Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Spansion (NYSE:CODE)

Q3 2013 Earnings Call

October 31, 2013 4:30 pm ET

Executives

Rahul Mathur

John H. Kispert - Chief Executive Officer, President and Director

Randy W. Furr - Chief Financial Officer, Principal Accounting Officer and Corporate Executive Vice President

Analysts

Christopher Hemmelgarn - Barclays Capital, Research Division

Krishna Shankar - Roth Capital Partners, LLC, Research Division

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

David M. Wong - Wells Fargo Securities, LLC, Research Division

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Glen Yeung - Citigroup Inc, Research Division

Monika Garg - Pacific Crest Securities, Inc., Research Division

Ada Menaker - MKM Partners LLC, Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Spansion Earnings Conference Call. My name is Bree, and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to Mr. Rahul Mathur, Vice President of Finance and Investor Relations. Please proceed.

Rahul Mathur

Thank you, Bree. Good afternoon, and thank you for joining us on today's call to discuss Spansion's third quarter 2013 financial results. With me today from Spansion are John Kispert, Chief Executive Officer; and Randy Furr, Executive Vice President and Chief Financial Officer.

We hope you saw our earnings release issued today and posted to our website. Also on our website is the brief slide presentation that we will refer to during our call today.

Before we move on, please note the Safe Harbor statement on Slide 2 of today's earnings presentation. During the course of this meeting, we will make forward-looking statements regarding future events or the financial performance of the company. Such statements are based on assumptions as of the current date, and these forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those statements. We urge you to review in detail the risks and uncertainties discussed in our filings with the Securities and Exchange Commission. We disclaim any duty to update forward-looking statements.

Our agenda for the call today is as follows: John will discuss key highlights from the quarter, then Randy will review these from a financial perspective and provide the forward-looking guidance. A Q&A session will follow.

With that, I will now turn the call over to John Kispert, CEO.

John H. Kispert

Thanks, Rahul. Good afternoon, and welcome to our third quarter or September ending quarter earnings call. My comments today will address our third quarter results, what we are seeing in the market, the latest developments across our various businesses and our design win progress.

Q3 played out as expected. We executed well and delivered what we said we would do this quarter. We completed the acquisition of the microcontroller and analog/mixed-signal business from Fujitsu in a timely manner, and we are already benefiting from the synergies. Customer feedback has been positive, and we are very focused on expanding and accelerating our product development, our product introduction schedules and our go-to-market execution worldwide.

As a reminder, we closed the acquisition on August 1 and, therefore, our third quarter results reflect only 2 months of this business.

Now turning to our financial results. We achieved non-GAAP revenue of $275 million; non-GAAP gross margin of 35.4%; non-GAAP operating income of $25 million; non-GAAP diluted EPS of $0.27; and cash and cash equivalents and short-term investments of $228 million.

I would like to point out that due to the acquisition-related costs and the resulting purchase accounting methodologies, our GAAP gross margin is lower and will continue to be so for the next quarter or 2, as we sell through the inventory acquired on day 1.

We believe, as do others in the industry, non-GAAP results more accurately reflect the ongoing business performance. Our strategy to generate cash, expand our addressable market and to continue to improve our profitability remains consistent in the following 4 key areas.

First, growing our newly acquired business. This includes 8-bit, 16-bit and 32-bit proprietary and 32-bit ARM-based microcontrollers. We're also expanding a number of analog products we offer to our current customer base across automotive, industrial and consumer segments. As important, we are also focused on expanding our customer base outside Japan across all of the product lines. Second, we will continue to maintain our embedded Flash memory leadership position. And third, there's a great deal of effort today focused on accelerating our microcontroller roadmap by integrating our embedded Flash technology, as well offering more solutions that integrate a broad set of technologies, middleware, security, graphics tools and application software. And lastly, commercializing and protecting our intellectual property through licensing and litigation.

Now let me update you on each of these 4. In our microcontroller business, we continued to develop and introduce proprietary and ARM core products, which are currently focused on automotive, factory automation, white goods, appliances and gaming consoles. We will introduce a whole new suite of microcontroller products that use our Flash technology for automotive applications early next year.

For analog, several of our power management products went into production and our next generation LED driver products are now sampling. We have a number of opportunities to expand this business moving forward. We're also in final discussions with a number of customers to use our power management chips as a companion to our microcontroller devices. There are a number of applications in automotive and low-power consumer devices where putting the 2 together is beneficial.

Moving to our Flash business. We remained the NOR Flash leader in the embedded market. In the third quarter, we released several new high-performance Serial Flash devices into production and started production of an automotive grade NAND product.

In the area of commercializing and protecting our intellectual property, royalty revenue represented 8% this past quarter. We have a number of new initiatives in this area that will offer opportunities for us over the next 6 to 12 months.

