Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Fairchild Semiconductor International, Inc (NASDAQ:FCS)

Q2 2012 Earnings Call Transcript

July 19, 2012, 9:00 am ET

Executives

Dan Janson – IR

Mark Frey – EVP, CFO, Treasurer

Mark Thompson – Chairman, President, CEO

Analysts

Ross Seymore – Deutsche Bank

Terence Whalen – Citigroup

Parag Agarwal – UBS

Craig Berger – FBR Capital Markets

Tristan Gerra – Robert W Baird

Christopher Danely – JPMorgan

(Suzie Giselda – St. Equity)

Steve Smigie – Raymond James

Brenda Furlong – Miller Tabak

Shawn Harrison – Longbow Research

Mike McConnell – Pacific Crest Securities

Operator

Good day and welcome to the Fairchild Semiconductor second quarter 2012 earnings conference call. Just a reminder that 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

Good morning and thank you for dialing in to Fairchild Semiconductor's second quarter 2012 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'll be attending the Citi Technology Conference on September 6th in New York. We'll start today's call with Mark Frey, who will review our second quarter financial results and discuss the current status of third quarter business.

Mark Thompson will then discuss our 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 allow us approximately 60 minutes and is being simultaneously webcast from the Investor Relations section of our website at fairchildsemi.com. This replay for this call will be publicly available for approximately 30 days.

Fairchild's 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 risk and uncertainty. Many factors could cause actual results to differ materially from those expressed in forward-looking statements.

A discussion of these risk factors are provided in the quarterly and annual reports to be filed with the SEC. In addition, during this call, we may refer to adjusted or other financial measures that are not prepared in accordance with generally accepted accounting principals.

We use non-GAAP measures because we believe they provide useful information about the operating performance of our businesses and should be considered by investors in conjunction with GAAP measures that we also provide.

You can find the reconciliation of non-GAAP to comparable GAAP measures at the Investor Relations section of our website at investor.fairchildsemi.com. The website also contains a variety of useful information for investors, including an extensive financial section to facilitate your investment analysis. Now I'll turn the discussion over to Mark Frey.

Mark Frey

Thanks, Dan. Good morning and thank you for joining us. I'm sure most of you have had a chance to review our earnings press release, so I'll focus on just the key points in my comments.

Adjusting for the extra (weeks) in Q1, we grew sales 11% sequentially in the second quarter. Revenue included a $4 million insurance recovery related to the flooding in Thailand partially offset by some larger than normal sales reserves related to the ongoing demand weakness in China.

Distribution sell through posted a strong increase enabling us to further reduce our weeks of inventory in the channel. We also increased gross margin nearly three percentage points.

Our solid (in this) performance is we were still impacted by the weaker economy and some chip shortages in the mobile end market. Let's review some of the details starting with the income statement.

For the second quarter of 2012, Fairchild reported sales of $362 million, up 11% sequentially after adjusting for the extra week in Q1 and down 17% from the second quarter of 2011.

Adjusted gross margin was 32.6%, up 280 basis points from the prior quarter. Gross margin benefited from higher factory loadings and the favorable impact of our insurance recovery.

Given the weaker demand for high voltage products over the last three to four quarters, we have pushed out the ramp of our eight inch wafer manufacturing in our (Bushon) fab. This will result in spreading the eight inch startup cost over a few more quarters which decreases the impact of any one quarter.

In Q2, these costs negatively impacted gross margin by about 100 basis points and we expect to maintain this level of spending of the rest of the year.

R&D and SG&A expenses were $96.2 million in the second quarter, up 9% sequentially due primarily to selective increases in R&D for our mobile business, the annual merit increase and a higher variable compensation accrual that is tied to EBIT dollar generated.

Second quarter adjusted net income was $18 million and adjusted EPS was $0.14. Our adjusted tax expense was $2.4 million for a tax rate of 12%. Now I'd like to review second quarter highlights of our sales adjusted for the extra week in Q1 and gross margin performance for our two major product groups.

Sales were up 12% from the prior quarter for our MCQ business driven by solid growth in our product supporting the mobile and computing end markets. MCQ gross margin was up one point from the prior quarter at 38% due primarily to higher factory loadings.

In our PCIA business, sales were up 9% sequentially driven primarily by continued strength in our power conversion and (opto electronics) product lines offset by ongoing weakness in our high voltage business.

Gross margin increased five points to 31% due primarily to improved mix and lower aided startup costs. Both sales and margin were favorably impacted by the insurance recovery related to the Thailand flooding.

Turning to our balance sheet, we increased internal inventory dollars by about 5% or about two days sequentially to 88 days to prepare for the expected ramp in mobile demand. Days of sales outstanding, or DSOs, decreased to 37 days and days of payables remained roughly 51 days.

