Diodes' (DIOD) CEO Keh-Shew Lu on Q2 2014 Results - Earnings Call Transcript

Aug. 9.14 | About: Diodes Incorporated (DIOD)

Diodes Incorporated (NASDAQ:DIOD)

Q2 2014 Earnings Conference Call

August 7, 2014 5:00 p.m. ET

Executives

Leanne Sievers – Executive Vice President, Shelton Group, Investor Relations

Keh-Shew Lu – President and Chief Executive Officer

Richard D. White – Chief Financial Officer, Secretary and Treasurer

Mark A. King – Senior Vice President, Sales and Marketing

Analysts

J. Steven Smigie – Raymond James

Harsh Kumar – Stephens, Inc.

Gary Mobley – The Benchmark Company

Shawn Harrison – Longbow Research

Suji De Silva – Topeka Capital Markets

Christopher Longiaru – Sidoti & Company, LLC

Tristan Gerra – Robert W. Baird & Co.

Vernon Essi – Needham & Company

Lena Zhang – Blaylock Robert Van

Operator

Good afternoon, and welcome to Diodes Incorporated Second Quarter 2014 Financial Results Conference Call. At this time, all participants are in a listen-only mode. At the conclusion of today's conference call, instructions will be given for the question-and-answer session. (Operator Instructions) As a reminder, this conference call is being recorded today, Thursday, August 7, 2014.

I would now like to turn the call over to Leanne Sievers of the Shelton Group Investor Relations. Leanne, please go ahead.

Leanne Sievers

Good afternoon, and welcome to Diodes second quarter 2014 financial results conference call. I am Leanne Sievers, Executive Vice President of Shelton Group, Diodes' Investor Relations firm. With us today are Diodes' President and CEO, Dr. Keh-Shew Lu; Chief Financial Officer, Rick White; Senior Vice President of Sales and Marketing, Mark King and Director of Investor Relations, Laura Mehrl.

Before I turn the call over to Dr. Lu, I would like to remind our listeners that management's prepared remarks contain forward-looking statements, which are subject to risks and uncertainties, and management may make additional forward-looking statements in response to your questions.

Therefore, the company claims the protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from those discussed today and therefore we refer you to a more detailed discussion of the risks and uncertainties in the company's filings with the Securities and Exchange Commission.

In addition, any projections as to the company's future performance represents management's estimate as of today, August 7, 2014. Diodes assumes no obligation to update these projections in the future as market conditions may or may not change.

Additionally, the company's press release and management statements during this conference call will include discussions of certain measures and financial information in GAAP and non-GAAP terms. Included in the company's press release are definitions and reconciliations of GAAP to non-GAAP items, which provide additional details. Also throughout the company's press release and management's statements during this conference call, we refer to net income attributable to common stockholders as GAAP net income.

For those of you unable to listen to the entire call at this time, a recording will be available via webcast for 60 days in the Investor Relations section of Diodes' website at www.diodes.com.

And now, I will turn the call over to Diodes' President and CEO, Dr. Keh-Shew Lu. Dr. Lu, please go ahead.

Keh-Shew Lu

Thank you, Leanne. Welcome everyone and thank you for joining us today.

Diodes had an exceptional second quarter in which results were at the upper end of our guidance range. Revenue grew over 6% sequentially and the gross profit reached a quarterly record reflecting our continued improvement of product mix and the increased capacity utilization. In fact, our achievement of 31.5% gross margin was the highest level since the second quarter of 2011.

During the quarter, North America and Europe were stronger than expected, which contributed to further gains in the industrial end market. These regions have a solid product mix distribution due to the end markets and the customers we serve in these geographies.

Overall, Diodes continues to execute on our profitable growth strategy across our business. Our strong second quarter results demonstrate the leverage in our operating model, and we expect to generate increased profits and cash as revenue continues to grow.

With that I will now turn the call over to Rick to discuss our second quarter financial results as well as third quarter guidance in more detail.

Richard D. White

Thanks, Dr. Lu and good afternoon, everyone. Revenue for the second quarter of 2014 was $223.2 million, an increase of 6.3% from the $210 million in the first quarter of 2014 and an increase of 4.1% from the $214.4 million in the second quarter of 2013. Revenue increased due to sequential market share gains across the Company’s end markets, in particular for products sold in North America and Europe.

Gross profit for the second quarter of 2014 was a record $70.3 million, or 31.5% of revenue, compared to the first quarter of 2014 of $61.6 million, or 29.3% of revenue and second quarter of 2013 of $61.3 million, or 28.6% of revenue. The increase in gross profit margin was primarily due to continued improvement of product mix and increased capacity utilization.

