Applied Micro Circuits' (AMCC) CEO Paramesh Gopi on Q1 2015 Results - Earnings Call Transcript

Jul.29.14 | About: Applied Micro (AMCC)

Applied Micro Circuits Corporation (NASDAQ:AMCC)

Q1 2015 Earnings Conference Call

July 29, 2014 5:00 PM ET

Executives

Traci Tsuchiguchi – IR

Paramesh Gopi – President and CEO

Doug Ahrens – VP and CFO

Analysts

Matt Ramsay – Canaccord Genuity

Ambrish Srivastava – BMO

Rick Schafer – Oppenheimer

Christopher Rolland – FBR Capital Markets

Christopher Longiaru – Sidoti & Company

Krishna Shankar – ROTH Capital

Mike Lucarelli – Evercore

Hans Mosesmann – Raymond James

Operator

Good day, ladies and gentlemen, and welcome to the first quarter 2015 Applied Micro Circuit Corporation earnings conference call. My name is Kim and I will be your operator for today. At this time, all participants are in a 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, Ms. Traci Tsuchiguchi. Please proceed.

Traci Tsuchiguchi

Good afternoon, everyone, and thank you for joining today’s conference call. On the call with me are Dr. Paramesh Gopi, our President and CEO, and Doug Ahrens, our Vice President and CFO.

Before we begin, I would like to remind you that various remarks that we make on this call, including those about future financial results, including revenues, gross margins, operating expenses, design wins, product plans, our competitive situation, market trends, statements about future development, production and adoption of X-Gene, X-Weave and other products and our anticipated growth and profitability all constituted forward-looking statements for the purpose of the Safe Harbor Provisions under the Private Securities Litigation Reform Act.

These forward-looking statements and all other statements that may be made on this call that are not historical facts are subject to a number of risks and uncertainties that may cause actual results to differ materially. We refer you to the most recent Form 10-K filed with the SEC, in particular, to the section entitled Risk Factors and our other reports that we may file from time to time with the SEC for additional information on factors that could cause actual results to differ materially from expectations.

These forward-looking statements speak only as of the date hereof and we disclaim any obligation to update them. I want to point out that Applied Micro has several analysts that cover our stock and this creates a range of variability relative to Street financial models. When we say Street estimates, we mean a consensus of the major analyst models and not necessarily the guidance that was given by the company.

With that, I will turn the call over to Paramesh.

Paramesh Gopi

Thanks, Traci. As you’ve seen in the earnings release, our June quarter results came within our guidance range, albeit at the lower end of our revenue expectation. This was primarily due to a sharp decline in our legacy embedded PowerPC business. I’d like to point out that we have noted this trend in previous earnings calls.

Connectivity sales, however, were very strong this past quarter and ensured that our base business would continue to support investment in our X-Gene server and our X-Weave growth initiatives.

The June quarter was outstanding for X-Gene in many respects. It was the first quarter in which we recognized revenue for X-Gene. Importantly, I’m pleased to announce that both X-Gene and X-Gene 2 are fully on track.

Purchase orders continue to come in and we are building backlog for X-Gene units. We are very pleased with the reports from our partners and customers of improved total cost of ownership, or TCO, and system performance attained using X-Gene.

Contribution from X-Gene is growing every quarter and we continue to expect meaningful revenue from X-Gene in the second half of our fiscal year, December or March quarters.

Consistent with what we’ve talked about on prior calls, our view of meaningful relates to marketed option. In our view, the deployment of 10,000 X-Gene arm servers represents a meaningful market shift.

I am also happy to report that our 28 nanometer X-Gene 2 sampled this spring. X-Gene 2’s differentiated scale out feature set including RDMA over Ethernet is performing as expected. This past quarter, X-Gene was embraced by the super computing industry as a viable solution capable of addressing the needs of massive high performance computing or HPC systems.

Various customers and partners publicly validated X-Gene’s performance and TCO advantages for super computing environments. This leaves no doubt that X-Gene is, in fact, a high performance server class processor.

The work we started 12 months ago with our HPC partners in (inaudible) as well as the HPC scientific community enabled us to unveil the world’s first ARM v8 HPC production platform at the International Super Computing conference in Leipzig last month. I would like to note that this is the first ARM platform that meets the performance requirements of the HPC community.

I highly encourage you to go to www.apm.com to see Sandia Labs, Hewlett Packard and APM talk about the benefits and excitement about running HPC workloads on X-Gene. You can also view a panel discussion where partners (inaudible) and ARM as well as HPC end customers discuss their positive experiences with X-Gene-based platforms.

HPC customers and OEMs have very stringent criteria to adopt new technology. Performance, production worthiness and architectural superiority are key to their selection process. X-Gene’s architectural advantages are driving adoption in the super computing space. These include brawny cores, wide memory bandwidth and high speed IO, all of which are integrated onto a single piece of silicon.

As it turns out, the needs of the HPC market and the needs of more mainstream datacenters are very similar. Like big data and other cloud and enterprise workloads, HPC workloads are highly parallel and are memory and IO constrained. The integration of high performance networking and storage along with the mix signal IO make X-Gene optimally suited for large, dense HPC (farms).

Consequently, HPC has a large tangible market expansion opportunity for X-Gene as evidenced by the number of customers that have announced X-Gene-based HPC platforms.

Earlier this month, on the other side of the globe, we hosted an oversubscribed event in conjunction with Computex in Taiwan where numerous tier one OEMs demonstrated their X-Gene platforms that target various datacenter workloads. This proliferation of X-Gene platforms (touched) in the Taiwan OEM community is significant because OEMs rarely invest in platform development unless there is end customer demand. All of this, we believe, signals X-Gene’s momentum and reflects the size and growth of our opportunity funnel.

In addition to the progress we are seeing on the OEM front in Asia, we are very excited about developments of some of the major Chinese hyper scale companies who have completed their benchmarking on X-Gene platforms and are currently in the process of putting their internal software and applications onto X-Gene.

We are nearing an inflexion point in the process of commercializing what has been a long-term endeavor to build a revolutions server on chip solution and create a brand new category.

