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Garmin Limited (NASDAQ:GRMN)

Q3 2011 Earnings Call

November 2, 2011 10:30 AM ET

Executives

Kerri Thurston – Manager, IR

Clifton Pemble – President and COO

Kevin Rauckman – Treasurer and CFO

Analysts

Joseph Longobardi – RBC Capital Markets

Simona Jankowski – Goldman Sachs

Charlie Anderson – Dougherty & Company

Yair Reiner – Oppenheimer & Company

James Faucette – Pacific Crest

Tavis McCourt – Morgan Keegan

Scott Sutherland – Wedbush Securities

John Bright – Avondale Partners

Paul Coster – JPMorgan

Benjamin Bollin – Cleveland Research

Richard Valera – Needham & Company

Operator

Good day, everyone, and welcome to the Garmin Limited Third Quarter 2011 Earnings Conference Call. Today’s call is being recorded. At this time I would like to turn the call over to Ms. Kerri Thurston. Please go ahead, ma’am.

Kerri Thurston

Thank you and good morning, everyone. We’d like to welcome you to Garmin Limited’s Third Quarter 2011 Earnings Call. Please note that a copy of the press release concerning this earnings call is available on Garmin’s Investor Relations site on the Internet at www.garmin.com/stock.

Additionally this call is being broadcast live on the Internet. Please note that this webcast does include slides, which can be viewed during the call. An archive of the webcast will be available until December 2 and a transcript of the call will be available on the Web site shortly after the call.

This earnings call will include projections and other forward-looking statements regarding Garmin Limited and its businesses. Any statements regarding our future financial position, revenues, earnings, market share, product introductions, future demand for our products and objectives are forward-looking statements.

The forward-looking events and circumstances discussed in this earnings call may not occur and actual results could differ materially as a result of risk factors effecting Garmin. Information concerning the risk factors are contained in our Form 10-K for the year ended December 25, 2010 filed with the Securities and Exchange Commission.

Attending the call on behalf of Garmin this morning are Dr. Min Kao, Chairman and Chief Executive Officer; Cliff Pemble, President and Chief Operating Officer and Kevin Rauchman, Chief Financial Officer and Treasurer. The presenters for this morning’s call are Cliff and Kevin.

At this time I’d like to turn the call over to Cliff.

Clifton Pemble

Thank you, Kerri, and good morning, everyone. As reported earlier this morning, Garmin’s third quarter results included 13% revenue growth in our traditional segments of Aviation, Marine, Outdoor and Fitness. These segments contributed 42% of total revenue and 62% of total company income highlighting the strength of our diversified business model.

We achieved $667 million in consolidated revenue, which is down 4% year-over-year as declining revenues in PND were offset by revenues from acquisitions, favorable product mix and growth in our traditional segments.

Our pro forma EPS came in at $0.71, which is up 1% from Q3 of last year as margins improved and the impact of revenue deferrals were slightly lower on a year-over-year basis. Kevin will provide additional details on this shortly.

We sold 3.5 million units in the quarter, down 9% from Q3 of last year, driven primarily by lower unit deliveries in Auto/Mobile. In addition, we generated $174 million in free cash flow during the quarter. Offsetting this was a dividend payment of $155 million and net cash paid for acquisitions of $53 million resulting in cash and marketable securities balance of over $2.4 billion. Next, we’ll take a closer look at the third quarter performance by segment as well as a market and product update for each one.

Looking first at the Marine segment, revenue grew 4% in a seasonally weak quarter. The Americas market was essentially flat while EMEA and APAC experienced modest growth. Margins in the segment compressed further as we increased investments in R&D and added additional infrastructure to support our growing OEM presence.

Our GPSMAP Chartplotter system continues to gain share in an otherwise challenging market. In one recent and visible example, Garmin was named the official supplier of marine navigation, communication and sensor equipment to the 34th Annual America’s Cup. A wide range of Garmin products are being used to manage the course and detract and dispatch the support fleet. We are pleased to be part of this legendary marine racing event.

Turning next to Aviation, revenue grew 18%, exceeding our expectations on the strength of new retrofit product introductions. While market conditions in the OEM category remained challenging, we did experience a slight increase in OEM equipment deliveries, which contributed to the growth.

Operating income increased 20%, as revenue growth exceeded growth and expenses. We continued to invest in the development of our new cockpit systems and to certify those systems on additional Part 23 and Part 25 airframes.

I’m pleased to report that we’ve made additional progress in securing future business in the Part 23 and Part 25 business jet market. As recently announced, Garmin has been selected as the avionics provider for two additional business jets from Cessna; the Part 23 M2 and the Part 25 Latitude. The M2, which replaces the existing CJ1, features our G3000 cockpit system, and at the recent NBAA show, Cessna introduced the all new Latitude mid-size business jet, which will include our G5000 integrated cockpit system.

Also in the quarter, we introduced the newest aera portable touchscreen navigators. The aera 795 and the 796 deliver premium features and capabilities that only can be experienced with a dedicated device. We are delighted with the response to the new aera products, as initial demand has exceeded our expectations.

As mentioned earlier, OEM market conditions remained soft, and we don’t expect to see any change due to the uncertainties caused by the economic and political environment affecting aviation. However, we are pleased with our performance to date, as both revenue and operating income have exceeded our expectations. And we feel we are on track to meet or achieve the targets for the segment for the full year.

