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Executives

Dan Janson - VP of IR

Mark S. Frey - EVP and CFO

Mark S. Thompson - President and CEO

Analysts

Ross Seymore - Deutsche Bank Securities

Craig Ellis - Citigroup Smith Barney

Romit Shah - Lehman Brothers

Shawn Webster - JP Morgan

John Pitzer - Credit Suisse

Steve Smigie - Raymond James & Associates

Kevin Cassidy - Thomas Weisel Partners

Tristan Gerra - Robert W. Baird & Co., Inc.

Fairchild Semiconductor International, Inc. (FCS) Q4 FY07 Earnings Call January 24, 2008 9:00 AM ET

Operator

Good day and welcome to the Fairchild Semiconductor Fourth Quarter and Full Year Earnings Conference Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Mr. Dan Janson. Please go ahead sir.

Dan Janson - Vice President of Investor Relations

Good morning and thank you for dialing into Fairchild Semiconductor's fourth quarter and full year 2007 financial results conference call. With me today is Mark Thompson, Fairchild's President and CEO and Mark Frey, our Executive Vice President and CFO.

Let me begin by mentioning that we're attending a few investor conferences this quarter, including the Thomas Weisel Tech Conference in San Francisco, and the Raymond James Institutional Conference in Orlando.

Mark Frey will start today's call with a review of our fourth quarter financial results and discuss our forward guidance for the first quarter of 2008. Mark Thompson will then discuss our new products and product line results, end markets and operational performance in more detail. Finally, we'll reserve time for questions and answers. This call is scheduled to last approximately 60 minutes and is being simultaneously webcast from the Investor Relations section of our website at fairchildsemi.com. The replay of this call will be publicly available for approximately 30 days.

Fairchild management will be making forward-looking statements in this conference call. These statements, including all statements about future results and performance are made based on assumptions and estimates that involve risks and uncertainties. Many factors could cause actual results to differ materially from those expressed in forward-looking statements. A discussion of these risks factors is provided in the quarterly and annual reports we filed with the SEC.

In addition, during this call, we may refer to adjusted or other financial measures that are not prepared according to generally accepted accounting principles. We use non-GAAP measures, because we believe they provide useful information about the operating performance of our businesses that should be considered by investors in conjunction with GAAP measures that we also provide. You can find a reconciliation of non-GAAP to comparable GAAP measures at the Investor Relations section of our website, at investor.fairchildsemi.com. The website also contains the 2007 Q4 factsheet and updated financial section, with updated un-audited financial highlights, including detailed breakouts of segment and regional revenues, gross margins, EBIT and EBITDA.

Now I'll turn the discussion over to Mark Frey.

Mark S. Frey - Executive Vice President and Chief Financial Officer

Thanks Dan, good morning and thanks for joining us. I am sure most of you have had a chance to review our earnings press release that was issued earlier this morning, so I will focus on just the key points in my comments.

Overall, we reported continued sales in gross margin growth while reducing operating expenses in the fourth quarter. We grew sales 1%, while improving operating expenses. We grew sales 1% while improving gross margin a solid 100 basis points sequentially, due primarily to a richer mix of higher margin analog and functional power products and lower manufacturing costs. We further reduced adjusted operating expenses to $82.7 million, which is down $1.5 million from the prior quarter and quite favorable to our guidance range of $86 million to $88 million.

Our streamlining and expense control efforts came in ahead of expectations, plus we benefited from it approximately $1 million in onetime savings in Q4 that we do not expect to recur in Q1. Our adjusted operating margin improved to 12.1%, which is 260 basis points above the prior cycle peak.

Net interest and other expenses remained at $5 million in the fourth quarter. We also reported $2.3 million in restructuring and asset impairments that are expected to further streamline our business. Our adjusted effective tax rate was 11.6% in the quarter, which reflected a favorable mix of revenue in costs in lower tax jurisdictions. The bottom line is that we delivered a highest quarterly adjusted net income since the bubble year of 2000. Our efforts to improve product mix, reduced dye and package costs and controlled below-the-line spending are evident in these results.

