Silicon Image Q4 2005 Earnings Conference Call Transcript (SIMG)

Feb.20.06 | About: Silicon Image, (SIMG)

Silicon Image (NASDAQ:SIMG)

Q4 2005 Earnings Conference Call

February 16th 2006, 5:00 PM.

Executives:

Robert Freeman, Chief Financial Officer and Chief Accounting Officer

Steve Tirado, President and Chief Executive Officer

Analysts:

Tristan Gerra, Robert W Baird

Jeremy Bunting, Thomas Weisel Partners

Michael Bertz, W.R. Hambrecht

Adam Benjamin, Jefferies & Company

Charlie Glavin, Needham & Company

Daniel Gelbtuch, CIBC World Markets

Peter Wright, PAW Partners

Aalok Shah, D.A. Davidson & Company

Niraj Patel, Wachovia Securities

Operator

Good day, everyone, and welcome to the Silicon Images Fourth Quarter 2005 Financial Results Conference Call. Please note that today's call and question-and-answer session are being recorded. At this time, I would like to turn the call over to Mr. Robert Freeman for opening remarks. Mr. Freeman, please go ahead.

Robert Freeman, Chief Financial Officer and Chief Accounting Officer

Thank you. Good afternoon everyone, and welcome to Silicon Image's Fourth Quarter 2005 Financial Results Conference Call. Joining me today is Steve Tirado, our president and chief executive officer.

Please be cautioned that during this call we will make comments regarding our future performance. These include remarks concerning our expected operating results, product introductions, new opportunities, market growth, announcements relative to standards and technology adoption rates. We may also make comments regarding events that could potentially impact the future of the company. Many factors taken individually or in combination could affect future business outcomes. Actual company results may differ materially from what I have described in these forward-looking comments.

I encourage you to familiarize yourself with our most recent 10-K for the period ending December 31, 2004, and our most recent 10-Q for the period ended September 30, 2005. These reports describe relevant risk factors that could affect future financial results. Additionally, during the call this afternoon we may highlight other factors that could impact any projections or other forward-looking statements.

In this conference call and the earnings press release that we issued earlier this afternoon, we will be discussing fourth quarter performance on a GAAP and a non-GAAP basis. Unless otherwise stated, all amounts, results, and projections discussed on this call that are presented on a non-GAAP basis will exclude stock compensation expense, amortization of intangible assets, and gain or loss on investment securities.

A reconciliation of non-GAAP financial information to the associated financial information prepared in accordance with generally accepted accounting principles can be found in our fourth quarter 2005 financial results press release, which is available on our website at www.siliconimage.com.

I will now turn the call over to Steve for comments on our third quarter financial results 2005 and 2006.

Steve Tirado, President and Chief Executive Officer

Thank you, Bob. Good afternoon, everyone. I'd like to start the call by reviewing five key accomplishments in 2005. Number one, revenue grew 23% from $173.2 million in 2004 to $212.4 million in 2005. Number two, profitability continued to improve throughout the year. We ended the year with operating margin for the year hitting a high of 21% of revenue. Number three, expenses were well controlled and came in at 39% of revenue versus 43% of revenue in 2004. Number four, ASP declines were offset by overall cost improvement resulting in overall gross margins of 60.2$ for all of 2005. Number five, and very importantly, we continue to strengthen our board and management team.

During the quarter we added a distinguished new board member, William Raduchel, a new vice president of worldwide marketing, Dale Zimmerman, and a vice president of worldwide operations quality, Peter Rado. Overall, 2005 was a great year for the company, characterized by record revenue, profitability, and order growth, and I want to personally congratulate our employees for their hard work in driving our overall results.

With respect to the market and key product announcements, I would like to point out the following highlights in 2005. Number one, HDMI market adoption was very strong throughout 2005. As of the end of the year, we had 313 adopters worldwide versus 290 at the end of last quarter. As of today, the number now stands at 357 and represents a very strong start to 2006.

Number two, with the HDMI founders group, Sony, Matsushita, Hitachi, Toshiba, Thompson, and Philips, we announced a significant advancement planned for the HDMI standard that will address several advanced features. The support for higher bandwidth in anticipation of even greater than high def TV resolution for the future; the support for deep color, which will enable billions of color TVs to take visual quality to a new level; greater support for PC convergence by accommodating PC-like resolution in AC coupling to allow for ease of integration in large system-on-a-chip controller as well as full interoperability with UDI, the universal display interface; the new digital video interface for PCs; a new mini-connector to address the mobile market; listening support; and, finally, support for the HD audio standards, DTSHD and Dolby HD.

Number three, the announcement of UDI, the universal display interface, with Apple, Intel, LG, National, and Samsung, represents a new digital video standard that is intended to provide advanced feature for digital video connections on PCs and maintain full interoperability with HDMI and HDCP. This new standard will open new semiconductor opportunities for silicon image in both the product and licensing area, especially as it relates to higher-speed interconnects that support new high resolution displays.

Number four, Silicon Image will be enabling the entire deep color pipeline in 2006 from source devices like DVDs and set-tops to advanced digital television. The industry's first deep color silicon to enable panel migration and 10-bit support and beyond with the transmit receive pair, the Silicon Image 7170 and 7171 panel chip, are now in production. The move to deep color is significant for the TV market and represents a growth driver for 2007.

Number five, the announcement of our new advanced television video processor, the Silicon Image 8200, represents an important milestone in our product offering and complements the Silicon Image 8100 offering at the lower end of the market. The Silicon Image 8200 incorporates a host of advanced features including Silicon Image's dual video processor pipeline allowing picture-in-picture and picture-over-picture functionality as well as fully programmable main and sub-picture location and size.