In the Outdoor segment revenue grew 5%, which includes contributions from the recent acquisition of Tri-Tronics. While this might seem to indicate that the outdoor market is softer than expected, growth was restrained due to the limited availability of new products. We expect this situation to improve in the fourth quarter, which will result in higher growth rates for the year.

Sharing a few product highlights for the segment, the Approach S1 golf watch has exceeded our expectations, as customers have embraced the functionality and form factor of this unique device. We now offer the S1 in white in order to increase the appeal of the device to a broader range of customers. Our high-end Montana handheld series is resonating well with customers as it offers more advance features and versatility than any other GPS in the market today. And finally, our updated Astro Dog Tracker and Rino 2-Way radios have experienced robust demand, which is expected to continue throughout the fall hunting season.

The Fitness segment continues to deliver strong performance with revenues up 29% in Q3. Operating income also grew at a much slower rate of 3% as we have been investing to further solidify our brand and fuel future growth by increasing our research and development activities. Our high-end products continue to be the catalyst for growth as the Forerunner 610 and Edge 800 are out-performing expectation.

We recently introduced products that further expand growth opportunities. First, the Forerunner 910XT is designed with the triathlete in mind and builds off the success of our 310XT by adding sophisticated swim metrics and improved form factor and an on-board barometric altimeter.

For the cycling market, we introduced the Edge 200 and our Vector Power Solution. The Edge 200 brings the basics; speed, distance, time and calories to the cycling market at a value price point without sacrificing style or ease of use. The Vector is a revolutionary pedal-based power solution that offers advanced features, ease of installation and value not previously available to the cycling market. The Vector was recently demonstrated at major American and European bike shows and received an enthusiastic response from the market. We anticipate delivery of the Vector will begin in March of 2012.

While we are aware of the large number of competitors that have recently entered the fitness market, we believe we have successfully demonstrated our leadership in the GPS enabled fitness category. We intend to keep our position through continued innovation, a broad range of product offerings that appeal to a range of customers from the casual to elite athlete and by offering our products through a well-developed distribution and retail network.

In our Auto/Mobile segment, we experienced another quarter of strong market share performance with 60% plus share in the U.S. and mid 30% share in key Europe markets. Our market share in EMEA continues to increase as Garmin-branded unit deliveries were flat compared to Q3 of 2010 against the backdrop of a declining market pointing to increased market share. When adding Navigon’s contribution, our total unit deliveries in the EMEA increased 13%. Growth we experienced in Europe was offset by declines in the rest of the world.

Operating margin improved to 15% driven by product mix and an update to our deferred revenue model associated with certain bundled products. When excluding the effects of deferred revenues, operating margin for the quarter was 18%. Revenue declined at a rate of 13% in the quarter, but was ahead of our expectations as ASPs remained stable. ASP stability has been driven by an improved product mix offset by declines in pricing for comparable products on a year-over-year basis.

In anticipation of the holiday season, we introduced a totally redesigned family of nüvi products. This new product series offer something for every lifestyle and budget beginning with the Essential series, followed by the Advanced series and finally the Prestige series. Enhancement included a full rollout of our exclusive PhotoReal Junction View content, which displays realistic road signs and junctions along the route. We also introduced subscription-free 3D Traffic offering a combination of real-time traffic data and historical trends delivered through a high-speed data link to create the best routing experience available.

As we enter the fourth quarter we expect the market to continue on a similar trajectory as Q3, with the U.S. market down approximately 20% and EMEA declining 10%. We expect to outperform the market based on share gains year-over-year, particularly in Europe, where we have additional room to grow.

In the OEM category, we have additional announcements in the quarter; Navigon has been selected by Volkswagen to be the exclusive navigation provider for the new Volkswagen Up compact vehicle. In addition, the nüvi 2390 connected PND was selected by Suzuki for the 2012 Grand Vitara and SX4.

We showcased our OEM system capabilities at the recent ITS World Congress, where we unveiled a concept vehicle with our own integrated Infotainment system. This new system features an innovative touch-sensitive controller and a compelling user interface that offers significantly improved ease-of-use and safety. We are pleased with the feedback received from the ITS show, and will be demonstration our concept vehicle to automakers in the coming months.

Finally, I’d like to update you on our outlook for the remainder of the year. In light of the moderation of deferrals associated with the PND products and the solid performance of our traditional segments, we now expect to finish the year with revenue of $2.6 billion, which is at the high end of our previous range. We are also increasing our EPS projection to the range of $2.30 to $2.40. Kevin will provide additional details in a moment.

That concludes my remarks. Kevin will now provide the financial overview and additional details. Kevin?

Kevin Rauckman

Thank, Cliff. Good morning, everyone. And I will just jump right in and start to cover some additional details, starting with the income statement for the third quarter.

You saw that we posted a revenue of $667 million for the quarter with net income of $150 million. And our pro forma EPS was $0.71 per share and this excludes the $15 million foreign currency gain, which is an increase of 1%, EPS 1% over prior year.

The revenues represent a decrease of 4% year-over-year. Gross margins came in better than expected at 51.6%, which was a 200 basis point improvement from the prior year. Operating margin was 22.1%, down 200 basis points from 24.1% last year. And the margin was primarily driven by the gross margin favorability of 200 basis points. Advertising was 60 basis points favorable and down $6 million on a year-over-year basis.