For the full year of 2007, we reported a 1% increase in revenue compared to 2006, as the industry saw much better demand in the second half of the year, after the industry downturn in the first half. These results were also impacted by an 8% reduction in Standard Products Group sales, as we continued to rationalize this business to improve profitability. We managed through the industry cycle, with sales down just 4% and adjusted gross margin only 260 basis points below the prior peak. Despite the cycle headwinds, we improved adjusted operating margin and adjusted net income slightly for the full year 2007.

Now, I'd like to review fourth quarter highlights of sales and gross margin performance for each of our product groups.

Our Analog Products Group recorded a 4% sequential decrease in sales to $89 million, as strong sales in signal path products was offset by lower revenue for power conversion products, as we further reduced analog channel inventory dollars. The robust growth of our higher margin signal path products, which includes analog switches and μSerDes products, coupled with improved manufacturing efficiencies, resulted in a 370-basis point improvement of APG adjusted gross margin to 36.4%.

Now, our Functional Power Group; sales totaled $245 million, an increase of 4% from the prior quarter, which was driven by continued strong sales of our low-voltage MOSFETs, which primarily support computing and handset applications. Adjusted gross margin improved 10 basis points sequentially. Standard Products Group sales were down 1% and adjusted gross margin was down slightly sequentially, due to continued rationalization of the bipolar transistor product line.

Reviewing our balance sheet, internal inventories increased $1.5 million, resulting in about a $0.5 million increase from the prior quarter. We improved DSOs 2 days to 38 days. Cash and marketable securities increased to $11 million to $462 million in the fourth quarter, which reflected cash flow from operations of $59 million, capital spending of $41 million, and 10 million of stock repurchases.

During the fourth quarter, we repurchased a larger than normal 10 million of Fairchild stock to take advantage of the current market environment, as we strive to cost effectively minimize dilution from the employees' stock purchase program and option exercises. We will continue to monitor opportunities to repurchase stock, but we must also take into consideration that our 200 million of convertible bonds will mature in November of this year. We are currently working with financial institutions to assess our options, which could include refinancing, paying off using cash or existing bank debt instruments or some combination of these options.

Turning now to our forward guidance; we expect first quarter revenue to be down 2% to 6% and gross margin to be approximately 100 to 150 basis points lower sequentially, due to lower factory loadings and changes in variable compensation accruals. At the start of the first quarter, we had about 85% in the sales guidance booked and scheduled to ship. Although we continue to exercise strict controls over spending, we expect R&D and SG&A expenses to increase to approximately $87 million to $90 million in the first quarter, due to the resumption of FICO and other payroll taxes, as well as changes in variable compensation accruals. Net interest and other expenses are expected to be $5 million to $5.5 million on the first quarter.

Now, I will turn the call over to Mark Thompson.

Mark S. Thompson - President and Chief Executive Officer

Thank you, Mark. Let me start by reviewing end-market demand and some key operational metrics. Sales of our products to service computing, handset and power supply markets were strong in the fourth quarter, while the other end markets were generally in line with seasonal expectations.

Booking were sequentially higher in the fourth quarter and in line with the expectations, giving us a healthy starting backlog level. As expected, we saw a decrease in distributor sell-through of about 4% sequentially after a strong 7% increase in the third quarter. We increased our channel inventory, while remaining well within our target range, after reducing more than a week of inventory a quarter ago.

We have also made excellent progress at improving the mix of the fast turning inventory in the channel compared to slower moving products. We continue to effectively manage lead times and product availability, which enabled us to significantly improve our on-time delivery performance across 2007. Lead times remained in a stable eight to nine week range during the quarter and we expect to maintain these levels in Q1.

Turning now to our product line results; Fairchild made important progress in Q4 and 2007 on many fronts in our efforts to solve more important problems for our customers and ultimately be a more valuable company. The depth and breadth of our new products pipeline is better than ever before. This is our primary focus and our mission is crystal clear within the company. New products solving important challenges for our customers are the key of the future. Each business unit has a compelling line up of the new products appropriate to their technologies that should enable Fairchild to drive margins to our target models.

I will begin with a brief review of some of the important new products just released in 2007 or in the pipeline now. Then I will review the current business environment and how we plan to continue our effective management through the cycle. As expected, the Analog Products Group posted a significant improvement in gross margins in the fourth quarter.

