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Executives

Dean Priddy - CFO, Corporate Vice President of Administration and Secretary

Doug DeLieto - Vice President of Investor Relations

Analysts

Steve Smigie - Raymond James & Associates

RF Micro Devices, Inc. (RFMD) Raymond James Systems, Semiconductors, Software & Supply Chain Conference December 9, 2013 3:05 PM ET

Steve Smigie - Raymond James & Associates

Hi good afternoon. My name is Steve Smigie. I am the analyst – semiconductor analyst here at Raymond James. It’s our pleasure to have RFMD with us today, and presenting for us we have the CFO, Dean Priddy, and we also have Doug DeLieto who is in Investor Relations and we’ve had a pretty good performance in the stock over time here and these guys are just getting started with improving their margins. So looking forward to hearing more about that.

Doug DeLieto

All right. Thanks very much. Thanks, Steve. Thanks for inviting us here. I am going to begin by reminding our audience that the safe harbor language that applies to our press releases, also applies to today’s presentation. So I will begin by talking about our growth strategy and what we are doing to drive continued diversified growth and long term profitability.

RFMD’s markets are growing with the expanding demand for broadband high performance connectivity. This is increasing our dollar content generation over generation and enabling RFMD to grow in the highest tier smartphones and tablets as well as on the highest volume entry-level devices and reference design. So to leverage the growth embedded in our markets we are investing in products and technology leadership to bring best-in-class products to our customers.

Our customers and our customers’ customers demand superior performance. In order to deliver a maximum data throughput over the carrier networks to our devices. Efficiency is critical because everyone wants their batteries to last as long as possible and we want the most efficient use of the very expensive spectrum that carriers have invested in.

In addition to technology and product leadership, our customers also rely on RFMD to deliver operational excellence. We ship over 3 million pieces a day and those pieces contain multiple components spanning all the applicable process technologies. So that means that our supply chain routinely has got a couple of billion pieces of things in inventory, shipping over a billion pieces a year, supplying those products in very high volumes to hundreds of customers.

RFMD is one of the only companies able to supply high volumes as quickly as some of our customers demand in support of their aggressive product ramps. Against that backdrop we are introducing record numbers of new products. Our Cellular Products Group or CPG introduced dozens of new products this quarter and more than 100 products this year. Our Multi Market Products Group, or MPG introduces a new or derivative product every day. So our investments in product and technology leadership are clearly supporting our play-to-win strategy and we expect that to deliver long term profitable revenue growth, operating leverage, superior free cash flow and return on invested capital in excess of our weighted average cost of capital.

So before going into more detail on some of our growth drivers, I want to talk about how we’ve executed thus far. So in September, RFMD delivered 6% revenue growth to a record $310.7 million, gross margin expanded 110 basis points to 36.2% and earnings per share were $0.12. The strong financial performance is highlighted by continued diversification, margin expansion, operating leverage -- operating income – I am sorry, in revenue, operating income increased greater than 30%.

So on the margin we remain on track or ahead of schedule with multiple key margin improvement initiatives. We believe we are structured to deliver continued margin expansion this quarter as well as in the seasonally down March quarter. Beyond March we expect gross margin to achieve 40% by the end of next calendar year.

So viewed by products group, our product and technology leadership is helping RFMD to drive diversified growth across customers, market segments and products. In our Cellular Products Group, we were very successful in September expanding our content in the world’s leading smartphones. In one device, we secured multiple components: antenna tuners, antenna switch module and an LTE PA duplexer earning RFMD the distinction of being the only guy in the space to supply all the critical components of RF functionality, encompassing the switching, the amplification, the tuning and the filtering.

In the entry tier, we enjoyed broad customer adoption of our CMOS PAs extending our leadership in that segment and supporting our margin expansion initiatives in support of our 2G product portfolio.

In the market served by MPG, we were represented broadly in high performance WiFi, wireless infrastructure, broadband networks and a diversified set of other Hi-Rel and specialized communications equipment markets. WiFi grew year over year 49% across mobile and CPE, including routers, set top boxes and access points. Compared to last year, MPG revenue was up 12%.