The Silicon Image 8200 includes the ability to process JPEG pictures, MP3, WMA, and AAC audio and other multimedia content from USB-enabled devices as well as supporting an IDE hard disk drive interface for high definition digital video recorders. Number six, the announcement of the Silicon Image 1390 and 1930 HDMI chips for the PC platform enabling the industry's first solution for connected PCs to state-of-the-art TVs with HDMI will be key products driving growth for PC in 2006.

Number seven, the announcement of our first key OEM design win for SteelVine with less seed and the additional release of the SteelVine 4723 and 4726, SteelVine storage processors represents an important milestone in our vision of enabling the storage of consumer content, merging markets like DDR, CDCCs, and other home digital media appliances.

And, finally, the launch of SimPlay Lab and the SimPlay HD testing specification represents an important industry initiative aimed at promoting solid interoperability between HDMI, DDI, and UBI-connected devices. Retailers, like Tweeter, have recently endorsed the program along with several top-tier CE companies and Hollywood studios. They understand the importance of robust testing, they understand the importance robust testing will play creating seamless connectivity and satisfied consumers.

The digital interconnect will continue to evolve to provide better audio and picture quality and eventually converge with IP networks to enable new, interactive services. SimPlay Labs is being established to ensure that the industry has a way to test and optimize interoperability across a wide range of new consumer products.

I'll now make a few comments regarding 2006. Our mission as a company is to drive the architecture, semiconductor implementation for the storage, distribution, and presentation of high-definition content into consumer environments. We will continue to use our ability to drive innovation through participation and standards bodies as a competitive advantage in delivering first-to-market semiconductor solutions attractive to the top tier of the market. Our business model of driving standards that drive innovations for our semiconductor solution complemented by licensing to complementary products for mass-market adoption has supported better-than-average financial results to our peers.

Our new organizational structure will allow us to focus on creating products that enable the market to move ahead in its desire to offer better storage connectivity and presentation quality across a wide range of devices. The new market estimate for HDMI devices is expected to reach almost 300 million devices by 2009, and we expect to be a major beneficiary of that growth.

With that, I will turn the call over to Bob for some details on Q4 2005 and our guidance for 2006.

Robert Freeman, Chief Financial Officer and Chief Accounting Officer

Thank you, Steve. As Steve mentioned, the company recorded record revenues of $61.4 million for the fourth quarter, a 10% sequential increase compared to revenues of $56 million in the prior quarter and a 33% growth from revenues of $46.1 million in the year-ago fourth quarter.

Product revenue, which includes revenues from both our semiconductor and our systems products, was $55.3 million, or 90% of total revenue for the fourth quarter, which was an increase of 10% from the prior quarter and an increase of 32% for the year-ago fourth quarter. Licensing, royalty, and development revenue was $6 million, or 10% of total revenue for the fourth quarter. This compares to $5.6 million last quarter and $4.1 million in the year-ago quarter. Deferred licensing revenue was $8.3 million, as reported on the balance sheet. This reflects the billings of licensing agreements in excess of the revenue recognized from these agreements. This was an increase of 76% from $4.7 million for the prior quarter and an increase of 289% from the year-ago fourth quarter.

I will now discuss the breakout of our total revenue, which includes both product and IP revenue among our three lines of business. Consumer electronics product and IP revenue was $36.4 million for the fourth quarter, an increase of 7% from the $34.1 million the previous quarter, and 51% of the $24.1 million in the year-ago fourth quarter. PC products and IP revenue sequentially increased 17% to $14.3 million compared to $12.2 million in the previous quarter, and increased 31% from the $10.9 million in the year-ago fourth quarter. Storage products and IP revenue was $10.6 million in the fourth quarter, a 9% increase compared to $9.7 million last quarter and a 4% decrease from the $11.1 million in the year-ago quarter.

Non-GAAP gross profit margin was 58.1% compared to 62.3% last quarter and 62.4% in the year-ago fourth quarter. The 58.1% was below the guidance we provided last quarter of approximately 59.5 to 62.5%. A decrease in gross profit margin in the fourth quarter was due to higher production costs due to supply constraints at assembly and test houses and price erosions in some of our CE and PC products. Non-GAAP operating expenses were $22.8 million compared to $21.3 million in the previous quarter and $18.8 million in the year-ago quarter. The $22.8 million was better than our operating expense guidance of $23 million to $25 million. Non-GAAP net income was $13.8 million, or $0.16 per diluted share compared to the non-GAAP net income of $8.7 million, or $0.10 per diluted share last quarter, and non-GAAP net income of $10.3 million, or $0.12 per diluted share in the year-ago fourth quarter.

The company recorded a tax provision of $5.8 million and $6.4 million for the third quarter of 2005 and the nine months of 2005, respectively. A tax provision of $5.8 million and $6.4 million for the three months and the nine months ended September 30, 2005, was the result of revised estimates of 2005 taxable income and the 2005 effective tax rate. The effective tax rate was estimated at 14.5% due to the expected benefits from the utilization of net operating loss carryforwards. For the fourth quarter, the effective rate was estimated at 13.5% for 2005 resulting in a tax provision of $0.4 million for the fourth quarter.