New products are the key driver for APG margin growth, so I'll begin with power conversion product line, starting with battery charger segment. We have a completely new technology covered by numerous Fairchild patents that aimed at the low power AC-to-DC conversion market and expect to ramp this product family throughout 2008. This new technology significantly reduces our customers' build materials for typical low power battery charger, while improving efficiency over the current leading architectures. We are shipping these products now and expect sales to ramp steadily in 2008 and 2009.

In our signal path product line, we just reported another record quarter and year of sales for our switch products with revenue growth of 34% in 2007 compared with 2006. Our USB switches ramped quickly across the year, and we expect this growth to continue at a strong pace in 2008. Some of our handset customers have decided to convert to the standard mini-USB port for all of their products and have chosen Fairchild as one of their top suppliers for this technology. This has the potential for adding a significant amount of revenue over the next few years.

We also expect significant growth of our multimedia switches that can manage a wide array of signals through USB port of the handset. This product line was introduced in 2007 and we expect to fill out our product offering and drive strong sales growth in 2008. In 2007, our micro-SerDes product revenue was up 2.5 times our 2006 level, despite one major customer experiencing an unprecedented decline for the first half of the year.

We've spent this year broadening our customer base and expect to ramp sales into a number of new important new applications during 2008. Our micro-SerDes architecture provides leading-edge management of serial data flow and full feature handsets and we expect continued strong sales growth across 2008.

In our System Power business, we made one of our biggest new product bets over a year ago to develop technology leadership in the high-frequency voltage regulator segment for handset and other portable applications. This is no small challenge, given the strong competitors in this application space, but we partnered with a large customer and brought a truly innovative approach to this problem.

I am excited to report that our efforts to-date have been even more successful than we planned. We began shipping these new voltage regulators in Q3 and Q4 of 2007 and expect a strong ramp in 2008. Our current products are industry standard solutions, but we are sampling products running at far greater frequencies that promise new levels of efficiency and board space reductions.

More importantly, we've developed a new relationship with a leading handset customer that we expect will expand to other products across 2008. Our Functional Power Group sales were up 4% sequentially, due primarily to strong low-voltage MOSFET shipments in the computer and handset markets. Our silicon-based low-voltage technology leadership continues to position us for solid profitable growth, as we posted greater than 20% operating margin in this business again in 2007.

New integrated power products like the IntelliMAX load switch for handset and ultra-portable applications are contributing to this success. In 2007, we grew IntelliMAX sales nearly three times higher than the prior year and shipped more in Q4 than all of 2006. In the high-voltage business, we made significant progress in upgrading our silicon-based technology as well as in-sourcing package to improve margins.

We released our new field-stop insulated gate bipolar transistor or IGBT technology in late 2007. It gives us about 30% more dye in a wafer than our prior products. Our latest deep-trench high-voltage MOSFET technology has completed qualification and gives us more than 40% more dye in a wafer than pervious technology. We expect to ramp both these products during 2008 and 09 at margins well above the prior generations.

We had a break-out year for our Smart Power Module product line in 2007, with sales up 50% compared to 2006. In the fourth quarter, we broke the $10 million quarterly sales rate, with revenue up more than 40% sequentially and a book-to-bill well above 1. We are getting strong attraction for these highly-integrated power management solutions in a wide range of motion control applications in the consumer and industrial end markets. We also plan to extend the SPM product line into lighting and power supply applications. This year we expect to broaden our customer base for these products, beyond Japan and Asia to Europe and North America, where we have a number of new design wins that we will ramp in 2008.

Standard Product Group sales were down 1% sequentially, as we continued to rationalize and resize our low-margin bipolar transistor business. Our strategy for SPG is to continue to run the business for strong profitability and cash flow, while augmenting our sales with higher margin new products. For our new family of logic translators have posted more than our 50% sales growth in 2007, compared to 2006 at margins well above the company average.

Our Optocoupler product line grew sales more than 20% in 2007 from the prior year at solid margins and we believe the addition of a number of new products in 2008 will enable us to continue this trend. I believe that Fairchild is better positioned with a more compelling line of new products than at any time in our modern history.