As we mentioned last quarter, we sold some patents not core to our business. And as a result, licensing revenue increased in the September ending quarter. And as you may have also seen, we filed a lawsuit against Macronix for infringing on our patents. Although the government shutdown did slow things down, the ITC trial is set for next May. That is May 2014. We remain focused on protecting our intellectual property and the investment made by our employees, customers, partners and licensees.

As for our design win progress across our markets, please understand these numbers represent all of our products, including microcontrollers, Flash, and analog and mixed-signal. So for our consumer customers, we secured approximately 260 design wins, primarily in digital TV, set-top boxes, home gateways, digital cameras and gaming controllers. Again, these are across all of our products and, given the timing of the close of the acquisition, only includes about 30 days of the non-Flash products. Our non-Flash products have traction, and we will see design wins increase steadily over the next few quarters.

In Transportation & Industrial, there are approximately 310 design wins, expanding into auto clusters, infotainment, advanced driver assistance systems in automotive, factory automation, security surveillance, energy and white goods driving the majority of the industrial wins. And there are many other platforms we are getting design wins, as we see the Internet of Things concept take hold with next-generation industrial electronics.

And finally, in Communications & Gaming, we secured over 55 design wins. Here, we continue to see demand for enterprise switches, routers and data set or servers. Our newly acquired product lines do not have a presence here, and this will be addressed through 2014.

In summary, we are pleased with the results of the quarter. Moving forward, we will continue to execute and work to broaden our product portfolio and we have resources dedicated to advancing our semiconductor technologies, software-enabling solutions to better address more of our customer base needs. Thus, you will see innovation and new products across all of our families from higher performing Flash memory to new microcontrollers, to system-on-a-chip devices, to new power management products and integrated solutions using more of our portfolio of technology. We remain confident in our long-term growth, extending our leadership position in embedded markets and our ability to work closely with existing and new customers that enable them to differentiate their solutions.

And with that, I'll turn the call over to Randy to discuss more specifics on the financials.

Randy W. Furr

Thanks, John. As I discuss the Q3 financial results in more detail, I'll be referring to the Q3 financial results presentation we posted to the Investor Relations section of our website.

On Slide 3, let me start with the summary of our fiscal Q3 2013 operating results, which were in line with the estimates we provided during our Q2 earnings call.

Non-GAAP revenues were $275 million. Non-GAAP gross margin was 35.4%. And non-GAAP diluted EPS come in at $0.27. On Slide 4 of that presentation, you'll see a breakdown of our sales by end market and geography. For your reference, this is based on ship to location.

As I mentioned, total revenues were $275 million with $159 million from Flash memory, $22 million from licensing and other, and $94 million from 2 months of our newly acquired microcontrollers and analog/mixed-signal business.

From an end market perspective, revenue distribution was in line with expectations. Although the Fujitsu microcontroller and analog/mixed signal acquisition will change the end market and geography mix, our Q3 percentages would not have changed materially if we had the acquired business for the full quarter and not just for the 2 months of August and September. However, we've added some columns to help you understand the pro forma impact to Q2 and Q3, assuming that we had completed the acquisition at the beginning of Q2.

As we expected, we saw substantial growth in our Transportation & Industrial end markets. These markets have been a strength for Spansion historically, as our customers require product durability, quality and reliability, all Spansion differentiators. Business we acquired have some -- the same attributes, and we expect to see continued growth in these markets going forward.

Also as expected, we saw a decrease in our Communications & Gaming end markets as the pachinko gaming business in Japan showed weakness, and that weakness we had expected in Q3. However, we do anticipate an increase in pachinko sales in Q4 based on the latest forecasted demand from our customers.

We also saw the growth we expected in our royalty and patent revenues. Included in licensing revenue was $12.5 million due to a one-time sale of patents. While we expect continued revenue from this segment, again, it will be lumpy and the timing is often difficult to predict.

On a regional basis, our results were in line with expectations. We did see growth in Japan as roughly half of the MCU and analog/mixed-signal business we acquired sells into Japan, with particular strength in the Japanese auto. We hope to take advantage of the potential revenue synergies outside of Japan in future quarters.

Turning to Slide 5, we'll 'review the income statement. Let's start with the far left column, GAAP earnings. This column includes the effects of purchase accounting as a result of the Fujitsu microcontroller and analog/mixed signal acquisition. As many of you know, purchase accounting requires inventory to be written up essentially to market value. Thus, until the acquired inventories flow through the P&L, GAAP gross margin with respect to the acquired business will be exceptionally low.