I will now discuss the results for the full year. Total product and licensing revenues were $212.4 million in 2005, an increase of $39.2 million or 23% over revenues of $173.2 million in 2004. This was driven by a 40% growth in consumer electronics, a 21% growth in personal computers, and a 6% decline in storage. Non-GAAP operating expenses for 2005 were $83.4 million, or 39.3% of revenue compared to $73.6 million, or 42.5% of revenue in 2004. Operating margin was 21.0% in 2005 compared to 19.5% in 2004. Non-GAAP net income for 2005 grew to $40.9 million compared to a net loss of $324,000 in 2004. Net income in 2005 includes a tax provision of $6.7 million. A 205 tax provision includes a noncash charge of $0.1 million in the fourth quarter of 2005, $5.3 million in the third quarter of 2005, and $5.4 million for the year ended December 31, 2005, associated with stock option exercises in 2005. The noncash portion of the tax provision for 2005, when added to non-GAAP earnings, would result in non-GAAP earnings per diluted share of $0.54.

I will now review a few balance sheet and cash flow items. Cash and investments at December 31, 2005, was $151.6 million compared to $134.1 million at the end of September. Cash flow from operations for the quarter was $18.2 million compared to $15.4 million last quarter and $8.5 million for the same quarter of 2004. DSOs were 44 days, unchanged from last quarter and up from 38 days for the same period last year. Inventory turns were six times compared to 6.2 times last quarter and 5.2 times for the same quarter in 2004. In addition to the strong growth in cash, healthy DSOs, and a healthy inventory turn, we essentially have no debt. Capital spending was $1.3 million compared to $2.4 million last quarter and $900,000 in the year-ago quarter, and depreciation was $1.5 million, the same as last quarter, and $1.3 million the year-ago quarter.

Our 10% customers for the quarter were Inotech Corporation, World Peace Industries, and Microtech, Inc. I will now summarize our financial guidance. Our 2006 revenues are expected to increase 15% to 25%. For the first quarter, product revenue guidance is $50 million to $52 million, reflecting traditional seasonality in the quarter. Our first quarter IP revenue guidance is $4 million to $6 million. So our total revenue guidance is $54 million to $58 million.

Gross profit margin guidance for the first quarter is 60%, give or take 2%. Operating expense guidance for the first quarter is 40%, give or take 3%. Expenses for the first quarter are expected to increase as a result of CES marketing expenses occurring during the quarter, new authorized test centers being established for HDMI and SimPlay Labs, product development costs for new products, and qualifications of a new fab for a large OEM customer.

For modeling purposes, interest income should increase in relation to cash flow and interest rates. The tax provision in 2006 will increase from the rate in 2005 as a result of the company using significant net operating losses in 2005. A portion of the tax provision associated with stock option exercises will be a noncash charge with a corresponding offset to capital.

In summary, our fourth quarter was marked by positive news in many areas. We again reported record revenue and record cash and investment levels. Our business outlook remains poised for continued top- and bottom-line growth. We look forward to meeting with many of you over the remainder of the year at the financial conferences and other venues to talk about continuing exciting opportunities here at Silicon Image. This concludes the formal portion of our presentation, and we would now like to open up the call for your questions.

Question-and-Answer Session

Operator

Thank you. Your question-and-answer session will be conducted electronically, if you would like to ask a question, please do so by press the "*" key followed by the digit one on your touchtone telephone. If you are using a speakerphone, please make sure your mute function is turned off to allowed your signal to reach our equipment. We will pause for just a moment. And our first question comes from Tristan Gerra with Robert Baird.

Q - Tristan Gerra

Good afternoon. Could you talk about the outflow from digital TV design wins for '06? I would assume that you're almost close to being done in terms of the sockets that you have, and if you have any comments in terms of market share and the pricing environment that you see for 2006?

A - Steve Tirado

So the market share that we have this year relative to 2006 will probably go down a little bit. The market is sort of bifurcating into the higher end, which we still continue to hold pretty solidly. There's more competition at the low end, but I think that we're going to have a significant market share for 2006 based on design wins that we came into the year with out of 2005.

Q - Tristan Gerra

And could you talk about, roughly, the ratio of TVs where you think you can sell your discrete chip versus the integration of your HDMI technology as part of the single chip from which you will be collecting licenses. If we are looking at the unit of digital TVs, can we assume that the majority of those TVs shipped in '06 will have a discrete HDMI chip and how do you see the progress in terms of licensing there?

A - Steve Tirado

I said before, the estimate, I think, for '06 will be somewhere around 10 to a 12%. The only vendor who is really out in '06 models this year with an integrated solution is Trident, and we licensed them, so we get a royalty off of those sales.

Q - Tristan Gerra

Okay, and last question, I missed the comment about the tax rate guidance for 2006.

A - Robert Freeman

We didn't give you a specific rate, but it will be higher than 2005, as we work through a good percentage of our tax loss carryforwards, and the bulk of the tax loss carryforwards available to us for 2006 will go into capital rather than to the provision. So this will result in a higher tax rate. I would say probably, the range is probably going to be somewhere between 25% and 35%.

Q - Tristan Gerra

Great, thanks so much.

Operator

Thank you. And our next question comes from Jeremy Bunting with Thomas Weisel Partners.

Q - Jeremy Bunting

Great. Thank you very much. Steve, could you just comment on what the timing is for the immediate PC ramp and whether that's going to be dominated by UDI or HDMI in 2006?

A - Steve Tirado

For 2006, I think you're going to see it mainly dominated by HDMI. UDI, as a standard, isn't finalized yet. The spec probably won't finalized until sometime around mid-'06, and then we will participate in that market. Intel won't integrate for some time, and so we'll be providing chips both for that platform for those that are interested, although, again, I think HDMI will be the most popular choice. And then, of course, to the extent that the UDI market begins to develop on the panel side, we'll have solutions for that as well.

Q - Jeremy Bunting

One other question, you didn't have very much commentary on storage in your prepared comments. Could you comment on what the sequential uptick was in storage, I believe it was 9%, and what is the outlook in '06, specifically for your serial ATA products. Thanks.

