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PLX Technology, Inc. (NASDAQ:PLXT)

Q1 2014 Earnings Conference Call

April 21, 2014 05:00 PM ET

Executives

Arthur Whipple - CFO

David Raun - President and CEO

Analysts

Christian Schwab - Craig-Hallum Capital Group

Operator

Good day, ladies and gentlemen and welcome to the First Quarter 2014 PLX Technology Earnings Conference Call. My name is Phillip and I'll be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions). As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Mr. Arthur Whipple, firm CFO. Please proceed.

Arthur Whipple

Good afternoon and thank you for joining us today. I will start this session with a review of our first quarter 2014 performance; and David Raun, our CEO, will provide more information on our business and recent events.

As we begin, I'd like to point out that certain statements made in the course of this call regarding our expectations and associated projections will be forward-looking statements. These statements will include comments relating to the introduction and adoption of new products, financial guidance, the development of next-generation technologies, and will be made in both our prepared remarks and in the subsequent Q&A session.

Our forward-looking statements deal with future events and are subject to risks and uncertainties, and our actual results could differ materially from our current expectations. Some of the factors that could cause such differences are described in our press release dated April 21, 2014, and in our various SEC filings, including our report on Form 10-K for the year ended December 31, 2013.

Let’s discuss the results of operations. Net revenues for the first quarter were $24.8 million, down 3.3% from $25.7 million last quarter. PCI Express revenues declined 5.9% to $17.5 million and represented 70% of revenues. Connectivity revenues increased by 3.4% to $7.3 million due to some last time buys. Non-GAAP gross margin was 60.5% in the first quarter. Our GAAP gross margin was 59.4%. The non-GAAP gross margin excludes an accrual for royalties associated with the Internet Machines litigation.

Gross margins were significantly higher than anticipated due to a favorable customer and product mix. We expect margins to return to more typical levels in Q2 as our PC related and Low-lane-count switch revenues are expected to rebound. Excluding stock comp, non-GAAP R&D and SG&A spending came in at $6.2 million and $5.7 million respectively.

R&D spending was lower than the estimate we provided in our business outlook in January. Last quarter we included the cost of a 40-nanometer tape out that we expected to occur between late Q1 and early Q2. That tape out will actually occur in Q2. SG&A costs in Q1 were lower sequentially, reflecting the absence of cost associated with the proxy contest last quarter.

GAAP profit came in at $2.2 million for the first quarter, compared with $1.0 million profit last quarter. This marks our fifth consecutive profitable quarter. Non-GAAP profit was $3.1 million for the first quarter, compared with $1.9 million last quarter.

On the balance sheet, cash and investments increased by $1.1 million in the first quarter to $21.6 million. Inventory decreased slightly to $9.8 million from $10.3 million and accounts receivable was $13.7 million compared with $12.8 million last quarter. DSOs stood at 50 days for the current quarter. The increase in DSO reflects heavy shipments at the end of the quarter. Collections remain excellent.

Now, David Raun will provide further comments on the business.

David Raun

Thank you, Art. Good afternoon, everyone. Although Q1 revenues came in below our midpoint of guidance, margins were higher and expenses were lower. This resulted in higher income than expected and contributed to the fifth straight profitable quarter. In addition we increased cash, saw strong bookings and supported Q2 growth and layered in another solid quarter of new design wins.

Q1 revenues were impacted primarily by two temporary factors. One of our larger customers moved to a vendor managed inventory process, where they worked down their own owned inventories rather than taking draws from our VMI. We expect this customer to return to normal levels in late Q2 or in Q3. We were also supply constrained on some of our PCI Express Gen 2 switch devices due to assembly issues at one of our subcontractors. These assembly issues have been addressed and are not expected to be in limitation this quarter.

Turning to our markets, the storage space, our largest market segment was up slightly in Q1. We also saw encouraging signs as overall bookings for storage increased for Gen 3 switches to support the ramp of new customer programs including a top tier enterprise storage supplier that is in the process of introducing its new product line.

In the previous conference call, I mentioned that our server markets saw growth in the Q4 of last year from some pre-production builds of new Gen 3 systems contributing to our revenue. In Q1 we saw this drop down but we expect business in this area to increase again as these customers go into production over the course of 2014 and beyond. Our networking market was limited by our temporary assembly issues with Gen 2 products resulting in a slightly down quarter. As I mentioned these issues have been resolved and we do not expect them to constrain our growth in the second quarter.