More than 60% of the acquired initial inventory was sold in Q3, and we expect the majority of the remaining inventory will flow through the P&L in Q4. In fact, if you look at column 2, we've broken out the acquisition-related charges. The footnote details each category. I will not go into each category because they're fairly standard in acquisitions, but I will say that we do expect the majority of these acquisition-related items will be completed by the end of Q1.

Columns 3 and 4 our are standard noncash, non-GAAP adjustments, and column 5 is our restructuring-related charges. We outlined the restructuring-related charges during our Q2 conference call. I will comment on 2 of these items in this column, the $8 million litigation reserve and the $10 million gain from the collection of a previously written-off note. Earlier in the month, we received a complaint filed in District Court from a competitor. Per our internal policy, we accrue for the next 4 quarters of expected legal costs related to defensive lawsuits such as this. $8 million represents that accrual. The $10 million is, of course, positive and represents cash collections of a note written off back in 2009. We collected the $10 million during Q3.

Column 6, net -- the non-GAAP. And as you can see, non-GAAP gross margin was 35.4% in Q3. This was 90 basis points above the top end of our gross margin estimates and was driven by favorable mix.

Moving to operating expenses. Obviously, both R&D and SG&A increased as a result of the Fujitsu microcontroller and analog acquisition, and both were in line with expectations. R&D was $35 million or 12.8% of revenue and SG&A is $37 million or 13.4% of revenue.

During the quarter, we released 2 new Flash platforms, and we remain on target to release a total of 14 new Flash platforms in 2013. In Q3, we also released 2 new products from our recently acquired business, the first was a key MCU win for us with a major automotive customer, and this product also fits well in several other automotive customer applications and roadmaps.

The second was an analog custom IC that will be used by our industrial customers' speed light applications. And like our Flash business, we have multiple new products coming out for MCU and analog customers in Q4.

These all translate into non-GAAP operating income of $25.2 million, compared to last quarter's $18.4 million. Non-GAAP operating margin was 9.2% in Q3. We incurred $6.5 million in interest in other nonoperating items. This ended up being better than our estimates and reflects the lower blend of interest rates as a result of convertible debt offering completed in August. In Q4, we are anticipating approximately $6.8 million to $7.2 million a quarter in other nonoperating expenses.

Our income tax expense in Q3 was $2.1 million. And again, as a reminder, we have significant U.S. and California NOLs, and a $2.1 million in tax expense in Q3 primarily represents foreign taxes. Going forward, we should see taxes in the $3.5 million to $3.7 million range per quarter.

Adjusted EBITDA was $38 million or 13.8% of sales. And again, our non-GAAP diluted EPS was $0.27 in Q3. The Q3 non-GAAP results listed in column 6 of Slide 5 relate to financials depicted on Slide 6. We've included those to show the quarterly apples-to-apples comparison going back to Q3 of 2012.

I'd now like to turn the conversation to the balance sheet, so please refer to Slide 7, and I'll start with cash. We ended the quarter with cash, cash equivalents and short-term investments of $228 million. This is down from Q2's $305 million. However, we used approximately $148 million with the Fujitsu microcontroller and analog/mixed-signal acquisition purchase price and initial inventory purchase.

As I mentioned earlier, during the quarter, we completed a financing in the form of a convertible note offering. This financing effectively lowers our weighted average non-GAAP cash cost of outstanding debt from 6.5% to 4.7% and will save us approximately $5.3 million of annual interest expense.

Let me provide you with the mechanics behind this financing and how this financing impacted both our cash and debt. Net proceeds from the $150 million offering was approximately $145 million. We used $112 million of the net proceeds to repurchase over 50% of our highest cost 7 7/8% senior notes and $15.4 million to fund the cost of cap calls, which reduced the risk of dilution of our stock. Remaining portions of the net proceeds, approximately $18 million, remains on our balance sheet as cash. This offering will not be dilutive until our stock price rises above $18.14. The convertible note was issued at a 2% coupon and a 7% tenure maturing in September 2020.

As a base conversion price of approximately $13.87 begin the cap cost served to increase the effective conversion price to approximately at $18.14 level. This $150 million convert shows up on our balance sheet as $111 million of debt and $39 million of equity. The $39 million in equity will accrete to the principal debt balance over the life of the convert, which is 7 years, and will show up as additional noncash interest.

We will continue adjusting that out of our GAAP to non-GAAP reconciliation. The accounting for the convert will also impact our GAAP share count for diluted EPS calculations. We're using the if-converted method of calculating diluted EPS with the underlying shares of the convert, again, approximately 10.8 million shares, will be fully incorporated into the share count and GAAP EPS calculation, nearest GAAP net income. But again, we will adjust that out on our non-GAAP presentation and additional shares will only be added for our non-GAAP EPS calculation if the share price goes above the conversion price of $18.14, again, provided by the cap cost.

