, as Behrooz mentioned in his remarks is the LG G2, which you see advertised in the U.S. markets fairly aggressively today. And other products that are out there, that's the second or third product that's in the market today, and we believe the design wins we have at 6 or 7 of the prominent optical module, camera module makers will continue to do well as the year progresses, and therefore, there really hasn't been much change in our view as to the importance of the opportunity or the margins with which we can participate in that market. So, yes, it remains a very significant opportunity for us going forward.

Tristan Gerra - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then, what is the mix currently if you'll cost reduce 6-axis gyro and what do you expect that makes to be in the couple of quarters?

Alan F. Krock

As we move forward, we expect that as the teardowns show for our largest customers most recent product, the Note 3, the 6500 is what's being designed in today. Some of the older designs that are still in production use the older version of the products that we have, older first generation 6-axis products. And looking forward though, some of the new important opportunities coming up in -- within the next quarter or so, obviously, the performance of the 6500 second-generation products has been significantly positive for the customer given that it's in, as Behrooz mentioned, S4, mini and Note 3 and all future major applications will have that. For example, ST's largest existing design remains the S4, going forward, unless they -- something changes, we would expect that we would certainly that the 6500 would certainly be a candidate for the next-generation flagship product that, that customer as well as all the other products that it currently serves. So those are some of the things to think about in the marketplace and the rate at which change can occur.

Tristan Gerra - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then last question, could you provide some comment about potential pricing cut at foundries and whether those basically will merely offset normal pricing decline on the market or instead what percent potential gross margin expansion opportunities over the next few quarters?

Alan F. Krock

I think the best way to look at it is, historically, we've commented that year-over-year, aggregate price erosion on products has been 15% in total across all of our products when added together and on any one product, it can be 20%, 25% year-over-year. And as we add features, 7-axis or 9-axis adding pressure sensor or compass capability of those products, the customers do pay more for those features. However, I think the best way to look at our supply chain management goal is to basically try to keep pace with the overall level of price erosion in the products that we offer in total, so not being able to even consider offsetting any one product's year-over-year price erosion. But in total, for all products, I think that's a stretch goal that we try to achieve. But basically, as we add more features to the products, we get paid for that by the customers, and therefore, be able to improve gross margin based on the addition of features that are important.


The next question is from the line of Joe Moore of Morgan Stanley.

Joseph Moore - Morgan Stanley, Research Division

You mentioned China a couple of times. Can you talk about where you are in terms of penetration of the emerging market, types of customers and where that business can go over the course of next year?

Behrooz Abdi

Sure. I can take a crack at that. The attach rate in China continues to increase. We've seen a tremendous increase in both the attach rate and certainly, our market share continues to improve. Typically, the type of phones that are adopting gyros are very high-end phones, they're companies like Xiaomi and Gionee, and Coolpad, OPPO, BBK, Lenovo, ZTE, these are all the customers that have adopted gyro. And the -- one of the things that prevented -- is more significant adoption in the past has been lack of content. And with more bandwidth coming into China with LTE coming in, content is coming in too to the country and its content includes a feature such as navigation and gaming. And these types of products and applications drive gyro adoption. And we're very well positioned and almost all of these customers are also on Google Android, and we're very well positioned with Google Android. And the more -- the significant more processing that it takes to do things like context aware or location or imaging within the Google Android, we have products in the pipeline that you'll see and hear about that -- do even more the processing with more value, and not just raw sensors anymore. So we believe that we're very well positioned in that market.

Joseph Moore - Morgan Stanley, Research Division

Great. And can you give us a look into what 7-axis adoption might look like over the course of next year?

Behrooz Abdi

What the...

Alan F. Krock


Behrooz Abdi


Joseph Moore - Morgan Stanley, Research Division


Behrooz Abdi

7-axis we're still in the midst of R&D productization of that. I think that 7-axis will most likely come into the market in the second half of next year. We believe the key driver for that would be context aware and indoor location, so we're very excited and we're making significant progress, so we're very pleased with the progress with that product. We have not announced anything yet, but just stay tuned on that one.


Our next question is from the line of Krishna Shankar of Roth Capital.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Yes, Behrooz, over the next 12 to 24 months, can you size the market of the motion processor revenue opportunity for you versus the newly acquired microphone product line in mobile devices?

Behrooz Abdi

Well, for MotionProcessing, if you look at the total market, I would say it's in the -- it's about $700 million to $800 million if you disregard just the accelerometer and look at 6-axis and above. So I think that in the next 12 to 24 months, is significant opportunity for us to grow, and that's what's we're looking at. The audio market, the microphone market is very segmented. Again, it's segmented into low tier, low performance, as well as high-performance. But if you look at the total microphone market in terms of units, it's a couple of billion units and increasing as there's attach rate of microphones going up from 1 microphone and a feature phone or low-end phone to 2, 3 and perhaps 4 microphones in the high-end phones. Then and in the high-end phones, you also have the low performance microphones and high-performance. So for the high-performance microphones, MEMS microphones that we're targeting, the unit opportunity, I would say in the next 12 to 24 months is perhaps around 300 million to 400 million units. And we'll -- and as the attach rate goes up and as context-aware applications where motion and audio come together, those features increase that we'd certainly hope that unit opportunity will go up quite substantially.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

And what would a typically SP for a high-end microphone in so many smartphones?