X-Gene is now synonymous with ARM in the server market, representing ARM’s entry into the datacenter as the only production silicon available today. X-Gene was designed to address the needs of cloud and hyper scale datacenters and remains differentiated by the following factors.

Number one, brawny, custom, general purpose processor course capable of seamlessly running all mainstream cloud workloads. X-Gene does not require partitioning or segmenting workloads into various appliances. This is critical for hyper scale customers that reuse servers for various applications over time to extend the useful life of their hardware investments. It is also table steaks for those who do not know what requests will hit which servers at any given time.

Number two, X-Gene is a highly integrated, monolithic server on a chip. In other words, it’s a single piece of silicon, not a stack (dye) or a multichip package. It takes what are now four discrete components: the processor, the chip set, the network interface card and the board management controller or BMC and combines them onto a single dye. This significantly benefits power consumption, physical density and system level performance, which enable a dramatic 50% PCO reduction for cloud workloads.

Number three, the ARM 65 bit ecosystem has been developed and optimized on X-Gene because of our differentiated time to market advantage. We have grown increasingly confident in our ability to preserve this lead. All subsequent offerings will have to pass the time consuming and laborious testing and validation hurtles which X-Gene has already passed. This can take anywhere from a year to 18 months after the availability of functional silicon. We believe that by the time others are out with their first generation products, X-Gene will be nearing production of its third generation solution.

Now, with initial production units shipping and a broader funnel of production shipment in the fall, I’d like to remind you of the five steps to commercial deployment that we outlined in our previous earnings calls.

Steps one through four represent the major milestones towards commercialization that X-Gene and any other subsequent ARM 64 bit silicon provider will have to complete in advance of commercial deployment.

The number and types of our customers who are now in step four or pilot production has continued to grow and now includes customers from all major classifications we have defined, including OEM, hyper scale, networking and now high performance computing.

The two events that need to occur in order to move customers from step four to step five, commercial deployment are, A, receive the production silicon. As mentioned previously, we have started to ship production X-Gene units and, B, customer insertion point decisions. These are based on our customers’ internal software schedules and their key ecosystem partner software customization deliverables. We believe that as we continue to execute to our X-Gene roadmap, major tier one OEMs and ecosystem partners will have less incentive to consider competitors’ ARM-based product offerings as they will have to repeat the entire platform development and software validation process with no obvious performance or TCO benefits.

As you’ve seen, the ecosystem runs ARM 64 bit and X-Gene continues to make significant progress towards commercial deployment. We are very excited to note that (inaudible) demonstrated open stack on a production X-Gene cluster managed by (Ju-Ju), their leading open source cloud management and provisioning framework. This signals X-Gene’s readiness for the growing (SDM) datacenter market.

We are also pleased to note that Oracle’s JDK has a managed beta program underway. This is key for broad enterprise adoption. Finally, we anticipate Red Hat to launch a managed beta program in the very near future for enterprise Linux. This will complete the readiness for the ecosystem for enterprise and private cloud deployments.

I would also like to share with you another important aspect of our ARM 64 bit product leadership and it has to do with the embedded processor space. I’m excited to share that we have secured multiple flagship tier one design wins in the ARM v8 embedded space for high-end data center and service provider platforms. This is directly attributable to our first mover advantage with the production released ARM 64 bit implementation.

We are particularly heartened by these design wins as they represent the fact that APM is the only provider of production worthy and enterprise grade ARM v8 64 bit solution today. Stay tuned for a formal launch of these exciting new products in the very near future.

Consistent with our prior comments, I’d like to summarize our computing business dynamics going forward. While the legacy PowerPC business is in decline, our embedded ARM 64 bit family of products is poised to provide compensatory revenues and fuel future growth in our base business. This is the result of already secured tier one flagship embedded design wins with an actively growing funnel.

Now to our connectivity business, our X-Weave family of products represents our newest offerings and will serve as a primary growth vehicle for this market in the years ahead. In fact, we have started to ship pilot production volumes of X-Weave 28 nanometer products and are on track to deliver production 28 nanometer X-Weave units to tier one customers in the December 2014 and March 2014 quarters.

Most importantly, cash flow from our base business will continue to support X-Gene and X-Weave development and production efforts. With that, let me turn the call over to Doug.

Doug Ahrens

Thanks, Paramesh. The June quarter consolidated net revenues were $50.3 million, towards the lower end of our guidance range. Computing revenues were approximately $18.9 million, which declined more than expected due to weaker legacy PowerPC sales. We are finding that revenue from the oldest products is declining rapidly. Many of these products are over 10 years old and are part of the legacy IBM embedded PowerPC acquisition that the company made many years ago. The recent uncertainty regarding IBM’s foundry business and its possibly sale to Global Foundries has impacted customer behavior causing an acceleration of the transition away from the PowerPC architecture. This has resulted in the decline of this legacy business to be more front-end loaded in our fiscal year than originally expected.

Importantly, the June quarter was the first quarter in which we recognized revenue for X-Gene, which approached $1 million. This is important in that it signifies the beginning of the ramp of our new flagship product. Because this is a new category, we felt it would be helpful to provide more granularity into the starting point of the X-Gene ramp. However, we do not intend to break out X-Gene revenue beyond this initial ramp as it is part of our computing business.

Connectivity revenues were approximately $31.4 million. In the June quarter within connectivity, we experienced strength across the board, including 40 and 100 gigabit Ethernet products. We continue to invest in connectivity and leverage our IP to develop innovative, integrated solutions.

In terms of geographical split, sales to North America counted for approximately 38% of total revenues. Sales to Europe contributed 10% and sales to Asia contributed 52%. In the quarter, three customers accounted for more than 10% of our business: global logistics support vendor Wintec and distributors Avnet and Peltec.

Distributor revenues for the June quarter were approximately $30.9 million. Non-GAAP gross margin in the June quarter was 59.8%, above our guidance range due to the more favorable mix of revenue toward higher margin connectivity products relative to our expectation. Our first quarter non-GAAP net income was $155,000 or break even on an earnings per share basis. Our non-GAAP financials exclude certain items required by GAAP.