Accelerating and improving the value of our new products is our number-one priority and we are committed to drive our sales margins and profitability for our target goals. Another significant step we are taking at the start this year is the previously announced reorganizing of APG and SPG along end-market segments. The Power Conversion, Industrial and Auto Group will focus on providing high efficiency power solutions to these attractive end markets. The Mobile, Computing, Consumer and Communications Group will focus on supplying these fast growing end-market segments with innovative power and signal path solutions, including our industry leading low-voltage MOSFETs.

Experience in our analog switch, micro-SerDes, IntelliMAX and high-frequency voltage regulators clearly illustrates that when we focus or product lines and develop real customer intimacy, we win. We were applying those lessons to the new PCIA and MCCC organizations, and expect this structure to accelerate our growth and new product success in the future.

We will begin reporting in this organizational profile in Q1 this year and we'll provide investors with five years of historical results for the new structure on our website. Let me wrap up by summarizing the current market environment and commenting on our outlook.

We entered Q1 with a healthy backlog position that covers approximately 85% of our guided revenue. Good product availability with stable lead times, and so far with solid bookings in backlogs still in the first weeks of the quarter. While the stock market is sorting out its expectation for 2008, we're managing what we can control. I discussed our significant lineup of the new products that we believe will drive sales and margin growth through 2008. Our investments in package cost reductions to greater in-sourcing are on track. We expect this effort to improve margins materially as we progress across 2008.

We continue to manage internal and channel inventories to remain within our target range and at or near, peer group leading performance. We are committed to continuing our success at managing through the cycle and executing effectively on what we can control. I want to thank our customers, employees and shareholders for their support in 2007, and look forward to expanding on our success in 2008.

Thank you, and I will turn the call back to Dan.

Dan Janson - Vice President of Investor Relations

Thanks Mark. We will now open the call to questions. I would ask that in order to allow more of you to ask questions, we limit each person to one question and one follow-up. Thanks, and let's take the first question please.

Question And Answer

Operator

Thank you. And our first question does come from Ross Seymore.

Ross Seymore - Deutsche Bank Securities

Thanks guys and good morning. I just had a question on the APG group. It looks like you talk about taking inventory down there. Can you just talk about how much inventory is left to be taken down there? When you expect that business to start growing again? And how you reconcile with taking inventory down there, but overall channel inventory is actually increasing?

Mark S. Thompson - President and Chief Executive Officer

Okay Ross, Mark here. So, a couple of things; First, the place where we took inventory down was specifically in the power conversion business. And we are largely complete with that activity, although of course, we will subject our channel inventory processes to continuous improvement and if we have the opportunity to reduce, we will. But there are many moving parts in the company, and so we often... if you look there is... often you will see, for example in computing, computing inventories will typically rise around this time of the year, because demand tends to be greatest in the second half of the year and softest in the first half, and we do somewhat use channel inventory to smooth our factory loadings. So there is a lot of moving parts in this. But in terms of power conversion, the current inventory levels are approximately on target.

Ross Seymore - Deutsche Bank Securities

And I guess as a follow-up and inventory as a whole, do you expect... were you a little surprised that channel inventory built in the quarter and do you expect to have to burn it off in the first quarter?

Mark S. Thompson - President and Chief Executive Officer

We weren't surprised that it built in the quarter. Again we highlighted the potential for that depending on what resales did towards the end of December, which is always one of the hardest periods to call. So channel resales during that time were in the bottom half of our range of expectations, and that resulted in some channel build. But again it was within our predicted range. So that was not... it was not a surprise.

Ross Seymore - Deutsche Bank Securities

Okay. Thank you.

Operator

[Operator Instructions]. And we will now go to Mr. Craig Ellis, for our next question.

Craig Ellis - Citigroup Smith Barney

Thanks guys, good morning. First on the expense front; Mark, can you clarify what the one-time item was in the fourth quarter?

Mark S. Frey - Executive Vice President and Chief Financial Officer

It wasn't just one thing. It was a couple of things. The biggest single item was the reversal of a bad debt reserve we took for a customer that we had some doubts about earlier in the year, but in fact the customer worked out of situation and paid us.

