National Semiconductor Corporation F3Q10 (Qtr End 02/28/10) Earnings Call Transcript

Mar.11.10 | About: National Semiconductor (NSM)

National Semiconductor Corporation (NSM) F3Q10 (Qtr End 02/28/10) Earnings Call March 11, 2010 4:30 PM ET

Executives

Mark VeehIR Manager

Don Macleod – President & CEO

Lewis Chew – SVP & CFO

Analysts

Palak [ph] – UBS Securities

Tore Svanberg – Thomas Weisel Partners

Romit Shah – Barclays Capital

James Schneider – Goldman Sachs & Co.

Doug Freedman – Broadpoint Amtech

Sumit Dhanda – BAS-ML

Terence Whalen – Citi

Chris Danely – JP Morgan

Stacy Rasgon – Sanford C. Bernstein & Co.

Ross Seymore – Deutsche Bank (North America)

Ralph [ph] – Credit Suisse

Brendan Furlong – Miller Tabak & Co.

Operator

Good afternoon. My name is Malcolm and I will be your conference operator today. At this time, I would like to welcome everyone to the National Semiconductor third quarter 2010 conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. (Operator instructions) Thank you. Mr. Veeh, you may begin your conference.

Mark Veeh

Thank you. And welcome everyone to National Semiconductor’s Third Quarter Fiscal Year 2010 Earnings Conference Call. Joining me on the call today is our President and Chief Executive Officer, Don Macleod and our Chief Financial Officer, Lewis Chew.

During our prepared section of this call, we will be providing details around our Q3 results, background to our Q4 outlook and some commentary around our recent market trends and business environment. At the end of our prepared comments we will then take questions until approximately 2:30 p.m. Pacific Time.

As we begin our call, I would like to remind everyone that today’s discussions will contain forward-looking statements that involve risk factors that could cause National Semiconductor’s results to differ materially from management’s current expectation.

Please review the Safe Harbor statement contained in the press release published today as well as our most recent SEC filings for a complete description of those risks.

Also, in compliance with SEC regulation FD, this call is being broadcast live over our Investor Relations Web site. For those of you who have missed the press release or would like a replay of the call you can find it by going to National’s IR Web site at www.national.com.

So with that I will now turn it over to Don.

Don Macleod

Thank you, Mark. So for me the key to our business performance this quarter was our 5% sequential revenue growth. And this follows 10% growth in our November quarter and 12% growth in the preceding August quarter.

But also back to year-on-year revenue growth this just completed third quarter’s up nearly 24% on last year’s very weak third quarter.

Where did the revenue growth come from? Which markets and which products to this growth? And how it previously highlighted revenue growth initiatives working out? To examine this, let me take you through our major end markets.

In the industrial market, our sales were up 14% over Q2. This very broad industrial market accounted for about 45% of our sales in the quarter. And I will cover three of our revenue growth initiatives that contributed to this 14% sequential growth.

First out, power management, SIMPLE SWITCHER products that are very broadly used in building industrial power supply subsystems. Here, our sales were also up 14% sequential in the quarter, and this product category by the way accounted for just over 10% of the Company’s overall sales in the quarter.

These industrial SIMPLE SWITCHER products which are very broad spectrum of customers around the world. And over 90% of our sales are through our distribution channel.

At the end of January, we formally launched our new SIMPLE SWITCHER power modules. We have integrated switchers, the passives, the magnetics, all in a single package for ease-of-use.

In the first month, following this product launch, we saw a significant increase in new customer designs that were completed on a full SIMPLE SWITCHER portfolio through our WEBENCH Online Design Tools.

We have significant brand equity with power supply designers around the world for this SIMPLE SWITCHER capability and we’re now putting much more emphasis on growing this new capability with products and easy to use tools.

Another revenue growth area within our industrial market category for us is in automotive applications. One, in particular, is our new focus on automotive infotainment, where we supply our FPD-Link technology for in-car communications and display management. This technology enables high speed transport of multiple video signals in automotive infotainment, driver assist and safety applications.

We continue to win designs that leading automotive OEMs and Tier One automotive suppliers in Europe and Japan and here in the U.S. In this market, design and activity to production can be a multi-year process.

Our current revenue base is a good indicator of early success in this growth application. And our core technology here comes from analog interface and our display driver capabilities.

Also in the industrial area, another new growth focus area for us is empowering LED-based general lighting applications. We designed into a number of LED-driven light bulbs, we designed the street lights, new standalone light fixtures for both home and architectural applications and with on reference designs with major LED suppliers.

We’re also shipping and design into new LED lights for automotive applications. This quarter we received our first orders for a new real light application for a Korean car company and this adds to examples already shipping to European car companies.

Of course, our focus on enabling LED lighting isn’t just addressing the industrial applications. We have another revenue growth thrust into extending LED power management applications and mobile phone and notebook computer displays for backlighting purposes.

And by the way, these two LED applications that is LED backlighting for displays and LED industrial applications made up about 6% of the overall company sales in the just completed quarter.

Our second largest end use market, the mobile device market, accounted for about 25% of our sales in the quarter. Here, our sales were down about 10% sequentially. And arguably this is less of a seasonal decline in sales than we would normally plan on, given the holiday selling nature of these products.

Looking at the top seven customers in the mobile phone and smartphone category, our business is relatively flat sequentially with our Korean handset customers and this was offset by more typical seasonally down sales to the other top five players in this handset and smartphone market.

Looking forward for this handset market, we have a higher opening backlog of orders in place going into the fourth quarter than we had coming into address completed third quarter.

I’m more comfortable that we can resume growth in this mobile phone marketplace again. Some of this higher order backlog is a result of our more aggressive attitude to seeking new business.

And going forward, beyond the fourth quarter, we secured new design wins and power management and lighting, and in audio applications to provide new revenue growth opportunities in the mobile phone area, as we go into next fiscal year.

Our third largest end use market, which is communications and networking, at about 13% of our sales in the quarter, showed sequential growth of over 20% in this quarter.