GAAP operating expenses for the second quarter were $47.2 million or 21.1% of revenue compared to $47.2 million or 22.5% of revenue in the first quarter of 2014 and $51.1 million or 23.8% of revenue in the second quarter of 2013. Non-GAAP operating expenses, excluding non-cash acquisition related intangible asset amortization costs and the gain on sale of assets were $46.1 million or 20.6% of revenue in the second quarter of 2014.

Looking specifically at selling, general and administrative expenses; SG&A was approximately $33.3 million for the second quarter or 14.9% of revenue compared to $32.3 million or 15.4% of revenue in the first quarter and $35.1 million or 16.4% of revenue in the second quarter of 2013.

Investment in research and development for the second quarter was approximately $12.8 million or 5.7% of revenue compared to $12.9 million or 6.1% of revenue last quarter and $12.1 million or 5.7% of revenue in the second quarter of 2013. SG&A plus R&D combined equaled 20.6% of revenue, which was down 90 basis points sequentially and 140 basis points from 22% in the second quarter of 2013.

Total other income amounted to $360,000 for the second quarter. We had approximately $1.8 million of gain on securities, approximately $440,000 of interest income and approximately $1.2 million of interest expense as well as $760,000 currency loss. Income before taxes and non-controlling interest in the second quarter of 2014 amounted to $23.5 million, compared to the income of $13 million in the first quarter of 2014 and $10.5 million in the second quarter of 2013.

Turning to income taxes; our effective income tax rate for the second quarter was approximately 24%, which was at the high end of our guidance of between 19% and 25% due to the higher profits from U.S. and Europe.

GAAP net income for the second quarter of 2014 was $17.4 million or $0.36 per diluted share, compared to first quarter of 2014 GAAP net income of $10.2 million or $0.21 per diluted share, and second quarter 2013 GAAP net income of $8.6 million or $0.18 per diluted share. The share count used to compute GAAP diluted EPS for the second quarter of 2014 was 48.4 million shares.

Second quarter non-GAAP adjusted net income was $18.2 million or $0.38 per diluted share, which excluded net of tax $1.6 million of non-cash acquisition related intangible asset amortization costs and $1 million gain on the sale of assets. This compares to non-GAAP adjusted net income of $12.4 million or $0.26 per diluted share in the first quarter 2014 and $15.5 million or $0.33 per diluted share in the second quarter 2013. We have included in our earnings release a reconciliation of GAAP net income to non-GAAP adjusted net income which provides additional details.

Included in the second quarter of 2014 GAAP and non-GAAP adjusted net income was approximately $2.2 million net of tax, non-cash share-based compensation expense. Excluding share-based compensation expense, both GAAP and non-GAAP adjusted diluted EPS would have increased by an additional $0.05 per diluted share in the second quarter.

Cash flow generated from operations for the second quarter of 2014 was $33.9 million. Free cash flow for the second quarter of 2014 was $22.1 million, which included $11.9 million of capital expenditures and net cash flow for the second quarter was a positive $23.8 million, which includes the pay down of approximately $2.7 million of our long-term debt.

Turning to the balance sheet; at the end of the second quarter, we had approximately $235 million in cash and cash equivalents and $18 million in short-term cash investments. Working capital was approximately $520 million.

At the end of the second quarter, inventory increased by $6 million to approximately $183 million compared to approximately $177 million at the end of the first quarter of 2014. Inventory in the quarter reflects a $4 million increase in finished goods, a $3 million increase in work in process which will partially offset by $1 million decrease in raw materials. Inventory days were 107 in the second quarter compared to 108 days last quarter.

At the end of the second quarter, accounts receivable was approximately $188 million, up about $12 million from first quarter. AR days were 74 compared to 79 last quarter. Our long-term debt totaled approximately $163 million down $2.7 million from the first quarter.

Second quarter capital expenditures were $13.3 million or 6% of revenue which was in our reduced CapEx spending target range of 5% to 9% of revenue. Depreciation and amortization expense for the second quarter was $19.2 million.

Now turning to our outlook; for the third quarter of 2014, we expect revenue to increase to a range of $228 million and $238 million or up 2.1% to 6.6% sequentially. We expect gross margin to be 31.8%, plus or minus 2%. Operating expenses are expected to be approximately 21% of revenue, plus or minus 1%. We expect our income tax rate to be 22% plus or minus 3% and shares used to calculate diluted EPS for the third quarter are anticipated to be approximately 48.8 million.

With that said, I will now turn the call over to Mark King.