A - Steve Tirado

We did have pretty good growth on the serial ATA side. Part of it has to do with we have some customers now in the Internet space who have building out their, they're scaling their storage up and, believe it or not, some of these guys actually build their own equipment, and they're using a lot of Silicon Image technology, both controllers. We had a large surge in what we call our "port multiplier" chip, the 3726. So that basically has accounted for the growth. We're also, as we outlook into 2006, there's actually going to be quite a bit of volume, although ASPs are going to go down, and part of that is being pushed by some new CE applications.

Q - Jeremy Bunting

Okay, Steve, thank you very much.

A - Steve Tirado

You are welcome.

Operator

Thank you. And we do have a question from Michael Bertz with W.R. Hambrecht.

Q - Michael Bertz

Yes, gentlemen. A couple of questions here, you know, you talked about, you talked about storage a little bit there, but about SteelVine and I know you and I, Steve, have talked about this at length on many occasions. Do we have any better visibility and we might see some of these products begin to ramp, whether it's a five-drive or a two-drive system, and where you might expect to see that first, whether it's in small-medium business or on the consumer side?

A - Steve Tirado

I didn't give this number in the prepared remarks, but the SteelVine sales doubled this quarter from about $250,000 to a little over $500,000. So we're starting to see some scaling on the systems side. We also have several design wins now for the chip, but they're still in low volumes. But we're seeing good, interesting action around the whole SteelVine business.

Q - Michael Bertz

Okay, well, I guess I'll ask it a different way. At what point might we see that become a more meaningful piece of revenue, like, in the millions as opposed to the hundred thousands.

A - Steve Tirado

I think it's going to take these guys getting into bigger production. I don't think we're going to see it in 2006. We'll probably see it more in 2007.

Q - Michael Bertz

Okay, thanks. And then on the PC business, I know in the release you talked about seeing some strength in the DVI and HDMI on desktops and some notebooks. Is there any particular application that's driving that? Are we seeing more media PCs picking up and will we expect to see some seasonality with that, greater than particular average in Q1?

A - Steve Tirado

The places where we're getting a lot of traction for both DVI and HDMI is a lot of notebooks and a lot of these new desktops that are trying to be more multimedia-like machines. We're going to hit our normal seasonality. Normally, for us, PC storage and CE are all down a bit in Q1, and then they start to recover. Certainly, CE does in Q2, and then the PC and storage markets get stronger in Q3 and Q4. I think you saw that this year as well.

Q - Michael Bertz

Okay, great, and then one other question on the new products. With things like ITMBS and when might we see that start to ramp in a meaningful way, and would it be more, is it going to fall in your PC bucket or your consumer electronics bucket?

A - Steve Tirado

That's a good question. We'll probably count that, let me not answer that question, let me just say this, we already have a lot of sampling going on for those chips and I expect, actually, to get revenue this year growing into something somewhat meaningful going into 2007. But we do have manufacturers that want to go right now, especially in the DLP space.

Q - Michael Bertz

Okay, and then one last question, I know gross margins were down a little bit here this quarter. Can you give us some sense of what was driving that on a percentage basis, you know, if it was mix or ASPs or anything else that's unusual that really pushed it down into the 58 range?

A - Robert Freeman

We saw probably in the ASP erosion, the bulk of it coming in the CE area and some in the PC primarily related to more legacy-type products that we were shipping, and in addition we ran into some capacity constraints in trying to meet some of the delivery schedules in 2004 in our assembly and test houses, and so we had to go outside our traditional houses to get additional capacity, and that, in turn, resulted in quite a bit more in the way of costs, maybe as much as $0.50 on a unit basis for some of these chips that we were providing.

A - Steve Tirado

Yeah, we had some surprise upside on some of our two-port chips at the end of the year; people wanting to make sure they had enough product for Christmastime, and so we had to go accelerate test and packaging outside of our normal vendors.

Q - Michael Bertz

Let me just follow up on that real quickly, and then I'll get off the phone, when we look at gross margins, and you're guiding to be about 60%, plus or minus, in the March quarter. Can we think about that, basically 200 basis points, a fair part of that coming back, bouncing back from, you know, not having that is going to be a test problem?

A - Robert Freeman

Yes, we think this was a unique problem for the fourth quarter, and we have since, I think, dealt with that problem. This was something that came on, really, in December.

Q - Michael Bertz

Okay, great. Thanks guys.

Operator

Thank you. And once again to ask a question on today's conference, it is "*" "1" on your touchtone telephone. And our next question comes from Adam Benjamin with Jefferies & Company.

Q - Adam Benjamin

Thanks, guys. Can you talk a little bit about where you ended '05 in terms of the TV market for HDMI ports, whether it was single ports or multiple ports and then, kind of, what you expect in '06, the market to break out in terms of single ports versus multiple ports?

A - Steve Tirado

I think we've talked a little bit about this. The strategy in '05 was really to migrate a lot of the market to dual port, and we believe about 40% of the market will be dual port versus single in '06.

Q - Adam Benjamin

And what do you think it was in '05, Steve?

A - Steve Tirado

It was quite a bit less than that, less than half that in '05.

Q - Adam Benjamin

Okay, so, like 15%, is that fair?

A - Steve Tirado

Something like that.

Q - Adam Benjamin

Okay. As the 80211 standard comes on and got ratified, are you seeing that as a potential competitor to HDMI, going forward?

A - Steve Tirado

No.

Q - Adam Benjamin

Okay, then last question on the opex side, you had a little bit better opex in the quarter, and it looks like your guidance is for a little bit better as well. Can you just, Bob, maybe talk about where that's coming from, where that benefit is coming from? Are you pulling back some R&D or where is it coming from, I guess?