So at a very high level, our growth opportunities across both of our product segments are tied very closely to the massive growth in demand for data. Specifically the demand for broadband mobile data is a global macro trend and RFMD is a primary beneficiary. We are hoping to accelerate the trend toward data mobility by creating and helping to enlarge the broadband wireless connections between your handheld device and your data.

RFMD is investing in product and technology leadership to bring best-in-class products to our customers. So for years we have been talking about antenna control solutions. More recently you’ve heard us talk about our product initiatives in support of envelope tracking and carrier aggregation. With each new development, RFMD is an early participant working to maximize the data throughput over the increasingly crowded frequency spectrum. In each instance, we seek to deliver world-class solutions optimized to deliver the best combination of size, cost and performance. But it’s important to keep in mind that with each of these new developments fewer and fewer industry participants are able to solve the complex challenges related to systems level complexity, system efficiency, thermal management, solution size and multi-mode multi-band complexity. This is creating new opportunities for RFMD as our systems level expertise and other strengths, envelope tracking, carrier aggregation, antenna tuning and other competitive differentiators are enabling us to optimize the system efficiency in our customers’ devices.

So as an example, we announced this morning that we are supporting the newest flagship Android smartphone with envelop tracking PAs as well as antenna control solutions, as well as an ASM or antenna switch module, multiple high performance switches and multiple WiFi switch LNAs. This is a fifth generation smartphone from a leading Korea based manufacturer. It features Android 4.4 [inaudible] which is codenamed KitKat and it’s the first device to feature RFMD’s envelope tracking power amplifiers. These PAs enhance power efficiency. This results in enhanced battery life across all modes and bands, increased network coverage and higher data rate throughput. Our antenna control solutions help optimize radiated efficiency in the device by tuning the antenna, thereby improving call quality as well as increasing data throughput and extending battery life.

On the subject of envelope tracking, RFMD is a pioneer in envelope tracking, as well as power management. Unlike traditional power amplifiers that operate with a constant supply voltage to the PA, the voltage supply to our ET PAs is continuously adjusted to get maximum efficiency. This results in about 25% less current consumption which in turn translate obviously into much lower battery consumption. So we offer the most comprehensive portfolio for ET. We are the only PA supplier to have also co-architected ET PMIC with an ET PA. This improves – or this yield’s improvement and system efficiency not only when our PA operates as a set with our PMIC but also when our PA operates as a third party PMIC. Again we are seeing the competitive field narrow around envelope tracking as a result of the complexity and heightened requirements for collaboration between us and our channel partners and customers.

So similarly we are a pioneer in antenna control solutions. So our family of antenna control solutions includes tuners – antenna tuners and impedance tuners both of which serve to improve the RF system efficiency between the transceiver and the antenna element. So while the antenna tuners optimize the radiated efficiency of the device by adjusting or tuning the antenna, the impedance tuners optimize the power transfer to the antenna. So our portfolio also includes high-performance routing switches which optimize the antenna selection and control and increase cellular data throughput rates thereby helping to extend the network coverage. And these routing switches deliver very low insertion loss and excellent linearity making them ideal for battery operated applications.

All right. If you put all these products and technologies together and you overlay other competitive strengths we’re talking about like ultra-high efficiency power amplifiers, multimode, multi-band capabilities, multi-chip module assembly capabilities, our ability to integrate high-volumes of duplexers and filters, our integrated RF shielding and others and you get a little bit of insight into the customizable systems level solutions we are discussing now with our channel partners and our customers. These are not high-volume ‘13 or ‘14 programs. There is a few years of volume for this but they will leverage our ability to deliver best-in-class capabilities, best-in-class components for all the active semiconductor components, the power management the PA, the switching and antenna control uniquely positioning RFMD to succeed as RF products partitioning evolves.

So one more slide on growth and then I will hand it over to Dean to talk about the margin. Some growth opportunities little bit near end, there are many things happening in our markets that support our growth expectations. So our opportunities are really multi-tiered. We are very well positioned to capture additional content, not only in smartphones but also entry-level devices as well as reference designs. So in the highest tiered smartphones expanding band coverage is driving up the content opportunity with the complexity.