Our SG&A costs were 370 basis points unfavorable, up $22 million on a year-over-year basis, due primarily to the acquisitions during the quarter. And R&D came in 90 basis points unfavorable up $4 million on a year-over-year, again, due to the acquisitions in our company.

The pro forma EPS of $0.71, as I mentioned, represents a 1% year-over-year increase on improved gross margins and a lower tax rate. Units shipped during the quarter were down 9% year-over-year as 3.5 million units were delivered. And finally, the total average selling price across our business was $193 per unit, which is actually up from $182 in the prior year due to segment mix.

On a pro forma basis, the non-GAAP measures that we reported represented income per share excluding the effects of foreign currency translation and a one-time tax adjustment that we booked in the third quarter of last year. Q3 2011 GAAP impact from foreign currency gain was $0.06 and a third quarter 2010 GAAP impact from foreign currency gain was $0.14 with an additional $0.59 that was related to this one-time – large one-time tax adjustment.

According to U.S. GAAP, we must defer revenue on certain products, and this table summarizes the net impact of the deferral and amortization of revenue and related costs in the third quarter of 2011 and 2010.

On the third quarter we deferred approximately $0.08 of EPS into future periods, compared to $0.10 in the third quarter of 2010. Most of these revenues and costs will be amortized, straight line over a three-year period. While we are deferring revenue according to U.S. GAAP, we’re collecting the cash at time of the sale, which is reflected positively in the statement of cash flows.

As Cliff mentioned, we did have a change in the amount of revenue and comps deferred per unit during Q3. This occurred primarily in response to the price difference between bundled and unbundled products shrinking during Q3. The impact of this change in estimate in the current quarter was an increase in gross profit of $17.8 million and a diluted EPS impact of $0.07.

Moving next to our revenues by segment. In total, revenues decreased, as I mentioned, 4% during the quarter. Cliff has highlighted the primary drivers by segment. I would only add that the trends in each segment have been relatively consistent throughout the year, as evidenced by our third quarter performance compared to year-to-date results. We continue to gain share in both the Marine and Aviation segments despite declines in those industries.

During the third quarter, growth of 19% in EMEA was offset by a 15% revenue decline in North America due to the declining PND market and a 10% decline in APAC. The APAC decline was driven by timing and product mix in PNDs as well as the $5 million of mobile handset shipments that we recorded in the third quarter of 2010. We do expect that the APAC market will recover in Q4.

Americas represented 53% of revenue in the third quarter of 2011 compared to 60% in Q3 2010. And EMEA increased from 31% to 39% of total revenue. Asia was consistent at 9% year-over-year.

The Auto/Mobile segment represented 58% of our total revenues during Q3, down from 64% in 2010. While the Auto/Mobile segment represents 58% of our total revenue during the quarter, it represented only 38% of the operating income due to the lower margin profile of the segment. This compared to 40% in the second quarter of 2010.

Aviation and Fitness continued to grow, with their operating income contribution representing 14% and 13%, respectively. And Outdoor continues to be a strong contributor with 44% operating margins.

But looking next at the margins by segment, our third quarter Auto/Mobile gross margin and operating margin were 44% and 15% respectively. The year-over-year improvement in gross margins was primarily driven by a reduction in per-unit costs and a slightly lower impact from a deferral of gross profit as previously discussed.

Operating margins in the quarter were 15% or 18% when adjusted for deferrals, and this is consistent with the third quarter of 2010. Our third quarter Outdoor gross margin was 66% down from 69% last year due to product mix. Operating margins, as I mentioned, were 44%, a decline from 53% in the year-ago quarter due to the gross margin decline and increased operating expenses within the Outdoor segment.

Q3 Fitness gross margin was 60%, stable from the year-ago quarter. Operating margin was 30%, a decline from 37% in the year-ago quarter due to increased advertising and R&D costs, and the allocation of SG&A costs within the segment.

Q3 Marine gross margin was 55% compared to 60% in the year-ago quarter as our product shifted more toward lower margin fish finders. Operating margin was 21%, down from 34% a year ago, driven by our gross margin decline and increased R&D and SG&A expenses to support our long term Marine OEM strategy.

And finally the Q3 Aviation gross margin came in at 66% down from 70% in Q3 due to mix shifts toward our retrofit products. Operating margin was 27% for the quarter flat from 27% in the prior year due to our operating expense leverage with 18% revenue growth and a reduction in our bad debt reserve following payment from a major customer in the segment.

Looking next at our operating expenses, Q3 OpEx increased by $20 million on a year-over-year basis from $177 million last year to $197 million in Q3 2011. And this is an increase of 400 basis points as a percentage of sales. A large part of the increase was due to acquisitions since the third quarter of last year, as I will highlight in a few minutes.

R&D increased $4 million year-over-year in the third quarter, 90 basis points, to 11% of sales as head count increased with our recent acquisitions. Our ad spending decreased $6 million over the year-ago quarter and decreased 60 basis points as a percentage of sales to 5% in Q3, 2011.This reduction was largely driven by reduced cooperative advertising, which is volume dependant, and a reduction in our media spend offset by about $3 million of additional costs associated with our acquired entities.

But the SG&A increased $22 million compared to the year-ago quarter and increased by 370 basis points to 13% of sales. The absolute dollar increase in SG&A is primarily related to the following:

acquisitions were $10 million increase total with $6 million recurring and $4 million related to the restructuring at Navigon.