A - Robert Freeman

I think, primarily, in terms of headcount, we were anticipating probably more increased headcount in the fourth quarter than what we were able to achieve. I also think we achieved some savings from our shutdown for one week in December in terms of expenses as well. So I think, generally, the major change was in the headcount.

A - Steve Tirado

Looking into first quarter, we are increasing expenses, and R&D is going to go up quite a bit, essentially because we have new products coming out.

Q - Adam Benjamin

Can I just ask one last question, just on the revenue guidance for all of '06, you guided to 15 to 25%. Can you give some better granularity? Some of these markets are growing units at a pretty significant rate. You know, for example, the TV market, how do you get to the 15 to 25% growth rate in '06?

A - Steve Tirado

If you look at the revenue mix for this year, you know, CE to PC to storage, it was about 55, 25, 20, roughly. That's CE, PC to storage. It's going to shift a little bit more toward CE next year, but it's going to look similar to what you saw this year.

Operator

Thank you. And our next question comes from Charlie Glavin with Needham & Company.

Q - Charlie Glavin

Thanks. Bob, maybe a bit of clarification, towards the end of the operating expense guidance, you mentioned in terms of having to do some new test facilities relative to the HDMI that's in play. Did you also indicate in terms of trying to secure new capacity for a new OEM customer, did I hear you right?

A - Robert Freeman

That's right.

Q - Charlie Glavin

Can you elaborate, Steve or Bob, a little bit more? That sounds as if that's a fairly significant piece of business that could be coming. Could you give a little more granularity on that?

A - Steve Tirado

You know, the only thing I can say is that we have a fairly large volume requirement that required us to go to get more capacity, and that's what we're doing.

Q - Charlie Glavin

From a financial standpoint, Steve, are you guys being subsidized to do that, or is it something that you're being asked by a customer to secure for a given amount?

A - Steve Tirado

We're working very closely with this customer, and it's being very fairly done, let me say that.

Q - Charlie Glavin

Okay, I can assume that this is probably more within the consumer electronic/storage convergence?

A - Steve Tirado

Yes.

Q - Charlie Glavin

In terms of the mix between the lower cost and, you mentioned, as far as going to the outside houses, can you give any sort of indication about how much money you either left on the table or in terms of being able to, you guys sound like one of the few who have been able to bring up a new assembly and test house intracorder to be able to handle some of those expedited orders. You certainly paid through the nose for it, but was that just a one-time shot? Most people have been talking about how they couldn't even get the capacity if they wanted to if they weren't Broadcom. Where did you get it from and was that just a one-time deal or is that a new supplier for you guys?

A - Robert Freeman

Well, no, I think this was a reaction to a specific shortage that said that we couldn't meet the fourth quarter demand with the existing capacity within the assembly test houses. We were able to meet the demand coming out of the fabs, but where we were meeting some constraints was in the assembly and packaging and testing area.

A - Steve Tirado

But in terms of, Charlie, your question is either did we bring up a new, actually, what we did was we were able to get the additional capacity out of a vendor that knew us, so it wasn't entirely new. But we weren't doing as much volume, and so we had to pay a lot in order to get capacity. As you're pointing out, it's tight out there for a lot of things. But that's so they were able to get that premium from us.

Q - Charlie Glavin

Okay, Steve, if I take a look at the numbers right now, the new recent InStat numbers or other guidance out there right now, I guess maybe I'm having a little bit harder time as far as if we take a look at the CE business, assume it's 55 to 60%, and you take a look at even with the dual ports going up from 15 to 40%, it still looks like you've got significant growth. If the InStat numbers, or even the old ones at 37 million, not the 57 million ports, I don't want to say you guys are sandbagging, but are you looking for significant ASP shifts or a much larger shift in the low end of the growth while you guys move up to the 1.2 type of designs? Can you give a little better granularity because the math's not really working out unless you get a much higher revenue growth rate.

A - Steve Tirado

The '06 table is set. The sockets are won, and it's just a question of how the customers go and how they go into production. I will say it's a little more back-end loaded than maybe I would like, but it's just the nature of the beast. There are some new platforms coming into the market that are going to change the dynamics a little bit.

Q - Charlie Glavin

But the dual ports will go up something, you know, once 2 million, closer to 11 million to 13 million that's given here, correct?

A - Steve Tirado

That's probably about right, yes.

Q - Charlie Glavin

Okay. So it is back-end weighted but right now, I guess, maybe the question is what could give you the upside right now? Is it the storage side or is it the HDMI falling more in line with the InStat you guys have just basically adopted a more conservative base relative to some of the new third parties?

A - Steve Tirado

It's the latter.

Q - Charlie Glavin

Okay, yes, that's what it seemed to be. And then the last question, Bob, in regards to the mix on the gross margin. I certainly understand the kickback, but what sort of AP declines did you see and, Steve or Bob, how much of that was thwarted by some of the newer products like the 9000 series, that I thought was supposed to kind of counteract the ASP decline or at least prevent gross margin decline.

A - Robert Freeman

Well, I think probably what we were seeing was ASP declines, obviously, on some of our older products rather than our newer products.

A - Steve Tirado

The newer stuff is just going into production now. The cycles are changing a little bit. We do have some customers ramping a little bit earlier in the year, so the benefit from a margin side you won't see until we get into '06.

Q - Charlie Glavin

But by legacy sometimes? Are you talking more the storage stuff, like the old 2-gig fiber channel stuff coming off, or are you also talking about some of the older DVI and initial 1.0 HDMIs?

A - Steve Tirado

He's talking on the CE side.

A - Robert Freeman

Yes.

Q - Charlie Glavin

Okay, just CE.