Craig Ellis - Citigroup Smith Barney

Okay, and then looking at the sequential increase in expenses, it looks like around an 8% increase maybe 9%. That seems like a large increase if it's just the FICO adjustment in a different bonus accrual. Is there anything else that's in expenses in the first quarter beyond those two items and how should we think about the growth of the expenses through the year?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Well, a couple of things to notch up. The health insurance contract will renew at generally higher rates. The payroll taxes as we've said, we accrue for people's vacations as they earn them, but not as they take them. And so in Q3 and Q4, obviously people tend to take more vacation days. March is the point time where almost nobody is really taking large vacations. And then the bonus as we've said, but also equity compensation notches up a bit as we go into a New Year that has a... we accrued our equity comp at the low-end of our targets for our executives in 07 and we will expect to be recurring at more of the 100% level in 08. And so that's... we also have some employees who actually move into a retirement or a status of being able to retire in Q1, and at that point you invest all of their shares immediately. So, it kind of creates a bubble in Q1 that then kind of dissipates across the rest of the year because, obviously you'd expense that full grant.

Craig Ellis - Citigroup Smith Barney

Are you then --

Mark S. Thompson - President and Chief Executive Officer

Excuse me, the one other thing that I think is worth adding to Mark's comments, is we also did have the opportunity to pick-up a full and seasoned design team, and which we had planned to build out across the year but we were able to front-load that. So that will be a positive from some new project trajectories. But again that's a thing we have done pretty consistently on an opportunistic basis.

Craig Ellis - Citigroup Smith Barney

How many folks was that Mark?

Mark S. Frey - Executive Vice President and Chief Financial Officer

It's around 10.

Craig Ellis - Citigroup Smith Barney

Okay, and was that functional power or analog?

Mark S. Thompson - President and Chief Executive Officer

Analog.

Craig Ellis - Citigroup Smith Barney

Okay, so just to wrap up the expense side; Mark Frey, how should we think about the growth and expenses through the year?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Well I think Q1 will set obviously the kind of a structural base and we will increment that in R&D. So you could see all of our reductions in Q4 were SG&A. We continue to target opportunities to lower our basic cost of selling in infrastructure, but we also expect to continue to ramp our R&D investment across the year. Our intermediate-term target is 20% of revenue, so obviously we'll notch above that at the beginning of the year and I hope to get to pretty close to that by Q4, depending on revenue growth.

Craig Ellis - Citigroup Smith Barney

Okay and then secondly for Mark Thompson. Mark the bigger picture, long-term question here as we look at gross margins and I know the organization is changing and the financial reporting will change in the quarter a bit. As we look at the company's longer-term functional power and analog gross margin targets and as we reflect back on 2007. How should we think about the company's ability to progress towards its gross margin targets in 2008? As you look at the tailwinds and the headwinds that you have going into 08, would you say those are more or less favorable than what you had in 07 and you think you can make more or less progress against your gross margin targets this year versus last year?

Mark S. Thompson - President and Chief Executive Officer

So, let's see. Let me try to hit the various moving parts of that. So we expect, I guess what I call a normal range of economic conditions to make significantly more margin progress in 08 than we made in 2007. There is... the new product story has progressed farther and faster than we could have hoped for and is really very well positioned during the year to drive a lot of progress. Clearly the biggest negative is the macroeconomic environment, which is of course the thing none of us, if we all knew what it was, it would be somebody else. And so if that comes in sort of even a medium to a slightly negative range, I don't expect that to significantly negatively affect our progression of new products. Obviously if there is...if it's much... very severe then it's very difficult for anybody to model. But I am very enthusiastic about what we are going to accomplish in 2008.

From a quantitative point of view, we are trying to confine our model updates to once a year, at our Analyst Day. We are still committed to driving towards the models that we presented last summer and we'll provide a quantitative update when we do our Analyst Day during 2008.

Craig Ellis - Citigroup Smith Barney

Okay. Two related questions here then, should we still think about the mix of headwinds in the business being in that $30 million to $50 million range and would you care to quantify or maybe you saying you'd rather not but can you quantify how much gross margin improvement you think the business can actually accomplish this year?

Mark S. Thompson - President and Chief Executive Officer

So, what I guess as far as I could quantify given that we haven't updated the model is we expect progress to exceed 2007. That's both from a quality of mix, point of view as well as significant backend cost reductions due to in-sourcing. So, both the products component of that is stronger than 2007 and of course, we essentially didn't have any moving parts associated with the back-end piece. And some of the process technologies for power conversion that we got with SG also hit. So there are quite a few favorable things that were, if programs were put in the place during 2007 that really, begin to hit strongly as we move across 2008. So the favorables are quite significant in multiple parts of the business.