Mark A. King

Thank you, Rick, and good afternoon. As Dr. Lu mentioned our 6% sequential revenue growth was driven by continued sales expansion in North America and Europe as well as OEM sales globally. OEM sales were up 11% while distributor POS increased 2%. Distributor POP was up 5% and inventory increased 5.6% as distributors built inventory in preparation for third quarter ramps. Global channel inventory is healthy and in line and remains under three months.

In terms of our end markets, consumer represented 33% of revenue, communications 22%, industrial 21%, computing 20% and automotive was 4%. Our strongest market in the quarter was industrial primarily due to the strength in North America and Europe as well as communication as a result of continued gains and smartphones and smartphone chargers. We also had a strong quote in automotive and a better than expected result in computing.

Turning to global sales; Asia represented 79% of revenue, Europe 11%, and North America 10%. Design wins were solid strong across all regions, markets and product lines and we continue to have a strong pipeline of new products. It was a record quarter for our analog line driven by AC to DC CMOS LDiodes, LED lighting and load switches and we also had a strong quarter discrete for our bipolar transistors and MOSFET products.

During the quarter we released 88 new discrete products across 20 product lines. Product launches during the quarter were aimed at application such as power management where Diodes devices helped to improve energy and power efficiency in chargers, adapters, and power supply for smartphones, tablets, LED TVs and set-top boxes. In particular several products were launched aimed at meeting the needs of wireless charging in quick charge devices. Diodes also continued to build up on its position in the automotive market with product launches design wins and sales momentum for MOSFETs, rectifiers and TDS products.

Starting with the power supply and charging space, Diodes successfully demonstrated at Computex in early June its first active rectification controller for USB power delivery in AC adapter solution. The USB PD standard is important for portable device manufacturers as it features faster charging speed in a small space saving form factor.

Diodes collaborated with Renesas on this exciting development to provide a total solution. Diodes secondary side controller is able to provide exceptional power efficiency both under light load and heavy load charging conditions. In addition to power supply, wireless charging is an important emerging trend. Diodes new lateral DMOS technology is well suited for this space with its ultra-low gate charge and lower on resistance and competing solutions. Also in this second quarter Diodes launched two ultra-high density LDMOS devices in tiny chip scale packages operating exceptional power efficiency to portable device manufacturer. Lastly Diodes launched six additional devices from its recently introduced proprietary and also IFCS trench SBR rectifier technology aimed at quick charging application.

Next looking at the automotive market, Diodes continues to execute our strategy of expanding our presence and footprint in the automotive space. In Q2, we secured a design win for tail light system on the major manufacturer for the 2015 model year. This win was for our miniature package, triple isolated high voltage switching Diodes product. We also introduced a family of automotive qualified rectifier devices in the power Diodes package series for applications in lighting and reverse battery protection.

Turning to analog; we had a strong quarter with 95 new analog product releases across 11 product lines. In support of the consumer products market, we released a new five amp DC-to-DC converters with an adapted constant on time control that is targeting at the TV and the monitor markets. We also introduced a low voltage DC-to-DC convertor for portable products such as GPS receivers that maximizes battery life.

Also in the consumer product space, we expanded our audio product line with the release of filterless Class D audio amplifier for portable wireless speakers. In addition, we increased our packaging options for our single and dual-gate logic products offering the industry's widest range of packages for logic devices and portable application where board space is at a premium.

Key design wins in the consumer space included hall sensor and audio amplifier adaption for the rapidly emerging wearable space including a win on very high profile consumer device.

We also saw major wins for our audio products and CDs, monitors and IP camera application. Other large scale consumer products wins include LDOs, load switches and logic into TVs, DVRs and set-top boxes. Key wins in the portable application include an AC-to-DC convertor for mobile charging, portable projector as well as the WiFi dongle for streaming video.

In the communications market, we released a family of low noise, low dropout regulators that is specifically designed for high density noise sensitive smartphone application. Design win activity remains strong in the cell phone charger market with 7 major wins for AC-to-DC convertors and voltage reference design. We also saw adoption of our filterless Class D audio amplifiers into key a cell phone platform targeting the China market.

Turning to the industrial space, we released a high performance motor driver that combines PWM and temperature control as well as the motor pre-driver targeting fans and blowers. We also introduced a family of industrial AMPs in computers that offer very low power consumption and operating across a wide voltage range. These devices are well suited for process automation and motion control system.

