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Executives

Jen Bernier – Public Relations Manager

Sandeep Vij – President and CEO

Maury Austin – CFO

Analysts

Jeff Schreiner – Capstone Investments

Gary Mobley – Benchmark

Anthony Stoss – Craig-Hallum

Charlie Anderson – Dougherty & Company

MIPS Technologies, Inc. (MIPS) F1Q2011 Earnings Call Transcript October 25, 2010 4:45 PM ET

Operator

Good afternoon and welcome to the MIPS Technologies first quarter 2011 financial results call. Today's conference is being recorded. If you have any objection, you may disconnect at this time. I'll now turn the call over to Jen Bernier, MIPS' Public Relations Manager. Ma'am, you may begin.

Jen Bernier

Thank you. Welcome to the MIPS Technologies first quarter 2011 earnings conference call. I'm Jen Bernier, MIPS' Public Relations Manager. Leading the call today are Sandeep Vij, Chief Executive Officer, and Maury Austin, Chief Financial Officer. After they discuss the business highlights and detailed financial results, we will open the call for Q&A. If you do not have a copy of the earnings release, it is available on our website at www.mips.com.

Before we begin, I would like to remind you that this conference call may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, including projections of certain operating results for the second quarter of fiscal 2011.

Listeners are cautioned not to place undue reliance on this forward-looking information. Many important factors could cause the results to differ materially from those contained in such projections or forward-looking statements. We refer you to the Risk Factors section of the documents that we file from time to time with the Securities and Exchange Commission for factors that would cause the results to differ materially from our forward-looking statements.

In our financial discussions today, we will be referring to first quarter 2011 GAAP and non-GAAP results. MIPS' management believes that non-GAAP information is useful because it can enhance the understanding of the company's ongoing economic performance. MIPS Technologies uses non-GAAP measures in evaluating its financial results as well as for internal planning and budgeting purposes.

The non-GAAP discussed results today exclude stock and non-recurring charges incurred during the period. Please refer to the earnings press release or the Investor Relations page of our website for a reconciliation of GAAP to non-GAAP.

As a reminder, the playback number for this conference call is 203-369-3809 and the access code is MIPS. The recorded call will be available for 30 days after the call. An audio replay will also be posted on the Investor Relations page of our website at www.mips.com.

With that said, I will now turn the call over to Sandeep Vij.

Sandeep Vij

Thanks, Jen. Good afternoon, everyone, and thank you for joining us today. We were pleased with our financial results this quarter, as we continued to see strong momentum and a robust pipeline of opportunities and as we set new records on a number of financial metrics. We wrapped up Q1 with solid financial results, healthy cash flow, and a pro forma operating margin of 44%, surpassing our target of 35% for the second consecutive quarter.

This quarter, we came in above guidance on both licensing and royalty revenue, with overall revenue up by approximately 50% year-over-year. On the licensing side, revenue was up by more than 70% year-over-year showing the continued traction our solutions are having in the market. Royalty revenue increased by almost 40% over the prior year. Our licensees together shipped 157 million units in the quarter, making this our fourth consecutive quarter of record unit shipments. Unit volume was up by approximately 47% over the prior year.

Pro form net income was up by 235% over the prior year, resulting in strong cash flow from operations. Our cash balance at the end of the quarter was approximately $56 million, the highest MIPS has seen since early 2007. Pro forma EPS was also well above guidance, and compared to a year ago, has increased by 3X. We are clearly pleased with these results and with the strong traction we are seeing across our target markets.

This quarter’s design wins included 10 license deals, four of which were with customers who are new to MIPS. We have two new mobile-related design wins with our IUNIKA leveraging MIPS for mobile computing devices such as e-books, laptops and netbooks, and Sequans, a 4G chipset provider using MIPS for their next generation mobile solutions.

We also had two broad deals covering a range of MIPS cores and one architectural license renewal. We are seeing increasing interest and traction in our multi-core offerings. This quarter, we introduced a main superscalar 1074K core, the second multi-core product from MIPS, which provides the industry’s fastest fully synthesizable multi-core IP. It is fast and it is small.

Compared to the ARM Cortex-A9 MP, we have a more than 20% frequency advantage with our custom libraries or process tweaks. And compared to Intel’s Atom, we can fit three 1074Kf cores in the area of a single Intel Atom CPU core. And the 1074K solution provides nearly 2.5X the performance. In a recent article, industry pundit Jon Peddie called our 1074K, and I quote, “the Atom smasher.”