Our net loss on a GAAP basis was $13.1 million or $0.17 per share versus net income of $23.1 million or $0.30 per diluted share for the prior quarter. The complete reconciliation between GAAP and non-GAAP financials is available on our first quarter earnings release, which can be found in the Investor Relations section of our website. Please note there’s no reconciliation relating to forward-looking statements.

Channel inventory, excluding certain non-cancellable, non-returnable orders, was 80 days, up from 47 days in the prior quarter. The increase in days of inventory was broad based across our product lines.

Turning to the balance sheet, our cash and short-term investments totaled $98.6 million, down from $106.6 million in the prior quarter, in line with our expectations. Inventory levels were $20.7 million, up from $18.9 million in the prior quarter in preparation for the upcoming commercialization of X-Gene.

Now, turning to our payments related to the Veloce acquisition, during the June quarter Veloce payments were comprised of $6.4 million in cash and $300,000 in stock. To date, we’ve paid a total of $160.8 million out of the maximum Veloce merger consideration of $178.5 million. Importantly, cash flow from operations was break even during the June quarter, excluding the merger consideration paid to Veloce.

With regard to guidance for the September quarter, we expect revenues to be in the range of $42 million to $46 million and our backlog coverage as of the date of this call is over 70%. Book to bill ratio in the June quarter was below one. This comprehends our expectation that legacy PowerPC revenue will continue to decline rapidly. We believe the embedded computing business is approaching the bottom as the majority of the oldest products will have reached end of life. This guidance also accounts for a pause in connectivity following the very robust June quarter. We view this as a recalibration of our base business upon which X-Gene can grow.

We expect gross margins in the range of 60% to 63%. Our gross margins in the September quarter are expected to benefit from the forecasted mix between the connectivity and computing businesses.

Non-GAAP operating expenses are expected to be in the range of $28 million to $30 million. We expect earnings per share to be a loss of minus $0.02 plus or minus $0.01 on a non-GAAP basis. Furthermore, we expect the share count to be in the range of 78 million to 81 million shares.

Importantly, the cash flow from our core business continues to enable us to invest in X-Gene and X-Weave development through commercialization. Now, I’ll turn it back over to Paramesh for some closing remarks.

Paramesh Gopi

Thanks, Doug. In conclusion, we’d like to leave you with the following. X-Gene is on track. We commence initial shipments of production silicon. Purchase orders continue to build and we have backlog.

Our 28 nanometer X-Gene 2 has started to sample and X-Gene 3 design work is well underway. We will host a timely analyst event in conjunction with ARM TechCon in the fall. We hope you will all be able to join us. We will also be participating in the (Rod Semi) conference as well as the Deutsche Bank Technology conference in September.

With that, I’d like to open up the call for questions. Operator.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of (Cody Akriv – Syndian Capital). Please proceed.

Cody Akriv

Thanks, guys, for taking the questions and congrats on getting X-Gene initial revenue. I guess, Paramesh, to the extent you can, you said material revenue about 10,000 units. In your guidance for the September quarter, can you give us any color on the contribution you expect for X-Gene?

Paramesh Gopi

I think what I wanted to make sure that we’re very clear about is, A, we’ve already shipped about $1 million of revenue, which was not ever anticipated or disclosed to the Street, number one. Number two, we said that we have meaningful backlog. Number three, we clarified what meaningful would mean because it’s not just us but the entire category reaching 10,000 ARM equal X-Gene servers in the market. So suffice it to say that there is backlog today on the books for X-Gene both in the September quarter and December quarter as well as March quarter.

Cody Akriv

And can you talk more about that step, that fifth step to material revenue? So they now have production availability of silicon. What is the… I know it’s different for every customer and every software suite but the time that it takes to get this done for customers?

Paramesh Gopi

So let me go back and talk to you a little bit about the four markets. I have always said that, too. The guys that own their own datacenters, those are the guys that we have the least visibility into because they will do things per their internal cadence. HP and Dell, they’ve publicly said where they are. They’ve actually publicly gone on record, HP has at least last quarter after (ISE) talking about how excited they are about X-Gene, the platforms and the types of workload that they’re talking about. On the networking side, we’ve always maintained that that was a very important part of our business going forward and there’s been huge progress there. All the software hurtles have been removed.

And the fourth piece, which is really neat is the HPC piece. So I want to clarify one piece on the HPC side. Nvidia and the entire, I’ll call it, scientific computing community have actually benchmarked and have equated based on the HPC. It is a high performance computing benchmarks us to Xeon E5. So there’s no doubt that there’s no performance hurtle that we haven’t met that the industry requires for us to see the type of traction that we are seeing, right.

So from an ecosystem point of view, we’ve always talked about it. If you go back and look at the last three calls, we’ve talked about compilers, we’ve talked about Java, we’ve talked about Red Hat, we’ve talked about (Connonicle). And all of the… if you were to look at the time sequencing of all of this, we are here today because of all that work.

Cody Akriv

And then lastly on X-Weave… thanks for the update there but I think in previous calls you’d said that you expected that to ramp to material revenue at about the same pace as X-Gene. Is that still the case? It sounds like maybe that is just a little bit behind where X-Gene is tracking.

Paramesh Gopi

I think we’ve always maintained that we would have X-Gene revenue this fiscal year and as far as X-Weave, I think we told you on the last call, if I recall correctly, we’ve already shipped samples… engineering samples of 28 nanometer X-Weave to our tier one customers. What we’re telling you is that we will start to ship pilot production and production units towards the second half of our fiscal year, right on track, no change.

Cody Akriv

Okay, great. Thank you, guys.

Operator

Your next question comes from the line of Matt Ramsay from Canaccord Genuity. Please proceed.

Matt Ramsay

Yes, good afternoon, guys. Thanks for taking my questions and, again, congratulations on the first revenue from X-Gene. Paramesh, a couple ecosystem questions, you sort of laid out the compelling case there of why X-Gene would be appropriate for HPC workloads. I wonder if you could give a little color of what in that ecosystem of HPC for the server space has changed over the last three, six months because at least from my point of view it didn’t seem part of the initial X-Gene TAM you guys were targeting and now you’re very bullish with some new partners in that space. Thanks.