RF components like PA duplexers, antenna switch modules, diversity switches, antenna tuners, impedance tuners, average power tracking and envelope tracking capable power amplifiers, all of these are creating new growth opportunities for RF Micro Devices. In calendar ’13, there will be about 400 million LTE devices shipped. The vast majority of these will contain RFMD content. This is driving up the TAM for us because these are complex, high dollar content devices. The adoption of antenna control solutions specifically has been a fantastic growth driver for RFMD. Just about every LTE device out there today has got some form of RFMD antenna control solution. So these devices are helping to drive more data through your phones more efficiently.

As I said earlier we’re seeing a migration to both average power tracking and envelope tracking. We expect envelope tracking will narrow the playing field because of a lot of collaboration you’ve got to have between your customers, your channel partners and yourself as you co-architect the RF front end.

So for RFMD given our systems level expertise and our head start in our power management we expect to be a major player in ET. So we are also leading the charge toward greater integration of the RF front end. For years we have sat down with our customers and channel partners and we’ve helped to co-architect the entire RF front end whether it’s the PA, or the power management or antenna control, or even the passive components, filters and duplexers. Again, as our systems level expertise that enables us to sit with these guys and co-architect the entire RF front end across all the active and passive components.

So the carrier aggregation – the move to carrier aggregation is also helping to drive growth. This is an initiative supported by the carriers to get the most efficient use of their expensive spectrum. The first step with carrier aggregation is on the receive side where we’re going to enable you to receive multiple channels or frequencies down into your device. Ultimately we did the same thing on the transmit side, so you’re going to be able to transmit over multiple channels at the same time.

In developing markets, the shift taking place from voice centric 2G devices to 3G entry phones is doubling and in some cases tripling our content opportunity with an ever greater jump expected with the move to LTE. And we are beginning to see the deployment of LTE in China broadly. So it is especially meaningful to RFMD because we’ve got great relationships with the leading chipset suppliers there and we are the leader in the entry level.

So with that, I am going to hand it over to Dean to talk about the margin.

Dean Priddy

Thanks, Doug. Thanks, Steve for inviting us to the conference today. As the holidays approach here in New York City, there’s just a tremendous amount of energy building throughput the city and while all that is great, what I am going to do is share with you what’s building the energy level within RFMD and hopefully for you, the investment community, in particular our profitability improvement programs and more specifically gross margin.

At the beginning of our fiscal year, we committed to 400 basis points of margin improvement by the end of our fiscal year. So on our last conference call for the December quarter guidance, we said that our margins would improve 300 basis points. We were on track to achieve 400 basis points this fiscal year and that we would achieve 40% gross margin sometime next calendar year. We are definitely on track to achieving all of these goals.

So when you take a look at the margin expansion initiatives, we had three major ones that we outlined that would drive most of the 300 or 400 basis points this year. That being the flexible GaAs sourcing strategy. Now this strategy is not something that just appeared overnight, or the last six months or the last year. This actually goes back to a three-year planning horizon. It began with the sale of our MBE facility and then the sale of our UK wafer fab facility while bringing up external Gallium Arsenide suppliers and getting them qualified and ready for surge capacity. So once again a multi-year process for transitioning out of major facilities and into a more flexible sourcing strategy.

Doug mentioned the transition to our lower-cost CMOS PAs. That continues to go well, it’s having an impact on the December quarter gross margins and quite frankly we don’t believe anyone in the industry can match the cost structure of our CMOS PAs. And this is helping us segment the market because it's not that we are going to quit of manufacturing Gallium Arsenide PAs for the low-end market it’s just that we are going to give the customers a choice, if you're really after performance and you are willing to pay out little higher price then you've got Gallium Arsenide. If you can give a little bit on performance but would like to get the lowest price possible, then you are going to want to buy one of our silicon CMOS PAs.

And then the increased in-sourcing of assembly, we have expanded capacity in our Beijing facility. We are adding higher value work centers such as flip chip assembly which makes our CMOS PAs even more profitable and that is also having an impact on margin improvement in the December quarter but will continue on into the March quarter and well into next fiscal year as well.

