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Executives

Jennifer Gianola -

Gregory S. Lang - Chief Executive Officer, President and Director

Michael W. Zellner - Chief Financial Officer, Principal Accounting Officer and Vice President of Finance

Analysts

James Schneider - Goldman Sachs Group Inc., Research Division

Ruben Roy - Mizuho Securities USA Inc., Research Division

Kevin Cassidy - Stifel, Nicolaus & Co., Inc., Research Division

Harlan Sur - JP Morgan Chase & Co, Research Division

Brendan Oliver Furlong - Miller Tabak + Co., LLC, Research Division

David Wu

Sundeep Bajikar - Jefferies & Company, Inc., Research Division

William S. Harrison - Wunderlich Securities Inc., Research Division

Srini Pajjuri - Credit Agricole Securities (USA) Inc., Research Division

PMC-Sierra (PMCS) Q1 2012 Earnings Call April 30, 2012 4:30 PM ET

Operator

Welcome to the PMC-Sierra First Quarter 2012 Earnings Conference Call. My name is Christine, and I will be your operator for today's conference. [Operator Instructions] Please note, today's conference is being recorded. I will now turn the call over to Director of Investor Relations, Jennifer Gianola. You may begin.

Jennifer Gianola

Thank you, operator. Good afternoon, everyone, and thank you for joining the call. With me today are Greg Lang, President and CEO; and Mike Zellner, Vice President and CFO. Greg will begin the call with a discussion of the business and key highlights from the first quarter 2012, and Mike will then discuss the financial results for the first quarter 2012 and the business outlook for the second quarter of 2012.

Please note that our first quarter 2012 earnings release was disseminated today via BusinessWire after market close, and a copy of the release can be downloaded from our website.

Before we begin, I would like to point out that during the course of this conference call, we will be making forward-looking statements that involve a number of risks and uncertainties. These risks and uncertainties include, but are not limited to, PMC's limited revenue visibility due to variable customer demand, market segment growth or decline, customer concentration, bookings rate, changes in inventory, supply constraints, foreign exchange rates and volatility in global financial markets, and other risk factors that are detailed in the company's SEC filings. Actual results may differ materially from the company's projection. For further information about these risks and uncertainties, please read the company's SEC filings, including our Forms 10-K and 10-Q.

Note that PMC undertakes no obligation to update any forward-looking statements. Please note that for each of the historical non-GAAP financial measures mentioned on this call, a full reconciliation to the most comparable GAAP financial measures is included on our press release issued today. In addition, a GAAP to non-GAAP reconciliation of financial measures noted in our outlook will be posted on our website under the Financial Reports section of the Investor Relations tab. [Operator Instructions].

Thank you, and I will now turn the call over to Greg Lang.

Gregory S. Lang

Thank you, and welcome to our first quarter earnings call. During the quarter, we continued to see evidence that orders are moving in the right direction. For the full quarter, bookings were up approximately 25% over Q4 levels and we finished with a book-to-bill over 1.1, and anticipate solid growth in Q2. Our storage and server business continues at a healthy clip with strong server sales coincident with the Romley ramp. With much of the inventory cleanup behind us, we expect the balance of the year to continue to strengthen. Despite positive macro signs, there are still areas of weakness in the markets we serve. As you've heard from most of our peers serving the carrier equipment market, a solid recovery is not yet upon us. In conversations with our customers and a few other carriers themselves, most are upbeat about a second half spending, but don't -- we don't yet see it on our bookings. Two of the 3 China carriers are forecasting strong growth while China Mobile, and the established North America carriers, are protecting more modest single-digit growth.

Given the slow start to 2012, this could lead to a strong second half. So this general backdrop, I'd like to get into the details of Q1. The first quarter was a challenging time for the industry of what appears to be at the bottom of the cycle. For PMC, we reported net revenues of $132 million and $0.06 non-GAAP EPS. While revenue was near the midpoint of our range, the mix was a bit different than we expected. Storage came in stronger than our initial expectations while our Optical business was off more than expected with continued weakness in that market segment. At the top level, the Storage Network segment was 66% of total revenue, up from 64% in Q4. Optical revenue came in at 20% of the total, down from 23%, and mobile revenue came in at 14% of the total, up from 13% last quarter.

For those of you tracking the legacy portion of our revenue, it dropped 8% of total revenue in Q1.

Now some more detail on the storage and market segments. Our storage business in Q1 was down approximately 11% versus last quarter, which is several million dollars better than we had anticipated, mostly due to stronger demand and servers given the Romley ramp. Drive shortages didn't seem to impact our large server or storage OEMs as much as it did impact the channel which was down more than seasonally. Overall, this 11% decline is more in line with the normal 6% to 10% seasonality that we would normally expect in the Q1. With the big inventory consumption and the slow seasonal quarter behind us, we expect to see solid growth potential for the balance of the year.

While Q1 was challenging, we executed well in terms of design wins and new products, building a foundation for continued success in 2012 and beyond. Engineering excellence allowed us to continue to out-innovate the competition, win new designs and grow our market share.