Pre-cash flow was a positive $32 million and benefitted from higher net income, improved working capital and lower capital spending. We ended the second quarter with total cash and securities exceeding our debt by $131 million.

Turning now to guidance, we expect sales to be in the range of $360 million to $380 million for the third quarter. Our current scheduled backlog is nearly sufficient to achieve the low end of this range.

We expect adjusted gross margin to be flat to up 150 basis points due primarily to better product mix. We anticipate R&D and SG&A spending to be roughly flat with the prior quarter.

The adjusted tax rate is forecasted at 15% plus or minus 3%. Consistent with our usual practices, we are not assuming any obligation to update this information although we may choose to do so before we announce third quarter results.

Now I'll turn the call over to Mark Thompson.

Mark Thompson

Thanks, Mark, and good morning, everyone. I'll focus my discussion today on the factors that are enabling Fairchild to steadily grow sales despite the current macroeconomic headwinds.

We posted a nice recovery in sales in Q2 aided by a solid improvement in distribution sell through and we expect to increase sales a seasonal 2% to 3% at the midpoint of our guidance range for the third quarter.

Given the economic uncertainties, this may seem aggressive to some. So I want to review our expectations by end market so you will have a better understanding of our assumptions. I'll wrap up with a brief review of some operational highlights from the second quarter.

Our strategic focus on mobile analog and power products continues to provide strong growth opportunities for Fairchild. We began ramping a number of new products and design wins in the second quarter supporting T-Mobile customers.

We expect to significantly accelerate these shipments in the second half of 2012 in support of numerous new mobile product launches. In fact, most of the total company sales increase we're guiding for Q3 comes from mobile, which we expect to grow $10 million to $15 million sequentially.

It's worth noting if we're not well documenting (chip set) shortages from a major vendor, we estimate our sales would have been at least $5 million higher in the second quarter and $10 million higher in the third quarter.

We continue to increase our share in major smartphone and tablet models. In the second quarter we secured major new wins with our power conversion solutions that are specifically designed to provide exceptional efficiency in the new, higher voltage battery chargers essential to faster charge times for leading tablets, notes and smartphones.

We're also gaining traction in the mid voltage (inaudible) market reporting performance computing, base stations and communications. These end markets tend to be very deliberate in their adoption of new products and we have worked diligently over the last three or four years to gain share in this high value market.

We discussed in the past our ongoing efforts to transition our low voltage (inaudible) business away from low-end notebooks to more mobile and mid voltage applications.

Our latest 100 volt (inaudible) provide industry leading performance and we're rapidly ramping production to meet demand. We significantly grew our backlog for these products in Q2 and expect strong sales growth in the second half.

Essentially all the increase in our third quarter sales is due to mobile and mid voltage growth. In our other end markets, we also see opportunities to grow sales but we're guiding them flat to down slightly in Q3 to reflect greater conservatism given greater economic uncertainty.

Let me walk you through the end market, other end markets and why we believe there are additional areas we can grow.

In the appliance and industrial market we saw a solid increase in distribution sell through which enables us to significantly reduce channel inventory for that business. While the second half is seasonally softer for industrials, we do see positive signs in the appliance market.

The new incentives in China to purchase energy efficient appliances are driving a noticeable increase in customer increase and orders. There is an interesting change taking place in this market.

Chinese air conditioning makers are increasingly shifting their efforts to transition to inverter-style variable speed motors away from the compressor to instead the external and internal fans. It's less costly to convert these lower power fan motors yet it enables them to meet the efficiency standards necessary to quality for the rebates in China.

We're currently shifting capacity away from the higher power modules required for compressors to the lower power products needed for fan motors. While the ASP is less than the power module, we expect to shift to modules for air conditioner units instead of the one for the compressor.

In the LED lighting market, we're gaining traction with the most integrated analog power conversion solutions available. Our solution reduces the build materials required, especially the electrolytic capacitor which is often a failure point in LED lighting.

We grew sales over 30% sequentially for these products in Q2 and expect continued strong growth in the second half. While we expect consumer demand to be muted given the economic concerns, especially in the west, we still expect some growth from holiday demand.

Likewise, we expect modest growth in computing demand as new ultra book models roll out over the holidays. We're well-positioned in this space with industry-leading ultra small single and dual (inaudible).

Finally, we expect our auto business to remain steady in the second half despite widely reported weakness in the sector. We continue to ramp new products in support of our customers' efforts to adopt more efficient power frame solutions.

The strength of our auto business is dictated more by the seat of this transition to more efficient power train products than the number of cars sold each quarter.

Turning now to Q2 results for our sales channel and other operational performance, adjusting for the extra week in Q1, direct sales to large OEM and EMS customers were up 3% from the prior quarter due primarily to sales growth and also in power conversion.

Distribution sell through increased 14% sequentially which resulted in a modest channel reduction in inventory dollars. Factory utilization remained at roughly the mid 80s. Lead times remained at normal levels for virtually all our businesses except some mobile products that are in particularly high demand.