Our total outstanding debt is $461 million. This is comprised of $150 million convert, $94 million in senior notes and $217 million in term loan. However, if you look at the balance sheet, and when we see $414 million in total long-term debt, this is because approximately $6 million shows up as short-term debt, $2 million represents the debt discount for our term loan, and the remaining $39 million, as I discussed, is related to the convert and accounted for in equity.

From an operational perspective, operating cash flow was $50 million and capital spending for the quarter was approximately $15 million. Again, a good quarter with respect to operating cash flow.

With respect to working capital. Obviously, with the microcontroller and analog/mixed-signal acquisition, trade accounts receivable inventories and trade payables have all increased. Trade accounts receivable was $155 million at the end of Q3. DSO, or days sales outstanding, ended at 52 days, roughly flat with last quarter. We expect DSO to increase in line with our increased business in Japan, which traditionally have longer payment terms.

Inventory for Q3 was $258 million, which equated to 100 days of inventory. Accounts payable was $99 million. And at the end of Q3, this equated to 45 days. All this adds up to our net cash cycle days improving significantly from 138 days in Q2 to 107 days in Q3.

I'll make some brief comments regarding the Fujitsu microcontroller and analog/mixed-signal acquisition. The acquisition is going according to plan, from an integration perspective, and the business is performing in accordance with the estimates provided to you during last quarter's earnings call. So in summary, a solidly executed quarter.

Now I'll turn the discussion to the outlook for Q4, so please refer to Slide 9. Let me start with a high level discussion. As we show in earnings release, expected range for Q4 net sales is $305 million to $335 million. We estimate non-GAAP gross margin to be 30.5% to 32.5%, and this would translate to non-GAAP diluted EPS in the range of $0.17 to $0.23. Excluded from these non-GAAP estimates are $2 million to $3 million of expected expenses related to the integration of the newly acquired microcontroller and analog business, approximately $12 million related to the markup of the inventory to fair value with respect to this acquisition, and expenses to align our expense levels and rationalizing our global workforce, this could be in the $1 million to $2 million range for Q4. And finally, excluded from this is our normal cash IP amortizations and equity compensation expense.

Slide 10 lists our fourth quarter 2013 focus areas, and these include driving top line growth, accelerate introductions of our new platforms; expand worldwide adoption of Flash memory, microcontrollers and analog; drive design win momentum for all products across all segments; and to continue to focus on operational efficiencies.

Slide 13 is presented to help you reconcile historical GAAP to non-GAAP. So with that, I'd like to thank you for your time today. And now, I'd like to turn the call back over to Bree, and we'll take some questions. Thank you.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of Blayne Curtis with Barclays.

Christopher Hemmelgarn - Barclays Capital, Research Division

This is Chris Hemmelgarn, on for Blayne. First of all, if you could just run down kind of the puts and takes of what you're expecting from your various segments into Q4 to get to that revenue guidance you provided?

John H. Kispert

Sure, Chris. This is John Kispert. I think the -- in Consumer segment, we have a lot of traction going forward with the microcontroller. So I would think -- and the Flash business, so I think the Consumer business will be up quarter-on-quarter. Transportation & Industrial, that one will be up, by far, the farthest. There's tremendous traction there and, I think, great demand relative to the other segments. Communications & Gaming, Randy already said that we'll see an uptick in the gaming business for sure in Q4. Communications, we'll also see an uptick in our Flash products. We are not -- we don't have the right MCUs or analog products to move into Communications directly right now, so we're not really competing there. So probably less of an increase from the newer businesses. Our Wireless business, you could see growth there. The machine-to-machine business, as kind of the Internet of Things continues to grow, that's particularly with memory, the Wireless piece. So we expect to kind of reconfigure that as we move into 2014, that should grow. But I think in Q4, it will remain higher, but not much higher. And in the Royalty business, our Royalty business, we're being conservative with what we have in the annuity stream and the guidance. We're working a number of different things, but it's certainly not in the guidance. And I'm not sure if we'll close this quarter or any time the next 6 to 12 months with the things that we're working on. Did that help, Chris?

Christopher Hemmelgarn - Barclays Capital, Research Division

So with licensing, you were just saying back down to the kind of the levels you've been at, maybe a lotter than that, right?

John H. Kispert

Yes. And it's not that we're not working on them. We just decided it's not prudent to put it into the guidance. And if we close on something before the end of this year, certainly, there'll be upside.

Christopher Hemmelgarn - Barclays Capital, Research Division

Awesome. I guess, my follow-up then, it looks like you guided non-GAAP gross margin down a little bit down. Could you talk about what you're seeing there and why you're seeing that slight decline?