The wireless or cellular base station market grew fastest for us in the quarter and this is driven by increased shipments of our infrastructure power management, data converters, interface and timing products to European and Chinese communications infrastructures we were shipping into U.S. 3G, Global GSM and China TD-SCDMA providers.

In this area of cellular base stations we were also able to secure new business opportunities in the quarter. Some of our competitors had delivery problems, particularly, in the power management area. By the way, these three major markets made up over 80% of our sales in the quarter.

In one of our new and emerging market areas that is solar energy, we are very focused on becoming the power management electronics enabler, but even more efficiency in solar panel installations.

We continue to ship our solar magic reference design product to demonstrate the role that power management semiconductors can play to improve overall solar power efficiency.

Of course, our focus here going forward is to have a power management chips integrated into individual solar panels by the panel OEMs and the junction box manufacturers. We’re on track working with large volume panel manufacturers for them to bring products to the market in the second half of this calendar year.

So to summarize, over the last three quarters, we now delivered revenue growth for that that looks at least to me to be in line with the market. And for our upcoming fourth quarter, our opening order backlog is up nicely and we need less turns orders to make our forward revenue guidance.

We have revenue growth initiatives in each of our core business areas. We also think that the revenue levels that we’ve been achieving in the mobile phone space likely bottomed out in this past third quarter.

The current worldwide economic recovery is also providing us with revenue growth leverage with our 40% or greater exposure to the broad industrial market.

We’ve also put in place growth initiatives through our distributors, which by the way, this quarter, accounted for more than 60% of our sales, and we have a new attitude to pursue tactical and strategic opportunities with our OEM customer base.

The current supply constraints that some of our analog competitors have, has also opened up for us both tactical and strategic opportunities for us now to demonstrate this new revenue growth attitude to our customer base.

Incidentally, our lead times have not really changed significantly. We are delivering about 80% of our products in six weeks or less to all our customers including our distributors.

Now, let me say a few words in closing about our business model. And in particular, our view in the revenue growth gross margin trade-off. This quarter we reported record gross margins at 67.3%.

And as Lewis will cover in a few minutes we’ve got more to come in this area. We are being more assertive in pursuing revenue growth opportunities both tactically and for the long-term. And makes sense for us to do this when we have our own internal manufacturing, which is by the way of running last quarter is about 50% utilization. And we have a very high follow through from each new incremental dollar or revenue.

We can maintain our gross margins in the 65% to 70% range. And I see the opportunity for more top-line revenue growth as being a much more manageable and rewarding trade-off with gross margins holding in this 65% to 70% range, enabling much more attractive earnings per share growth for our share holders going forward. And we can manage that tradeoff.

So, now let me hand over to Lewis for him to give you more color on the quarter and our outlook.

Lewis Chew

Thank you, Don. As you have now seen in our press release, we are expecting our Q4 revenue to range from $375 million to $390 million, which would represent a sequential increase of about 4% to 8% over Q3. If that happens, it would be the fourth consecutive quarter of sequential revenue growth for us.

So in my comments today, I will go into some of the details that led to this revenue outlook. I will also discuss what’s driving the growth and the factors that could affect where we land within that range.

In connection with this, I will also address the utilization of our factory capacity and the status of our Texas plant closure activities. And then beyond revenue, I will also provide guidance for the rest of the income statement, and then I will finish up with a discussion of the balance sheet, key operating metrics and our business model.

Let me begin by going over the bookings and turns activity in Q3. As a reminder turns are a subset of total orders and represent those orders in which the customer requests delivery in the same quarter in which he places that order.

So in Q3, total company orders grew by about 5% over Q2. Unlike Q2, in which the order growth came solely from the distribution channel of our business, this quarter, we had order growth from our OEM customer base too.

The increase in orders came steadily throughout the quarter with the only real soft spot being the timeframe right after the holiday season, which was neither unusual nor unexpected.

From a regional standpoint, the increase in orders was led by Asia-Pacific and North America, while orders in Europe were down, mainly because they were coming off an unusually strong Q2. In fact, Europe orders in Q3 was still nicely above what they were in Q1.

Orders and backlog from our wireless handset customers in aggregate were both up in Q3, after being down in Q2. Turns orders were also slightly above what they were in Q2, and this is better than what we expected coming into the quarter.

When we gave our guidance for Q3 revenue back in December we anticipated the turns orders will be seasonally down and that revenue would be about flat because of higher opening backlog. But because our turns did not go down, our revenue grew about 5% sequentially in Q3.

The strength in turns orders continue to come from the broad industrial business serve through our distribution channel. We came into Q3 expecting distributor resale to be down seasonally, but instead the resale went up sequentially in Q3. The increasing resales combined with the relatively low levels of inventory that distributors have been carrying is what led to the turns orders being higher.

In Q4, we expect that distributor resales, which again predominantly addresses the industrial markets, will increase based on input that we’ve received from them. We also see our wireless handset revenues growing again, coming off the seasonally down Q3 for that market. And I highlight wireless for everybody because that does happen to be the largest vertical market that we serve.

Because of the increased orders that we had in total for Q3, our opening backlog, not just for wireless, but the company as a whole, is higher heading into Q4. With the level of higher backlog that we have in place, our revenue range in Q4 does not require the same level of turns orders as we had in Q3.

Our weeks of distributor inventory at the end of Q3 was between nine weeks and ten weeks and our projected range of revenue anticipates that the weeks of distributor inventory will hold relatively steady in that same range by the end of Q4. So that’s the detail behind our revenue outlook.

I will now cover the rest of the income statement beginning with margins. In Q3, our gross margin was better than I expected, coming in at 67.3% for the quarter, up 200 basis points sequentially.

Everything seemed to have a positive impact this quarter. Our mix was better due to the higher proportion of revenue coming from broad industrial markets. Our manufacturing cost performance was better than expected including some savings ahead of schedule and our fab capacity utilization went up to around 49% in order to support the higher sales volume that we achieved.