Key industrial design wins during the quarter included the adaption of our hall sensors in the several e-meter platforms as well as the motor control win in the (inaudible) space. In LED lighting we have seen strong customer interest for our new Triac Dimmable LED drivers which use pulse frequency modulation technology to regulate output current and achieve deep dimming as low as 1%. We also released two new constant current LED drivers targeted at the automotive lighting application. Significant new lighting design wins during the quarter included more than ten LED bulb replacement sockets including both dimmable power and MR16 lamps.

In summary, Diodes has once again had a strong quarter in terms of product introductions as well as design win momentum across portable, consumer, computing, automotive and industrial applications. We remain focused on expanding our product offering and customer content across our end markets to ensure continued growth in the coming quarters.

With that, I will open the floor to questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Steve Smigie from Raymond James, your question, please?

J. Steven Smigie – Raymond James

Great, thanks a lot. Congratulations on the pretty nice quarter Dr. Lu. Can you little – sure no problem, I was wondering if you would comment a little bit on industrial strength and how sustainable you see that?

Keh-Shew Lu

I think that Mark answer this one.

Mark A. King

Yes, I think the North American market and European market plays to which drives a good percentage of our industrial has been – continues to be relatively strong going into the third quarter. So, I think it's sustainable certainly into the third quarter. Percentages might tighten a little bit as things ramp in Asia a little bit, but I think the business base looks like okay.

J. Steven Smigie – Raymond James

Okay, great. And obviously you guys had some pretty nice gross margin improvement. Something we could get more of an update on where you are on the BCD integration and the Fab utilizations?

Keh-Shew Lu

Well, BCD integration went very smoothly so far, but they do as expected, you remember I keep mentioning about the – when they start to ramp up their Fab 2, you are going to be cost some reduction or track down GP percent, because when you put in a new Fab, they of course typically is a higher than matured Fab like their Fab 1 and our K-Fab or O-Fab. But, they are going to continue the ramp and we have more and more new product design in and ramp up that new product which, well by the way, most of our new product now from a order point of view, is all used in BCD Fab 2 for a new product. And if our new product start to ramp then the load will start to get improved and then of course, our Fab 2 will go down. In general it’s good.

J. Steven Smigie – Raymond James

Okay, great, thank you. I was just hoping if you would comment just a little bit on a couple of little niche, as we look into the September quarter, do you sense on what we might be thinking about interest expense and might be thinking about, in terms of option expense?

Richard D. White

Yes. So, interest expense is going to be approximately what it was in this quarter. We had $1.2 million of interest expense and we had about $400,000, $450,000 worth of interest income, option expense has been about $2.2 million quarter, we expect that to be about the same next quarter.

J. Steven Smigie – Raymond James

Okay, great, thanks. And just last question is, you paid down some debt in the quarter, just curious about what your thoughts are about cash you see today. Obviously, on the dent secured we are also seeing a lot of consolidation in the industry, is there any thoughts on cash here, more debt pay down or holding it back for acquisitions? Thanks.

Keh-Shew Lu

Okay. Our plan is, every time we move in money back then we will try to pay off. The goal we try to pay off $15 million a quarter and then that would reduce our interest cost. So that's my plan, but every time, we will make enough case and we don't need it for pay backs then we try to bring back to return to pay off some laons.

J. Steven Smigie – Raymond James

Great, thank you very much, congratulations.

Keh-Shew Lu

Thank you.

Operator

Thank you. Our next question comes from the line of Harsh Kumar from Stephens, your question please?

Harsh Kumar – Stephens, Inc.

Good afternoon, Dr. Lu. I had a couple of questions. Let me start off by asking about the September guidance. That's typically the quarter where one would think there would be a lot of build for the Christmas timeframe and I would have expected somewhat of a better growth. I am curious if there is any one-time events that are going on Dr. Lu that you guys are seeing in your business that are affecting maybe growth to some degree?

Keh-Shew Lu

I don't know that the Christmas swipe already exist for currently now. In the past several years, before that typically yes. Third quarter is the Christmas drive, but I don't know that Christmas is already fixed for last couple of years. You can see last year, and even before last year, probably since 2011, we don't see the Christmas ramp-up anymore. It's more on the new form, new travelers, new stuff announced (inaudible) different customer that announces different new product that drive in the optic of the business. So I no longer see a major Christmas season anymore. That’s why our cynical revenue is out of this, no longer read that much significant there anymore.

Harsh Kumar – Stephens, Inc.

Okay. That's helpful Dr. Lu and I am curious if I can ask maybe Mark and Dr. Lu the lookout pass to September quarter historically you guys have been slightly down, Diodes is just slightly down a little bit in December quarter, should we still expect that to be the case or will it be different or you see anything different this time?