Randy W. Furr

Yes, Chris, it's Randy here. So I think the simple answer to that is, actually -- we're actually a little bit better in Q4, if you back out roughly $12.5 million that I mentioned in the Royalty. So as I said, we had about $22 million in royalties for Q3 and about $12 million, $12.5 million of that was this one-time patent sale. So that would put a Royalty run rate in the $9.5 million range. If you back out that $12.5 million, you can actually see both gross margin and actually, operating income are really not doing that bad. If you take a look at Q3, we ended operating income at $25 million. And again, you had this $12.5 million in there, and the midpoint of our guidance for Q4 for operating income is $23 million. So as you can see, we actually kind of view -- we're improving the overall performance of the company in terms of the margins, absent that one Royalty thing. And as John said, we're continuing to work and we hope to see these on a somewhat regular basis. But again, they're going to be lumpy and a bit difficult to expect every time. But that's the reason that, overall, that the margin is down, is because we're just backing out that $12.5 million.

Operator

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

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Yes. Just a quick question. If you look at the fourth quarter guidance for revenue, can you talk about the relative contribution to that from the memory business and the analog business, and the kind of gross margins you may have in those 2 businesses?

John H. Kispert

Yes. It's John. We actually have a chart out there that you can see. Right now, the microcontroller business is 35%, 40% of our business, and we see that growing over time. The gross margins are some of the higher gross margins for us. We see even more opportunity there over time with the -- particularly, the newer platforms as we get those out in 2014. The analog business, I think, you can assume over the next couple of quarters, it's anywhere from 5% to 10% of the business. We're going to invest more there. It will take a little bit of time, but I think you can see that business grow relatively steady over time. And at least, the Flash business, anywhere from 50% to 55% of the business. Flash business, I think, a better quarter in Q4. We're steadily improving the gross margins there. We're being very focused and disciplined on the segments, the customers, the markets where we create more value. We have a great product line set up over the next couple of months. And we just came out with a bunch of new products that I think will help us greatly. So the margins could steadily improved in Flash over time. And then as Randy just said, the licensing or Royalty business, anywhere from 3% to 10%. If you look at us historically, we do have a nice funnel there of opportunities. And as I said in the prepared remarks that anywhere from 6 to 12 months, you should see some of those come to fruition, and build up a stronger annuity run rate for the company.

Operator

And your next question comes from the line of Sujee De Silva with Topeka.

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

So on the NOR business, what are you seeing in terms of pricing for NOR Flash pricing competition? How is that trending?

John H. Kispert

We've become very disciplined and focused, as I said earlier, Sujee. It certainly is a much better pricing environment for us. We managed it very closely through this quarter. I think, as we move into Q4, we got a much higher backlog, puts us in a much better position. And we're -- obviously, where we're stronger in the pricing, and it's really not an issue, it's in the higher densities. The mid-densities have steadied absolutely from, say, the beginning of the year. And the lower densities, actually, the pricing is better than it has been, but still not the kind of business that we're really focused on.

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

Okay. And then, in the -- sticking with the memory business. In terms of Flash, in talking about the NAND versus NOR business, are you still going to break that out or help us understand that? And what may NAND Flash contribute to you guys in the '14 timeframe?

John H. Kispert

So I don't think we'll talk about 2014 in this call, Sujee. We can do that maybe in the next call. We're working through that right now. NAND will be up again for us this quarter in the Q4 timeframe, steadily growing. It was roughly $20 million in Q3, and I think it probably starts with a 3, or a $30 million or better, moving into Q4. Again, we're very focused there on sockets that are high reliability, long life, industrial, automotive sockets that will last for a while.

Operator

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

David M. Wong - Wells Fargo Securities, LLC, Research Division

So I'm not sure if I miscalculated, but it looks to me like your NOR business went down a fair amount. Was that primarily the pachinko business or was there something else?

Randy W. Furr

No, David, this is Randy, it was almost all attributed to the pachinko business. And again, as John pointed out, we do expect that business to bounce back reasonably nicely next quarter.

David M. Wong - Wells Fargo Securities, LLC, Research Division

But if I sort of project for a full quarter of Fujitsu business, next quarter, and pachinko rises and NAND rises, does that suggest that you're expecting your NOR business outside pachinko to decline?

Randy W. Furr

Expect the NOR business outside of pachinko to decline? No. I would say it's in the range of flat to slightly up and then the pachinko business will, obviously, have this up. So I put on the -- in my prepared remarks that the NOR Flash business was approximately $159 million. And in -- for Q4, I think if you work out the math, you'll come to some numbers that are probably in the neighborhood of $170 million to $175 million. So again, that growth there is attributed to both pachinko -- mostly pachinko, but it's also some other businesses, other part of the business as well.