So in terms of gross margin, like I said this strategy began three years or so ago and internally our goal is to have the highest gross margin structure in the industry -- the highest in the industry. So we are getting our 300 to 400 basis points this year, we are committing to 40% gross margin in calendar year ‘14 but what is it that can actually drive RFMD to the highest margin structure in the industry? And the answer is it’s many, many different things. We have set targets and commitments with our Board of Directors, and obviously we've set commitments with the investment community for continued margin expansion.

One of the things that we did is create the office of the PMO. So what’s the PMO? We call it the programming management office. It’s led by one of our most senior business leaders and we have constructed a cross functional team of the best and brightest in the company for anywhere from design to manufacturing to sourcing to finance and marketing and we had taken a complete new look at our cost structure throughout the company and what this has resulted in is a project list of better than 80 items that the company is executing on in terms of cost savings.

The PMO – the program management office reports out bi-weekly to the executive staff on improvements and where we stand on executing on these margin improvement initiatives and let me tell you it’s going extremely well – extremely well.

We have a huge advanced analytics and I am not going to stand up here and talk about big data and buzzwords like that. Advanced analytics is something that is very, very targeted in our case. And it’s also an area where we went out, we hired the most renowned international consulting firm that I'm aware of to come in and bring the necessary horsepower into the organization and surge capacity to help us analyze the data that we have right before our eyes and look for ways to systematically save costs. We look at things like supply-chain efficiencies. This would be improvement on consumption, as well as actual cost reductions. We look at zero based analysis. Basically this saves waste.

You construct a model that if you produce something or if you run a manufacturing workcenter, what is the very minimum amount of materials or chemicals or whatever it is that you're measuring that’s required to produce the product? And then you work ways to work to achieve these types of minimum levels. We are already seeing this having a tremendous impact on both our Beijing assembly operations and also in our wafer fab facility and something that’s going to contribute to our nice margin expansion throughout calendar ’14.

If you’d asked me a year ago about the cost curves in our Greensboro wafer fab facility, I would have told you that they were flattening out that we were beginning to see about where we think that the lowest point is in terms of wafer costs for our fab. But we challenged out organization and through the help of some very, very good data analytics as well as some very, very good business work by our internal folks we have found a way to lower our wafer price in our existing GaAs fab by 20% to 25%. That’s just the entire cost curve down 20% to 25% for our Gallium Arsenide based products, a tremendous advantage as we go into calendar ’14, fiscal year ‘15 in terms of margin improvement.

War on precious metals – it goes without saying if you’ve got gold in your process and that's a very expensive metal and you don’t want to use any more than what you absolutely have to. In our case, in the Gallium Arsenide manufacturing process there is backside metallization which is gold and then there is a front side metallization which is the individual rows [ph] and streets which actually make up the integrated circuit. We went after the backside first, and I am here to tell you today that we've cracked the code, and we are now beginning to ship wafers from our Greensboro facility without any backside gold and that’s going to be a widespread across-the-board. Six months from now everything we ship will have zero gold on wafers on the backside.

Now in terms of the front side water processing, that’s still work-in-process. We’ve identified a way to eliminate gold in the front side. We have not been through for qualification yet. There's still work to be done but rest assured there will be no stone left unturned until we eliminate the gold from our wafer manufacturing.

Silicon sourcing strategy. A year ago I would have stood up here and said well, we’re basically a one horse pony here. We’re heavily reliant on one company and you know what we don’t have very much leverage over that company. It’s great technology, great opportunities but it wasn’t the place you want to be in terms of a robust silicon sourcing strategy. Today I can say the very opposite is true. We have an extremely robust silicon sourcing strategy and I like to put a plug-in for a person that came into our organization several months ago. His name is Jim Clifford. He is an industry veteran. Many of you may have recognized the name. And he has done an extremely good job of getting dual-sources set up for all of our key flavors of silicon process technologies from SOI to CMOS to everything in between, and we now have the type of leverage that you would hope to have from a world-class silicon sourcing strategy. Our wafer costs are coming down. They are coming down nicely.