In the embedded space, we saw revenue increases with Gen 2 and Gen 3 products driven by increased shipments in multifunction printers, medical equipment and a broad range of other applications. In the PC and consumer space we saw a temporary decrease in shipments for the quarter associated with the VMI program mentioned previously. However, demand for these PCI Express products remain healthy and as our customer completes its transaction -- transition to VMI, we expect to see revenues from this area increase.

Based on current backlogs, forecasts from customers, and resolution of the assembly issues I mentioned earlier, we expect all our market segments to be up in Q2. Gross margins increased nicely in Q1 based on favorable product and end market mix. Lower shipments in the PC consumer space, combined with a higher percentage of larger switches in multiple markets and some last time buys of connectivity products pushed margins to higher levels.

Although the Company is taking many steps to increase margins over the long term, we expect product mix and margins to return to historical levels this quarter. During the quarter PLX achieved the industry’s first compliance of the PCI Express Gen 3 switches with the PCI Special Interest Group, which is an organization that controls the PCI Express standard. This builds confidence with our customers and supports the ecosystem to encourage design activity using this latest technology.

In terms of design win activity, we saw another strong quarter, with three fourths of all our design wins coming from Gen 3 switches. With limited competition, PLX continues to plant the seeds for future revenue and margin expansion. Our large 48 to 96-lane Gen 3 switches were the heaviest area of design activity in the first quarter. Many of these designs were amid the high-end enterprise storage systems at multiple market leaders. For example, this quarter we announced that Fujitsu is using our Gen3 switches in its high performance ETERNUS DX S3 storage series.

In addition, a broad range of Gen3 switches were designed into various server applications including port expansion on motherboards and backplanes for Blade servers. In the networking space, small to mid-sized Gen2 and Gen3 switches were designed into multiple Line Cards, Routers, Switches and Host Bus Adapters at most market leaders.

In the PC consumer market, we won designs in dual graphics in high-end motherboards intended for gaming. We announced that Acer is using our PCI Express to USB 3.0 Bridge Controller in its new Aspire Z3-600 all-in-one computer family. In the embedded market, we won designs for Gen2 and Gen3 switches as well as PCI Express Bridges in many different applications including multi-function printers, security surveillance, data acquisition, video broadcast and industrial control applications.

Turning to our market expanding ExpressFabric solution; during the first quarter we continued to work closely with customers and partners who we expect to be the early adopters of technology. As previously stated, we expect this PLX innovation to impact PLX revenues in 2015 and more so in 2016 and beyond. ExpressFabric is a disruptive technology within the data center and cloud because it can eliminate the traditional array of costly and power-hungry fabric controllers and switches currently found in many server and storage racks.

The ExpressFabric solution is about one-half the cost and one-half the power of alternative comparable fabric schemes. Although the PLX solution can replace other fabrics within the rack, it can also easily co-exist with them. This allows the adoption of the ExpressFabric without compromising the investment of the greater network within the data center. We expect to sample our ExpressFabric products in Q3.

Reflecting the market and the customer recognition for ExpressFabric, ECN Magazine named ExpressFabric solution as a market disruptor finalist for the 2014 IMPACT Awards. To sum it up we’re existed about our growth prospects for the rest of this year and the years ahead. Although the first quarter revenues were sequentially due to supply constraints and the BMI implementation, bookings in Q1 were up, which is expected to meet the growth in all market segments during Q2.

The weakness we saw in the storage market in the second half of 2013 started to correct itself in the first quarter and our second quarter backlog is building. Older Gen2 products continue to win designs ensuring that our Gen2 switches will provide a significant base of revenues for several years. Furthermore, we are enjoying meaningful benefits of our sizable Gen3 design win portfolio as these designs continue to ramp to volume production and contribute more to revenue. As previously mentioned in past earning calls, our design price is in the hundreds and millions of dollars, and about three times the size it was when we were at a similar point with Gen2.

We expect this will be our main source of revenue growth this year and next. Although connectivity product revenues actually grew in Q1, we expect in 2014 they will continue to decline at approximately the same rate as 2013, but with each year become a smaller part of our business. PLX is becoming more and more a pure play PCI Express Company, driven by leading edge technology.