John H. Kispert

David, I think if you look at the prepared remarks, you'll see that every one of the businesses should be up quarter-on-quarter. We think we have a very nice momentum moving into Q4. In a tough environment but -- there's no doubt it's a tough environment, but we definitely see our business is quarter-on-quarter across-the-board taking a step up.

David M. Wong - Wells Fargo Securities, LLC, Research Division

Okay. What do you do with your factory loadings in Q4 compared to Q3?

John H. Kispert

Well, we set them to meet demand. They are relatively low, too low for our liking right now. We think, clearly, going into 2014, they'll probably going up. And Randy, you want to add?

Randy W. Furr

Yes. And being a little more specific, in Q2, it was in the mid-80s, and in Q3, it was in the mid-60s. And we will likely see mid-60s, and that was built into our guidance there for Q4 as well. But as John said, based upon both the expected growth that we have going into next year with the new products as well as we're bringing our analog and mixed signal and our microcontroller products into our internal Fab, those transitions have already started. And with that, over the long term, our goal is to get this not only back in the mid-80s, but hopefully, go back to some of the low 90s that we got to enjoy earlier this year and last year.

Operator

And your next question comes from the line of Rajvindra Gill with Needham & Company.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Randy, just some additional clarity on the revenue breakout and as well as on the guidance. What was the revenue from just the core microcontroller business in Q3? And what was it from the embedded NOR and then what was it from the SLC NAND portion of it? Because if I use the percentages that you break out by end market, is that based on the overall revenue or is that based on the embedded NOR market? Because you've completely changed the breakout now by adding the Flash, MCU and analog part of it.

Randy W. Furr

Well, I'm going to see if this answers your question, if not, Rajvi, come back to me. So as I said in the prepared remarks, $159 million was from Flash. Flash includes NOR and NAND. And as John pointed out, the NAND was about $20 million of that $159 million. The $22 million, that was related to licensing essentially. And the $94 million was related to the new acquisition which is a combination of MCU and analog.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

For 2 months?

Randy W. Furr

Yes, for 2 months. Now what we tried to do on Slide 4 is we've listed the actual numbers for Q3 -- I'm sorry, for Q2, to only be Flash, and then we put the actual numbers for Q3, which would include the Flash in 2 months of the microcontroller and MCU business. To give you a better apples-and-apples comparison, also on Slide 4, we've recast, or given you pro forma for Q2 and Q3, assuming that we would have had that MCU and analog acquisition at the beginning of Q2. So it shows you a better kind of quarter-to-quarter comparison, assuming we'd had the business for both quarters for the whole quarter to help you kind of understand what's happening. Does that help?

Rajvindra S. Gill - Needham & Company, LLC, Research Division

The revenue by end market, on a percentage basis, that includes the microcontroller and the analog business or is that separate?

Randy W. Furr

It does.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

It does. So you multiply that by the overall sales and then you have to back it? Okay, I got it.

John H. Kispert

That's it, that's it.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Okay. And so the embedded NOR business in Q4 seems to be rebounding based on kind of what you're saying. And is that driven -- you said driven by the pachinko gaming and the Transportation & Industrial kind of vertical?

John H. Kispert

Yes. And we're seeing traction in consumer also. I think the one thing in the -- certainly, in the Flash side of the business is the -- we call it the Internet of Things, it's anywhere from smart meters to -- into the home security to energy platforms, or entertainment platforms, or telemedicine, seeing a lot of great traction there. And that's growing for us. So -- and we see that stronger in Q4, and we're hopeful that right through 2014, that continues to grow, the Flash business.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

If I do the math, the guidance was in the midpoint, $320 million, and if you're saying that the embedded NOR business is $170 million to $175 million, does that assume that the MCU business/analog business is around $148 million?

Randy W. Furr

Well, you do $170 million to $175 million, and then you add about $10 million for licensing. And then the balance will be the MCU/analog business.

John H. Kispert

A piece I think, you're missing Rajvi, is the licensing piece. Put that in there, it all comes together.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Yes. I'm just trying to figure out what's been going on with -- I'm trying to track the MCU business. So at kind of $140 million then or so roughly, maybe under. And so you did $94 million with 2 months of Fujitsu business. So if I quarterize it, you're kind of tracking a little bit ahead -- above, right?

John H. Kispert

Just like we've said, Rajvi. Just like we said.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

You're right.

John H. Kispert

That's right.

Operator

Your next question comes from the line of Glen Yeung with Citigroup.

Glen Yeung - Citigroup Inc, Research Division

One question. I'm not sure if you said this on the call or not, but did you actually provide the revenues for Q3, assuming 3 months' worth of Fujitsu?