In Q4, we anticipate the gross margin will range from 67% to 68%. Within that projection we are expecting a positive impact from higher sales volume offset partially by slightly lower margin due to product mix.

Also, as originally planned, we will finish all production of inventory in our Texas fab by the end of Q4 fiscal '10 and then move on to the remaining shutdown activities in the first part of fiscal ‘11.

As we complete these activities and eliminate the corresponding operating costs we will flow those savings through the inventory and then on to gross margin benefits.

I estimate that the remaining benefit will be a little over two points of gross margin at today’s revenue levels and that we should see some of that starting in Q1 fiscal '11 and the rest of it by the end of Q2.

Also our fab transfer activities are nearly done. In Q4, I anticipate that we will incur an additional $3 million to $4 million of restructuring expense for those transfer activities and we break those out separately for you on the P&L.

So let’s go on to operating expenses. In Q4, our expenses should be slightly lower in total compared to Q3, as we have leveled off our spending even as revenues continue to rise so that we can get back toward our target operating model.

R&D expenses are expected to range from $68 million to $70 million. SG&A expenses are expected to range from $76 million to $79 million. And within our expense range I am estimating total stock compensation expense to be around 17 million in Q4 broken down approximately as follows

3 million cost of sales, 4 million R&D, and 10 million in SG&A.

Other income and expense is expected to be about $1 million of expense. Interest expense net is expected to hold steady at around $14.5 million. And the effective income tax rate in Q4 is projected to range from 28% to 30%.

Moving on to the balance sheet in operating metrics, our capital expenditures in Q3 were about $12 million and we estimate that Q4 capital expenditures will range from $12 million to $18 million.

Our ending inventory for Q3 was about 114 million, down about $2 million from Q2. And that left us with days of inventory on hand at around 88 days which is close to the 89 days we had at the end of the last quarter.

Days of receivables at the end of Q3 was about 23 days also similar to the previous quarter, because once again, our revenue had good linearity throughout the quarter and we maintained timely cash collections.

The Company’s cash reserves ended Q3 at $869 million, up from $822 million in the prior quarter, and during Q3, we did pay down about $16 million of our debt principal in line with the original schedule.

Operating margin in Q3 was about 26% and return on invested capital was about 18%, both of these include stock expense, but not restructuring charges.

Regarding our business model, gross margins are now operating at our target range of mid-to-high-60s. Revenue growth remains a top priority as we take a two-pronged approach of one, re-expanding our core business to take advantage of our strong power management capabilities, bolstered by an improving cost structure that allows us to increases scope of revenue opportunities that we can address. And two, pursuing specific new layers of incremental revenue in new areas like LED lighting and renewable energy.

Helping all of this is a fact that we still manufacture nearly everything in our own facilities, which allows us to be super responsive to our customers. We have ample capacity to grow since utilization this quarter still hovered around 50% and our top line growth will continue to carry a very nice follow-through percentage all the way to net income as we leverage our cost structure. So it remains our business model objective to get operating margins back into the 30s.

I would now turn it back over to Mark Veeh to moderate the Q&A session. Mark?

Mark Veeh

Thanks, Lewis. At this time, I will ask the operator to open up the lines to begin the Q&A session. Operator, can we please have our first question?

Question-and-Answer Session

Operator

Yes, sir. Your first question comes from the line of Uche Orji.

Palak – UBS Securities

Hi, this is Palak [ph] for Uche. Just wanted to get more clarity on your long-term order given that gross margins are close to almost 70% and with the Europe sector fab it should be 70%. So as you grow your revenue in new areas like solar power and LED lighting, how should we think of your gross margin given that the gross margin in this area could be lower than the profit average?

Lewis Chew

I will take the first part of that and I will let Don finish up. The long-term operating model we like to pursue is consistently at margins in the mid-to-high-60s or you want to call that 65 to 70, that’s fine, and operating margin in the 30s. And right now as you mentioned because we have improvements coming along in our cost structure, that actually gives us more flexibility to pursue revenue without worrying as much about the impact on our profitability.

What it actually means is expands the number of opportunities that we can pursue. A lot of these markets that we operate in today, we don’t necessarily pursue every opportunity that’s put before us. That’s the operating model.

I think our fall-through over the near-term and medium-term here will still continue to be very high. So, I think I told you guys before that our typical fall-through at the gross margin level is in the 70s. I don’t really see that changing.

Palak – UBS Securities

Okay. And next question is about your near-term it to output for the industrial market. Do you expect the demand to continue to remain strong for the remainder of the calendar year?

Don Macleod

Just to follow-up, the industrial market represented 45% of our sales last quarter, grew 14%. If we look at that marketplace, we serve almost all of it through our distributors. And based on the input we have from our distributors, our distributors do expect to increase their resales.

In other words, their sales out of our products in the May quarter over what we achieved in this February quarter, and I think, frankly, our view on the industrial market was colored in the last quarter by gaining momentum as we went through the quarter. Every month in the quarter our distributor resales were better than the number they forecast at the beginning of the particular month.

So, we feel that that marketplace which is very global, not concentrate on any particular region in the world, from our perspective, should continue to grow through at least the May quarter, and I think, we need to look at the broader economic agenda to see whether that should continue, but I have personally no reason to suspect it wouldn’t continue to grow through the rest of the year.

Palak – UBS Securities

Thank you.

Mark Veeh

Okay, we’ll have the next question.

Operator

Your next question comes from the line of Tore Svanberg.

Tore Svanberg – Thomas Weisel Partners

Yes, hi, first question. Lewis, can you talk a little bit about your utilization? Did you outsource any meaningful business this quarter?

Lewis Chew

Hey, Tor [ph]. Okay. Sorry, Tore. I’m sure people botch my name all the time, too. The utilization was pretty much all internal. We actually have less than 5% of our sourcing coming from the outside these days.

Tore Svanberg – Thomas Weisel Partners

Great. And just based on where we are today, how much revenue can you support now as you continue to ramp internally before you have to start your next leg up in CapEx?