The combination of higher PCI Express revenues offset by smaller and smaller contributions of connectivity should have allowed PLX’s top line revenue to grow at a greater rate each year. With growth in our revenues, coupled with improving margins overtime and continued tight expense control, we believe that we can continue to deliver enhanced profitability and shareholder value.

With that, let me pass it back to Art to discuss our outlook for Q2.

Arthur Whipple

Thank you, Dave. We expect revenues to be approximately $27 million to $29 million in the second quarter of 2014. Non-GAAP gross margins are expected to return to approximately 56% with GAAP margins at approximately 55%. We continue to expect our non-GAAP OpEx spending to be approximately $52 million in 2014. The quarterly spending will be lumpy. Last quarter we said that we would have a significant tape out cost, either late in Q1 or early in Q2, but for purposes of forecasting we put it into our Q1 spending plan. We now expect that tape-out to occur in Q2. For Q2 we are expecting GAAP operating expense of about $15 million including the tape out and about $600,000 of stock comp and other GAAP items.

Now let me open up the call for your questions.

Question-and-Answer Session

Operator

(Operator Instructions). And our first question comes from the line of Christian Schwab with Craig-Hallum Capital Group. Please proceed.

Christian Schwab - Craig-Hallum Capital Group

Do we still expect PCI Express revenue to grow year-over-year 15% to 25% in ‘14 over ’13?

Arthur Whipple

Yes.

Christian Schwab - Craig-Hallum Capital Group

Perfect. Can you quantify -- we talked about the inventory management issue last quarter. So that was kind of anticipated in Q1. Was that inventory issue a bigger drag than what you anticipated or was it roughly in line and we’re just calling it out again.

David Raun

Just the VMI matter is the only thing.

Christian Schwab - Craig-Hallum Capital Group

Yeah the VMI matter. Was that as planned or was that a little bit -- or was the pullback a little bit bigger than you thought?

Arthur Whipple

It resulted in basically no significant sales of that customer during Q1 and we expect those to return -- those sales to return in Q2.

David Raun

And we also heard that their build plan wasn’t as great as they expected because of either an internal issue or some supply issues from someone else but it seems to be back and running but they’re a little bit behind.

Christian Schwab - Craig-Hallum Capital Group

And can you quantify what the impact on the Gen2, in particular networking wins -- it sounds like with the assembly program, is that closer? Is that 500,000 or 1 million or don’t you want to quantify it?

David Raun

I would say the one thing, if we would have shipped and we were not constrained, we would have grown in that market segment whereas we were slightly down.

Christian Schwab - Craig-Hallum Capital Group

That’s great. And then I just want to make sure I heard it right; it sounded like demand in enterprise storage your kind of largest PCI Express and customer area, that was up sequentially in Q1, did I hear?

David Raun

Slightly, yes.

Christian Schwab - Craig-Hallum Capital Group

Okay. And is that the primary growth driver in Q2, is increased visibility and that’s where the Gen3 design win ramps are?

David Raun

Well we’re seeing, from what we can see we expect all five market segments to grow and storage is one of the contributors and it’s one of our biggest markets of course.

Christian Schwab - Craig-Hallum Capital Group

And then my last question if I may, we talked about on the last conference call, the similarity to when we moved to Gen2 in 2009 and how revenues doubled over the next few years. And you guys talked about over the next several years even though we’re only looking for 15% to 25% PCI Express growth this year, that you’d expect PCI Express to grow close to a historical CAGR of 25% a year. Is that still the game plan?

David Raun

Yes, we think over multiple years, that’s where we believe it will be.

Operator

(Operator Instructions). At this time we have no further questions. I would like to turn the call back over to David Raun for closing remarks.

David Raun

Thank you. Higher gross profits in Q1, combined with lower expenses drove increased income over Q4 contributing to our fifth straight profitable quarter. In addition we increased cash, saw strong bookings that support Q2 growth and layered in another solid quarter of new design wins. We expect solid revenue growth in Q2 led by Gen3 switches as more customers are going to production with this leading edge technology. Thank you for your time.

Operator

Ladies and gentlemen that concludes today’s conference. Thank you all for your participation and you may now disconnect. Have a wonderful day.

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