We saw commissions increase $2.6 million primarily related to new web-based sales initiatives. Our product support costs increased $1.5 million. We had an update to our allocation methodology, which moved $3.2 million more into SG&A, and our legal fees were $1.3 million for acquisition-related fees and the defense of patents in the business.

Moving next to the balance sheet. We ended the quarter with cash and marketable securities of over $2.4 billion. Our accounts receivable increased sequentially to $519 million as sales in the quarter were more weighted to the back half. Accounts receivable accounted for approximately 74 days of sales when calculated on a trailing four quarters compared to 64 days in the third quarter of 2010.

Our inventory balance has increased to $461 million on a sequential basis heading into a seasonally strong fourth quarter, but declined year-over-year from $494 million. Our days of inventory metric was 125 days, compared to 140 days in the third quarter of 2010.

We ended the quarter with the following amounts and number of days of inventory: $149 million in raw materials, or 38 days; $55 million in work in process and assemblies, or 15 days of inventory; $283 million in finished goods, or 72 days and we ended the quarter with $26 million in inventory reserves.

We now show a $233 million dividend payable on our balance sheet following the payment of the first dividend installment of $155 million on the 30th of June. We did pay an additional $78 million on September 30 after our Q3 closing.

And we continue to generate strong cash flow across our businesses. Cash from operations was $186 million during Q3. CapEx was $12 million during the quarter and we generated free cash flow during Q3 of $174 million.

Cash flow and deficit during Q3 was $50 million including the $12 million from CapEx, $59 million in acquisitions and intangibles offset by $21 million net redemption of our marketable securities. Financing activities was $153 million use of cash due to the dividend payment, and overall, we earned an average of 1.4% on all cash and marketable securities balances.

We expect our strong cash flow generation to continue into our seasonally strong Q4. We will continue to use a portion of the cash flow to fund the dividend going forward. Acquisitions in adjacent niche markets, or tuck-in technologies, which fit our core markets, continue to be a focus. As has been Garmin’s practice, acquisitions will be evaluated by technology, values compatibility and strategic fit within Garmin.

Our tax rate for Q3 was 14.1%. We expect the 2011 rate to be approximately 12%. The reduced effective tax rate is attributable to a change in methodology for uncertain tax positions reserves following our favorable audits in both 2010 and 2011.

And finally, I wanted to review our full year guidance. As Cliff mentioned earlier, in light of the moderation of deferrals associated with PND products and the solid performance of our traditional segments, we now expect to finish the year with a revenue of $2.6 billion, which is at the high end of our previous range. We also expect gross and operating margins to increase to 47% – to 48% and 18% to 19%, respectively and given an effective tax rate for the year of 12%, this leads to an expected EPS range of $2.30 to $2.40, which represents a $0.25 to $0.30 increase from our prior guidance.

This concludes our formal comments. We will now open the lines for Q&A, so join the Q&A line when you’re ready.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) And our first question will come from Mark Sue with RBC Capital Markets.

Joseph Longobardi – RBC Capital Markets

Hi. This is Joe Longobardi on for Mark.

Clifton Pemble

Hi, Joe.

Joseph Longobardi – RBC Capital Markets

Hi. So we’re seeing an uptick in applications and devices associated primarily with smartphones, as covering run trackers, heart rate monitors and others. Can you discuss the competitive dynamics? Do you see them within the Outdoor Fitness segment? Are you seeing any early signs of cannibalization at this point?

Clifton Pemble

Well, I think those applications, Joe, have been around for a while now. We haven’t seen any kind of cannibalization of our Fitness market, for example, because we’re still demonstrating very strong growth in those devices. We also balanced our product line to offer our own applications, which work with our heart rate sensors and other sensors that would go on a bike as well. So we feel like we’re playing all of the bases in the various market segments – sub-segments of fitness and covering all the customer needs.

Joseph Longobardi – RBC Capital Markets

Okay. And just looking at the deferred revenue. You highlighted the change in the deferral rate and the resulting margin benefit that we saw there. Can we assume that this is a new base rate or should we expect some future variability quarter-over-quarter as it relates to that?

Kevin Rauckman

Yeah. In general you should expect that we’re at a new base rate. There will be some variability just due to difficulty to forecast since the manner in which we estimate is – has a lot of variables there, but in general we’re at a new run rate now.

Joseph Longobardi – RBC Capital Markets

Okay. Thanks. Good-bye.

Kevin Rauckman

Thank you.

Operator

Our next question will come from Simona Jankowski with Goldman Sachs.

Simona Jankowski – Goldman Sachs

Hi. Good morning and thank you. Just a follow-up on that deferred question. I think you mentioned in your prepared remarks that during the quarter the price differential narrowed and that’s what precipitated the change. Can you just be a little bit more specific on what that differential narrowed from and to?

Kevin Rauckman

In general we look year-over-year. We’ve been watching the bundled and unbundled. And if you look like a year ago, we were sitting at about $50 difference between bundled and unbundled and as we went through Q3 the number was closer $20. So I think we’ve been evaluating that and it came to a point where due to market condition changes we had to change our baseline of how we defer that revenue.

Simona Jankowski – Goldman Sachs

Got it. And is that price difference on the wholesale price from you to the retailer as opposed to the end price? Because when we actually track that difference just in terms of the published online pricing for Garmin product, it was fairly close to $40 this quarter, which was pretty similar to the $40 that we tracked last quarter. So we didn’t really pick up that big of a change during the quarter.