Lewis Chew

Sure, I think from a modeling standpoint we’re comfortable with that number starting with the five. I’d say it’s a pretty broad range, but I would say, 500 to 575 is the range we think about internally. A lot of that as you can probably understand is dependent upon mix. But we could achieve that level, I think, without any substantial increase in our CapEx. By the way, you mentioned CapEx, which we now have running below 5% of sales to maintain the level of capacity we have today.

Tore Svanberg – Thomas Weisel Partners

And last question. You mentioned you expect distribution in the channel to remain stable at nine weeks to ten weeks. Can you just add some color there? Any reason why it should stay or why it shouldn’t go up?

Lewis Chew

Yes. That’s a fair question, Tore, and I would like to first of all remind every one that the quarter we just finished we did take that up. Because last quarter we felt like we were dangerously low getting into the 8s and we hadn’t seen the number like that in 20 years.

And so this quarter, we brought it back up to this range of the mid-9s and we feel comfortable that’s adequate to support the business today, it’s a good balance between giving the (inaudible) what they need and being able to service revenue without overshooting, because we don’t want to get ahead of ourselves. And so, we’re comfortable with that. And then the biggest thing we’re watching is to make sure we see these resales increasing, which we do have a projection for increasing resales in Q4.

Tore Svanberg – Thomas Weisel Partners

Great, thanks, good quarter.

Lewis Chew

Thank you.

Operator

Your next question comes from the line of Romit Shah.

Romit Shah – Barclays Capital

Nice quarter. Lewis, did you indicate how much your backlog increased in the February quarter?

Lewis Chew

Typically, Romit, we do not disclose the level of backlog, as you know, because backlog is not necessarily a firm commitment, but it’s a very strong indicator, but it did increase by more than what we were guiding our revenue to increase, to be fair. And what we’re assuming is that turns moderate a little bit because they put the backlog in place. You model what we’re guiding for revenue increase; our backlog grew by more than that.

Romit Shah – Barclays Capital

Okay. I’m just trying to understand how the backlog grew by that amount given bookings were only up 5% in line with what you shipped.

Lewis Chew

Yes, that’s because in both Q2 and Q3 our book-to-bill was above one. And so we still had bookings above billings this quarter. And it’s very hard to for you to mathematically work that number out unless you have one anchor point.

Romit Shah – Barclays Capital

Got you. Okay. And then just on the handset business, I know you expecting that business to grow in the May quarter. Are you expecting to see strength across all your major customers or is it tilted more towards Korea like it was in February?

Lewis Chew

We’ve seen some recovery in Korea. We’ve seen some early signs of some of our revenue actually is taking hold. But to be fair, we do see broadly increasing revenue across most of our wireless handset customers if I use the opening backlog as a gauge. In other words, if you say, okay, Lewis, of all your top seven wireless customers, how many of those guys have hired backlog now versus Q2?

All of them do.

Romit Shah – Barclays Capital

Okay. And just a last question for me is on SG&A. Is this a number I think it’s 23% of sales that you’re going to grow into or would you expect SG&A to come down in the back half of the year?

Lewis Chew

I think over the short-term to medium-term I will expect to see SG&A dollars coming down, all held equal, and also there is a piece of it that we would grow into it, some with structural. We do want to get operating margins back into the 30s and we don’t want to do that just through revenue. By the way, I think Don had one little bit to add to your question about wireless, Romit.

Don Macleod

You were talking about wireless, you mentioned booking growth earlier at 5%. Bookings for the wireless marketplace actually grew at more than 10% sequentially from the second quarter to the third quarter. So I think this adds to the opening backlog comment that Lewis made earlier that we feel pretty good that, that business improved quite broadly in the quarter. And seasonally you would expect that.

Romit Shah – Barclays Capital

Okay, great, thank you.

Operator

Your next question comes from the line of James Schneider.

James Schneider – Goldman Sachs & Co.

Good afternoon. Thanks for taking my question. One follow-up on the wireless market if I could. Don, I believe you referred to the fact that you’re being a little bit more opportunistic in perhaps that space going forward. Do you think it’s fair to say that with those customers you’re going after more aggressively now you would expect better than seasonal growth in wireless for the remainder of the year in any kind of quantification around what that incremental opportunity would be for you this year?

Don Macleod

I think when you talk about approaches our marketplace that are a number of dimensions about a more aggressive attitude. Clearly, the ideal situation is that we work on designs that are open for us to address today that eventually lead to revenue when the products start ramping up, say, eight months or nine months from now. And that dimension is clear and we’re pursuing that more aggressively and I did mention that we had made some nice progress with some of the market leaders in that area in the quarter.

The other part is just being more assertive in the shorter-term as we address opportunities for business. In some cases is actually second source business where there maybe an incumbent in there today, we have a similar product and we can go and address that. Some of the improvement in our business, the fact that we were only down 10% in the mobile phone business in the third quarter is due to us capturing a little of that incremental opportunistic business.

And we expect to continue to capture that kind of levels of business going forward for the rest of this calendar year because the business tends to be conducted on a quarterly, half yearly or yearly contract basis. I think the more important issue is the longer-term in how we address these design wins that in some cases we might have walked away from the opportunity in the past and clearly what are looking for those.

So, if you want to get a one liner for the long-term, I would like us to be back in a position where that wireless handset business was more like 30% of the Company’s revenues as it was in the past and we just need to get there as we go through this year and into the first half of next calendar year.

James Schneider – Goldman Sachs & Co.

Thank, that’s very helpful. And maybe as a follow-up. If you look at the communications and the working area, what do you expect for that going into next quarter? And how should we think about the profile of business for the year based on what your customers are telling you today, we expect kind of steady growth upwards or some normal seasonality or how should we think about that?

Don Macleod

Actually, I would say through the last quarter we were pleasantly surprised that the way that business picked up. And really are two drivers for that. And actually two major customers we work with the marketplace, the two customers in that marketplace. One in Europe and one in Asia led that. Clearly, we are benefiting from the build-out of the 3G network in the U.S. by AT&T, as an example.