Keh-Shew Lu

Okay. Number one, we really don't give the guidance in the first quarter. One quarter away, but I was thinking right now, we see slightly dump but is not going to be a big dump like last year. Last year you can see the first quarter when dump quite a bit, but so far the feeling the market, I just came back from Taiwan from Asia Monday this week, just two three days ago and (inaudible) over there don’t see a major drop in first quarter.

Harsh Kumar – Stephens, Inc.

That's helpful Dr. Lu and can I ask you also last question and I will get back in line, you talked about Fab 2 in the previous answer to the previous caller that the gross margin is coming down as you’re ramping Fab 2. In terms of when would you expect that effect to go away and Fab 2 maybe not have a negative impact, how long do you think that might take?

Keh-Shew Lu

Number one, when I say the third quarter might have some effects to compare with second quarter, but that is just really due to the loading up and down and now if you are asking for long-term plan, Fab 2 will not be a drag for our GPM percent. I’ll expect probably one more year to two more years. And it's just because the new product ramp it take time, second to get to the level of very cost effective, it takes a while. First, today they are only equipment capacity, but then we need to expand some of the common to make it fully utilized space. And when you fully utilize the current room, the output is high enough compared with S-Fab 1 on that BCD Fab 1, then you can be very cost effective. Today, other than the loading at the same time the capacity is not as big as the Fab 1 and so the cost would be higher.

Harsh Kumar – Stephens, Inc.

I got you. Very helpful Dr. Lu, I will get back in line. Thank you.

Keh-Shew Lu

Okay, thank you Harsh.

Operator

Thank you. Our next question comes from the line of Gary Mobley from Benchmark, your question please?

Gary Mobley – The Benchmark Company

Hi guys, thanks for taking my question. First, I want to extend my congratulations on a solid quarter. But I wanted to pick a little bit on the gross margin line. If I am not mistaken, didn’t you have a currency headwind in the quarter and how much did that impact the June quarter gross margin?

Richard D. White

I don't know about the gross margin. We had 760,000 currency loss, but that was in other income and expense and we think just from a margin standpoint that we have a lot of local costs and the pound versus the dollar, we pay salaries, we have expenses. So, we have a natural hedge against those kinds of things impacting us significantly in the GPM line.

Gary Mobley – The Benchmark Company

Okay. And focusing a bit on the third quarter gross margin guide, the midpoint of the guide is up only about 30 basis points sequentially on an expected 4.5% revenue increase on sequential basis. Given that your depreciation about 8% to 9% of revenue, I would have expected just more of a gross margin expansion and could you talk a little bit about some of the factors that sort of built into your gross margin guidance with respect to mix and various other factors?

Keh-Shew Lu

Like I just mentioned lot of these is because S-Fab 2, BCD Fab 2 because we try to – we have too much way for inventory because we are looking at, in second quarter we are looking at second quarter growth, third quarter growth we viewed in S-Fab 2 and if you get too much inventory and when you go to the third quarter, you start to looking at fourth quarter and 1Q next year, then we try to adjust our way for Fab loading to match with the revenue assumption on 4Q and 1Q next year. And therefore, we have some headwind which intentionally under load the Fab 2 and that give us some GPM percent.

Gary Mobley – The Benchmark Company

Okay. Mark, I appreciate the comments about inventory like you mentioned that inventories held by distributors is still under three months, but do you know specifically how much your inventory that your distributors increased on a sequential basis during the June quarter?

Mark A. King

Yes, I think I said 5.6%.

Gary Mobley – The Benchmark Company

Okay, 5.6%.

Mark A. King

It’s pretty natural for this period in the quarter.

Keh-Shew Lu

Because it is tied to the revenue growth.

Mark A. King

Right. So, we advance, that advances a little bit, but again our inventory is clean as, as clean as it’s ever been.

Gary Mobley – The Benchmark Company

Okay. No concerns that days of chip inventory held by customers and distributors is inching up and then maybe once seasonally saw patch of the year, maybe in the fourth quarter you might see some ranching down of days event of the inventory held?

Mark A. King

Yes, I mean if the distributor is – if the market takes a sudden shift, distributor enthusiasm shifts and you are always subject to that but the products that we – that they are buying and I think we feel really good about the way they are positioning their inventory and the way that we’re working with them to get in there. So, it’s all supportive of POS and so forth. So, I think we feel pretty good unless there is obviously a sudden change in attitude.

Gary Mobley – The Benchmark Company

Okay, alright, thank you guys.

Operator

Thank you. Your next question comes from the line of Shawn Harrison from Longbow Research, your question please.