During the quarter, we achieved the following: we've showcased the industry's only PCI Express Gen 3 capable RAID-on-Chip solution for Intel's Romley platform at the time of launch; we announced and sampled the industry's broadest technology portfolio of 12-gig SAS controllers and expanders with record-setting performance and density; strengthened our relationships with key server OEMs by acquiring Maxim's 12 gigabit per second SAS expander technology.

Now I'd like to comment on each of those with a little more detail. Our leadership was on full display with our latest generation of 6-gig SAS solutions. In March, HP launched its ProLiant servers based on Intel's Romley platform with PMC's SRCv solutions. PMC is the only provider of RAID-on-Chip controllers to support the PCI Express Gen 3 interface at launch. The new 6-gig lineup also includes the industry's highest density RAID-on-Chip solution with 24 ports of 6-gig SAS. The nearest competitor has a max of 8 ports.

At CeBIT and the Intel Developer Forum, we showcased up to 2x the performance bandwidth versus a previous generation with 2x the bandwidth on the PCI Express interface and 3x the bandwidth on the SAS interfaces. And by the way, this is more than double the performance of the new competing solution that was introduced at the same show.

Hitachi's recent announcement of their DF850 platform is a great example of a Tier 1 OEM leveraging our SAS controllers, Fibre Channel controllers and expanders in their platforms. We also see wire-speed Fibre Channel and SAS controller-based encryption solutions being offered across the market, a critical new feature for cloud computing and one not matched by any competitor.

Now let me discuss our new 12-gig SAS controllers and expanders, and why we are well positioned to win in these new -- with these new leadership products. We rolled out a family of 12-gig SAS products and nearly every top OEM in the industry has a serious evaluation underway, and the results are impressive. Our 12-gig SAS controllers are the highest performing in the industry.

We're demonstrating double the performance versus our competition. Additionally, our 12-gig SAS interface can drive 10 meters of passive copper cable lengths with our first-pass silicon. Now driving 10-meter cable lengths is critical for our enterprise customers who need to cost-effectively cover longer distances, spanning racks within their data centers, as well as next-generation dock plans. Every previous generation of SAS was specified to support 10 meters of reach. Reducing it causes major headaches and physical challenges in the data center. Although the T10 12-gig SAS standard is not yet ratified and there's a debate as to what cable length will be supported, PMC supports the original proposal of 10-meter cable lengths, and now we've proven it possible thanks to our strong mix signal capabilities.

Last, but clearly not least, we have the highest density chips that are allowing OEMs to build systems with greater than 40% higher density than the competing solution. There are center slots where our competitive solution will simply not fit. With this kind of leadership, it's easy to understand that we've won 5 designs in 4 major companies, including the largest opportunity in the industry for 12-gig SAS. And we have active design work happening at 4 of the next 5 server and storage OEMs and their ODM suppliers. These wins are proof points of the value of our customer's place on high quality first-pass silicon and their trust in our ability to execute on these transitions. With this strong momentum, we believe we're poised to continue to grow our share at 12-gig SAS.

Now let me spend a few minutes on the Maxim acquisition and what this means for PMC. We acquired Maxim's 12-gig SAS expander technology assets. I'm pleased to tell you that this acquisition has been very well received by our customer base. The acquisition is important for a few reasons: on number one, it positions PMC to strengthen our SAS expander solution capability, especially for delivering solutions to leading server OEMs; it also broadens our portfolio with Maxim highly-valued feature sets and innovations combined with PMC's strong enterprise footprints; and we acquired a very talented engineering team that forms the nucleus of our new storage design center in Colorado Springs where many of our customers are located.

Now I'd like to move to the optical market, except market segment. In our Optical market segment, we saw a decline of over 20% driven by continued weakness in inventory consumption across our Metro, Fiber To The Home and legacy segments. We believe we have worked through most of the excess inventory at or near the bottom of our -- with our Optical customers. In addition, the qualification cycle for OTN deployment is taking longer than we expected. After surveying the status of our customer deployments, it's become clear that these platforms are taking nearly twice as long to get to production status relative to the SONET platforms before them. Specifically, we see this at 2 levels: the OEMs are taking longer to finalize their platforms; and secondly, the carriers are taking longer to evaluate the technology and often asking for feature changes before deployment. Our last major Metro network change was to SONET but the technology, capability and complexity have changed dramatically. This move to OTN is a big transition. But industry commitment to OTN has not changed. In fact, across the world, the majority of carriers are migrating to OTN. Taking a longer view, there are big traffic trends that are just starting to take off. There is more data content and mobility than ever before and it needs to be connected, moved and stored. Despite a challenging environment, we're excited about the opportunity and we'll share more with you at our analyst day in June.

In Fiber To The Home, we continue to build on our leadership. Last quarter, we announced the industry's first end-to-end 10-gig fiber access solution with performance and feature integration that enables carriers to connect up to 10x more subscribers per optical distribution network and lower power consumption by above 50%. We also marked another major fiber access milestone with more than 20 million ONUs deployed in EPON, GPON and 10-gig EPON optical network units worldwide.