Our traction at the high end continues. We secured three license deals for the new 1074K core this quarter as well as multiple licenses of our multi-threaded, multi-core 1004K product. We expect that we will see increasing interest in our multi-core solutions, as customers look to push the limits of performance while keeping power consumption and silicon costs to a minimum.

At the other end of the spectrum, our M14K core family that is targeted at its small footprint embedded applications is rapidly gaining traction in the market. With 17 licensees in the short six months that it has been generally available. We signed eight licenses this quarter alone. We will publicly announce a significant M14K microcontroller licensee later this week.

As we mentioned in our last call, we have three main target markets; the digital home, where we have a leadership position; wired and wireless networking, where we are growing quickly and mobile, where we are an emerging player. Customers clearly recognize the value that MIPS can provide in our traditional markets and increasingly see that MIPS offers a differentiated and competitive solution for mobile.

As you know, one of the key drivers of our momentum in the digital home as we integrate it with Internet connectivity in just about every consumer product. This means that customers need high end, high performance cores, presenting a significant opportunity for us because of the high performance and power efficiencies inherent in the MIPS architecture.

In networking, we continue to outpace the competition. As more and more data and video content travels across networks, we anticipate that MIPS will continue to be a major force in this market with our high performance multi-core solutions. This quarter, we signed multiple deals in the networking space, including a large recommitment from Cavium Networks. We will publicly announce more details on that deal soon.

As I mentioned earlier, we are seeing increasing traction in mobile solutions. We continue to see opportunities for MIPS in smartphone applications processors because of our work with Android and are also seeing baseband processing opportunities, as many parts of the world begin to transition to 4G mobile networks. There are some clear trends across all of our markets.

As I mentioned, we are seeing increasing traction for our high end cores across most market segments and meet the demands of next generation products. Many of our existing licensees are renewing their commitment to the MIPS architecture. They are not only reinvesting, but are broadening their MIPS core portfolios, signing larger deals for more MIPS cores.

We are also signing increasing numbers of new customers. In Q4 fiscal 2010, 30% of our customers were new MIPS licensees. And this quarter, 40% were new. Taken together with the fact that our existing licensees are reinvesting, this is a positive trend and proof point in the expansion of MIPS business and business and market position today and increasing royalties in the future.

Now I’d like to hand it over to Maury who will tell you about the details of the quarter. Maury?

Maury Austin

Thanks, Sandeep. From a financial standpoint, we continue to post outstanding results in every financial category. Our Q1 revenue was $2 million above our range of guidance, as we achieved better than planned royalty revenues driven by a 9% sequential unit growth. And our sales team turned in yet another excellent performance with $8.9 million in recorded license revenue.

Consequently, our non-GAAP EPS was also well above the range of our guidance, as our leveraged business model effectively converts all incremental revenue to incremental operating margin. We achieved $0.17 a share non-GAAP EPS or $0.07 above our guidance. We ended Q1 with cash and investments of $65.2 million, generating over $6 million in cash from operations during the quarter.

In addition, given the rise in our stock price this year, we had a larger than normal amount of stock option to exercise. This added another $6.6 million in cash inflows during the quarter. So we ended Q1 with about $1.36 per share in cash and investments.

For our first quarter ended September 30, total revenues were $22.5 million, which is a 50% year-to-year increase and a slight reduction from our stellar fourth quarter. Royalty revenue in the first quarter was $13.6 million, a year-over-year increase of 40% and a sequential increase of 10%.

Our licensees reported shipments of 157 million units during the June quarter, 47% higher than the Q1 last year and 9% higher than the previous quarter. This quarter’s royalty units represent another record amount of products containing MIPS technology being sold into the marketplace.

For the second quarter in a row, we exceeded our license bookings expectations. We recorded $8.9 million in license revenue in Q1. This was almost $1 million above the high end of our guidance due in part to us renewing a long-term architecture license with Cavium during the quarter. This represents a year-to-year improvement of 71% compared with the $5.2 million reported in the first quarter a year ago.

Our Q1 GAAP costs and operating expenses were $13.5 million, a decrease of $2.7 million over Q4 ’10. This decrease compared to Q4 was due mainly to lower commission and bonus costs relating to the increased Q4 revenue and the absence of any restructuring costs in Q1 ’11. There was approximately $900,000 in stock comp expenses included in our first quarter operating expenses.