Mark S. Thompson - President and Chief Executive Officer

Thanks for your question Craig. Let's go and take the next caller please.

Operator

And our next question comes from Romit Shah.

Romit Shah - Lehman Brothers

Thanks a lot. Nice job with the margin progression. Mark, with the distribution resales slowing down in the back half of December, what gives you the confidence to guide to a higher turns percentage in Q1?

Mark S. Frey - Executive Vice President and Chief Financial Officer

It's still pretty close to normal. We would like to have 90% in backlog, we're in the 85% range. Two things basically, as you know our lead times have come down fairly strongly due to some structural improvements we implemented last summer. And therefore, we've seen more natural turns businesses as we go forward. We observed it in Q3, although we didn't factor that into our guidance in Q4. We continued to observe it in Q4 and so far in the year, we've seen fairly strong bookings and again a fairly short-term nature to the fill that we get out of those bookings.

Operator

And we take our next question from Shawn Webster.

Shawn Webster - JP Morgan

Yes. Thank you for taking my questions. Can you talk little bit about channel inventories, they were about 10.8 weeks, I guess last quarter. Where were they sitting now and could you give us an update on where your utilization rates were in Q4 and where you expect them to be in Q1?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Sure, so they were actually slightly less than 10.8 weeks in... at the end of Q3. We moved them to slightly more above 11 weeks, which is slightly above our target in Q4. We target to keep them as close to that as we can in Q1. And in terms of utilization, we did lower our utilization in Q4 and expect to keep our utilizations fairly cautious, with kind of the low 90s for our fabs, in the high 80s for our assembly sights, going forward. Because like everybody in this macroeconomic environment, what we don't want to do is get caught with an inventory imbalance.

Shawn Webster - JP Morgan

Did you say, you want to keep your utilization rate in the low 90s?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Slightly... just slightly lower than where they are now.

Shawn Webster - JP Morgan

I see.

Mark S. Frey - Executive Vice President and Chief Financial Officer

But... so lower 90s in the fabs and mid to upper 80s in the assembly sites.

Shawn Webster - JP Morgan

Okay, then can you...my last question is, can you characterize the pricing environment for your products in Q4 and how you expect it to evolve over the next couple of quarters?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Q4 pricing was pretty stable. It was in the 1% range down. And we're not seeing anything unseasonal in Q1 so far.

Shawn Webster - JP Morgan

Okay, thank you very much.

Operator

And we will now take our next question from John Pitzer.

John Pitzer - Credit Suisse

Yes good morning guys, thanks for taking my questions. And a couple here, first when you look at your guidance for gross margins decline about a 100 to 150 basis points in the March quarter, what is coming from the change in the variable comp. I guess, just to clarify, that's a one-time issue in Q1 that goes away going forth in the balance of the year and then I have a follow-up.

Mark S. Frey - Executive Vice President and Chief Financial Officer

Yes. It's generally a one-time. Obviously it resets for the year, but it's not an absolute number than recurs every quarter. We accrue the amount of variable comp as a function of the amount of operating income we have in that quarter, relative to the operating income we expect to have in later quarters, so basically a matching mechanism. And what was the second half, the other component was...

John Pitzer - Credit Suisse

Utilization being lower.

Mark S. Frey - Executive Vice President and Chief Financial Officer

And, it's about one-third, I think the notch up in variable comp and one-third other things like merits, et cetera and then another third would have been the utilization.

John Pitzer - Credit Suisse

But Mark, just to be clear, that notch-up in variable comps, does that continues throughout the rest of the year, so it's a drag on margins or will that go away?

Mark S. Thompson - President and Chief Executive Officer

It doesn't continue to be an incremental drag.

John Pitzer - Credit Suisse

Okay.

Mark S. Thompson - President and Chief Executive Officer

To margins.

John Pitzer - Credit Suisse

Got it. And then as a follow-up guys, when you look at sort of normal seasonal revenue in Q1 since sort of 2000, it's actually sort of a modest sequential uptick your midpoint is down and I'm just kind of curious is that reflective of sort of the macro concerns out there. Is that reflective of your view that distribution has to come down in the March quarter or from a bottoms-up perspective, what's kind of not hitting normal season in the March quarter?