Paramesh Gopi

Really good question. What has changed in the last probably six months? So a year ago, as you probably know, HPC is primarily dominated by E5 and E7 type Xeon processors. That’s fact, right.

About a year ago we started discussions with two of our partners, Nvidia and Mellanox, because obviously the HPC community is looking for bigger, denser, lower energy clusters that they want to deploy. And one of the big things that the HPC environment offered us, either through HP’s moon shot initial kind of testing that they did with our cartridges almost a year ago now was a very interesting point of view into the fact that the software is all open source. It’s all the same LAM stack, so it’s Linux, Apache, (inaudible) and PHP.

In fact, I was reminded by some folks at CERN that I met about three weeks ago that they invented the web, so it was an interesting coming back to see datacenters from where they started. So the same software stack and the software readiness that we saw for the mainstream datacenter ecosystem is fully applicable to the HPC space.

Having said that, the biggest challenge is how do we make sure that we can play nicely with the two key incumbent connectivity and I’ll call it DSP or very, very high mathematical compute engines that exist in that space?

So the biggest work that happened there is that we have to actually get drivers for the Nvidia graphics engine supported onto our X-Gene platform as well as really work with Mellanox to really get to where we can see latency that are comparable to Xeon based architectures that are shipping today.

And if you were to go and look at what happened at ISE, the entire scientific community was taken by storm because they couldn’t believe that an ARM could perform like an E5 and we had… they had us look at HPC benchmarks. They had us look at a whole bunch of other benchmarks and data speaks the most loudly, right.

So it was very clear that it’s equivalent in performance to a Xeon. So I think all of the claims that we could not really talk about in terms of the datacenter access that we were getting with our key tier one OEMs, kind of got rung out by the scientific community and put up for everybody to see, so.

Matt Ramsay – Canaccord Genuity

Thanks. That’s really helpful. I guess for Doug, maybe a couple longer-term questions. I guess I appreciate the PowerPC declines and the guidance you’ve given for the next quarter, but you had laid out some longer-term guidance profiles in the not-too-distant past about doubling the company’s revenue from an X-Gene ramp with a certain time table and also the legacy I guess combined businesses before X-Gene remaining flat as a foundation.

Maybe could you give some updates if those two guidance points still stand and the timeframes on those and any color at all around a ramp trajectory? I know it’s tough to give but anything like that would be super helpful from our perspective. Thanks.

Doug Ahrens

Sure. So just looking at the September quarter, first of all, and we talked about the structural decline in the oldest PowerPC products now pretty much running its course here. And so we also see that pause in the connectivity side and that leads to our guidance for the September quarter.

And then you start to see X-Gene, meaningful revenues coming in in the second half of our fiscal year and then the long range objective we’ve put out there is to double the size of the company within three years and that is very tenable given the bottoms up… the sockets we see out there and the design win opportunities customer by customer. We can see a clear path to that goal in the next three years.

So the early stages, of course, are hard to call given this is a brand new category. And we haven’t put a slope on that line. We’ve just given you a starting point and an objective that we see a clear path two, three years out.

Paramesh Gopi

So to add to Doug’s comments, I want to make one thing very clear. We’re not changing the view that I had about nine months ago saying that we are on track to doubling the company’s revenue. Remember I talked about the average run rate I think over the last four quarters like was $200 million or so. So we’re not changing, at least from a view point of view, we are not changing that target for ourselves, number one.

Number two, I want to remind you that we are now in possession of secured design wins in the embedded space that are now firm. In fact, because of our leadership in the server space, we have been able to essentially really drive ARM into the embedded networking space. So that should provide you a real substrate to understand the fact that our base business after this PowerPC inflexion point will have a very, very tenable path to growing because we will drive that embedded business with the secure design wins that we have and that’s just the tip of the iceberg on the embedded stuff.

Matt Ramsay – Canaccord Genuity

Thanks very much, guys. I’ll get back in the queue. Appreciate it.

Operator

Your next question comes from the line of Ambrish Srivastava from BMO. Please proceed.

Ambrish Srivastava – BMO

Hi, thank you. I had a quick couple ones for Doug and then for you, Paramesh. For Doug, why is inventory in the channel jumping around so much? It was down to 47 and then back up again. And then on the guide for September and looking at the PowerPC related legacy business, are you calling a bottom in September and you expect that piece, that bucket to start to move back up again?

Doug Ahrens

So I’ll answer the questions in the order you gave them. So regarding the channel inventory, we did reach a very low level in the prior quarter, so 47 days is historically very low for us and it’s now up to 80. And it was pretty broad-based but I can give you a couple of examples to give some color.

So for example, the older PowerPC products, the sell through slowed down quite a bit. So the inventory did not move through as expected. That’s one example. Another one is there’s been high demand for our connectivity products in Asia. Sell through has been pretty good but what you see is a lot of demand for those products. We have filled those orders and the June quarter was very robust and now we see kind of a pause heading into this quarter. So those are two examples contributing to that. But it was broad-based, as we said.

Regarding the PowerPC trend and whether that’s hit the bottom, we are approaching the bottom here because of the fact that the oldest PowerPC products have essentially reached end of life by the September quarter. There’s still some in there but it’s getting quite small. So now you’re getting down to some PowerPC products that are TSMC based rather than IBM based that still have several years of life in them and so those create the new base for the PowerPC business and then we get to the embedded ARM products down the road that Paramesh talked about, which resumes the growth in computing with just the embedded space alone and then you add X-Gene on top of that before the computing segment.

Ambrish Srivastava – BMO

Okay. And then for you, Paramesh, clearly on the ARM based server front, you have been ahead of the competition and we have maintained that. But now that you have actual products out there, one question is… first question is what are you seeing in terms of response from Intel? And the second question, I’m just scratching my head because the ARM based servers, it’s such a big cornerstone off of what you guys have been doing for the last not just one year, two, three years. Why are you saying that after this quarter you will not break out the revenues for ARM based servers?