Our GAAP net income from continuing operations for the quarter was $7.6 million or $0.16 a share, representing a significant improvement over the $600,000 or $0.01 a share reported in the same quarter a year ago and compares favorably also to $5.7 million or $0.12 a share in the prior quarter.

On a non-GAAP basis, net income in the first quarter was $8.5 million or $0.17 a share compared to a non-GAAP net income of $2.5 million or $0.06 a share in the first quarter a year ago and a non-GAAP net income of $7.2 million or $0.15 a share in the prior quarter.

Our Q1 ’11 non-GAAP operating margin percent climbed to 44% from 37% in the previous quarter and was a significant improvement from the 23% we achieved in the quarter a year ago. This is the second quarter in a row we exceeded our long-term objective of 35% non-GAAP operating margin.

Looking to the balance of our fiscal ’11, we are increasingly confident in our ability to grow both our royalty and license revenues. In our last earnings call, we mentioned that barring a double-dip recession in the last half of the year, we expected royalty revenue to grow approximately 10% on a year-to-year basis. However, given our better than forecast results in the first quarter, we now expect our royalty revenue to grow approximately 15% year-to-year. We will continue to update the view as we move through the year.

On the license revenue front, our pipeline has continued to build, as we see growth in all and application areas. In our last conference call, we stated that our quarterly licensing revenue opportunity had grown back to the $6 million to $8 million per quarter range. Once again though, given the excellent results of our Q1 selling efforts, we feel that for the next quarter or two, we should be able to achieve quarterly license revenues in the range of $7 million to $9 million.

On the spending side, as you know, we continuously modulate our spending to balance investments in product opportunities with our operating margin objectives. We will likely invest incremental R&D resources in strategic areas, including mobile, if revenues continue to exceed our guidance. As you know, we invest for long-term growth balanced by our operating margin objectives. We have proven over the last three years we can manage spending to deliver continued earnings growth and significant positive cash flow.

On the tax front, our effective tax rate will fluctuate a bit by quarter as our deductions and credits fluctuate, and we now expect our overall tax rate to be in the 17% to 20% for the year.

Based on the current economic outlook for the global semiconductor market and the current strength of our licensing pipeline, we believe total year revenue will now be in the range of $83 million to $86 million and non-GAAP EPS should be in the range of $0.47 to $0.50. As usual, we will provide updates to our total year forecast as we progress through the year. For Q2 ’11, we expect revenue to be in the range of $21 million to $23 million, with non-GAAP EPS to be approximately $0.11 to $0.12 per share.

Now I’d like to open up the call for any questions our investors might have. Operator?

Question-and-Answer Session

Operator

(Operator instructions) Our first question today will be from Jeff Schreiner, Capstone Investments. Your line is open.

Jeff Schreiner – Capstone Investments

Good afternoon, gentlemen. Thank you for taking my call. Great quarter. Maury or Sandeep, I’d like to really start just with the fact that you’ve had some great performance here over the last two quarters and you’re looking at the adjusted pro forma margin that’s getting to a level that’s well above what maybe your prior expectations on a go-forward basis over the next few years. Are we just kind of running hot right now in the near-term or should we be maybe looking to take that number higher from the 35% maybe closer to 40%?

Maury Austin

This is Maury, Jeff. In the short-term, we basically size the company so that we obtain at least a 35% operating margin. For the last two quarters, we have exceeded that. I still use that as a target for the year. If we are able to grow revenues past the level that we just guided to, you might see it float up towards 40%, but 35% is still the stated objective. We just happened to be firing very well on all cylinders right now and over achieved that in the last two quarters.

Jeff Schreiner – Capstone Investments

Okay. Fair enough. The average – if I math is right, the average license deal size went up sequentially for the first time in a while. Should we – given that you raised your expectations, are some of your expectations that you will see maybe kind of a higher average licensing, what you captured from a customer versus maybe what you had previously or if it’s just more deals? How should we look at things with at in terms of the average deal size and maybe the number of deals going forward?

Sandeep Vij

I think the number of deals going forward is roughly similar to what we’ve achieved the last quarter or two. I would also say the average deal size is increasing. As we’ve noted for the last probably two to three quarters, the traction that we see on the high end products, which typically have higher ASPs, we see more high end products being sold and more – I don’t know what say a bundle deal, but deals that included a number of our cores including the high end. So I would expect the average deal size to go up incrementally over the next couple quarters with a number of deals being about 10 plus or minus two.