A - Steve Tirado

Yes, just CE.

Q - Charlie Glavin

I was looking at the ASP decline across the board, because the back end doesn't seem to handle all of this unless you have some sort of ASP decline, and I'm just trying to get a clarification with that all CE-related, storage, PC, and why?

A - Steve Tirado

The storage actually did well from an ASP standpoint. I think it even went up a little bit. There was some, probably, erosion in PC, and bigger ones on CE. The impact was bigger on CE, of course, it's the biggest percentage of our total revenue as well.

A - Robert Freeman

Right.

Q - Charlie Glavin

Okay, great, thanks guys.

Operator

Thank you. And we have our next question from Daniel Gelbtuch of CIBC.

Q - Daniel Gelbtuch

Yes. I just wanted to know, with regard to the HDMI, we've been over this already twice, so far, just what does the landscape look like with regard to competition and for '06, I guess? Who do you expect to be out there? You said that Trident, you think, is going to have some sort of stake. What about the other discrete guys out there? What's going on in the landscape?

A - Steve Tirado

For '06, there's just not going to be much difference in terms of market share. There's been a little bit of movement but not much. I think the real battle for market share relative to competitors is going to happen this year. It is happening this year, looking into '07. But the socket war was over in '05, and we got a real lion's share of the marketplace. Obviously, there was some price erosion in order to for us to maintain that, but the competitors weren't as ready in '05 as they are now. They're in much better shape, and so we're also in better shape as well. We've got new products that are coming out that we think are going to be very effective against the competitors. Not really actually coming after us at the high end as well as the 10 ADP market, we pretty much got left alone all of last year.

Q - Daniel Gelbtuch

Well, just to clarify, first of all, we're talking about, somebody was talking about the receiver side. Obviously, the transmitter side, you've seen a tremendous amount of competition even this year. How do you see the market for transmitter shaping up in '06?

A - Steve Tirado

Yes, on the transmitter side, the competition is mainly from integrated solutions that either we've enabled or they've done on their own. So, for example, we've announced that we've done licensing deals with Mediatech and SunPlus. Zorantz announced their own integrated solution, Broadcom has its own integrated solution. We do still have wins, though, and actually our business is shifting in '06 somewhat. We were very heavy TV, and the source side devices are really coming on strong, particularly DVD recorders, and then there are some new platforms that are coming up as well, and actually this is on the camcorder and camera side.

Q - Daniel Gelbtuch

So you're saying that there should be discrete transmitter growth, significant discrete transmitter growth in '06?

A - Steve Tirado

Yes, there will be significant discrete transmitter growth in '06. We thought it was going to happen in '05, but what happened in '05 was everything was TV. The TV market basically tells you that you first do it on the television, and then you go to the source side. We thought the integration rate would be faster than it's been actually. So I'm actually expecting significant growth in the TX side for Silicon Image.

Q - Daniel Gelbtuch

I think you mentioned before that you said 10 to 12% of the receiver side was discrete in '05, is that what you said?

A - Steve Tirado

They were asking me about one port versus two ports on televisions.

Q - Daniel Gelbtuch

Oh, so one-port versus two-port, you're saying, was 10 to 12% was one-port?

A - Steve Tirado

Yes, and that our projection is it moves more to, like, 40% in '06.

Q - Daniel Gelbtuch

Ah, two-port, I'm sorry. And then just to give me an idea or even roughly, what do you think the discrete versus integrated transmitter market share should look like in '06, and what do you think is going to happen in '07? You know, obviously, there is going to be a lot of integration, but most of the integration will be single-port, and I guess would be HDMI 1.0. What do you see as, again, how do you see things unfolding in '07 with regard to multiple ports and upgraded iterations of HDMI?

A - Steve Tirado

There are a few things going on, and you have to kind of segment the market. I think in the 36-inch and above market, you definitely want two or more ports, and many times you want those two ports to be active, and the reason I make that distinction is there are a lot of vendors coming in with switches that you can put in front of a single port. So you'll have three or four ports on the TV but only one is active at a time, right, and so you can get away with that. I think at the lower end of the market, you'll see some of the switch-like products coming in. This is, like, the 36-inch and below market. So that will be dominated more by single-port. This year, for 2006 for integrated, I've estimated that maybe 10 to 12% of the volume will be integrated, and the only vendor that's really out there today for 2006 production is Trident. It won't be until '07 that some of the other guys like the Genesys and the PixelWork guys will be out there in TVs for '07.

I haven't done the analysis, by the way, on the impact of the integrated move on the TX side. We're being somewhat opportunistic. We're basically taking care of all the vendors who need something on the transmit side, and we're being very open and aggressive with our licensing. I mean, from the very beginning, we didn't even expect the transmit market to be very meaningful, but what's happened is because HDMI has been so successful, and there are so many TVs out there with it, a lot of vendors don't want to wait. We have three approaches to help them. We can do a full-up license, we do have an intermediate offering where we can let them integrate the digital logic, and we have a very low-cost part that's roughly $1.50, which is the DL-on-5 or they can buy a full-up discrete. Most companies in '06 actually went up and bought the full-up discrete; those that didn't already have some integrated solution. The other thing that was important, especially for these higher-end DVD players in the higher end of the market is they wanted to support up to 10 ADP, the 165-megahertz speed range, and there was just nobody out there Silicon Image.

Q - Daniel Gelbtuch

So you don't anticipate any of these guys being able to, I guess, the integrators being able to get up to 10 ADP support or 165 support or even HDMI 1.0, greater than 1.0 support for the '07 design season?