Next, I'll comment on our mobile market and market segment. In our mobile market segment, sales were down by 7% due to the general weakness we see in carrier sales. We believe we're at or near the bottom of the cycle in backhaul where the fundamentals for business are -- remain robust. Data traffic continues to explode driving the need for a transition to packet backhaul, where our Wintegra processor platforms are uniquely positioned. Our customers are committed to bringing second-generation products to market. In fact, from a product standpoint, we've had another strong quarter in terms of design wins. We currently have more than 100 design wins in the WinPath3 family with less than 15% of those wins currently in production status. Another way to consider our position is that we've won designs at 4 of the top 5 backhaul solution -- fiber backhaul solutions, and 6 of the top 9 microwave backhaul solutions. And no other supplier comes close. We expect to see more and more LTE and data traffic -- rollouts in 2012, and smartphones continue to grow substantially in penetration and mobile Internet usage continues to explode.

So with that wrap-up of Q1, let me now change gears to give you an outlook for Q2 of 2012. As we look to Q2, we're seeing solid signs of improvement beyond Q1. We expect Q2 revenues to be in the range of $136 million to $144 million, up 3% to 9%, which is a good start over the Q1 low. Considering today's backlog, we believe the storage and mobile market segments will drive most of the growth in Q2 with Optical seeing a minor increase from Fiber To The Home growth. Given the improving business climate, I'd also like to comment on the current outlook for the second half. With a modest pickup in carrier spending, we expect to get back to normal end market levels by the time we exit 2012. I estimate this to be in the $160 million to $170 million range for Q4 and some progress towards that range in Q3. We believe our gross margins will expand 1 point or 2, and our expenses will fall to the $75 million to $76 million range which gets us back to our operating model of 25% at the lower end of that revenue range.

Looking forward, the fundamental drivers behind our investments to transform networks that connect, move and store digital content is soundly intact. We are encouraged by the early signs of recovery that bode well for the balance of 2012. We are well positioned with our technology leadership in Storage, Optical and Mobile and as the legacy headwinds wane, we feel confident about the second half of 2012 and beyond. A strong statement of our confidence is the board's authorization to expand our share repurchase program from $40 million to $315 million. At today's prices, that's over 18% of our outstanding shares. This highlights the company's strong balance sheet and free cash flow generation, as well as emphasizes the board's commitment to enhancing shareholder value. So with that, I'll hand it over to Mike for details on the financials and our outlook.

Michael W. Zellner

Thanks, Greg. I'll now discuss our first quarter 2012 financial results and comment further on our outlook for the second quarter 2012. First quarter revenue of $132.1 million came in within our outlook range and was $20.5 million lower than Q4 2011, a greater-than-seasonal decline primarily due to inventory consumption across the broad range of customers and lower carrier spending impacting business, as Greg discussed. In Q1, we had 2 customers which each accounted for more than 10% of our revenues calculated on a rolling 12-month basis, namely HP and EMC. Non-GAAP gross margin in the first quarter was 69.1%, only slightly lower than the 69.2% in Q4. We were able to offset the negative effect on gross margins of fixed cost over lower revenues in the quarter through cost savings initiatives which will continue to benefit us in Q2 and beyond.

On a non-GAAP basis, operating expenses were also within our outlook range for the quarter coming in at $78.3 million, an increase of $1.2 million over Q4. This increase was mainly due to the annual payroll reset of employees' benefits at the beginning of the calendar year, partially offset by lower tape-out activity in Q1 as mentioned in our last conference call. In Q1, non-GAAP operating margin was 10% as expected, compared with 19% in Q4 driven by the revenue decline this past quarter. We are expecting a return-to-model level operating margins for the second half of the year 2012.

Also due to the lower revenue in Q1, non-GAAP net income was lower at $14 million or $0.06 per share on a diluted basis compared to $29.1 million or $0.13 per share that generated in Q4. Q1 GAAP net loss per share was $0.41 versus $0.12 net income per share in Q4. This decrease is mainly due to an $85.4 million of tax provision related to an intercompany dividend, as well as lower revenues in the quarter. In addition, there were certain tax recoveries recorded in Q4 that did not reoccur in Q1. The intercompany dividend that, I just mentioned was made in preparation for funding our previously announced share repurchase program. Foreign withholding taxes of $20 million were accrued in the first quarter and payout after our quarter end. The taxable income generated in the U.S. by the dividend was offset by available loss carry-forwards. Since the losses utilized were generated from past stock-based compensation expense, GAAP requires the corresponding benefit of $65.4 million be recorded in the equity section of our balance sheet instead of offsetting tax expense in the consolidated statement of operations.

The primary reconciling items GAAP to non-GAAP net income for Q1 are as follows: $11.3 million in the amortization or purchased intangible assets; $6.6 million in stock-based compensation expense; $1.6 million in termination costs; $1.4 million in acquisition-related costs; $900,000 of noncash interest expense; an $86.7 million of income tax-related adjustments and certain other items as previously mentioned and described in our press release issued today.