And we are also benefiting as we go through the next phase of business in China, where we studied shipping product in for the bidding process that has taken place for TD-SCDMA that is looking for delivery starting actually this month. So I think that will continue. I think the build-out of 3G network is clearly an issue, particularly in the U.S. and the customer we’re working with, with our products and specific designs placed in that market, and then the other, of course, the China opportunity, I don’t see why that wouldn’t continue at least through the fourth quarter.

I think these TD-SCDMA chunks tend to be one-off. So I can’t really predict when the next one is coming along. But I think in this case we have specific design wins in our interface and our firm management and our clocking and data converter business that I think we were quite excited about. So it sets nicely picking up that business for us. It represented a larger portion of our sales this quarter and grew by over 20% than last quarter.

James Schneider – Goldman Sachs & Co.

Perfect, thanks very much.

Operator

Your next question comes from the line of Doug Freedman.

Doug Freedman – Broadpoint Amtech

Thanks for taking my question. Sorry about any background noise there may be. Everybody seems to be worried about the inventory build not just in distribution, but at the OEMs and maybe even up the retail channel. Can you talk about what you are seeing there and what if any leverage you have to control to make sure that you are actually not providing too much product to the channels. Whatever hangover we may have, it’s not as severe as might otherwise be.

Lewis Chew

Yes, Doug, I actually think it’s fair when you see the kind of year-over-year numbers that some of the chip companies are reporting to worry about it. So the way we’re trying to handle it right now is you heard me answer a question earlier that we’re going to try to maintain first of all just the inventories between 9 weeks and 10 weeks, which is the low range for us. Two, we don’t have a lot of visibility into as you put it the retail inventory that’s out there. But we do pay attention to these macro reports on how much inventory is out there in general and it doesn’t look scary bad.

And then one of the other factors that no one ever seems to ask a question about is inventory building up, it’s called the EMSs and ODMs, we watch that, that doesn’t seem to be building up too much, but that doesn’t mean we are not watching and not worried about it because you could always get some sort of mini snap back. But the numbers that we’re seeing in our business right now seem pretty reasonable for the business we’re supporting.

Don Macleod

I think, Doug, just to add to that, Lewis made a good point there. We do watch what we ship into the distribution channel and that is clearly a dynamic that we manage every quarter. Our attitude is not to ship into the distribution channel everything that the distributors necessarily want on a current delivery basis. Our goals are to ship into the channel whatever makes sense from an ending or every month ending quarter inventory level.

And we have that goal of this kind of 9 weeks to 10 weeks, and we’re comfortable with 10 weeks of inventory, given the dynamics of our distributor channel. And this quarter we were particularly sensitive about that, but I think the other issue and I said this earlier is as we went through this quarter; we started off in the beginning of the quarter with a view that our distributor resales for the December, January, February period would actually be down on the November quarter. And as we went through the quarter, we kept adjusting these numbers up because each month materialized and we ended with resales actually up.

So at the end of the day this is not just an issue of us shipping to the channel. It’s managing the inventories in the channel based on what they are selling out to the end customers. And from the distributors point of view they are doing better than they were expecting in that. And by the way, we expect that to continue and in particular, we expect that to continue through March, which is an end of quarter month, for a lot of our distributors and we tend to have historically, a very strong March month in the analog space. So we do manage the distributor inventories. We don’t just let them increase and is part of our strategy every quarter in determining what we actually bill.

Doug Freedman – Broadpoint Amtech

Great, and then if I could, on my follow-up, it’s been a while since you’ve given us an update on your ASP trends. I know year or so ago there was a big push to increase ASPs. Can you talk what has happened with them through the recession and what your outlook is for the ASP trends?

Don Macleod

If you actually look at our ASPs for the quarter we just finished, our ASPs were sequentially up about 6% and they were flat year-on-year. We obviously talk about ASPs, but we don’t manage the business for ASPs today, in the same way as we might have in the past. Our general philosophy as a company in the past was to only seek business where the ASP was incrementally positive to the company overall. And I think that philosophy led us to walk away from some business opportunities. And I think balancing ASP margin and revenue growth is a triad of items to balance that perhaps or too much in conflict with each other.

We clearly are looking at the portfolio very broadly; we are interested in any kind of business that does not dilute our gross margin objectives, even if the ASP is below the company average. You would expect, Doug, given the nature of the business in the quarter, with over 60% of our products, shipped through distribution, you do tend to see a, I would say, alluring of the ASP, but an improving of the overall margin given that mix. And we’re okay with that mix as long as the margins don’t get diluted overall and I think you saw this quarter that we achieved both revenue growth and margin growth working that objective.

Doug Freedman – Broadpoint Amtech

Great, thanks and congratulations on a strong quarter.

Operator

Your next question comes from the line of Sumit Dhanda.

Sumit Dhanda – BAS-ML

Hi, Lewis, couple of questions. First, just a clarification, when you said the backlog was up nicely into the quarter. I’m assuming you’re referring to the 13-week quarter and not anything beyond that?

Lewis Chew

Yes, that’s correct.

Sumit Dhanda – BAS-ML

Okay. The second question I had was on the distribution inventory last quarter was a little above eight weeks and my recollection was that you had taken up to the nine week range and the thing is somewhere between 9 weeks and 10 weeks, was that in the quarters of the plan? Am I reading too much into it or did you actively take the inventories up a little more than you had originally planned at the end of the last quarter?

Lewis Chew

I think you are reading a too much into it. If anything the increase in inventory was probably slightly below what we originally planned just because of the dynamic and the resales. I probably just short on the last quarter, by saying, we are in the eight and then bringing into the nines.

And so, I want to make it also very clear on this call that I’m not trying to be cute. When I say between nine and ten, it’s not 9.9. It’s between nine and ten like in the middle. I’m just trying not to be pinned down to precise a number, but it’s in the middle of that range, which is where we’re comfortable and the increase in inventory was very much in line with what we thought at the beginning of the quarter.

Sumit Dhanda – BAS-ML

Okay, thank you so much.