Kevin Rauckman

Yeah. The pricing is related to our pricing to the distributor. So it’s not the end retail, but it’s more the price that we get on revenue on our products sold to the customer.

Simona Jankowski – Goldman Sachs

Okay. Got it. And then just last question, is if you can comment a little bit on the contribution of Navigon in the quarter and also what you thought about your overall market share since it seems like your unit growth was relatively flat sequentially and your main competitor seems to have been up in the double digits. So I know you talked about share gains in EMEA, but maybe if you can just give us a global view in a particular accounting for the organic business excluding Navigon.

Kevin Rauckman

Okay. Yeah, I’ll first start with Navigon. We closed the deal on Navigon at the end of July. So we had two months of their results, and going forward we probably won’t break this out, but just for the current quarter we experienced about $25 million in revenue, which was right where we had anticipated it going into the quarter. And I think your other question was related to market share. And I think you – assuming you were talking more about PND, correct?

Simona Jankowski – Goldman Sachs

Correct, yes.

Kevin Rauckman

Yeah. So I think what we’ve seen on the PND market share is that – we mentioned that our European businesses are growing, we saw growth during the period. And clearly the North American market’s still in decline, but overall, we still think that our global market share we’ve been able to retain, if not see that grow a little bit, from the 37%, 38% range is where we would put the overall global share in PND.

Simona Jankowski – Goldman Sachs

Okay. Thank you.

Kevin Rauckman

Thank you.

Operator

Next we’ll go to Charlie Anderson with Dougherty & Company.

Charlie Anderson – Dougherty & Company

Good afternoon, and thanks for taking my questions. I’m actually going to start with Aviation. I wondered – I think you guys talked about the Retrofit business doing well. And I get the sense that with people sort of deferring decisions on new planes, they’re going back and updating their current plans. So I’m wondering what sort of the industry growth rate is in the Retrofit business. And if you guys feel like you’re taking share above that if you’re growing faster than the industry.

Clifton Pemble

Well, Charlie, I think some of the good results we have on the Retrofit side are driven by new product introductions. Our GTN series offers new capabilities that weren’t available in the past to Retrofit buyers. That’s one catalyst. And then in general, it seems as we get closer to the end of the year people are accelerating on their decisions to equip their aircraft in order to take advantage of tax incentives and things that are still in place.

Charlie Anderson – Dougherty & Company

Got it. And then a question on the deferrals, Kevin, you sort of implied a revenue number for Q4 here in your full year gut instinct. And I wondered what is sort of the impact deferrals that you’re assuming in that – I think it’s $750 million number for Q4. And I’m also wondering how we should think about going forward. I think at one point you thought you’d get sort of a net benefit from all the amortization, I wonder if that pushes out a little bit with the change from your product...

Kevin Rauckman

I think – yes, sequentially we would still expect the deferred revenue component to be larger than in Q3, but it will – we believe it will be lower than what it was a year ago. So year-over-year, Q4 the deferred component will be down. So that’s what our expectations are going into the holiday season.

Charlie Anderson – Dougherty & Company

Okay. Thanks.

Kevin Rauckman

Thank you.

Operator

Our next question comes from Yair Reiner with Oppenheimer & Company.

Yair Reiner – Oppenheimer & Company

Thank you. So first, on the non-Auto/Mobile businesses, if I look at them on a combined basis, it looks like operating income was down on the order of 8%, 9% year-on-year. How much of that was due to reallocation of expenses across the various businesses? And to what extent does that reflect a new level of investment that you need to make in those businesses moving forward?

Kevin Rauckman

Well, Yair, I think you know we’ve made some changes to our business model in the last 12 months and we’re not going to quantify exactly how much that is, but a large part of that, that declined in operating margins has to do with investment like we mentioned on the Marine OEM and some of the other areas like Fitness. So we believe that we’ve invested pretty heavily there in the last year in those traditional markets.

The other aspect was – or has been some gross margin declines due to product mix as we mentioned, like in the Fitness area so – and also in the Marine area for that matter. So those are the other kind of two characteristics that are driving the overall operating margins.

In general, we feel pretty comfortable with the operating margins in those traditional markets. We feel like they’re sustainable and we’re working diligently to come out with new technologies that’ll help us, again, to sustain that high profit margin.

Yair Reiner – Oppenheimer & Company

Great. And then just in terms of your guidance and if I look at the implied guidance for the fourth quarter, you have EPS of somewhere in the midpoint around $0.58, which is down substantially both from the third quarter of 2011 and from the fourth quarter of 2010. To what extent is that conservatism? To what extent – are there tangible things that you’re concerned about? Is there some reason to worry that given the share gains you’ve had in Europe your competitors are going to be a little bit more aggressive on the pricing side?

Kevin Rauckman

Well I think we have pretty good plans going in to the holiday season with our retailers. So we know what the – generally what the price points are. We don’t know, obviously, the exact mix based on the sell through rates. So I think the main driver there is – not surprisingly, is the PND margins. We don’t see – we don’t expect that we will continue to see 44% growth margins on PND. We always have discounting and special promotional products at the Black Friday and the entire quarter. So that’s the primary reason. There is some level of conservatism. But I think we feel pretty comfortable with our overall guidance for the quarter and the year.