Turning to the balance sheet, we ended the quarter with $507 million of cash, cash equivalent, short-term investments and investment securities. Our cash position at the end of Q1, net of the $68.3 million face value of our convertible notes was $439 million, a decrease of $6 million from Q4. Due to the aforementioned intercompany dividend, the majority of our cash and investment securities are now held by our U.S. parent company. The decrease of $6 million primarily relates to the following: $25 million of investing activities including our acquisition of 12-gig SAS expander technology from Maxim announced on February 29; partially offset by cash flow generated from operations of approximately $12 million; and cash received from stock option exercises and employee share purchases of over $7 million. Our cash flow from operations in Q1 was much lower than the $47 million generated in Q4. This was due to the normal working capital changes and timing of cash receipts and payments and, of course, the lower revenues in Q1.

Our net inventory at the end of Q1 was $31 million, approximately $9 million lower than the prior quarter as we managed our inventory levels down. Net inventory turns for Q1 were higher at 5.3x compared to 4.7x in Q4. Q1 ending deferred revenue was similar to the Q4 at approximately $16 million, which relates to inventory at our distributors.

Overall, our inventory including at distributors remains well-managed. In term of lead time from our foundry partners, although available capabilities or capacities at the foundries have tightened as others have mentioned, we have adequate wafer supply to meet our forecasted demand.

Now turning to our outlook for the second quarter of 2012. As Greg mentioned, we expect Q2 revenues to be in the range of $136 million to $144 million. This takes into account the current levels of demand and our expectation of booking rates throughout the balance of the quarter. Judged backlog at the end of Q1 was approximately $103 million. This implies turns of approximately 26% from the beginning of the quarter to reach the midpoint of our revenue outlook. This level of turns is lower than the 36% achieved last quarter yet still consistent with the period of recovery in booking rates.

On a non-GAAP basis, we expect our overall gross margin percentage in Q2 to be approximately 69% to 70%. The expected increase from Q1 is based on our assumptions regarding product mix, as well as some improvement from fixed cost on higher revenues in Q2. Non-GAAP operating expense in Q2 are expected to be consistent with Q1 and in the range of $78 million, plus or minus $0.5 million. Note that our continued active management of operating expenses, as well as the profile of tape-out costs and lower employee fringe benefit expenses in Q3 and Q4 are the key drivers associated with getting to the second half expense range of $75 million to $76 million that Greg outlined.

We expect non-GAAP net income interest income to be about $500,000, which is primarily net interest income from our cash position offset by servicing our outstanding convertible notes. We expect our non-GAAP tax provision in Q2 to be approximately $0.5 million. A reminder that tax expenses can be impacted by a number of variables associated with our ASC 740 liabilities including, but not limited to, a change in foreign income and product mix. Estimated non-GAAP earnings per share are between $0.07 to $0.10, assuming a diluted share count of 234 million.

Please note that our future share count and expected earnings per share would be impacted by any execution on our board's approved share repurchase program.

Finally I'd like to take this opportunity to reiterate that we are well positioned to resume growth as demand returns to more normal levels. And we expect to be in line with our long-term targeted operating metrics in the second half. With that, we'd like to open up the call to questions.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from James Schneider from Goldman Sachs.

James Schneider - Goldman Sachs Group Inc., Research Division

Greg, I was wondering if you could start out by talking some customer order dynamics. What have you seen over the past quarter. I think you talked about a book-to-bill of over 1.2 last quarter, and that's now over 1.1 today. So are you seeing order pushout by customers or kind of what are you seeing by end market? That will be very helpful.

Gregory S. Lang

Yes. The -- so let me start back with the reference from the past call. The -- basically when you go through a period of kind of less than a 1x type of book-to-bill you end up having a bit of an overcorrection. So I would say, we clearly aren't seeing pushouts at this stage, if that's what you're thinking of between the 1.2 we saw then and the 1.1 we see now. It was really just kind of the catch-up that needed to happen after a very slow Q4. So the rate that we finished for the full quarter, 1.1 book-to-bill, is very strong. And right now between the different market segments we serve in the enterprise and storage part of the business, we're getting back to what I would consider normal, with some normal visibility. We had a very strong finish to Q1, which typically means people are getting caught up on the inventory consumption they need to do in getting back to regular business. So storage feels like it's getting closer to the normal dynamics we've seen, not quite there yet in Q2, but certainly should be in a good position for a strong Q3 since it's also a seasonally strong quarter. On the other part of the business, the -- just the carrier profile in general, I wouldn't say there has been a big shift in order patterns this past quarter, it's still slow. And so the improvements that we have seen had been primarily out of the storage side and we really haven't seen the signs of life that we'd like to see on the carrier side and this is now, I think, the third or fourth quarter where we're coming into a quarter with pretty slow carrier sales and carrier outlook. So that's kind of the gist of it between the 2 markets.

James Schneider - Goldman Sachs Group Inc., Research Division

That's helpful. And then maybe just following on, on the carrier comment for a second. Can you just give us some more color on what you're customers are talking about in terms of the recovery they expect to see based on their forecast? Are you expecting the win area or the wireless space is yet to recover first. And then, do you expect to see the PON recovery you original expected to come back in Q2, especially in Japan?