A - Steve Tirado

No, for '07, somebody will probably be there, and I'm sure the integrated guys are going to try to get there. We'll see what happens. No, I was really referring, my comments were, '06 is over, right? But for '07, I think they're all out there trying. Certainly, the integrated vendors will try to make sure they can accommodate the higher performance. Now, bear in mind, we are also going to have a massive push on deep color this year, and so that means link speeds will go out past 225 megahertz. I'll have a whole family of products out by this summer to enable that transition. So we are continuing to move the market.

Q - Daniel Gelbtuch

Okay, thanks a lot guys.

A - Steve Tirado

You are welcome.

Operator

Thank you. And we have a question from Jeremy Bunting with Thomas Weisel Partners.

Q - Jeremy Bunting

Steve, real quickly, what are your expectations for China in '06? Do you think it's going to be material, or is that really an '07 phenomenon?

A - Steve Tirado

I think that we may get surprised by China. We have now in excess of 40 adopters for HDMI in China, which is a pretty good number, relatively speaking. There is a tremendous amount of interest in HDMI in China by a variety of very important entities, and I think we, I'm not really expecting it to be, I am expecting growth there, but I think '07 might be the bigger year for China. Part of what's going on there is they really want the 2008 Olympics to be a real showcase for Beijing digital technology, so I think it's going to be very interesting to watch what goes on there, and it wouldn't surprise me at all to see some early acceleration in growth in 2006, just related to preparation for that 2008 Games.

Q - Jeremy Bunting

Thank you very much, Steve.

A - Steve Tirado

You are welcome.

Operator

Thank you. And as a final reminder, to ask a question on today's conference, it is "*" "1" in your touchtone telephone. We will take our next question from Peter Wright with PAW Partners.

Q - Peter Wright

Hi, can you hear me?

A - Steve Tirado

Yes, we can.

Q - Peter Wright

I was a little confused about the guidance, and maybe you could help me. You said revenues were up 15 to 25%, and you said the tax rate would be 25 to 35%, and you said your expectation is to grow revenues and earnings this year. I was kind of trying to figure out with such an increase in tax rate, how earning per share might be able to grow this year.

A - Steve Tirado

This is a GAAP, non-GAAP discussion. I'll let Bob take you through that.

Q - Peter Wright

Okay.

A - Robert Freeman

A good percentage of the taxes that we're going to essentially expense in 2005 and 2006, as well, are going to be for book purposes, and that we really have sufficient deferred tax assets that we can utilize both in 2005 and 2006 against taxable income. So from a cash basis, we're not looking to have to pay those taxes that we would be recording.

Q - Peter Wright

So are you saying on a non-GAAP basis, earnings per share will be up?

A - Robert Freeman

On a non-GAAP basis excluding the noncash portion of the tax provision, that we would expect earnings to be up. Another thing that's going to affect the earnings in 2006 is going to be that we will be, like a lot of companies, converting to 123R, so we will be also expensing the fair value of the stock options, but we will break that out for you so that you can…….

A - Steve Tirado

Which, of course, is another noncash charge.

A - Robert Freeman

Yes, and that's a noncash charge as well.

A - Steve Tirado

So your press release suggests that the non-GAAP earnings was $0.47 per year. Is that right?

A - Robert Freeman

The non-GAAP for the year, including the tax provision that we recorded in 2005 was $0.47, but if you take the noncash portion of that of $5.4 million, that brings the, and you add that to the non-GAAP taxable income, it brings you to $0.54.

Q - Peter Wright

I gotcha, and is that……

A - Steve Tirado

That's the real number.

A - Robert Freeman

It's complicated.

A - Steve Tirado

We knew when the press release went out people weren't going to get this, but we had to state it that way.

Q - Peter Wright

Yeah, that's okay. I'm an idiot, so forgive me.

A - Steve Tirado

You are not. I think anybody reading that would not get that.

Q - Peter Wright

I just wanted to make sure I understand. So at the end of the day what you're saying is the revenues will grow 15 to 25%, is your expectation as of this moment, and that earnings per share will be in excess of $0.54 with the cash tax provision on a non-GAAP basis.

A - Robert Freeman

I don't think we gave any earnings guidance, but in terms of your own model, looking at that, and we gave you for the first quarter what our expected margins and operating expenses are going to be. So it's just really trying to guide you, relative to the taxes as to how you might factor that into your model.

Q - Peter Wright

Right, and not to be picky about first quarter, I guess, expectations have been for slightly higher, $58 million, and I think you said something in the $52 million to $57 million for the first quarter?

A - Robert Freeman

On the product side?

Q - Peter Wright

Total revenue.

A - Robert Freeman

I think we said, hold on a second…….

A - Steve Tirado

We said 50 to 52 on product and 4 to 6 on licensing. So if you pick the midpoint, you get 56.

Q - Peter Wright

Gotcha, okay, exactly. So, I guess, is there any particular reason why the first quarter is going to be down with midpoint 4 or 5…….

A - Steve Tirado

If you look at any of the companies that sell into a consumer market PC, they are all down, even the high flyers, everybody's down, and we're down about the same as they are. I don't think there's much difference. So, and this is a seasonal pattern for us. We don't see anything unusual. We have good visibility, so we know where we are.

Q - Peter Wright

And then, finally, what's your, do you have any thoughts about the full year in terms of gross margin and operating margin, or that's just a one-quarter-at-a-time thought?

A - Robert Freeman

I think we only really are giving guidance to that, but I think you've seen what we use is basically a benchmark in terms of our gross margins and our operating expenses, but we'll update that on an quarterly basis.

Q - Peter Wright

And then CE is what percent would you expect of your, what was in '05 and what percent of your business would you expect……..