Mark S. Thompson - President and Chief Executive Officer

If you look at the average, our average reported revenue since 2000 has been down 2% Q1 versus Q4, and average POS is down 3%. And so that average is factored into the way we calculated our estimates.

Dan Janson - Vice President of Investor Relations

Hi, John, this is Dan, just another note. We had a 14-week Q1 back in about a year ago also. As you look at your historical numbers, you have to normalize for that.

John Pitzer - Credit Suisse

Well, then if I can ask question differently; if you are characterizing the March quarter is it kind of fitting normal seasonal, why not be a little bit more conservative given the macroenvironment?

Mark S. Thompson - President and Chief Executive Officer

Well certainly, the concerns about the impact to the macroenvironment are reflected in the somewhat larger than average range of our guidance and in the negative $0.06. So we have... I mean again we try to factor all those things into the range of probable outcomes for the quarter.

John Pitzer - Credit Suisse

Great, thanks guys.

Mark S. Frey - Executive Vice President and Chief Financial Officer

I would like correct something I've said in terms of utilization in our assembly sites at high 80s. It's actually more in the mid 80s in Q4.

Operator

And we will now take our next question from Steve Smigie.

Steve Smigie - Raymond James & Associates

Great, thanks. I guess in terms of getting at this a little bit from different angles. But just, if I look out to Q2 gross margins, how much recovery would I expect there relative to just the utilization fall off here in Q1? Is it going to come back up the full amount?

Mark S. Thompson - President and Chief Executive Officer

We are not guiding Q2 yet, Steve. So, I mean, we are not really in a position where we are going to give you any real color on that one.

Steve Smigie - Raymond James & Associates

Well, I understand that, but I mean, you had some very nice improvements in gross margin in Q4 and I guess my question is, keeping utilization aside, would you expect generally to see a recovery in the gross margin?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Steve, a couple of factors; Q2 is generally seasonally up from Q1. So we don't know what that is and we are not guiding it, but that's what it typically is. And our in-sourcing impacts will begin to be noticeable in Q2. So those are probably the two items that will most affect Q2.

Mark S. Thompson - President and Chief Executive Officer

Actually there is one quite high volume new product program that's into the Q1 results, but ramped very sharply in the second quarter. So there are a number of positives that we would expect to impact the second quarter.

Mark S. Frey - Executive Vice President and Chief Financial Officer

The one headwind is, as you have seen, when we slow our plants down; the accounting impact doesn't always in the quarter that you slow them down. So, to the extent that we reduce loadings in Q1, you could have an expense fall into Q2 as you work through that inventory. So those are probably the four factors that will impact margins going forward.

Steve Smigie - Raymond James & Associates

Okay. And just looking at Q4, there was a little bit of a build of inventory in the channel and you guys recognized revenue on selling. You've made an extraordinary effort I think over the past year to sort of mitigate impacts from just loading the channel. How much did that affect the revenues here, what was your thinking internally and how do you think all the work you have done to try to ensure that there is profit line responsibility for people, pretty much, how long did that work in this sort of weakening environment?

Mark S. Thompson - President and Chief Executive Officer

So, there is a couple of things. In terms of channel inventories, we target 11 weeks and it naturally will fluctuate up and down. Again, we don't control the point of sale, we get reports of point of sale and then we adjust our ship into to reflect whatever changes we need to make in our distributors forecasts. So, that process is well developed and quite robust and over a two-year period of time, we have gone from our distributors being not totally happy with our performance to us being clearly in the top quartile of distributor interface and channel management. So that's been... those processes, so it's not a one-time phenomenon I guess the way I describe it. We have put a lot of energy into developing the processes and to develop the data feeds. And so, we would hope that in year three of managing this very effectively, it would become a non-issue. In other words the people should I hope have confidence that we will continue to be very disciplined about this and manage it within the 11 plus or minus one-week range and that's our internal goals and those are our targets and everyone is held accountable to deliver those results inside the company.

Mark S. Frey - Executive Vice President and Chief Financial Officer

And we also our compensation programs are largely based on sell-throughs. So there is no incentive out in the decentralized part of the company to push products in the channel.