Gregory S. Lang

Yes. PON is coming back a little bit in Q2. There's a little bit of growth there. It's -- I think it's in general in line with the weakness we see elsewhere, but there is a little bit of growth there. Outside of that, what we see and what we hear is people are talking about a stronger second half. I mentioned in kind of the formal part of the script, I mentioned that there was strong growth outlook from the 2 of the big 3 in China. Reasonable numbers for North America and China Mobile, but given the slow start, you'd expect kind of a strong second half. Now having said that, we really haven't seen it show up in our bookings yet. So at some point for -- to have a strong second half we're going to have to see orders turn and stronger demand. In terms of where would expect to see a first or most, I think the -- clearly where the carriers are pointing their spending tends to be more on the wireless part of the equation, so I'd expect the wireless backhaul and fiber pieces to be the first places that we'd expect it. And then OTN, coming along later. OTN is really going to driven by a big technology transition as well as some recovery in spending. So I think it'll take -- it has a little bit more runway to go.

James Schneider - Goldman Sachs Group Inc., Research Division

And then just one last one for me. Based on your comments and to about Q2 in the back half of the year, do you expect the 70% kind of gross margin range to be sustainable through the end of this year and in next year as well?

Gregory S. Lang

Yes I actually think that we'll pass by the 70% mark and be kind of in the lows 70%, 71%, maybe 72% range. I think that's sustainable for the next several quarters that we look out.

Operator

Your next question comes from Ruben Roy from Mizuho Securities.

Ruben Roy - Mizuho Securities USA Inc., Research Division

Greg, just a follow-up on that last question. It sounds like you're counting on the carriers to start spending again on the wireless side. When you think about Q4 in terms of getting back to your historical run rate or normalized run rate, is this -- is that really the premise based on recovery in your wireless business, mostly and potentially Wintegra? It sounds like your legacy business is off and potentially stabilizing at around 8% of revenues. I'm just was wondering how you're thinking about and having confidence in giving us that type of guidance when you think about Q4.

Gregory S. Lang

Yes, so the -- I think the -- there's 2 parts to the answer of your question. Part one is we actually expect our storage business to continue to grow throughout the year. So part of that outlook in that range that I gave you assumes that we're going to see a good -- some decent growth still coming out of the storage part business. So that's part one. But we're also assuming that we see the carrier part of the business to actually return to a higher level of business than we're seeing today. It's off -- overall it's probably off on the order of 30% over the last year. And at some point, they're going to have to come back and start investing in our networks. So I think all the fundamentals around the traffic growth and smartphone handset growth continue and that carriers will have to come back at some point. The big question is when and I'm not sure that I have a better crystal ball than the next guy on that one, but we do believe that that's going to come back. So I would say the answer to your question is getting to those run rates in the later part of the year is going to be contributed to by both storage, as well as the carrier part of our business.

Ruben Roy - Mizuho Securities USA Inc., Research Division

And just to drill down into the optical side of the business a little bit more. So do you expect kind of contribution from OTN? It sounds like that's taking a little bit longer than you had expected. Is it that a comeback in the second half? And what about on the Fiber To The Home side? Do you think that some of the 10-gig stuff you're working on is going to ramp this year?

Gregory S. Lang

Yes the -- on the specific question that you asked. On the OTNTs -- I do think that we'll start to see that pick up later in the year, although I think that when we look at our carrier business as a whole, I expect the backhaul piece to be kind of the most robust followed by OTN. And then I think Fiber To The Home, as we've seen in the last couple of years, will be kind of up and down but mostly flattish for us throughout this year.

Operator

Your next question comes from Kevin Cassidy from Stifel, Nicolaus.

Kevin Cassidy - Stifel, Nicolaus & Co., Inc., Research Division

You had mentioned that OTN qualifications seem to be taking twice as long as what SONET did. Can you give us a relative idea, is that a year, 2 years. When do you think the point or qualification gets finalized?

Gregory S. Lang

Yes that's a good question and I'm actually looking at a chart right now that has 5 different major equipment guys. And just to give you an idea, from the -- there's a couple of different parts of this. One is how long does it take for our customer to actually finish the development of their system? And that is taking anywhere from -- I'll say an average 12 to 18 months, which is almost twice as long as kind of the older development cycles on the older technologies. So that's kind of a one element. But then the other element is for the actual carrier evaluation that's happening. And we've seen things in the range, anything from 5 months on a simple month -- Max PON-der type of application, to as long as 15 months in another case, another carrier's case. It appears as if people are kind of gearing towards trying to turn lose some of these platforms and some of the deployment later in the year. There's a couple of major platforms that at least from our customers' expected -- they expect it to be in production with the carriers by the end of 2012. This has been, this has taken quite a bit longer than we had expected. So we'll see how quickly it pans out. But that's kind of the outlook right now. So overall, if you put those 2 together, you're talking about 9 to 18 months and then maybe the -- maybe the carrier part of it is 6 to 12 months. And the both of those are about 2x longer than we've historically on SONET.