Lewis Chew

Yes.

Operator

Your next question comes from the line of Terence Whalen.

Terence Whalen – Citi

Hi, thanks for fitting me in. My question is on the end market outlook. If we think about the overall sort of 8% outlook for next quarter, how would you rank from sort of strongest to perhaps less strong among industrial communications and mobile. Thank you.

Lewis Chew

I would actually say that they are relatively similar in strength. If you had asked me that question last quarter I would have clearly said it was industrial first, networking second, and wireless was actually weak. But heading into the next quarter I would actually say that the industrial networking and wireless are all reasonably strong and all support that 4% to 8% revenue upward trajectory.

Terence Whalen – Citi

Okay. And then my follow-up question is with regard to some of your longer-term changes in attitudes towards your distributor partners, can you talk a little bit about if you think you made improvements there and progress there, how you measure that? And also perhaps changing a perspective if I ask that to some of your distributors, do you think they would be acknowledging that National has changed their approach with their distributors? Thank you.

Lewis Chew

No fair checking up on us, Whalen. You got to just go by what we say, don’t worry about what they say. I will start that one and I’ll let Don finish. I’d say right now it’s still relatively early. You got to be fair about this. We started some of these new programs in the middle of summer last year when things are still pretty dark. If you measure our progress by looking at whether or not just these are achieving at/or above target on some of these revenue objectives we’ve given them we’ve made some progress. But it’s not a 100%.

So, there are some distributors who’ve really taken hold of this and look like they are really engaged and they’re meeting or exceeding some of the targets we’ve given on some of the product revenue penetration we want to get into. But I think there is more time to tell whether or not we will be fully successful on that. I will let Don finish up on that one.

Don Macleod

I think good point to go and check up and see what they have to say. But we internally call this our distribution repositioning program. And there are really two elements in it. On one hand, there is focus; each of the distributors has generically a different charter. On the other hand there is a reward pattern, and the reward pattern is enhancing the payouts, the margins and the incentives that they get if they exceed certain milestones in terms of growing a business in these focused areas.

So, we have a very different approach to distribution than we would if had, let’s say, before calendar year '09, and I would certainly say for my selfish point of view that we’re seeing different behaviors from our distributors. And I would also say that our distributors are seeing at least the two major ones are seeing different behaviors from us towards the channel. And we see the distributors as partners now, not somebody we can leverage for opportunity in the marketplace.

Terence Whalen – Citi

That’s helpful, thank you.

Operator

Your next question comes from the line of Chris Danely.

Chris Danely – JP Morgan

Hey, thanks, guys. Don, you said you were able to take advantage of your relatively shorter lead times versus the competition. Can you just maybe give us an update on what your lead times are versus the competition and have you guys seen any of your lead times extending with the recent strength?

Don Macleod

Chris, flavor to that question, you hear us talking about being more assertive in the customer base looking for opportunities to grow our business. It couldn’t have happened at a better time. Some of our competitors are having delivery issues or extended lead times.

And we get a much more receptive audience that the customer when this is in the background and we have had customers offer us opportunities to pick up business either with our supply issues or lead time issues or with us are perceived supply issue and the customer gives us a chance. Of course, we have to be competitive to get that business and our current mode of course is to be competitive, where we can meet our margin objectives and our fall-through objectives that we talked about earlier.

Our own lead times, as I said earlier, we are looking at this point about a six-week lead time for 80% of our products and that’s to both our OEMs and our distributors. I think we might have said to you three months ago that number is more like 85%. So, yes, we have been stressed a little bit on the lead time front, but I would say at the margin. And I would see that that number is not an issue with our customer base. And I see that we can continue to keep our lead times at levels that the customers would say are good. So the opportunity is there.

And we don’t at least from listening to the marketplace at this time see that that competitive lead time issue is improving at all. It’s actually more than one of our competitors has issues and it’s a great time for us to pick up extra business. We have a great reputation for being the market leader in terms of logistics and delivery performance in our portion of the semiconductor industry and we can leverage it right now.

And obviously Lewis mentioned earlier we have factories running at 50%-ish while we had last quarter capacity utilization. That is wafer fabs and our back end test and assembly. So, we have a lot of capacity to pick up on that. Of course, we are hiring people to increment that capacity to take advantage of the opportunity. But our lead times are in good shape. Our delivery is in good shape and the timing of our opportunity is perfect.

Chris Danely – JP Morgan

Great. And then just a couple quick clarifications for my follow-up. I think you guys said your incremental gross margin was in the 70s. I thought it used to be in the 80s a quarter or two ago and the other one can you give us what your turns percentage is this quarter and what it was last quarter?

Lewis Chew

Here is another wisecracker [ph] who keeps track of what I said in the past. I’ve often said don’t write anything down. I think –

Chris Danely – JP Morgan

I know I spite my wife.

Lewis Chew

Yes. Maybe your memory is getting better now that you have a kid, Chris.

Chris Danely – JP Morgan

No way. No way.

Lewis Chew

Yes, no. I would say that long-term if you look back on all of my transcripts I’ve often said that our model for fall-through is in the 70s. I’ve said that in coming off the bottom it gets up in the 80s and higher. And right now I think the balancing act when people ask us a very direct question, okay, Lewis, there’s a trade-off between margin and growth.

Then I would say, yes, if there’s a fall-through at 70 versus 80 and we can get revenue versus no revenue I know which one I will pick right now. And I still think that 70s fall-through is still very attractive relative to our model. And so, I’m just trying to be realistic and guard band that. There will be times though where I can avoid it and the margin fall through will be in the 80s. I just don’t want people to continue to drive that as a model as we come off of the bottom and start to normalize that out. And what was the second part of your question?

Chris Danely – JP Morgan

What’s the turns percentage for this quarter? (inaudible)

Lewis Chew

Yes. The turns percentage long-term history normalizes in the sort of 20%-ish range. But the turns percentage when it gets high can get up into the low 30s. And in the lows down into the single teens. So this quarter we just finished the turns percentage was at the high end of our range and a quarter that we’re heading into we view it would be more toward the normal end of the range.