Paramesh Gopi

Maybe I’ll answer your last question first, because between our embedded business on the ARM front starting to gain traction and design win funnels and X-Gene, they’re all part of our computing businesses. One of the things that we wanted to make sure that we categorically take away from all investors’ minds and perception issues is that there is no more hurtle in terms of our product delivery or factors under our control to tip the market. I want to be categorical here.

We are shipping production parts today. These are all 2.5 gigahertz type parts. They’re all fully production worthy. They’re going to tier one guys. So there’s no notion of is this real or is this not real. That is the only reason that we wanted to make sure that we are categorical about breaking it out and giving you granularity in terms of what has already happened a quarter earlier than we ever said anything would, right.

As far as the second piece and Intel is concerned, from our perspective, we have a very unique view in terms of what makes the key pieces of what we are putting together really shine and part of that is, again, I come back to the fundamentals. Most of the cloud workloads, as has now been evidenced outside any datacenter operator but you can go check the data… it’s all there. Look at the HPC benchmarks. Look at how much IO. Look at the latency that we get even with InfiniBand and Mellanox and Nvidia today. If you look at the leading platforms that are shipping today with E5s, the latency bounds in terms of fractions of a microsecond for communication across CPU and memory and IO along with HPC benchmarks that talk to you about the performance of memory streaming subsystems are all visible to all parties.

Therefore, from our perspective, that whole notion of we’ve now… we are beginning… we can talk about competing. Let me try this on for size, right. We have parts that are non (inaudible) that are competing with leading edge (inaudible) parts. That was the whole premise of what we are trying to build, so.

Ambrish Srivastava – BMO

Okay, thank you.

Operator

Your next question comes from the line of Rick Schafer from Oppenheimer. Please proceed.

Rick Schafer – Oppenheimer

Hey, guys. I guess I’ll start off with a follow-up to the last questions and that’s just, Doug, I don’t know, or Paramesh, if you guys would care to put a dollar figure or a timeframe around where you sort of see the PowerPC business kind of stabilizing or bottoming out or however you want to phrase it. I mean, is it two quarters out or can you just some kind of… frame it up some way?

Doug Ahrens

So we, of course, don’t give guidance past one quarter but trend-wise I can tell you that we see that we are approaching the bottom or very, very close to it, if not already there by the September quarter.

Rick Schafer – Oppenheimer

Okay. Okay. And maybe just a high level question for you, Paramesh. I’ve been asking myself this question for a while but why do you think the overall kind of datacenter, cloud center market has been slower to take off just generally speaking?

Paramesh Gopi

I think that’s a question of relative view. I think there was a lot of expectation, Rick, set very early on, two years ago if you look at what was set out there by people like Cal Data, 32 bit stuff. I mean, I can go back. I can look at our earnings transcript calls and questions that were asked me about how do you compete with people like Cal Data and saying that they will have revenue end of two years ago?

So I think it takes a lot of time to build a mature product and I think we have learned a lot that you cannot have Power Point and you cannot live on false claims. I mean, I’ll give you an idea. Nvidia, Mellanox and the scientific community, you’re talking about DOD types here. They don’t run anything frivolously, okay. So mission critical applications, scientific computing applications are very data driven. And data driven means production worthy parts at speed, at test.

That’s why I’m saying if people have not experienced what it takes to bring a server class market part to production and if you have never built and (inaudible) six before, I invite you to go through the, I’ll call it the pain, to go get something done, which is why I want to emphasize the amount of confidence we feel in our lead to get this market started, right.

Rick Schafer – Oppenheimer

Got it. And just one more and I’ll try to ask this a different way. But is there any way you can give us a sense? Maybe it’s a rough idea of the number of POs that you have out for X-Gene right now or an idea of the size of the average PO that you guys have, just some way to kind of get a sense or gauge what that design win backlog looks like for you guys right now.

Paramesh Gopi

So I can give you some color. The POs come from all four spheres of the markets that we talked about. And the POs, in terms of the people that we’ve been engaged with for many, many months now and many quarters, there’re repeatable, increasing POs from those people. There are POs from the HPC community and I think I can tell you for a fact that the PO color has broadened, the funnel has broadened. I can tell you that.

Rick Schafer – Oppenheimer

Okay. Thanks, Paramesh.

Operator

Your next question comes from the line of Christopher Rolland from FBR Capital Markets. Please proceed.

Christopher Rolland – FBR Capital Markets

Hi, guys, thanks for the question. So nice bounce here for connectivity in Q2. I’m imagining a decent draw down for the third quarter here. So maybe you guys can talk about the puts and takes here, why the upside and then why the downside in 3Q? Thanks.

Doug Ahrens

So there was very high demand in the June quarter for us, for our connectivity parts, particularly in Asia. A lot of tier one vendors competing for the build outs in China with our 40 gig parts and our 100 gig parts were in very high demand for those deployments. And so you’ve got the usual names all moving very aggressively last quarter into the China deployments.

And so there’s a lot of deployment for our parts, so we see that being a growth rate, though, that can’t be continued into the next quarter. We’ve 30% in our connectivity area quarter-on-quarter, so we don’t see that type of growth rate being sustainable into the following quarter, so we think we’re going to see a pause going forward.

Christopher Rolland – FBR Capital Markets

Okay, great. And then two quick ones. I guess, one for Paramesh and one for you, Doug. So on the visibility into the 10,000 ARM servers, is that in a single quarter or was that over the back half of the fiscal year? And then, Doug, more of a housekeeping, can you tell us about some non-GAAP but cash charges that you might expect for the rest of the year? Thanks.

Paramesh Gopi

Sure. So first of all, I’ve always talked about meaningful in that 10,000 server range. I wanted to actually publicly state it in a prepared call statement to say that we’re fully confident that that’s what we would view as something that’s an industry category adoption metric. That does not in any way hamper us from doing more or less or any of that stuff.