Yair Reiner – Oppenheimer & Company

Great. And then just one final quick one. Any sense of the inventory situation on the PND side both in Europe and in the North America? Thank you.

Kevin Rauckman

Yes. Thanks, Yair. Inventory in our opinion is in really good shape. We don’t expect any major issues there. The channel is much cleaner than it has – than it was a year ago and it’s been like that for most of this year because retailers have been more conservative in their buying patterns.

Yair Reiner – Oppenheimer & Company

Thank you.

Clifton Pemble

Yeah.

Operator

And next we’ll go to James Faucette with Pacific Crest.

James Faucette – Pacific Crest

Great. Thank you very much. I wanted to follow up on the PND market, generally is that – can you talk a little bit about how you’re thinking about that business for the medium to long term? I know coming into this year that you decided, hey, it was worth additional investment, particularly to refresh your product portfolio there. Do you feel like we’re reaching a point of stability yet? Or should we anticipate further declines? And I’m just wondering what the implications for your operating expense outlook for that segment are going forward?

Clifton Pemble

I think, James, we don’t anticipate that the trends we’ve seen recently are going to change materially in the near term. In the coming year, we anticipate another approximately 10% decline in the worldwide unit volumes. We do believe that in the longer term, that the market stabilizes at some point and I think a lot of people are trying to project what that is. It’s kind of difficult to do, but we do believe there’s a long-term market there that’s still substantial that we can serve.

James Faucette – Pacific Crest

Okay. And then turning to Aviation, you indicated that you’re seeing a little bit more activity as people kind of push to get Retrofits, et cetera, done before the end of the year. Can you give us an idea of what your sense is? How much of that may be related to pending tax changes, et cetera, that may be causing people to pull forward demand versus how much do you think it is really a bit of an improvement in underlying demand?

Clifton Pemble

Probably hard to say. I don’t think this is a new trend because each year when there’s a potential expiration of bonus depreciation, people tend to defer their buying decisions until somewhat of a last minute. But we do think that there’s some level of interest in improvement in the Retrofit market as people are enticed by the new products, so there’s a balance of factors that are there and kind of hard to quantify each one.

James Faucette – Pacific Crest

Sure. And then finally, just – my last question is just on the tax rate. I guess looking for effective tax rate this year of about 12%. What’s – how should we be thinking about that for out periods? Are we getting some extra benefit this year? Or should this be kind of our – a new assumed level going forward?

Kevin Rauckman

Yeah. I think there’s – again, there’s a lot of details on the tax rate that go into that. A lot of it would depend on the profitability by the various regions, whether Europe versus – APAC versus Americas grows faster. But in general, we feel like somewhere between the 12% and 15% range on effective tax rates is where you should model this business in the next couple of years.

James Faucette – Pacific Crest

That’s great. Thank you very much.

Kevin Rauckman

Thanks, James.

Operator

Next we’ll go to Travis Mccourt with Morgan Keegan.

Tavis McCourt – Morgan Keegan

Thanks, guys. It’s Tavis. Kevin, I was wondering if you could help me out with trying to figure out, if you back out the deferred revenue impact from last year and this year, I’m getting to an Auto revenue down about 13%. And I wanted to see if that was consistent with what you guys – how you guys would calculate it and that would – I guess, would include Navigon. And then secondly, I wonder if you can give us the mix of OEM versus retrofit – or aftermarket in both the Aviation and Marine segments?

Kevin Rauckman

Your first number about down 13% is pretty close to what we have, yeah. I think you’re in the ballpark on that. From a OEM, I know on the Marine side, we’ve seen an increase in the Marine OEM business. It used to be very small. In the last couple of quarters, it’s run about 10% of our overall Marine segment. And on the Aviation side, do we have an exact number we’re ready to...

Clifton Pemble

Yeah. We tend to see business there that is evenly split between Retrofit and OEMs at this point because we do have strong positions at many OEMs. There’s also the portable component that rounds out our total Aviation revenues, but we don’t split it out beyond that.

Tavis McCourt – Morgan Keegan

Great. And, Kevin, do you have the Q4 2010 revenue split between Outdoor and Fitness, or is that available anywhere?

Kevin Rauckman

Yeah. It’s actually on our Web site, and Kerri can follow-up with you.

Tavis McCourt – Morgan Keegan

Thanks.

Kevin Rauckman

But yeah, we’ve broken those down for your benefit.

Tavis McCourt – Morgan Keegan

Yeah. Great. Thanks a lot.

Kevin Rauckman

Thank you.

Operator

Next we’ll go to Scott Sutherland with Wedbush Securities.

Scott Sutherland – Wedbush Securities

Great. Thank you and good morning.

Kevin Rauckman

Hey, Scott.

Scott Sutherland – Wedbush Securities

First of all, on the Auto/Mobile, can you talk a little bit more about the potential revenue you’ve seen in the Auto OEM market and kind of momentum you’re seeing there in some of these new wins and some of the fleet navigational wins you’ve won there?

Kevin Rauckman

Auto OEM. Auto OEM. I think what we’ve – we’re – we’ve commented, we don’t break it out officially between our Auto/Mobile segment because the Auto OEM is still a relatively small component of the Auto/Mobile segment. It’s between – around $125 million, roughly, this year, and it will – we expect it to continue to grow. Cliff talked about some new deals that we’ve won like the VW Volkswagen Up and the Suzuki. Many of the deals that we’re working on with our new platform would take us a couple of years before we would see revenue contributions, so this is more of a longer term strategy. And hopefully, we’ll have some additional wins to talk about here in the future.