Behrooz Abdi

Now they are in the $0.50 to $0.60 range or perhaps a little bit higher, but they're subject to the traditional -- to the same pricing curve as everything else in the mobile space.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Okay. And with respect to the other large OEM customer where you expect business, what are kind of the milestones or what should we be watching out for in terms of that customer turning you on -- what things should we be watching for?

Behrooz Abdi

We're watching, hopefully one day order. So I think that's really a milestone because there is really no technical milestones that we know of that -- that's all I can say, but we'll leave it at that.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

So you kind of qualify the technical and production requirements at this point?

Behrooz Abdi

We believe so.


Our next question is from Richard Shannon of Craig-Hallum.

Richard C. Shannon - Craig-Hallum Capital Group LLC, Research Division

A couple of questions for you here. Actually, a follow-up from one of the few questions back regarding the operating systems changes here that are driving more processing at the sensor. Are you seeing that across all major operating systems in mobile devices both phones and tablets and others? Or is there any difference in the approaches there?

Behrooz Abdi

Well, the leading operating system obviously that we work with is Google Android, and we see that they have been fairly aggressive in driving sensors, sensor adoption and they've been driving the 6-axis adoption in their ecosystem. And they're the ones who we've seen very aggressive in driving more of the what I call a hierarchical computing, meaning that more of the processing towards the sensor and then some with the apps processor and then eventual into the cloud. So we definitely see that with them, and we've been working closely with them obviously for the last couple of years, so we're really excited about that because that really plays well into the strength and into the value that we're going to be -- we're bringing now.

Richard C. Shannon - Craig-Hallum Capital Group LLC, Research Division

Okay, fair enough. A couple more quick follow-ons for me, regarding your biggest customer, Samsung. Where do you -- how do you estimate your share today and where do you think that can go on in a year's time? Any estimate there would be great, please.

Behrooz Abdi

We estimate our share to be right around 50%, and we hope that, that'll continue to improve. It's been an improving trend over the last couple of years, and we estimate that, that continue to -- I don't think anybody expect any supplier to -- into the mobile market to be a 100% share. So I think there will be some limit at some point where we certainly see, and we haven't seen it stop yet as we continue to grow our share there.

Richard C. Shannon - Craig-Hallum Capital Group LLC, Research Division

Okay. And then quick last question for me, for Alan. Alan, your inventory turns are historically low, although they improved from last quarter. What's your goal there in target and when do you think we could achieve that?

Alan F. Krock

Sure, thanks. Probably around 4, today, the target would be closer to 5. Behrooz mentioned lot of product available for certain customers to purchase, whether that be OIS, new smartphone tablet customers, et cetera, believe that as those opportunities turn on and those markets grow for us, so, those customers grow for us, that will draw down a lot of the inventory that's currently allocated to them and held for them should it not -- should that not occur, of course, then there's other opportunities to sell the product, product standard product can be sold into the -- the majority of the product is standard product can be sold into the other markets and other customers that we serve.


Our next question is from the line of Mark McKechnie of Evercore.

Mark McKechnie - Evercore Partners Inc., Research Division

Alan, one question on your operating expense guidance, $22.9 million GAAP, and then you gave some non-GAAP numbers. But how much of that GAAP number is including the onetime -- you're expecting another onetime legal cost there in that $22.9 million?

Alan F. Krock

Yes, so what we've done, Mark, is exclude the ST patent-related litigation from the non-GAAP operations analysis numbers. And generally, that amount is running slightly below $3 million in the quarter, and the rest of the exclusion is related to stock compensation. So those are the 2 items in the order of magnitude then can calculate for each.

Mark McKechnie - Evercore Partners Inc., Research Division

Okay, got you. And then, yes, your R&D ticked up a bit as well, right now, $9.8 million going up to $11.1 million on a GAAP basis. Yes?

Alan F. Krock

A couple million dollars in stock comp in that number, so yes, I believe that was $9.6 million or $9.8 million on the non-GAAP.


Well, ladies and gentlemen, that's all we time for now. I'd now like to turn the conference back to Behrooz Abdi, President and CEO of InvenSense, Inc., for closing remarks. Thank you.

Behrooz Abdi

Well, thank you, everyone, for participating in our conference call. We're obviously very excited about where we are and where we're heading in the future in the coming months. This quarter, we will be presenting at the RBC TMT Conference and the Goldman Sachs U.S. emerging small- and mid-cap growth conferences. As always, feel free to contact myself, Alan or Leslie directly if you'd like to meet with us. And we like -- we look forward to speaking with you in the near future. Thank you.


Thank you very much. Ladies and gentlemen, that concludes today's conference call. Thank you for participating. You may now disconnect. Have a good day. Thank you.

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