A - Steve Tirado

In '05 it's about 55% of the total, and what I said earlier, somebody asked about this, I said 55 and about 25% in PC and 20% in storage. And I said the numbers would look pretty similar except we will see a shift toward a little bit more heavy on the CE side at the expense of storage.

Q - Peter Wright

I know you've never given a breakdown on TV, but could you give me approximate percent of CE? Is it half, is it more, less?

A - Steve Tirado

Well, in the past, what I've said it's been dominated by TV. What's happening is the percentage of overall CE product is shifting a little bit more now towards transmitters simply because of all these new DVD recorders. Some of the set-top boxes that were in a, really accelerating in deployments of the HD boxes. So are you trying to model this out, it's moving maybe from a, yes, concentrated TV to, it is actually going to grow quite a bit. I can give you a range, maybe it will be somewhere around 25, 30%.

Q - Peter Wright

Okay, great, thank you.

Operator

Thank you. And our next question comes from Adam Benjamin with Jefferies & Company.

Q - Adam Benjamin

Hey, can I just ask two follow-ups. One is on this new customer that's ramping, that you've qualified a new fab. Is that baked into the guidance of 15 to 25% year-over-year growth?

A - Robert Freeman

Yes, we've put that in there. It's really kind of more toward the latter half of the year, so you don't have that much visibility right now relative to that, so that's why we gave you that range.

A - Steve Tirado

I think the other issue, too, is sometimes when you have something like this, you never know when they're going to necessarily announce or not, but, of course, we're working very tightly with them and making sure that they are going to be ready to go when they say they want to be ready to go this year.

Q - Adam Benjamin

Okay. Thanks for the clarification. One last thing on, Bob, on the gross margin. There was about 300 basis points difference between your guidance and what you guys reported, and you talked about the potential impacts from the test and the package and the ASP declines. Can you quantify that 300-basis-point difference? Was it 50% due to the test and package or 50% to the ASP? Can you give us some metrics there?

A - Robert Freeman

I think probably on the testing side, we were probably looking at $300,000 to $400,000 impact. On the ASP erosion, maybe $0.5 million to $0.75 million.

Q - Adam Benjamin

Okay, great, thanks a lot.

Operator

Thank you. And we have our next question from Aalok Shah with D.A. Davidson & Company.

Q - Aalok Shah

A quick question, I know last quarter you guys gave out the book-to-bill metric, and I wasn't sure if you guys gave one in this quarter. Could you just give us the book-to-bill on this quarter?

A - Steve Tirado

We did give it last quarter, didn't we? It actually was pretty good this quarter as well, slightly lower than last quarter.

Q - Aalok Shah

And then in terms of your guidance, and I think I might have asked before, but is there a way to maybe correlate, I know people are, Display Search and a couple of other people are projecting pretty good numbers for the TV side of the business to grow. Is there any way to go back and quantify as to if we see 50% growth, let's say, in flat panel TVs this year, would your business generally see that kind of revenue growth as well? Or is there any way to kind of use that as a metric for your growth?

A - Steve Tirado

I think it's not a bad proxy. However, there are so many things going on within that. There are multiple sizes, there are different prices of the different sizes, but I think if you look at unit growth, it's not a bad proxy for how it should affect our business.

Q - Aalok Shah

Okay, and then the last question, on the gross margin side, is there a target gross margin for you guys for the full year?

A - Robert Freeman

We typically target margins of around 60%, historically, you can see for the last year, so we've been achieving those with some fluctuation on a quarter-by-quarter basis. So that's probably not a bad target to look at, but to take it into account that that could fluctuate a couple percent either way in a given quarter.

Q - Aalok Shah

Okay, great guys. Thank you.

A - Steve Tirado

You are welcome.

A - Robert Freeman

We'll take one more call.

Operator

Thank you. And our next call will come from Niraj Patel with Wachovia.

Q - Niraj Patel

Yeah, thank you. I'm calling on behalf of Karl Motey. I have a quick question, Bob, just on the number, cash tax rate. What should that be in '06?

A - Robert Freeman

Cash tax rate, let's see, that's a tough one to answer. If we were saying 25% to 35%, and the cash portion or the noncash portion. I would say the noncash portion is going to be probably the significant portion of that rate, and that would be going, again, to, because of the stock option exercises, all stock option exercises, which would go to capital as opposed to the provision.

Q - Niraj Patel

Sure, so a cash tax rate of 5 to 15, is that reasonable? That would yield our pro forma estimates, and I think it's a little bit of a question, at least on what's on First Call.

A - Robert Freeman

It's a good question. It's not something that I can nail down real well at this point in time. I think we're going to have to look at it on a quarterly basis, because we looked basically at what's transpired during the quarter relative to the non-cash stock options and their related expense. But I would say more in the neighborhood of 10 to 15% would be probably better.

Q - Niraj Patel

Okay, thank you, and just your thoughts on share count for '06?

A - Robert Freeman

Probably, going up mostly from internal exercises of stock option. If the price goes up, then, on a diluted basis you're going to have more shares in the money, which could affect that, but probably just on an increase of shares via plans that we've got in place, maybe a couple million in shares at the most, a couple million is probably a good number.

Q - Niraj Patel

Okay, thanks.

Operator

At this time I would like to turn the call back over to you, Mr. Freeman for closing remarks.

Robert Freeman, Chief Financial Officer and Chief Accounting Officer

Thank you very much, and thank you for everybody participating. Again, I want to comment on the fact that 2005 has been an extremely good year for the company in terms of performance, especially on the bottom line, and we look forward to being able to continue that execution in 2006.

Operator

Thank you. This does conclude today's conference. We would like to thank everyone for your participation, and have a wonderful day.

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