Shawn Harrison – Longbow Research

Hi, I guess a bit, is there any market as you in the third quarter or the back half of the year where maybe demand trends are a little bit more uneven or a little bit doggy?

Mark A. King

There is a lot of data out there, there is a lot already, I really don't think I can make a comment on that I mean, we watch the continual flow of computer that's kind of relatively in concession, we’re hoping for a reasonably solid communication for the balance of the year. Our consumers are relatively strong after a softer second quarter North America and Europe appear to be running strong at least through the third quarter so industrial should be good. Automotive looks pretty strong although it's still a small portion of our overall sales.

Shawn Harrison – Longbow Research

Okay. And then, I can't remember if you touched on this, but pricing dynamics in the past couple of quarters that’s pretty benign, has there been any change in that outlook?

Mark A. King

I think, outstanding things are pretty stable.

Shawn Harrison – Longbow Research

Okay. And then finally, just in case I missed it Rick, what’s the CapEx forecast for the third quarter on a dollar basis and maybe the rest of the year?

Richard D. White

Well, we are shooting for 5% to 9% of revenue. So, for the year it would be 5% to 9% of whatever you have for the forecast for the revenue.

Shawn Harrison – Longbow Research

Okay. What would pressure up to upper end of the range for the year?

Keh-Shew Lu

No I don't think we push, if you look at it 7% is a midpoint and if you look at this quarter, second quarter –

Richard D. White

This quarter was 6%. So, if we are going to get to the midpoint of 7% then we might spend a little bit more in the third quarter or fourth quarter to move that up to the midpoint. But it's just equipment availability when the manufacturing guys need the equipments those kinds of things and CIT, CapEx trying to some retailers.

Keh-Shew Lu

We already started to kick off CAD (inaudible) and are currently is building the power, okay the government going to put in that power to the grid point and then we will spend the money to bring the power inside and then we will start to put some more fee, get ready to bring the CAD up to running. So we spend some money on the CAD.

Shawn Harrison – Longbow Research

Okay, very helpful, thanks so much and congratulations on the results.

Keh-Shew Lu

Thank you.

Operator

Thank you. Our next question comes from the line of Suji De Silva from Topeka, your question please?

Suji De Silva – Topeka Capital Markets

Hi guys, nice job on the quarter. I don't know if you provided this in the past, but can you provide the third quarter guidance color around end markets?

Keh-Shew Lu

We don't. We just give the guidance on the revenue plan and GP plan, gross profit plan.

Suji De Silva – Topeka Capital Markets

Okay. I’m obviously sure we did in the past, I can't remember. And then the smartphone and tablet program wins and the money you already have, can you talk about whether your mix of exposure there is the premium market versus the emerging sort of China mid range market and whether there is a gross margin differential of one does well versus the other?

Richard D. White

I think we’d probably be more on the premium side with sights of some strong growth in the mid level as we go forward and I don't want to comment on the margins of those differences.

Suji De Silva – Topeka Capital Markets

Okay. And then lastly, you mentioned some Mark, I think were new opportunities end market wireless charging and variables, can you just talk about whether the sizable opportunities of those kind of come in at higher margins since they are newer opportunities? Thanks.

Richard D. White

I think that most of those are premium products. So obviously they would lend themselves towards our – towards higher margins and I would say it's a growing market whether it's sizable, but it's important.

Keh-Shew Lu

Typically our new product is targeted at higher margin and space charger obviously is a new product.

Suji De Silva – Topeka Capital Markets

Great, thanks guys.

Operator

Thank you. Your next question comes from the line of Christopher Longiaru from Sidoti & Company, your question please?

Christopher Longiaru – Sidoti & Company, LLC

Hey guys congratulations on the quarter.

Keh-Shew Lu

Okay thank you Chris.

Christopher Longiaru – Sidoti & Company, LLC

So my first question kind of I think backing up Suji’s question. Even though you can't give kind of specific idea of where your guidance is coming from, could you comment on some areas where there is relative strength that you are seeing that give you the confidence in your guide for September?

Mark A. King

Yes, I think we see improvements in all of our segments. I thought, we had a relatively soft second quarter in the consumer market. I think, we will see some improvements there. I think we are progressing forward in the communications market. We have stable, I mean, as a percentage maybe not as stable on the industrial side because we have some faster growing markets probably in this quarter in Asia. And I thought automotive was relatively strong. So, I think really across the board, the only one that I don't really have a clear picture of exactly of whether it's going to be flat or how up it's going to be is the computer market.