Scott Sutherland – Wedbush Securities

Okay. Moving over to Fitness, you’ve already addressed some of the smartphone competition. TomTom’s been there a while with Nike with a product and there’s a new Motorola product there. What are you seeing that you need to do to compete? I mean, do you think there’s going to be pricing pressure there? Or you think it’s best of your products you can maintain your pricing and compete effectively in this growing market?

Clifton Pemble

I think it’s really two things, Scott. One is, our products are known in the community as being the products that offer the features and the performance that people are looking for in the fitness environment. So we’ve developed a reputation and a brand amongst athletes that Garmin is the go-to brand.

In terms of going forward, we believe that there’s opportunity to expand the market to appeal to different levels of athletes. And we can invest in our product line in order to be able to address those other segments of the market.

Scott Sutherland – Wedbush Securities

Okay. Great. Thank you.

Kevin Rauckman

Thank you.

Operator

We’ll next hear from John Bright with Avondale Partners.

John Bright – Avondale Partners

Thank you. Good afternoon – or good morning. In the Aviation market, as your moving up market, characterize how you see the opportunity over the next couple of years for the Aviation market.

Clifton Pemble

Well I think Aviation is actually a very interesting growth story for us. We are working hard on quite a few platforms, some of which we’ve outlined for you today as well as in the past, and we are very much under-penetrated in the mid-size business jet category and that’s an area that we can continue to grow for a while.

John Bright – Avondale Partners

Something you think you could double over a maybe three-year timeframe?

Clifton Pemble

Yeah. I don’t know that we can quantify it on the fly. But – so we do see significant opportunity with lots of platforms that are still either being developed or are going to be up for renegotiation and new avionic systems for those platforms in the future.

John Bright – Avondale Partners

Kevin, on the – the Fitness margins were down year-over-year and I think you mentioned cost allocation as a partial reason associated with that. How are you allocating a rate cost today and have you changed that?

Kevin Rauckman

Well we haven’t changed it significantly, but a significant portion of our operating expenses are allocated on sales. As you saw in the quarter and the year, Fitness has really grown much faster than the other segments so they do gain, I guess, some of those operating expenses in the segment, which has impacted our operating margins in the short term.

I think when we look forward on the growth rate to the various businesses, I think – again, 2011 has been more significant in the impact that we’ve seen on the bottom line from these segments. But as I mentioned in our formal remarks, we’re pretty comfortable with the long term margin structure of those traditional segments, including Fitness.

John Bright – Avondale Partners

It’s something we’ve talked about on multiple calls regarding the PND business and the long term trajectory associated with it. Can you talk to us about – or give us an update about how you plan to lower the costs associated – the operating costs associated with that business?

Clifton Pemble

Yeah. I think, John, as the market develops and as we see – confirm the trends that are there, we’ll have to scale our investment and the end products and R&D accordingly just to fit the market. While we did introduce a significant line of products this year, the new line does represent a significant simplification of our product lines and we would anticipate going forward that we can make similar changes in order to scale our investment.

John Bright – Avondale Partners

Okay. I’m going to go to the Auto OEM side that you were just talking about. Are you seeing a greater value by the Auto OEMs of the offering you’re bringing to the table that are not just focused on cost as they have been historically?

Clifton Pemble

Yeah. I think for the partners we’re working with right now we do hear favorable feedback from them that they appreciate the Garmin brand and the benefits that, that brings in the consumer awareness. People feel like they’re getting a system that they know and from a provider they can trust. So we do see benefit in that.

John Bright – Avondale Partners

Two final questions. One, given on guidance it was asked one way, try it another way. What kind of macro assumptions are you assuming for the upcoming holiday seasons?

Kevin Rauckman

I think what we’re assuming is – we’re assuming growth through the traditional segments. In Marine, if you look at Marine Q4, the lowest quarter from just an absolute dollar level. Now the key question is are we going to see anything change? So I think on PND for the holiday season, we’re looking at sequential growth much like we’ve seen in the past across our total business but maybe not quite as pronounced in Q4. That’s – those are the assumptions that we’ve put into our guidance for fourth quarter.

John Bright – Avondale Partners

Okay. Final question. What’s been the board discussion regarding dividend policy beyond March? Is it something where you’re going to go to a fixed rate with increases? Should we think about a payout ratio? What has been the discussion at the board regarding dividend policy?

Kevin Rauckman

I think we’re comfortable with the policy this year. We – actually, the board hasn’t made any final decisions yet. We would address the use of cash as we come out of the year and get into Q1, but the timing of that would be – when we set our 2012 guidance we will also talked about dividend policy.

Clearly, you can see from our strong cash flow that we have a considerable amount of cash being generated in the business, talk about acquisitions, strategic acquisitions to acquire, which would not come anywhere near what our operating cash is. So in general we like the idea of paying a strong dividend yield, right now roughly 5% maybe a little bit below that with current price. But we’d like that strategy. Generally, the way we look at it is the dividend yield as opposed to a payout ratio.

John Bright – Avondale Partners

Thank you.

Operator

We’ll next go to Paul Coster with JPMorgan.