Mark S. Thompson - President and Chief Executive Officer

To put a sharper point on it, you can't get rewarded for stopping the channels but you can get fired.

Steve Smigie - Raymond James & Associates

Alright. Thank you.

Operator

We will now go to a question from Kevin Cassidy.

Kevin Cassidy - Thomas Weisel Partners

Hi, thank you for taking my question. When you are looking out to your outlook for Q1, any market segments looking weaker than seasonal or any changes that you see?

Mark S. Thompson - President and Chief Executive Officer

No. In terms of the current profile of incoming orders and forecasts, it looks like so far a very ordinary Q1 in terms of the various movements of the markets.

Kevin Cassidy - Thomas Weisel Partners

How about geography, any weakness in Europe or U.S more so than normal?

Mark S. Frey - Executive Vice President and Chief Financial Officer

Again everything looks -- Europe and U.S look fine. So and China is normally has a weak first quarter because of the effect of the Chinese New Year. But we've not got into that yet. So that's the bit of the unknowable about Q1, but we haven't. We will know more obviously once we pass through it. Last year, it was quite a strong dip for the industry. This year, again we won't know until we get to it, but U.S and Europe looks good so far.

Kevin Cassidy - Thomas Weisel Partners

Okay, thank you.

Operator

And our next question comes from Tristan Gerra.

Tristan Gerra - Robert W. Baird & Co., Inc.

Hi, good morning. You mentioned that in-sourcing of packaging testing will stop having an impact in Q2. Should we expect the additional impact, positive impact on gross margin in the second half and what will be the timing of the impact on migrating to lower shipments, we note at some products and gross margin as well?

Mark S. Frey - Executive Vice President and Chief Financial Officer

The answer is yes, Tristan. It will begin to have an effect on Q2 and it will be a cumulative effect that will grow as we increase the volumes that are brought in-house. The currently targeted programs run to about Q2 of 09. That doesn't say that that's the end of what we are looking at. It's just the end of the packages that we are focusing on right now. We can take additional measure after depending on how we feel about the cost structure of sub cons and our cost capabilities internally.

In terms of the front-end end of that, obviously as we continue to ramp the 8-inch capacity in Maine that gives us some cost advantages; and as we begin continue to transfer the wafers that we acquired in the ST acquisition to Maine, we will get a cost benefit from bringing them in-house. We are also transferring certain amount of our Korean processes to Maine at 8-inches and at a significantly lower critical dimension, so we will get a die cost advantage of that as well.

Mark S. Thompson - President and Chief Executive Officer

And off-course we will begin to ramp up our PT6 new power trench process in Salt Lake towards the end of 08 and that will lower the cost of low-voltage dye.

Tristan Gerra - Robert W. Baird & Co., Inc.

Great, that's a great color. And in terms of trying to quantify this, if you were to assume fab utilization rate and you were to quantify the impact on gross margin from those various measures into the second half?

Mark S. Thompson - President and Chief Executive Officer

Well the calculation we have done for the full company, obviously the products involved were all different. In some products I mean we lowered their cost in half, others less so, and other products aren't impacted at all. The impact when we reach the endpoint of my calculation is about 0.5. So you are just going to ramp somewhat linearly to that number.

Tristan Gerra - Robert W. Baird & Co., Inc.

Great, thank you.

Operator

We do have a follow-up question from Romit Shah. [Operator Instructions].

Romit Shah - Lehman Brothers

My questions have been answered. Thank you.

Operator

[Operator Instructions].

Mark S. Frey - Executive Vice President and Chief Financial Officer

I think... are we through then?

Operator

And it appears there are no questions at this time.

Mark S. Frey - Executive Vice President and Chief Financial Officer

Excellent. Well, let me just close by thanking everybody for listening in. We appreciate your support. Thank you, good bye.

Operator

Ladies and gentlemen, that does conclude our conference for today. If you would like to listen to a replay of today's conference, you may access replay via the website at investor.fairchildsemi.com. Again that is investor.fairchildsemi.com. Thank you again for joining us today and have a wonderful day.

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Source: Fairchild Semiconductor International, Inc. Q4 2007 Earnings Call Transcript
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