Kevin Cassidy - Stifel, Nicolaus & Co., Inc., Research Division

Okay. Great. With Romley launched, did you see any pent-up demand, anything maybe a spurt for the June quarter and maybe it levels off a little bit or how do you think the order trend is for Romley?

Gregory S. Lang

Well I think we had -- I think last quarter, some of the late activity that we saw on that front was really kind of getting the pipeline loaded up and getting the first systems out the door with them. I think it's probably too early to tell whether or not there's a lot of sell-through and a lot of momentum that's building around the Romley platforms. And I'm sure the HPs, IBMs and Dells of the world have a better perspective on that than we do at this point. So we would not really expect to get a sense for that until, I would say, further into Q2 when we see how some of the reorders start to come in and be placed upon us. Beyond that, I think, the starting point in Q1 was really just kind of getting ready for the launch, getting systems in the marketplace and we'll see here in a couple of months how well they sell through.

Kevin Cassidy - Stifel, Nicolaus & Co., Inc., Research Division

Okay and maybe if I can just one more question, maybe someone else asked similar, but legacy at 8% of revenue right now and expectations to get to 25% operating margins, does legacy have to be a larger portion or kind of stay at 8% to get to 25% operating margins?

Gregory S. Lang

No, we believe it can say at that level and still get to the 25% model.

Operator

The next question comes from Harlan Sur from JP Morgan.

Harlan Sur - JP Morgan Chase & Co, Research Division

You guys are calling for a good growth in Q2 in storage and mobile. Maybe you can help quantify which one is growing faster and what's driving the growth in mobile given that it seems like the carrier spending is still somewhat lackluster till second half. Is it just inventory replenishment maybe that's driving some of the growth in mobile?

Gregory S. Lang

Well I think you probably answered the -- most of it right there because the part first part of your question is where is it coming from. The bulk of it's coming from storage and we see a little uptick in mobile, but that's really mostly one of the large -- one for the top 2 customers there had a inventory bubbled to burn up last quarter. So we're seeing that recover a little bit. But most of the growth is coming out of storage for Q2. And so I would say the carrier dynamics here for our backhaul pieces remains pretty consistent with what we're seeing in other parts of the carrier space.

Harlan Sur - JP Morgan Chase & Co, Research Division

Got it. And then nice job on the gross margins. You talked about cost initiatives with more to come going forward. Can you just maybe just articulate for us some of the activities that you're focused on here?

Gregory S. Lang

Yes, on the gross margin side, there's constant focus on driving cost down. Frankly, with the markets that we serve and the relatively -- compared to a PC or a handset, they're relatively smaller volumes. We need to be able to generate greater gross margins to be able to fund the higher R&D levels that come with that because we're spreading over a smaller base. So some of it's just driven by the economics of the market we serve. We need to drive that level of margin. And so we drive things at the cost level through our operations team as well as through just making sure that we're driving the right kind of value in the products that we offer. On the OpEx side of things, we have some major programs that are finishing up and we utilized a pretty substantial number of contractors throughout our engineering organizations on peaks development, R&D peaks and we'll see a good chunk of that kind of fade away for the second half and don't -- we don't feel like we're going to need to actually backfill for those because we are coming off somewhat of a R&D bubble from that regard.

Operator

The next question comes from Brendan Furlong from Miller Tabak.

Brendan Oliver Furlong - Miller Tabak + Co., LLC, Research Division

On the Wintegra business, and some of your semiconductor peers have talked about their wireless business actually coming back at the end of the quarter and looking reasonably strong into June. You seem to be downplaying that a little bit. And then secondly if you could just maybe give us an update on the ODM/Adaptec business out of Taiwan on the storage sites.

Gregory S. Lang

Yes, sure. On the first part of your question, I guess I'm still -- I'd still like to see more life, more strength in our backlog for the back half of the quarter to be able to make that kind of claim for things picking up in the summer. There are a lot of people talking about it, but I'd like to see it in backlog. We get pretty good visibility on backlog and, frankly, I don't see it yet. So it would be great when it arrives. Having said that, we are seeing a bit of an uptick as I just mentioned to Harlan's question a bit earlier. Now the other part of your question in terms of the ODM business in Taiwan for storage, the -- let me just take a step back. So I think what you're asking about is how is our business kind of coming along in Asia? We've got very strong traction in Asia, Huawei Symantec, also at Huawei and are driving sales through North America OEMs into Chinese -- large Chinese data centers. So we have -- we're getting very good traction there. This part of our business, and mixing a little bit of the channel piece, but this part of our business was impacted by the drive shortages with channel. The guys were the last guys to get drives last quarter. So we expect Q2 to be up, if for no other reason, just having better drivability for the channel. So I do expect that, that part of the storage business will grow quarter-to-quarter as well.

Operator

The next question comes from David Wu from Indaba Global Research.