Randy W. Furr

We did not. But I can tell you, it's fairly linear, fortunately, for that business. So I think if you do the math, those numbers would've been in the $130 million, $135 million range.

John H. Kispert

Very linear, Glen. And obviously, very sticky. So I'd say, it's a very nice base. So you can just add an extra month to the number and you're -- you have the quarterly.

Glen Yeung - Citigroup Inc, Research Division

So I'm doing the math on the fly here. But if I do that and I take out the one-time gains for the Royalty business you saw on Q3, I'm getting a growth rate in Q4 that looks something like 7% sequential growth. And I wonder, is that -- is there a way for us to think about sort of a new seasonality for your business? And I know it's early case here and probably hard to tell, but do you have a sense as to what that seasonality might be? Have you guys looked back over the past few years as a combined business to see if you're tracking to normal seasonal or not?

John H. Kispert

Glen, we put some time into it. And the answer is it is too early. I think, particularly with the -- where we see the growth in the MCU and analog business. And the fundamental issue we have is it is very hard when you do a carve-out to be able to look at history. And it's, in fact, impossible to look at history. But having said that, we can go customer-by-customer or segment-by-segment and realize that it's a very firm business that isn't going to waver too much quarter-to-quarter. And our job is to build on it.

Glen Yeung - Citigroup Inc, Research Division

And can I ask another question, Randy, maybe if you -- inside your inventory that recognize some of that, of course, as the acquired business, but how much of that business -- sorry, how much of that inventory is NOR, and what's you're comfort level with your NOR inventory?

Randy W. Furr

Yes, it's a good question. So as I pointed out last quarter, we were -- inventories had grown and we were going to focus on working the inventories down. And as I just answered in an earlier question, we actually dropped our internal utilization down into the mix, mid-60s. And that was to actually drop that back -- to actually work that -- those NOR inventories down. So I don't have the exact mix here right in front of me. But essentially, the way to think of that is that the NOR inventories was essentially flat quarter-over-quarter and the -- but -- and then we brought in the a.m. inventories and, certainly, we have kind of a better turn, better mix matrix -- metrics with respect to that, and that helped kind of bring the overall inventories down into this 100-day range, or 100 days.

Glen Yeung - Citigroup Inc, Research Division

And so your target for NOR inventories for next quarter, for the December quarter?

Randy W. Furr

They will continue to decline quarter-over-quarter. And in the neighborhood of about $10 million a quarter is what we've got built into the plan.

Glen Yeung - Citigroup Inc, Research Division

All right. And just one last quick question. Based on your commentary and outlook for Q4, it sounds like the Royalty business runs at about $10 million a quarter. And John, you mentioned that you're working on some things for next year, I think, timing a little indeterminate. But if we were to sort of look at sort of averaging per 2014 or maybe for the year in 2014, what's your sense of where Royalty will be, either on a full year basis or on a quarterly run-rate basis?

John H. Kispert

Glen, good question. We're not prepared to answer that right now. I can say that the funnel of what we're looking at today is $25 million or better for the year. It's -- and predicting where we can time some of that as we move into 2014 is going to be the challenge for us. And we will lay that out once we get closer to it.

Operator

The next question comes from the line of Monika Garg with Pacific Crest Securities.

Monika Garg - Pacific Crest Securities, Inc., Research Division

I just want to kind of dig into this Flash revenue. Again, for Q3, I think you have just given us a number of $159 million. $20 million of that is NAND. Now next quarter, you are saying it could be $170 million to $175 million and NAND could be about $30 million of that. So if I back it out, it seems NOR will be flat quarter-over-quarter or maybe just up like $1 million or $2 million. Is that right? Is my numbers kind of in the right direction?

John H. Kispert

Yes. I think I said roughly $30 million for NAND. We think the NOR business is absolutely going to be up.

Monika Garg - Pacific Crest Securities, Inc., Research Division

NOR will be up, okay. Last quarter, utilization rates and loading are very low for NOR. How do you see that going forward, utilization rate in that business?

Randy W. Furr

Yes. So again, I think we have a pretty active program to improve the utilization inside of our internal Fab. And that's -- it's made up of continued growth in new products that we have. But also, as I mentioned earlier, it's to moving some products from our microcontroller and analog business into Fab 25, and we started that process to move in there. I see, as I mentioned, we ended in the mid-60s. I see the mid-60s for Q2 -- I'm sorry, for Q1, but I -- I'm sorry, it's 60s for Q4...

John H. Kispert

So the December ending quarter had roughly the same rate we did in the September ending quarter.

Randy W. Furr

But then I see starting in Q1, I see that improving. Now I don't know if it's going to get to the mid-80s but, hopefully, it will be somewhere in the 70s in Q1 and in the 80s by, certainly, by Q2, as move forward and we get some of these products in there.