Chris Danely – JP Morgan

Great, thanks, guys.

Lewis Chew

All right.

Operator

Your next question comes from the line of Stacy Rasgon.

Stacy Rasgon – Sanford C. Bernstein & Co.

Hi, guys. Thank you for taking my question. Just one more on lead times to start off. So I know you got 80% which are looking good at six weeks or so. What about the other 20%? Can you give me any color on any specific products or end markets there and with utilizations both on the front end and the back end at 50% why isn’t that 80% number higher?

Don Macleod

Well, I think the second part of your question why isn’t 80% number higher it’s really the question of the dynamic and how the orders come in. As you know yourself the cycle time for wafer fabs is greater than six weeks. So we don’t have the dye when the order comes in, and it’s of a part, it’s not in one of our high runners, we have to start wafers and run through and our lead time is longer than six weeks.

The need to have the business with distribution being such a high percentage of our sales in the industrial market being such a high percentage of our sales does stretch the width of our – if you want our part number classification because the orders tend to be a lot more diverse from distribution and from that industrial space.

So typically, what happens when you get these diverse and very often they are not just diverse, they are small volume orders from this diverse portfolio. We clearly don’t necessarily hovers of all of the parts in dye bank. So, in these situations you tend to have to pull it to your lead time based on what your cycle time is, and that will depend on the process. But that could be easily eight weeks to ten weeks.

Stacy Rasgon – Sanford C. Bernstein & Co

Okay. And for my follow-up just regarding the pull forward on the Texas fab, I think, Lewis, if I remember correctly last quarter, you had about 100 basis points of pull forward from Texas. You said you got about 200 basis points left. I think the original was 400 basis points to 500 basis points, this imply that you had about 100 basis points as well this quarter and got half of it early.

Lewis Chew

We gotten some of the pull forward, but remember back when I gave the original model since I couldn’t make any statement about what revenues would be like, I always gave you those numbers relative to the current revenue. And what you have seen in the last three quarters, as I have been talking about, this is quarterly revenues have climbed by some $60 million and I’m just trying to readjust to that, right.

You look at the guidance I gave for this quarter, the midpoint 383 and two quarters ago that number was like 325. And so, I’m just trying to give you a flavor for what the real percentage will be based on these new revenue levels. But it is true that we have gotten some of those savings early. But I would say that we have not slipped in terms of the overall savings we expected to achieve from Texas, that’s one. And the unanswered questions, we still would achieve the same level of savings we originally set out to get.

Stacy Rasgon – Sanford C. Bernstein & Co

Got it. If I take that 400 basis points to 500 basis points based on the original revenue guidance from a couple quarters ago and take the 100 basis points on last quarter’s revenue that I think you got and apply 200 basis points left going forward can I back calculate kind of what was in this quarter with that methodology?

Lewis Chew

You can probably do that if you want to do that. That’s sure. As long as you normalize out whatever revenue was when I gave the first guidance.

Stacy Rasgon – Sanford C. Bernstein & Co

Got it. Thanks a lot.

Operator

Your next question comes from the line of Ross Seymore.

Ross Seymore – Deutsche Bank (North America)

Hey, guys, can you hear me?

Lewis Chew

Yes.

Ross Seymore – Deutsche Bank (North America)

Okay. Sorry if I missed this, a little bit crowded in the airport. What is the utilization likely to be once you close the Texas fab, all else assumed to be stable how high does it go up from that 49% you are now?

Lewis Chew

Yes, the utilization if you normalize it out and taking into account the revenue I’m guiding to for Q4 it will likely be in the low 60s.

Ross Seymore – Deutsche Bank (North America)

Okay. And what’s the goal where you’re optimized and then back to the incremental gross margin question. You’re still in the low 60s, if I recall right the sweet spots tend to be kind of 75% to 85%. Why would we really want to assume the incremental gross margin slows down a ton until you get a little bit closer to that sweet spot?

Don Macleod

I think that’s fair, Ross. We actually think that from a history standpoint because our manufacturing performance is so stud like, we can get into the 90s before we really run into issues. So, we do have a lot of room to go. So, I would agree with you that it’s fair to expect a continuing high fall-through and so I will answer first by saying, yes, we are likely to see a high fall-through all the way from the 60s to the 90.

I’m just trying to be balanced about this question about okay, are you going to pursue revenue or are you going to pursue margin? Take one or the other and we’re trying to be balanced about that. But I am also trying to give people flavor that even if we pursue revenue more aggressively we would still have fall-through in those kind of 70s range.

Ross Seymore – Deutsche Bank (North America)

And just the mix kind of easily we assume the wireless business kind of kicks in more on the many quarters, but definitely into your back half of the calendar year, just that implications as well or does the fixed cost coverage actually help offset some of the mix implications?

Lewis Chew

Well, there is a mix implication in Q4, because, in fact, we do see our mix going down. So, you did pick up on that. The second thing is since you asked the question I will give the answer as to why the margin wouldn’t grow more in Q4 per se. And that’s because Q4 is very unusual because we are in the last quarter production for Texas. It’s ramping down during the quarter, but we don’t really take out the cost pro rata.

So, we actually have a more inefficient operation in manufacturing in Q4 than Q3 and then that’s why we start seeing the benefit going forward in Q1 and Q2. So that’s offsetting some of the fall-through you would normally expect to get just purely from a revenue increase and utilization increase.

Ross Seymore – Deutsche Bank (North America)

I think it’s the last question kind of in the inventory side of things. You still kind of at the lower end of your historical range if I recall, right, and maybe it’s best for Donny. Do you think there is any reason that particularly sustainable or if that weeks of inventory is going to break one direction up or down, is it more likely to kind of have to build up a little higher to get back to kind of a more historical week level, because nothing has really changed as far as gaining permanent efficiencies in the supply chain?