David Wu

Greg, can you talk about the design wins in the 12-gigabyte -- gigabit segment because the -- if you were to listen to the LSI call, they talked about a lot of design wins even in server outside of HP. And I'm just wondering whether how do you see a competitive situation in this technology transition versus the 6-gig transition?

Gregory S. Lang

Yes, so for 12-gig, what I mentioned kind of in the formal part of the script is right now we have 5 designs at 4 major suppliers including the largest 12-gig opportunity around. And we have active design work happening -- design work meaning not quite awarded yet, but they're designing things with our silicon at 4 of the next 5 server and storage OEMs. So we think that the market share dynamics will remain similar to where -- what they've been, I would say, over the last generation. Although we think that we can continue to eke out 1 point or 2 of share here as we go forward into the 12-gig generation, both at the channel level as well as some of the server OEM levels where we have the most room to grow.

David Wu

I see. Any news on new development on the -- I think a while back you folks were developing RAID controllers for IBM. Anything come out of that?

Gregory S. Lang

Yes. We -- this is probably a couple of years ago, 2 or 3 years ago, we did a joint data project with them on an SSD offering that frankly didn't do as well as either of us has expected. So that was a bit of a disappointment on that. Since then, we've actually won a very large number of design wins at IBM on the storage side of their business and that business is just starting to ramp now actually as we speak over the next 12 months.

David Wu

I see. Last question I have is on the fiber business. That's a business that have a lot of big expectations, lots of market entries and M&A in that business, but in essence, I don't think financially, it's been a very profitable business for a while. And I was wondering what would have to happen to be a more profitable business other than people exiting the business. And what do you think about your long-term chances in that business?

Gregory S. Lang

Yes, the -- so the Fiber To The Home business, I think it's fair to say the growth profile for that business has been, I think, lighter or weaker than any of the participants would've liked. And part of it's due to CapEx. You got to clean up -- to dig up the ground and put new fiber in the ground. It's harder than just kind of upgrading from a DSL line type of thing. So it has definitely progressed slower. And then that, combined with the multiple parties that have been in the market, made it there's just too many people with too little revenue to chase. So I think one of our competitors has been helping out on that front because they've acquired a couple of other companies. So I think that we're kind of heading towards a period where the supplier base will shake out a bit and maybe make it more interesting for the folks that are left. But I think it's fair to say, as you've kind of characterized, it's been a tough market over the past couple of years with just too many suppliers and too little growth. But we can hope that that's starting to change now with some of the consolidation that's happened.

Operator

The next question comes from Sundeep Bajikar from Jefferies & Company.

Sundeep Bajikar - Jefferies & Company, Inc., Research Division

A question on the inventory adjustment. Can you share with us your views on when you think the inventory correction actually started in storage? And how much progress you think supply chain has made so far? When do you think PMC can start shipping to and demand whether you think that happens in Q2 or later in the year?

Gregory S. Lang

Yes. I think that the -- I think it's pretty clear for us that, that correction started a bit in Q4. And then the biggest chunk of that happened in Q1 and now we're starting to head back to what I'll call it more normal end-market demand. And given both the fact that we can kind of see the major customers that are left working things off and combined with the fact that Q3 tends to be seasonally strong, we think we'll be back pretty much at those end market levels in Q3. So we're looking to another solid quarter of growth in Q3 for storage.

Sundeep Bajikar - Jefferies & Company, Inc., Research Division

Okay great. And then just one quick question on products. I think related to Adaptec you had an announcement in SSD. Curious if you could give us an update on your progress in that category for enterprise? Is it fair to assume PMC would focus more on high performance, caching applications. And if so, how should we think of the competitive landscape there?

Gregory S. Lang

Yes. I think what you're referring to is we announced a new version of our caching software for the SSD type applications in our Adaptec product line, and that is being deployed in major data centers today. So it's been a good solid product for us. And it's solves a real problem with -- by leveraging some of the Flash technology and being able to get substantially better performance and lower latency out those applications. I think your characterization of where you'd expect us to compete is fair. I think as we move more into delivering solutions for the Flash arena and the disruption that comes with the performance with Flash technology versus drives, you should expect to see us kind of focus our energies around the enterprise space, where we have the most traction and most success that we have today. So that's, I think, that's a fair characterization.

Operator

The next question comes from Sandy Harrison with Wunderlich.

William S. Harrison - Wunderlich Securities Inc., Research Division

A couple of questions on the supply chain, so it sounds as though the storage supply chain has gotten itself cleared or worked out or people have got the chips or the drives where they need it. Is that a pretty fair assumption or are you expecting some continued disruption there?

Gregory S. Lang

Yes. I think this quarter is going to be, still be a quarter of recovery for the drive side. The only place we really expect it to have any potential drag on our business is on the channel, although we don't expect that to be the case, we expect to be -- there to be some catch up there. The enterprise drives are sold at a premium, so they tend to get a little bit more supply than some of the other drives. So I do think that, that part of the business is actually improving. And by the time we execute to -- we should be back to a more normalized type of run rate. I'm sorry, Sandy, what was the second part of your question?