But more importantly, I want to say that we’re still fully on track, fully committed to saying that we will have meaningful revenue towards the second half of our fiscal year. One thing I can tell you is if we didn’t have our $1 million already shipped or close to $1 million already shipped, that would not be a possibility. It’s sequentially linear. One causes the other, so.

Doug Ahrens

And, Chris, to your second question, I mean, the primary driver between GAAP and non-GAAP is stock-based comps, so it’s a non-cash item. So the other items are in our non-GAAP P&L. So that’s the main item to point to.

Christopher Rolland – FBR Capital Markets

Sorry, no more additional restructuring charges or anything like that?

Doug Ahrens

Oh, I’m sorry. So there’s none that we have planned right now in terms of restructuring charges, no.

Christopher Rolland – FBR Capital Markets

Thanks, guys.

Operator

Your next question comes from the line of Christopher Longiaru of Sidoti & Company. Please proceed.

Christopher Longiaru – Sidoti & Company

Hey, guys, congratulations on the X-Gene progression. My first question has to do with just relative pricing. You made some comments about your major competitor on the X-Gene front in the past as being around half the price from a total BOM perspective. Is that still kind of a correct assessment or can you make any relative comments on total cost?

Paramesh Gopi

Yeah, I think architecturally we’re talking about… there’s nothing changed from an architectural point of view. I will point out to you that X-Gene 2 actually enhances the motion of a lower TCO because it does integrate very high performance Rocky or RDMA… an RDMA (mick) over Ethernet. So fundamentally I think there’s no change to our initial (metricizing) of the market and BOM savings, TCO savings are the two keys that drive adoption, so.

Christopher Longiaru – Sidoti & Company

And so those relative statements that you had made in the early stages of X-Gene still hold true in terms of kind of around half the cost?

Paramesh Gopi

Yeah, absolutely.

Christopher Longiaru – Sidoti & Company

Okay, okay. And then so you had mentioned a mark, this was maybe three or four quarters ago, and anticipated total market opportunity for X-Weave to be around $1 billion a couple years out. Is that still the anticipation or as this progresses do you see… you sound a little more bullish. Do you see more of an opportunity or can you update us on your expectation for that a ways out?

Paramesh Gopi

No, I think from my perspective you should view that that has not changed appreciably. In fact, I would almost tell you that I don’t want to set too high of an expectation relative to the TAM expanding but I can tell you for a fact going forward that X-Weave will have a lot more applications even in that TAM to get more share of that market as it starts to wind its way into things like (backling) cables as well as next generation digital back panels and optical back panels. So I’m very, very excited about the fact that we are already going to be shipping production and pilot production units of X-Weave of 28 to multiple customers this fall.

Christopher Longiaru – Sidoti & Company

So in terms of that progression, does that… I mean, I know that this was kind of something that you jumped in with a little bit later. You always talked about X-Gene leading the way and X-Weave maybe being a couple quarters behind it. Now it seems that you’ve even moved that up slightly. But the idea here is are you going to be selling these two things in tandem? Are they essentially going to be sold to a lot of the same customer base at the same time and so the progression will be in lock step? Or do you see kind of X-Weave following by a couple quarters versus X-Gene?

Paramesh Gopi

I would tell you that the initial ramps of them are not connected. Let me start there, number one. Number two, I would tell you that X-Weave can stand and will grow on its own independent of X-Gene and once they get lumped together in the 24 month timeframe that we’ve talked about before, it has a very dramatic effect on building systems for datacenter guys, right. So initially we’re not counting on any interplay between the two parts.

Christopher Longiaru – Sidoti & Company

Okay. That’s helpful. Then the easiest question you’re going to get, I had a couple of different calls, so I missed the revenue guidance. Can you give me that again?

Doug Ahrens

Yes, the revenue guidance is $42 million to $46 million for September quarter.

Christopher Longiaru – Sidoti & Company

All right. All right, I’ll jump out with that. Thanks, guys.

Operator

Your next question comes from the line of Krishna Shankar of ROTH Capital. Please proceed.

Krishna Shankar – ROTH Capital

Yes, Paramesh and Doug, congratulations on the X-Gene production milestones. Would you anticipate given this kind of soft in the PowerPC and that it’s (pace) here in the September quarter, would you expect the connectivity business to resume growth in the December quarter?

Paramesh Gopi

I can tell you for a fact, Krishna, that we don’t guide that far out. But I can tell you that from a service provider point of view and a datacenter point of view, the reason Doug talked about the pause earlier was primarily because multiple people competed for two major parts of a carrier RFQ in China for 140 gig and I think everybody bought a lot. So I think it is represented in a very interesting but slightly deviant demand cycle than we usually see.

We’re used to seeing a lot more smooth demand from a datacenter to datacenter or carrier build out for very high performance 40 gig, not necessarily 100 gig, so I think what Doug meant by the pause is that there was a deviant demand going driven by two or three RFQs in service by seven guys, right, so all of them buy from us for the 100 gig module market. So we saw that.

I think going forward, I can tell you for a fact that none of the macroeconomic factors that we know of today would suggest that you have any of those types of deviancies in the future, right. And I can also tell you that we are very being driven by our customers to get the X-Weave products even earlier, if we can, right, so there’s no… I mean, from a macro market perspective, we don’t see any major factors that could affect that.

Krishna Shankar – ROTH Capital

Okay. And then turning to X-Gene, do you anticipate a steady ramp over the next few quarters or will there be a pause? I know you are shipping some production shipments now to customers but will there be a pause after they verify the initial production shipments and put their datacenters and networks into deployment? Will there be a pause before you ship the next larger products of X-Gene production shipments?

Paramesh Gopi

I can tell you for a fact at this point in time, as I said, the reason we broke out the big, the chunk that we said earlier is that’s kind of what I call the real causal point that gives us confidence that the backlog that we have today is going into meaningful deployments, right, number one.

A lot of that testing, to address your question directly, has already happened. I think we have said that we have shipped many, many, many hundreds of parts over the last three quarters essentially to multiple customers to do a lot of this pilot testing and ring up, so the step from now to basically when they start to deploy stuff has to do with two major pieces. One is obviously ordering production silicon, which is taken out of the… is already there. The other is things they may want to do to insert certain applications or certain pieces of their own infrastructure ported over direction and that’s what I call insertion points in their datacenters, right.