Christopher Longiaru – Sidoti & Company, LLC

Great. And just to clarify, computing was pretty stable in 2Q?

Mark A. King

Right.

Christopher Longiaru – Sidoti & Company, LLC

Okay. and just in terms of comps, is the strength you are seeing in comp up the weakness you kind of saw in 2Q, is that kind of relatively normal strength that you would see for 3Q, is it abnormal, you just comment on how it compares to last year?

Mark A. King

We had a reasonably good second quarter in comps, so we are actually up and we see continued improvements in Q3 although not everybody is running on full steam. So, it's a little bit more muted than we would have liked it to be, but it still looks pretty solid.

Christopher Longiaru – Sidoti & Company, LLC

Okay. And then just lastly, this one is for Rick, you talked about a pretty slight increase on your OpEx actually being down as to percentage of sales, can you just kind of break that out and is that kind of an equal move up or is more written R&D, can you give us some idea of where the number lie between the two?

Richard D. White

Yes. So, if you take the GAAP number it was 21.1% of revenue in the second quarter and we have said 21% in the third quarter. Now you have to remember that the second quarter included a gain on the sale of assets and so you would take out of that 21.1% a gain of 1.2 and then, so it really looks like from a GAAP perspective it's going from 21.5 down to 21.

Christopher Longiaru – Sidoti & Company, LLC

Okay.

Richard D. White

Does that answers your question?

Christopher Longiaru – Sidoti & Company, LLC

Yes, it does. And just lastly, in terms of the Fab 2 progression and you said I think Dr. Lu said, it was going to take somewhere between a year and two years or four, it’s not a drag on gross margins. Is that kind of a step up function as you go forward or do you see that being kind of relative improvements over the course of that time period and can you give us a little bit of idea how that progresses?

Keh-Shew Lu

Well, I think as I mentioned, we now most of our auto product is design using the process provided by Fab 2. We move everything we want to move from Fab 1 to Fab 2 that's already completed and now what we do is all the new products or majority of new products for auto which can be loaded in Fab 2 will be used in Fab 2 capacity, Fab 2 technology or process technology. But, the new product takes a while to ramp it up. And then after they ramp it up and then use in all the equipment capacity then we will add in some more capacity to make sure that capacity can fully utilize the clean room space and make sure that all product will be big enough or the capacity will be big enough to bring the cost down. So, when you ask in, when you look in that, when that clean room can be fully utilized and loading can be fully utilized it takes a while. And that's why I mentioned probably up to 2016 because it takes time to ramp it up.

Richard D. White

I think, the specific answer to your question is that it's not going to be a step function. It's going to be an improvement overtime as we ramp up and more wafers get loaded.

Christopher Longiaru – Sidoti & Company, LLC

Great guys, thanks it's helpful. I will jump out.

Keh-Shew Lu

And the question in the last year I think we said BCD, I think in the last 2013 we said BCD expect our overall margin 1.5% that so you can see – you can assume okay -- but time will improve too. So that overall is fair. We don't know yet because we are not in a whole year. But 2013 we do announce BCD give us about 1.5% GPM percent effect.

Christopher Longiaru – Sidoti & Company, LLC

Got it that's very helpful, thank you guys.

Keh-Shew Lu

Okay.

Operator

Thank you. Your next question comes from the line of Tristan Gerra from Baird, your question please?

Tristan Gerra – Robert W. Baird & Co.

Hi good afternoon. Hopefully you can hear me okay. Could you say whether there was any constraint notably -- competition rates where in Q2 and what do you expect in Q3?

Richard D. White

So you ask about supply constraints in Q2 and impact of that on Q3?

Tristan Gerra – Robert W. Baird & Co.

Whether there was any supply constraint in Q2 and also your utilization rate in both Q2 and Q3?

Richard D. White

Yes. So basically, there were no significant supply constraints in the second quarter and Dr. Lu already talked about some dialing back the Fab 2, S-Fab 2 capacity utilization because of the inventory situation on S-Fab 2 wafers in the third quarter.

Tristan Gerra – Robert W. Baird & Co.

Okay and what about the utilization rate totaled for the company?

Richard D. White

For the company?

Tristan Gerra – Robert W. Baird & Co.

Yes, the utilization rate as a percentage, is that a number that you were aiming to provide?

Richard D. White

No, not for the company, no.

Tristan Gerra – Robert W. Baird & Co.

Okay. And then, also in terms of your Q3 outlook, are you embedding PC trends that are relatively in line with seasonal, do you expect the above expectation PC trend in Q2 to continue into the second half?