Jeff Schreiner – Capstone Investments

Okay. Finally question from me, I’ll get back in the queue. Sandeep, what are we looking at this year? I know the mobile is starting to become a big focus of MIPS and things have begun to look very positive. But what percentage of maybe the total fiscal year ’11 revenue estimate that you gave us are going to be derived from mobile handset, mobile-based products this year? Could you help us out with that?

Sandeep Vij

As far as this year, I mean, the royalties I think are going to be very marginal, very small right now. We’re still in the licensing phase. And we’re starting to get good traction, and more importantly, continued traction. So I think every quarter we’ve announced at least one new mobile customer. And that’s good. And we are of course engaged to the number of customers. And we are hoping to get more licenses as we move into the future. So I think it will add to our licensing revenue, but the royalties will go on in future years.

Jeff Schreiner – Capstone Investments

Okay. And just as a quick follow-up to that, is it around nine to 12 months after you sign a license agreement that you typically should have a product ready in the mobile space?

Sandeep Vij

Yes, it’s quicker than it is in digital home. So it would be somewhere in the range of maybe 12 to 15 months depending on how quickly our licensees can develop their chip.

Jeff Schreiner – Capstone Investments

All right. Thank you, gentlemen, very much.

Sandeep Vij

Thank you.

Operator

Our next question comes from Gary Mobley, Benchmark. Your line is open.

Gary Mobley – Benchmark

Hi, guys. Congratulations on the quarter. I was most curious about the licensing pipeline. How does the pipeline compare now to that of what you had on August 4 the last time you had clearer results?

Sandeep Vij

I’d say it’s even stronger than before.

Gary Mobley – Benchmark

And with that pipeline, what’s the main driver? Is it the application processes the company is trying to catch up with the Android product cycle or is it just the general success of your high-end cores?

Sandeep Vij

You know what? I think it’s broad-based. We are definitely increased traction of our high end cores across a number of end markets. And as I mentioned before, we are seeing a lot of new customers than before. I mean, this quarter 40% of our customers renewed. The prior quarter, 30% of the customers renewed. So we’re trying to new – new names show up, and that’s I think it’s good and healthy for the business.

Gary Mobley – Benchmark

Sure. Not sure what you would be willing to share on this topic, but I’m wondering if you had any initial dialogue with Broadcom, now that they are acquiring one of your licensees, Beceem. Based on those discussions that you have had, what’s the likelihood of that Beceem baseband chip continuing to be based on MIPS?

Sandeep Vij

We have continuing discussion with Broadcom all the time. They are, of course, our largest customer. Beceem has been a very long-term customer of MIPS also. That’s about all I can say about that right now.

Gary Mobley – Benchmark

Okay. And the R&D was down quite a bit on a sequential basis. I don’t know all the nuances of the different severance charges during the fourth quarter. But how do you feel about the R&D spending right now? Is it running at an adequate level?

Maury Austin

So R&D spending will most likely trend up over the quarter as we complete FY ’11. That’s basically the cost lever that we will tweak to balance the increased revenues with the 35-ish% pro forma op margin. If you’ve ever worked in a company with engineers, there’s always more projects that they want to undertake. And luckily we have profitable endeavor we could fund. We just have been modulating that to maintain the 35% op margin target.

Gary Mobley – Benchmark

Okay. And with the stock price at the $10 per share, what is your best estimate to the fully diluted share count accounting for all those options that are now in the money?

Sandeep Vij

That’s the estimate at that point in time.

Gary Mobley – Benchmark

How about you just focus on the second quarter, current second quarter?

Sandeep Vij

Probably 50 million to 51 million.

Gary Mobley – Benchmark

Okay. All right. Thank you, guys.

Sandeep Vij

Thanks, Gary.

Maury Austin

Thanks, Gary.

Operator

Our next question is from Anthony Stoss, Craig-Hallum. Your line is open.

Anthony Stoss – Craig-Hallum

Hi guys. Also congrats from me. Couple of quick items here. The royalty line was exceptionally strong, which is good to see. Can you comment about any particular area that was stronger, or just give us a sense of where that strength was coming from? I have two follow-ups also.

Sandeep Vij

The two drivers for the quarter, we had a little bit of deferred revenue that we were able to take during the quarter based on a shipment that we made during the quarter. And the other area of strength was actually DTV, one of our large fast-growing Asian DTV suppliers, did well during the quarter for us.