Don Macleod

We always talk nicely and aggregate numbers and talk about mid-nines in terms of weeks of inventory. You really have to look at the dynamic of that by region. For example, we typically run our distributors in Asia region, which is the fastest growing region for the industry and for our distributors. In weeks much below that 9.5 week level. So I think over time what you’re going to find is that as the model that prevails in Asia becomes a bigger and bigger portion of our sales and our distributor sales we’re going to see weeks gradually over time come down.

But frankly, I think what we’ve seen in this last few quarters is that our business in Europe and the U.S. where we do have higher weeks of inventory in a typical basis, have actually been stronger, and you know, this is driven by what you have seen out of the industrial recovery in Europe and some of the very broad-based early stages of recovery here in the U.S.

And when you add that to the fact that product isn’t exactly sitting on our shelves the semiconductor suppliers any more for immediate delivery. I think the shorter term tendency is that U.S. and European chunk of the business to seek to have more inventories on the shelf. But longer-term I would see inventories declining as the Asia portion of the business grows over time.

Ross Seymore – Deutsche Bank (North America)

Okay, thanks.

Operator

Your next question comes from the line of John Pitzer.

Ralph – Credit Suisse

This is Ralph [ph] for John Pitzer. I know you are back on a growth path of the industry over the last three quarters. But if you take a longer-term perspective you are still underperforming from the peak of the last cycle. Is this because the some of the decisions that you made on wireless design wins or are there other factors that play? And secondly, appreciate the long-term growth in operating margins you just provided, but was wondering, if you had revenue growth target either on an absolute or relative basis vis-à-vis your peers and to the extent that you grow faster in the industry what will the drivers that will enable that?

Don Macleod

(inaudible)

Lewis Chew

Okay, let’s see. Operator, that’s the last question.

Ralph – Credit Suisse

Sorry. Go ahead, Don, you take that, it’s so easy.

Don Macleod

First of all, want to remind everybody that regardless of the past our business is up 24%. This quarter we just reported over the same quarter last year and if you listen to Lewis and you heard him talk about the guidance numbers that we have going forward at 4% to 8% sequential growth that would take us up towards in the mid-30%s over last year. So, we are back on the road in terms of growing and, yes, the business was down relatively heavily one year ago from now and it was down even more in the May quarter a year ago. That’s behind us.

And whatever business decisions we might have taken to walk away from business in some of the markets in that point in time again, that’s also behind us and we’re seeking to take another more aggressive approach and we’ll take it from there. I think you had other questions relative to business model, Lewis; do you want to talk about those?

Lewis Chew

Yes, your question, Ross, really about what is the operating business model in the near-term as opposed to the long term?

Ralph – Credit Suisse

No, it was more on your revenue growth targets do you expect to outgrow your peers and if you expect to do that what will be the drivers that will enable that?

Lewis Chew

Okay, that’s fair. So, let me start with the most candid way to answer that, which is, if every member of the peer group said he’s going to outgrow the peer group, it loses all credibility. So, I won’t make that mistake. Let me first start by saying that you’re right. We under grew our peers in the downturn and we measured that way and so right now, I think we’ll be fine with getting back to a level where we consistently grow with the market, but the fact that we have higher margins would make our earnings grow faster. So, I don’t think we want to go out on a limb and tell we want to outgrow the market by X point.

On the other hand you say what’s going to drive the growth; I think we have a couple of things going for us. One we’re reversing sort of a negative trend and two; we have plenty of markets we already playing today that have plenty of growth opportunities. Earlier someone asked us what do you see driving the growth in Q4? And it was across the board. It was wireless, it was industrial and networking. That’s what we’re going to continue to do. There’s no one item that’s going to be driving our growth.

Ralph – Credit Suisse

Thanks a lot, guys.

Mark Veeh

Operator, we have time for one more question.

Operator

Yes, sir. The final question comes from the line of Brendan Furlong.

Brendan Furlong – Miller Tabak & Co.

Term, a strategic question on, there’s a couple of your competitors talking about 300 mm fabs and how that relates to your I guess your handset business going forward and I guess your new assertiveness as you call it in trying to regain some market shares that you may have lost over the last year or so.

Don Macleod

We look at the, yes, medium-term, the next few years. As Lewis mentioned earlier, we are running our wafer fabs at 50% capacity utilization. For every incremental piece of business we’re talking about whether it’s 70% or 80% fall-through. We’re on a much more competitive situation to grow our business to almost double the size it is today with our existing and very low cost wafer fab install capacity. So you think about it.

We don’t have to spend a penny to get almost double the revenue what are today and that includes the revenue we can support in fast growing markets such as the mobile phone space. So really, the threat to our 300 mm fab doesn’t really bother us at all. In fact, I think our marginal fall through makes us even more competitive than anybody entering a new fab.

Secondly, when it comes to the point that we have to upgrade our fab capacity, in other words, add to that, we can certainly do that and 300 mm fab is really not going to be a tall order two, three, four, five years out from now when the equipment will be available on used markets at even more discounted rates than it’s available today as the other more competitive non-analog fabs move forward to the next geometry. So I think that’s in the short-term not really a challenge to us. I think we have equally competitive capabilities in the wafer fab space.

Brendan Furlong – Miller Tabak & Co.

That seems fair. And I guess my follow-up question was if you can give me a rough estimate of what your PC display revenues are on what your consumer kind of related revenues are, kind of ballpark if you want to?

Lewis Chew

Ballpark PC is kind of 5%-ish. We don’t typically break out consumer separately. So if we had to swag it, Mark?

Mark Veeh

Probably about less than 10%.

Lewis Chew

We really don’t track consumer category separately.

Brendan Furlong – Miller Tabak & Co.

Under display segment, I'm sorry?

Mark Veeh

That’s about 4 to 5%.

Brendan Furlong – Miller Tabak & Co.

Okay, excellent. Thanks a lot.

Mark Veeh

All right. So thanks, Brendan. With that, we’re now going to end the call. Let me remind you that the replay will be available shortly on our Web site and thank you for joining our call today.

Operator

This concludes today’s teleconference. You may disconnect.

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