In terms of passive components, the same thing applies here except – we use data, we use statistical analysis. We use data analytics to look at the passive components that we’re using in our products and in many cases there are several capacitors, there could be inductors in our products and they come in all flavors of values and from different suppliers and what we've been able to prove out is that there really is no statistical difference between suppliers and the types of capacitors that we use. So we’ve given our design engineers a very, very good tool to use to pick and choose the lowest cost capacitors and inductors. That’s just now being implemented as all part of design for costs that all these things added together sustains the change in RFMD’s cost structure. So we start at a very high level with three big things that we can all get our arms around to drive 300 to 400 basis points of margin expansion.

Now I'm sharing with you what is going to help sustain the improvements in gross margin, what will help smooth out some of the volatility in gross margin, I mean we’ve eliminated a lot of fixed costs in our manufacturing process. So we’re bullish on gross margin expansion, well, if you couldn’t tell before the presentation, hopefully you can tell now, I see it happening is – and you know what the good thing about it -- it really doesn't require a lot of revenue growth to achieve a much improved gross margin. In fact, we have said that even in a seasonally down March quarter, we can actually improve our gross margin. That's not something that is typical of companies in our industry.

So why invest in RFMD other than significant margin expansion that we expected to see? Doug touched on the revenue tailwinds that we see in the industry. This is still a very much a growth oriented industry. We expect the CAGR to grow over the next few years envelope tracking, carrier aggregation, ultimately transmit carrier aggregation nation all helped contribute to the CAGR growth as well as the fact that there is still so many people in the world that will be transitioning from low end 2G phones to 3G entry phones and then ultimately to more robust LTE type devices.

New product cycles, we are leaders in many areas in antenna control solutions, switch based products, power amplifiers, products that contain filter content. We are increasing our dollar content and Doug highlighted one of the new phones that have several dollars of RFMD content, and this is not unusual anymore to have multiple dollars of RF content from RFMD in phones across the world.

Sustainable margin expansion -- modest operating expense growth, we’ve made the hard choices as a company and we've done things that sometimes are difficult and we’ve shown that we can control expenses. We’ve shown that that we can reduce expenses if we have to. We’ve shown that we can go out and make things happen regarding our manufacturing footprint and end up in a much better position. So a lot of the work has been done, there’s still a lot to do. I mean don’t get me wrong. Much of the work has been done but you’re just -- just beginning to see the margin expansion that we are capable of.

Targeted capital expenditures, we will invest where there is very quick payback. The additional assembly capacity in Beijing facility is an example of that. And one other bullet that is actually not on the slide that I want to address is I think this is going to be a breakout quarter for free cash flow for RFMD. So look for a significant step-function in our free cash flow. I would expect something greater than $20 million, or probably greater than $25 million for the quarter and I think that’s just a starting point for what the company is capable of generating.

So thanks a lot. With that, if we have time for questions, Steve, far away.

Question-and-Answer Session

Steve Smigie - Raymond James & Associates

One question I wanted to follow up that our investors are asking to follow up – with regard to some of the costs you are taking out – taking place some of that in the silicon area, there is a competitor QUALCOMM out there and I think maybe trying to enter that market on the PA side and they have been talking about on their calls for being – something that’s ramping in 2014. Are you actually seeing them out there in terms of that and to the extent that you are – given everything you are doing here, will you be able to pretty effectively compete with that on the cost side?

Dean Priddy

Yes, certainly on the cost side, no issue whatsoever. But I will take a step backwards and say that we keep very close watch on what QUALCOMM is doing. We view them also though as an excellent channel partner, and we are still deeply engaged in multiple projects whether it’s power amplifiers, switches, WiFi PAs. So there's a tremendous amount of business that we are still very much in the hunt for. We don’t take anything for granted. We have to be batter. Our power amplifiers have to be better. Our switch based products have to be better. Our tuners have to be better. As I know it now, they are in production with a envelope tracker which they say is part of their RF360, we have not seen their actual hardware show up in devices yet. But suffice it to say we have to be better. RF is our business and it’s something that we’re extremely focused on. And from a cost standpoint I believe that the types of products that we are seeing I am very comfortable in competing with our supply-chain, versus the type of technology that they are using.

Steve Smigie - Raymond James & Associates

Okay, great. Thanks. Sorry, we’ve run out of time. Just a quick reminder, we are going to have a cocktail reception [indiscernible].

Dean Priddy

Thanks, Steve.

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