Anthony Stoss – Craig-Hallum

Okay. Maury, I don’t know if I missed it, but could you give us a sense of kind of the December operating expenses on a ballpark range?

Maury Austin

December – so this quarter, the one right now?

Anthony Stoss – Craig-Hallum

Yes.

Maury Austin

The only guidance that we gave was just the $0.11 to $0.12 EPS and $21 million to $23 million [ph] revenue level.

Anthony Stoss – Craig-Hallum

Pro forma $0.11 to $0.12?

Maury Austin

Yes.

Anthony Stoss – Craig-Hallum

Okay, thanks. And then if you would remind whatever color you can give us on the deal on the MTU side, is that revenues or license agreements going to hit December revenues or is that already in the September license column?

Maury Austin

I think Sandeep mentioned a M14K to close later on in the week.

Sandeep Vij

It’s not in the Q1 revenue number.

Anthony Stoss – Craig-Hallum

Okay. And lastly, any additional ISA agreements that are close or that are still outstanding?

Sandeep Vij

Not that we are announcing at this time.

Anthony Stoss – Craig-Hallum

Okay. I know you guys are working on a few. Last, but not least, Maury, what percentage of revenues was Broadcom? And I’ll jump back in queue. Thanks.

Maury Austin

About 15%.

Anthony Stoss – Craig-Hallum

Great. Thanks, guys.

Maury Austin

Thanks.

Operator

(Operator instructions) Our next question will be from Charlie Anderson, Dougherty & Company. Your line is open.

Charlie Anderson – Dougherty & Company

Good afternoon, everyone. Congrats on the quarter.

Sandeep Vij

Thanks, Charlie.

Maury Austin

Thanks, Charlie.

Charlie Anderson – Dougherty & Company

So why don’t I go to just couple quick housekeeping items. Maury, you just said $7 million to $9 million on the license side for Q2. Should we think about that being sort of the range for the rest of the year? And then also, wanted to sort of unpack your royalties guidance in terms of what’s the unit growth here assuming an ASP progression you are assuming there?

Maury Austin

So the $7 million to $9 million is for Q2, Q3. Q4 is a little bit out of the visibility range. But the prior quarter, we did, say, $6 million to $8 million was good for the year. We still stand by that. We have a growing backlog. So for at least the next two quarters, we’ve done a nice good work. On the royalty side, I think if we go back into the map of $7 million to $9 million license target, you will get our growth assumption. I’m being fairly conservative in the second half of the fiscal year on a royalty growth level. We said 15% year-to-year revenue growth. So that translates into just off of 20% unit growth with about a 5% ASP erosion over the year.

Charlie Anderson – Dougherty & Company

Got it. Great. And then Sandeep, I want to ask you about why you are winning some of these baseband deals? You have done Beceem and Sequans, now two very good wins there in 4G initially. What is sort of separating you from the pack do you think so far?

Sandeep Vij

Well, I think what’s happening is a lot of customers in mobile and I believe that they do have an alternative. They like having that. They love the technical capabilities of the MIPS core. It allows them to have good technical differentiation. And we work very hard to engage, lift and support the customers, and it’s paying off.

Charlie Anderson – Dougherty & Company

Great. Thanks so much, guys.

Sandeep Vij

Thanks.

Operator

At this time, I show no further questions. I would now like to turn the call back to the speakers for closing remarks.

Sandeep Vij

Thanks again for joining us today. We had a strong quarter with solid results and a number of new records. Looking ahead, we are seeing strong pipeline of opportunities and sustained momentum. Existing licensees continue to recommit to MIPS for next generation designs and there are increasing numbers of new customers moving to the MIPS architecture. Of course, we anticipate that the increased level of license revenue that we are currently experiencing will lead to increased royalty revenue over time. There is increasing innovation around the MIPS architecture from team MIPS.

Our partners and architectural licensees such as Broadcom, Cavium Networks, ICT Team, NetLogic, Renesas, Toshiba, and others, who are creating new innovations in ecosystem around MIPS that will lead to even greater proliferation of the MIPS architecture. One final note is that this Thursday, Maury and I will be in New York to ring the opening bell of the NASDAQ stock market. This is a great opportunity to celebrate our continuing momentum. A link to the live ceremony will be available on our website. Operator?

Operator

Thank you. This concludes today’s presentation. You may disconnect at this time.

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