In some cases, we have visibility. In some cases, we don’t. As with any new category, Krishna, I want to be very open. The fact that we’re building backlog today, we’re seeing things happening, gives me great confidence that we’re on a very steady kind of path to achieving growth in this category. Having said that, though, we are not privy to all of the datacenter deployment and dynamics within some of our larger customers.

Krishna Shankar – ROTH Capital

Okay. And then so on the full buckets, you would expect the web scale. I mean, how would you rank order the full revenue (inaudible) server, OEMs, the networking (inaudible) OEMs, web scale and HPC? Could you rank order the revenue opportunity for those four buckets over the next year?

Paramesh Gopi

I would probably say that we have equal funnels. If you look at the funnel and how it is divided, I would say that the web scale part of the funnel is probably higher than the HPC part of the funnel and the HPC part of the funnel over the last probably year has grown to be equivalent to the funnel that would combine the networking and the storage pieces together. So I think I would say that it’s strength from all pieces from all four legs. The HPC leg was something, as I told you before, we never disclose or didn’t. When we started this we didn’t know frankly if we would have the chops to really go and compete in the super computer space but I think the data proves that we’re there, so.

Krishna Shankar – ROTH Capital

Great. Thank you. And Doug, can you talk a little bit about the cash burn for the September quarter and how you see working capital needs as you do the X-Gene ramp?

Doug Ahrens

Sure. So when we look forward to next quarter, we still expect cash to be in the upper $90 millions, upper $90 million. So we don’t see a significant cash burn. There’s just the puts and the takes and the working capital. Some inventory build will continue to unfold as we build X-Gene. But other than that, there’s not particular puts and takes that would cause the cash balance to change significantly, so we have close to $100 million on the balance sheet in cash and short-term investments.

Krishna Shankar – ROTH Capital

Great. Thank you.

Operator

Your next question comes from the line of Mike Lucarelli of Evercore. Please proceed.

Mike Lucarelli – Evercore

Hi, guys. Thanks for taking the questions here. Most of my questions have been answered at this point but I thought I’d make another stab here at your guidance maybe. I know you kind of talked it here and there about where it’s going to go but are the magnitude of the decline in your legacy business going to be similar this quarter as it was last quarter?

Doug Ahrens

So the…

Paramesh Gopi

So Mike, you’re a little feeble. Can you repeat the question again?

Mike Lucarelli – Evercore

Sure. Your legacy business that was down $10 million last quarter, should we think about the magnitude of that decline as similar this quarter as it was last quarter?

Doug Ahrens

Well, yeah, so Mike, we don’t give the mix in the guidance. We never have. But the driver, the primary driver of this decline is a continued decline in the PowerPC business, the oldest products. So you can infer that that’s where the revenue guidance is coming from.

Mike Lucarelli – Evercore

Okay. Then I should take it as the pause being flattish for the connectivity business?

Doug Ahrens

Yeah, we don’t know exactly how that’s going to play out but that’s a fair assumption for now.

Mike Lucarelli – Evercore

Okay. Fair enough. And then you gave that number for X-Gene, which is great, for last quarter. Was that included in your number for processor revenues?

Doug Ahrens

Yes, it’s in the computing numbers we gave.

Mike Lucarelli – Evercore

Got you. Okay. And since you had this big decline in the PowerPC business, did this give you any more line of sight to when your embedded ARM design win ramp? Will they ramp sooner now than you originally thought?

Paramesh Gopi

I think what we’ve always said is that they’ll start to ramp end of 2015 and most of 2016. At this point in time, I think that’s what we’re maintaining. But I can tell you that there are… the design wins funnel for that embedded ARM business continues to grow at a very, very nice pace. So the reason we are confident in saying that it will be compensatory in terms of making sure that the base is back up to where we would have been given all the secular and PowerPC going away, is primarily because we have confidence in that design win funnel. These are already granted design wins from our current… some of them being our current PowerPC customers, too.

Mike Lucarelli – Evercore

Got you. Okay. And then the last question here, you have some good confidence in meaningful revenues in this fiscal second half. Do you think you’re going to have another 10% customer before fiscal year end?

Paramesh Gopi

Wow, that’s a really good question. At this point in time, I actually haven’t contemplated that but clearly given the success of where we are going, right, maybe we need to go and do some math to go figure that out but I don’t think so. I don’t know whether we can break that out at this point in time, no.

Mike Lucarelli – Evercore

Okay. Fair enough and congrats on the first revenues, guy.

Paramesh Gopi

Yeah, yeah, thanks.

Operator

Your next question comes from the line of Hans Mosesmann of Raymond James. Please proceed.

Hans Mosesmann – Raymond James

That’s very funny. Hey, guys, congrats on the… maybe it’s not funny… on the impairments. The benchmarking that you talked about with the X-Gene versus Xeon E5, that’s 40 nanometer versus 22 nanometer comparison. Can you tell us just at a high level, what would X-Gene 2 be comparable to in the Intel lineup? Is it fair to say that that’s now kind of reaching into the E7?

Paramesh Gopi

No, no, I want to be very clear. I mean, a really good question, Hans, and I think the one thing that we’ve always talked about is when we started out X-Gene, remember that Sandy Bridge was the prevalent shipping processor, right. And if you really look at it, when we announced X-Gene, Sandy Bridge was starting to hit its mainstream status.

And since that was already announced two years out… this was two years ago. So fundamentally at that time, we’ve always said that we’d be in the range of two-thirds of the performance of an E5, high-end E5, right. And basically at roughly about 40% of TCO, right, and we maintain that.

Now, having said that, what we wanted to demonstrate without any marketing, Power Point, any of that stuff, is to say a completely third party set of benchmarks, which essentially exercise the key parts of X-Gene, whether it’s high performance CPU, high performance memory subsystem and the networking subsystem is stuff that the high performance computing community uses and it’s called HPCG.