Richard D. White

We don't really trend it, we really view specific customers so we might buck the trend a little bit based on the customer base that we service, but we expect a slight improvements in Q3 off of better than expected Q2.

Tristan Gerra – Robert W. Baird & Co.

Okay, that helps a lot, thank you very much.

Operator

Thank you. Our next question comes from the line of Vernon Essi from Needham & Company, your question please.

Vernon Essi – Needham & Company

Thank you very much. I was wondering Dr. Lu if you clarify, I may have misheard something here earlier in the call you are responding to a question, you were talking about demand expectations in the fourth quarter over in China dropping, just wondering if you could expand upon that or maybe I misheard that?

Keh-Shew Lu

No, I didn’t say, China going to be, I just said typically 4Qfor semiconductor is weaker than 3Q quarter. I didn’t particularly mention China. What I read it relative to is in the past long-term, several years ago, you have a Christmas view in 3Q and I said no longer for me to see a big upside for the Christmas view. And then, if that happen then typically 3Q very up and then 4Q down quite a bit because Christmas will be over. But right now we don't really tie to that much for the Christmas view. We more tie to is our customer announced their new gauge or new product then they ramp it up, we ramp it up, they ramp down, we ramp it down. But, I didn’t say anything about China fourth quarter will be stopped.

Vernon Essi – Needham & Company

Okay, thanks for clearing that. And then, the second question Mark, this is kind of a long one so bear with me. But, you mentioned a lot of products in the LED lighting area and I admit I tend to ignore these products that most analog companies discuss, it just seems like a tough market, targeted at critical mass, it’s very fragmented. So, I guess two questions along that line. First off, is this market large enough to move the needle for you, I mean, is this something that could approach 3% or 5% of your revenue maybe in 3 to 5 years and also is there a dynamic out there where the bulb manufacturers are moving toward companies of your profile more general purpose analog and discrete as opposed to guys that are producing more advanced solutions for the market due to cost reasons?

Mark A. King

Yes, I would say that in the last statement then I would say, yes. I mean, I think that the bulb people and the lighting people are looking for cost effective solutions so some of the more traditional suppliers or higher end analog suppliers, it will become a more difficult market for. Regarding the 3% to 5%, at the growth rate we plan probably not, but it still an important market and supporting piece and it really connects very, very well with our whole AC-to-DC strategy on charger, and so forth. So, I think we segment it, but it's really part of an overall product line and an overall product mix that's important from our BCD acquisition. So, we consider it important, we think it drivers reasonable margins and we think it's an important part of building our whole analog pie.

Vernon Essi – Needham & Company

Okay, thank you.

Keh-Shew Lu

And then, we move in addition to the general market or general lighting, actually we believe in on small lighting, is that area you can get a better profitability for the small lightings. So, even currently we don't have that much of revenue coming from small lighting, but a small lighting is one of area I would like to focus on, which is not necessarily going to be a commodity type of product.

Vernon Essi – Needham & Company

Okay, thank you.

Keh-Shew Lu

Okay.

Operator

Thank you. Our next question comes from the line of Lena Zhang from Blaylock, your question please.

Lena Zhang – Blaylock Robert Van

Thank you for taking my question and congratulations. And only one from me, so you guys narrow the guidance in early June and now the results that is still also a little bit lower than the high end of guidance, so what prevents to dial from reaching the high end of the guidance in terms of revenue? Thank you.

Keh-Shew Lu

In terms of revenue or in terms of the GP? We update guidance you are talking about, we raise is the GP not the revenue. We hold in the revenue the same for the update guidance. And so –

Richard D. White

I will have it with me right here.

Keh-Shew Lu

Yes. So do we raise, do we do much better in our revenue guidelines. I know we do better on our GP guidance and then we raise the guidance and then we still hit in the high end.

Richard D. White

So, why don't you let us look that up and we will give you a better answer.

Lena Zhang – Blaylock Robert Van

Okay, thank you.

Operator

Thank you. Our next question is a follow-up question from the line of Harsh Kumar from Stephens, your question please.

Harsh Kumar – Stephens, Inc.

Dr. Lu, I was curious if Mark or Dr. Lu can talk about your relative position in the China handset market seems like the local Chinese handset vendor are growing really fast and I am curious how you would characterize your positioning there?

Mark A. King

I would say we are growing our position there. I think in the past we focused on different customers, but I think that we have a position and we have a growing position although the content isn’t quite as significant in the China handset market.

Harsh Kumar – Stephens, Inc.

That's fair, thank you so much. I appreciate it.

Operator

Thank you. This does conclude the question-and-answer session of today's program.

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