Paul Coster – JPMorgan

Thank you. Kevin, so much data, I may have missed this, but did you share the unit volumes by segment?

Kevin Rauckman

No. We’ve not broken those out traditionally, so just under 3.5 million units for the quarter, but we do not break out unit volumes below that.

Paul Coster – JPMorgan

Okay. And then in Europe, obviously, you have confidence that you can hang onto the share gain and even build on it. Can you talk just a little bit about what you’ve actually done? What it is in the product, the channel, the brand or whatever, that has won you this market share and seems sustainable to you?

Clifton Pemble

Well, Paul, first of all, we’ve concentrated on each individual market and tried to make sure that our product is up to the standards that those markets expect, giving them everything that they need for their particular navigational situations. We’ve also focused our strategy on all included in terms of services, so traffic, map, updates, all of those things are all included in the price. And customers know what to expect in terms of the ongoing cost of maintaining their unit.

Paul Coster – JPMorgan

Okay. And then in terms of channel inventory. I think you mentioned earlier on it, but is there any difference between the level of channel inventory in North America and Europe? And how does it compare to this time last year?

Clifton Pemble

I think generally, we feel like channel inventories are really quite lean and clean exiting the quarter. As we move into the holiday season, of course, we’re shipping a lot of units in for – in anticipation of holiday gift buying. But as of the exit of the quarter, we felt like it was very lean.

Paul Coster – JPMorgan

Lastly, the revenue that you’re deriving from sales of your software-based solutions to – for use on the iPhone for instance. Is that material? Is it strategically important to you as an initiative? And if so, why?

Clifton Pemble

I think we feel like it’s an important area for us to have a presence. At the moment, it is an insignificant number relative to the overall revenue headline of Garmin. But we’re pleased so far with our progress.

Paul Coster – JPMorgan

Okay. Thank you.

Kevin Rauckman

Thanks, Paul.

Operator

Our next question comes from Ben Bollin with Cleveland Research.

Benjamin Bollin – Cleveland Research

Good morning. Thanks for taking the call. First question I had is, looking at the deferred revenue, are there any thoughts on when amortized revenue will begin to outpace the deferred revenue on either a quarterly or annual basis?

Kevin Rauckman

Yeah. We probably won’t see that for at least another year, after end of 2012. And then we’ll get into that position where that will turn around.

Benjamin Bollin – Cleveland Research

Okay. And then looking at the Aviation market, what’s your current market share in the overall market before you start seeing the contribution of the G5000 cockpit? And then, how does the total addressable market change in size once that product is certified and you start to get the revenue contribution?

Kevin Rauckman

Well, I think in the category of aircraft that the G5000 goes into, our market share is currently really zero because we’re starting basically with new wins there. Going forward, it’s difficult to say because there’s lots of deals still in the works and programs that we’re certifying now. But we aim to take a meaningful share of that market through the unique value that our system offers to the OEMs.

Benjamin Bollin – Cleveland Research

Okay. I guess my last question then would be looking at the Auto OEM business versus the traditional PND business. How do gross margins and operating margins compare between the two?

Kevin Rauckman

Gross margins in Auto OEM tend to be lower for various reasons. Obviously, you’re going through another layer of resale in the channel. Operating margins also tend to be lower both because of the top line as well as the investment that it takes in the OEM business. It’s definitely a resource-intensive business.

Benjamin Bollin – Cleveland Research

Thank you.

Clifton Pemble

Thanks, Ben.

Operator

Next we’ll go to Rich Valera with Needham & Company.

Richard Valera – Needham & Company

Morning. Thank you. Your – I know you talked about your guidance – implied guidance for the fourth quarter, but I just wanted to revisit that. Historically, you’ve not had a quarter with worse than 20% sequential growth in the fourth quarter, even in the fourth quarter of 2008, which was a very tough quarter economically.

And your implied guidance is sort of low double-digit this quarter. So if I understood in some of your answers to other questions, it sounded like maybe it was PND where you’re expecting a less-than-historical, seasonal increase, and that’s what’s driving the overall top line guidance. Is that fair?

Clifton Pemble

I think that’s fair. I think it’s primarily focused on the North American market, so it’s no surprise. We’ve been talking about the North American PND market all year. So I think that’s the primary reason for our Q4 guidance.

Richard Valera – Needham & Company

Okay. Fair enough. And I just wanted to make sure I understood the deferred impact on gross margin. I think, Kevin, I believe you said it was $17.8 million positive impact on gross margin this quarter due to the change in the way you were accruing that. Does that mean the deferred revenue that you would have seen under the old method would have been closer to $40 million? Is that fair?

Kevin Rauckman

Yeah. That’s – well, I think that – yeah, a little bit over $40 million actually.

Richard Valera – Needham & Company

Right. Right, actually over $40 million, like closer to $42 million.

Kevin Rauckman

Yeah. The $17.8 million was the gross margin impact, so the $0.07 is – yeah, that’s right.

Richard Valera – Needham & Company

Right. Okay.

Kevin Rauckman

Okay?

Richard Valera – Needham & Company

All right. That’s all for me. Thank you.

Kevin Rauckman

All right. Thank you.

Operator

We have no further questions at this time.

Kerri Thurston

Very Good. Thank you all for joining our call today. And Kevin and I will speak to many of you later. Thanks.

Operator

And that does conclude today’s conference. Thank you for your participation.

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