So they’ve run that both on a current shipping E5, both on the Ivy Bridge and the Sandy Bridge type platforms as well as on X-Gene 1, which is the 40 nanometer part and they have seen equivalent performance for their HPC applications, right. And when you actually run it combined IO, combine the graphics performance that is required to sustain one HPC node in a cluster, you pretty much can do exactly what an E5 does with X-Gene 1 at a fraction of the TCO.

With X-Gene 2, you get even more advantages because now you have lower power. Obviously that means that you can squeeze more (DSP)s, more (inaudible), more InfiniBand, more processors into one rack but, more importantly, you have the ability to scale out so you can have two X-Gene 1s and you can build essentially a 16 core high performance (non-cache) configuration along with X-Gene 2, right.

So if you really think about it, we’ve now broken one more big piece that has only been native to a high performance computing, which is how do we really scale out workloads?

Hans Mosesmann – Raymond James

Okay. That’s very helpful. Two other questions, the inventory increase in the June quarter, what part of that increase was X-Gene related?

Doug Ahrens

Oh, just very, very little. I mean, we’re talking about the channel inventory, right, I believe is what you’re referring.

Hans Mosesmann – Raymond James

No, on your balance sheet.

Doug Ahrens

Oh, I’m sorry. On the balance sheet, yes, it was a significant part of that increase.

Hans Mosesmann – Raymond James

Okay. And then the last question is the availability of 40 nanometer at your foundries, is that an issue or could that be an issue over the next several quarters?

Paramesh Gopi

Answer’s no, no issue.

Hans Mosesmann – Raymond James

Okay. Thank you and congrats.

Paramesh Gopi

Thanks.

Operator

Your next question comes from the line of Matt Ramsay of Canaccord Genuity. Please proceed.

Matt Ramsay – Canaccord Genuity

Thanks, guys, for letting me hop back in. Paramesh, I just wanted to ask a couple of longer-term and maybe change dynamics in the embedded or the networking space where it sounds like you’re more excited about enterprise networking design win. What really changed there competitively over the last six months or so? Are these just partners or potential customers in that space wanting to get off of legacy architectures into ARM sooner and you guys are the first to market? Is it new, sustainable partnerships for you? I mean, is this business defensible that you may win as other ARM designs come in? Just anything around the dynamics in that markets because it seems like, again, similar to HPC but it sounds like those are some new design wins that you might not have expected maybe a year ago or weren’t as confident about. Thanks.

Paramesh Gopi

Yes. No, no, really good question. Let me give you some color. About a year ago, I think and I may be off by a quarter or so, we announced on one of our earnings calls that our key embedded customers and the embedded market is transitioning away from both PowerPC and mixed architectures. I mean, that was I think we said a lot of our key tier one customers, the (inaudible) of the world have made a commitment to only really focusing on two key (technical difficulty). And the ARM architecture and people who possess the fundamental ingredients for the ARM architecture will make big headway into the embedded space. (technical difficulty) into the embedded. That’s already kind of come to be, right.

So what changed? Well, a lot of the embedded system requirements for high-end networking, whether it’s STN boxes, STN controllers or things like control (flame) and/or booking routers are all moving and looking for an alternative that will give them the ability to increase their effective networking density, which is more pipes in, more pipes out and have the ability to take one code base that runs surprisingly enough like datacenter guys on Linux and move it between X86 and ARM to get better TCO, right.

The big hurtle for all these guys was twofold. One is some of them were using (inaudible) Linux and (inaudible) Linux happens to be owned by Intel, right. So we had to go through and prove beyond doubt that we can match the performance of what they’re already using on an X86 toe-to-toe. That happens only when you have production silicon that can be evaluated by people who write code for these networking applications.

The last year we spent proving beyond doubt that when you move mission critical networking code or embedded code you now have a real robust platform that you can use. So that’s really tipped the scales on that part of the business.

I will tell you that the number of design wins that we have put on the list over the last six months have primarily been driven by the reality we have brought to the ARM in networking construct. So that’s a big change.

The second piece of it is if you’re going to go and do an embedded ARM design for a captive socket that’s either mixed or PowerPC, the proof point is what you run today and it’s really neat when you can go and say here is actually really high performance processor and, yeah, we built PowerPC, small PowerPC stuff but it’s really easy for us and it’s not untenable for us to take production grade working v8 and obviously build an embedded core from it. So it’s a different product line, right. So that’s what’s changed, so.

Matt Ramsay – Canaccord Genuity

That’s really helpful. Thank you very much for taking the last question. I appreciate it.

Operator

Your next question comes from the line of Christopher Rolland of FBR Capital Markets. Please proceed.

Christopher Rolland – FBR Capital Markets

Hey, guys. Just a quick follow-up here; Doug, back to the non-GAAP cash charges, can you remind us of remaining payments to Veloce? Is it about $17 million left and what’s the timeframe there and minimum cash payments? And then also, the $7 million this quarter, why did you guys decide on all cash versus stock there?

Doug Ahrens

Sure. So we have about $18 million in total merger consideration left to go for Veloce and the mix of cash and stock is at our discretion. And we factor in a variety of things, retention, cash versus stock, we factor in taxes, liquidity, lots of things and so it’s a moving thing. This particular one this last quarter was a singular choice to do all cash and has no reflection on what to expect going forward. It remains at our discretion on how to pay that out.

Christopher Rolland – FBR Capital Markets

Okay, great. Maybe one last one if I can squeeze it in; so lead times for X-Gene, are they going to be similar to your manufacturer stated lead times? And then also, will they ever be available through (inaudible) for sale or is it all going to be direct?

Paramesh Gopi

Lead time similar. The latter, it depends on customers and who’s buying.

Christopher Rolland – FBR Capital Markets

Thanks, guy.

Paramesh Gopi

Thanks.

Operator

Okay, ladies and gentlemen, that concludes our question-and-answer session. I will now turn the call back to Traci Tsuchiguchi for closing remarks.

Traci Tsuchiguchi

Thank you all for your time this afternoon and we look forward to seeing you all at ARM TechCon this fall.

Operator

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

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

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

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