John H. Kispert

Monika, ultimately, it's driven by demand. And that's why it's -- for us, as we look out in 2 quarters out. What we're trying to do now is prudently manage it, that inventory. We think we're in real good shape with our inventory. We're ready to react to anything. And the second piece is that we just acquired a whole new set of product lines that we're able to transfer or port into the Fab that also can back fill and lower the -- just the total cost of the Fab with that.

Monika Garg - Pacific Crest Securities, Inc., Research Division

So then the last question, John. Where do you see kind of embedded NOR market? Do you think, and we have seen, kind of a significant decline in this market as it gets to please maybe even the NAND market?

John H. Kispert

Look, I think I've always said the NOR market will be around for many, many, many years. Our goal is to be very profitable there, stay profitable there. We see, as I said earlier, we see far more competition and much lower pricing at the lower densities, not less than the mid-density to high-density, which is where we play the most. There's very little NOR memory in any of the distributors. I mean, we have 20-or-so distributors that we work very closely with and they're not holding very much inventory at all. Our customers are not holding very much inventory at all, either. We're prepared to react to any sort of surge in demand, which does happen in this business. Longer term, where does NOR market go? There's certainly in the consumer market, there's a move toward NAND. We see that less so in the auto sockets that we compete in, we don't see that at all. Anywhere where there's the need for high reliability, high predictability, industrial and auto markets is just where we're focused. We do not see the sockets moving away and, in fact, we see more opportunities. And I -- we always take you through that with our design wins. So we think there's many years to go in these high reliability, secure -- high-security applications for densities anywhere from 32-megabit up to 8-gigabit that we can continue to be the main player there and be the high-margin player.

Operator

Your next question comes from the line of Ada Menaker with MKM Partners.

Ada Menaker - MKM Partners LLC, Research Division

Can you maybe talk me through some of the puts and takes around the pachinko business? It seems like you guys had expected a recovery in Q3 and that didn't materialize.

John H. Kispert

Ada, this is John. No, we've said very clearly that Q3 would be a weaker quarter, so it's the content change that's taking place in that marketplace. We also said, I think, very clearly, we thought Q4 would be up and Q1 would be up. And so, there was a transition. It's really driven by policy by government. So I think we're well positioned here. I think we have some nice runway in that marketplace over the next couple of quarters. We have the product line that's superior to anybody else's. We're getting the design wins, I think we're well positioned. It's a matter of ramping that with the newer content. And we're starting to see that, as Randy said, here in Q4. And that's what the -- we're comfortable saying that pachinko market is absolutely picking up for us quarter-on-quarter.

Ada Menaker - MKM Partners LLC, Research Division

Great. And can you maybe talk me through some of the longer-term automotive trends that you're seeing and how you're playing in those?

John H. Kispert

Sure. Auto is -- I think everybody understands -- just a significant increase in content. And for us, it will be over all of our product, whether it's microcontroller, any of our mixed-signal technologies, and absolutely, our Flash business, very positive trend. In addition to that, I think the auto market's growing worldwide outside of, say, U.S. and Europe and Japan. We're spending a lot more time in China in the auto market. We're also spending a lot of time in other parts of Asia in the auto market. So the number of cars is certainly going up and the electronic content is going up in each one of those cars, so a very good opportunity. I think it's very steady for us, too. It's a business that takes a while to get designed in, but once you're designed in, it will last for quite a long time. It also takes a lot of support and bulletproof quality. These products have to work for 20 years, and that's something Spansion has done for a long time. I think the other driver for us in auto is we're very strong in auto in Japan with our acquisition. A lot of opportunity for us with the microcontroller and mixed-signal products have moved from out of Japan and move them into the center of auto production and design in Detroit and, certainly, in Germany as well as China. And that's something we're very focused on. So we think we can do that relatively quick. You won't see the revenue as quickly because, again, as I said, it takes a while for the -- once it's designed in, for it to actually move through and be in production. But auto is across-the-board from blind spot monitoring, to control, to energy, to motor efficiency, to networking, to record-keeping, driver assistance, all of those take microcontrollers, take mixed-signal technologies and, certainly, take Flash.

Operator

Ladies and gentlemen, this will conclude the question-and-answer portion of today's conference. I would now like to turn the call over to Mr. John Kispert for closing remarks.

John H. Kispert

I want to thank everybody again for joining us today. I know everybody out there is busy, particularly today, at this time. And I appreciate your interest in the company. We look forward to seeing you soon at conferences and on the road. Enjoy your evening.

Randy W. Furr

Bye-bye.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Spansion Management Discusses Q3 2013 Results - Earnings Call Transcript
This Transcript
All Transcripts