William S. Harrison - Wunderlich Securities Inc., Research Division

That was the first. The second part is more on sort of looking at the rest of the business. I mean, a lot of the other companies and as well as yourself talking about feeling better about the business, book-to-bill is above 1, but what you're seeing is really shortly lead times and until lead times bump out, it's tough to get better visibility from the customer. So how's the supply chain or how do you see to fight supply chain and how it fills up. And once we do get the long-awaited inventory snapback, are we going to see lead times bump up pretty quickly or is there a fair amount of capacity you see out in the supply chain?

Gregory S. Lang

Yes. For the -- on the carrier side of the business, this has been -- the Q2 will be -- let's see, I think in carrier we kind of peaked last year in Q2. And so we're now, this is basically the kind of 1-year mark. So I feel like the excess inventory that was kind of hanging around in that part of the business is largely gone and what we need now is basically the end of end from the carriers to drive equipment manufacturing and sales so we can see the upside in the orders. And that's really what I'm looking for is I'm looking for that continuity and that stability and more substance in the order rates we're seeing out of the carrier part of the business. But right now, it's still, in my opinion, not where we want it to be. To feel like we're on our way to the bounce back that we'd like to see.

William S. Harrison - Wunderlich Securities Inc., Research Division

Got you. And then my last question, I think you've been working on a couple of higher speed opportunities, 100-gig and some others like that out there. How are those going? Are you seeing the demand or the outlook for that technology increasing? Or sort of your view on that as we move forward here?

Gregory S. Lang

Yes. Our 100-gig focus has been around OTN. So clearly, some of this learning curve we'll call it that the carriers are going through with OTN today with some of the lower speed solutions that they're building into their network, is helping pave the way for, maybe, a shorter time to deployment, if you will. If think about it that way for the 100-gig products. But those products won't be -- our products, won't be out kind of in the production status until let's call it this time next year. So that's the earliest we would expect to see revenue growth out of that part of the business. We feel like we were extremely well positioned with very strong design wins, picking up a couple of guys we didn't get in the first round, big ones. And so when it ramps it will be good. But we're still probably a year away from that kind of revenue.

William S. Harrison - Wunderlich Securities Inc., Research Division

But to be clear, you've invested or a lot of that's already been paid for through R&D to this point?

Gregory S. Lang

Yes. Where that's part of the R&D bubble that I mentioned earlier on the call.

Operator

Today's final question comes from Srini Pajjuri from CLSA.

Srini Pajjuri - Credit Agricole Securities (USA) Inc., Research Division

Greg, looking out to the second half, you're obviously expecting a fairly solid growth. I'm just curious, what's your normal seasonality in Q3 and Q4?

Gregory S. Lang

That's a great question because I don't think that anything we've seen in the last few years is normal. The -- I don't even know I can put a number on it because we actually just went through some of those and it's all over the map and the tsunami, the financial market meltdown, the 3G stuff going on in China and so we have to define a new normal I think. But it's probably not a good number. It is the strongest quarter of the year, typically for storage, so I could see us up a good solid 10% as shown on the storage side. And then the carrier part of the business, really just depends on if that part of the market comes back to life and we can see increase from that but it won't be seasonality thing. It will be just be kind of a renewed capital spending in the carrier space.

Srini Pajjuri - Credit Agricole Securities (USA) Inc., Research Division

Okay fair enough. And then on the 12-gig SAS opportunity that you talked about. I'm just curious as to when you expect volume shipments and if you could kind of help us understand the size of the market. And also, do you normally see an ASP increase when you go from one generation to the next. So what kind of ASP boost should we expect?

Gregory S. Lang

Okay yes. So the -- I think the 12-gig market is still in formulation. I think the ecosystem is probably going to be ready for products in the beginning of next year, Q1 of 2013. How aggressively it gets adopted and how really ready the ecosystem is, and ecosystem I mean drive, flash drives, as well as the PCs that we provide with the controllers and the expanders. If all that comes together this time next year, then we could start seeing some of the major OEMs start to deploy it. I think to get to, I'll call it, mainstream kind of volumes, we're probably talking about another, perhaps as much as a year after that. And then I would expect the normal where the server guys kind of lead the charge with the technology and storage system guys follow somewhat after that. In terms of ASP uplift, the other part of your question. On this kind of transition I think these devices by themselves I don't think they'll be much ASP uplift on the 6-gig to 12-gig transition. However, there's other things that we're working on and have developed that will allow us to get more of a premium -- with some premium offerings, for example, in the encryption space. So one of the things that we're seeing more and more demand for on both server and storage side customers is that with all the data in the cloud and people being concerned about securing that data, having controller-based encryption is pretty critical. And we have the only wireless speed controller-based solution both in the Fibre Channel as well as at the SAS level. So in that area, we do deliver more technology and are able to get an ASP uplift for the encryption technology. There isn't a specific number I'd give you because it also varies on how the deployment goes. If it's attached to across 100% of the product lineup, it's a lower-priced premium than if it's a selectively attached as kind of an upgrade. So the range is fairly broad there.

Operator

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