Overall product pricing in Q2 was down less than 2% from prior quarters and we expect similar performance in the third. In closing, I believe Fairchild has stronger product and design win momentum, especially in the mobile segment which should drive solid sales growth in the second half of 2012 and beyond.

As Fairchild emerged from the recession, we significantly improved our balance sheet and reduced debt by more than 40% leading to a strong, positive net cash position. We also upgraded our product mix and lowered cost which enabled us to achieve record gross margin last year and make our gross margin model very credible.

Finally, we completed a number of new – of product pruning efforts which boosted margins but weighed on overall sales growth. Now that these efforts are essentially complete, Fairchild is well-positioned to generate steady sales growth in the coming quarters.

Initially we expect mobile and mid voltage products to lead the way. We significantly under shift consumption of our high voltage products during the second quarter and we expect a similar trend in the third.

As we enter what is normally the seasonally strong period of late Q4 in the first half of 2013, we expect this business to resume growth. Combined with our steadily growing automotive product line, these businesses together account for nearly 70% of company sales and should drive our growth going forward.

Thank you and I'll turn the call back to Dan.

Dan Janson

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

Question-and-Answer Session

Operator

Thank you. (Operator Instruction). Our first question comes from the line of Ross Seymore – Deutsche Bank.

Ross Seymore – Deutsche Bank

A couple questions, the first one on gross margin – Mark, it looks like especially excluding the insurance settlement you would have been below the low end of your guidance range, even though revenues were kind of in line with that low end. What was the cause of that?

Mark Frey

Well, there was the one-time upper of the insurance settlement but we also, as we said in my script, had some larger than – I wouldn't call them one-time but definitely larger than normal sales reserves and allowances for specifically our China business.

Dan Janson

Ross, there's always a set of puts and takes around our estimates and both of those components were actually in our original assumption. So we were aware of them being out there as probabilities and so they just landed and roughly offset each other.

Ross Seymore – Deutsche Bank

So the insurance settlement, both the revenue impact and the margin impact was in your original guidance?

Dan Janson

Yes.

Ross Seymore – Deutsche Bank

And then as my follow-up question more looking forward, as you think about the mobile business, it was very helpful for you to size the impact of the (chip set) shortages. How should we think about that as we move further into the back half of the year? Do you think that's going to get resolved and how do we think about seasonality for your mobile business as that's a relatively newer growth driver for Fairchild?

Dan Janson

Yes, it is. It's a littler harder to talk about seasonality, so I'll do it second. But to start with the impact of the (chip sets) I mean consistently I think both the foundry side and the (chip set) vendor commentary figures to be out of shortage by the end of the third quarter.

We have not assumed any benefit from that in the third quarter. We think it will primarily land in the fourth. But we do expect that there will be a significant tack up on those platforms in the fourth quarter.

And so essentially what we think is it will be a net slippage of revenue from the second and third quarter into the fourth and so that's the way to think about that.

The seasonality is a little harder to sort out because what we've seen is that the patterns for strength and weakness are more around major platforms. So when a top smartphone maker announces a new platform typically you see a diminishing of interest in the old one and then people waiting for the new one.

And I think that will be more important than seasonality in terms of the way this plays out.

Operator

Your next question comes from the line of Terence Whalen – Citigroup.

Terence Whalen – Citigroup

This one refers to your regional sales. It looks like despite the sequential growth in mobile products, sales to Korea dipped to $32 million from $38 million sequentially. I just wanted to understand insight into what was driving that sequential decline in Korea.

Mark Frey

Well, Korea does have a mobile content but it also has a very large appliance and high voltage content, so that's what was driving it.

Dan Janson

Yes, appliance and large display are the two large components of that.

Terence Whalen – Citigroup

Then I think you alluded to high voltage product inventory remaining high in the channel. Can you give us an update on quantifying that and also provide us insight into how the China subsidy for consumer appliances affected inventory during the second quarter?

Mark Frey

We took the channel down a lot in Q2. It came down four weeks and we're targeting embedded in our guidance to do something similar in Q3 at which point we think we've got – we'll be in a little bit more than we want but basically in an acceptable range at that point. And what was the second half of your questions?

Terence Whalen – Citigroup

And specifically around the subsidy at the end of May in China for consumer appliances, what's your observation on the effect of that with regards to channel inventory or in demand for those type of products?

Dan Janson

We're seeing elevated interest. Obviously the subsidies were very similar to the subsidies that were in place in '09, which obviously worked in '09, so we would expect that they would have an impact.

I think in Mark's talk he went down another level that the way the subsidies are structured are causing the customer mix pattern to go towards inverter-driven fans rather than compressors, but that's sort of a detail.

Operator

Your next question comes from the line of Parag Agarwal – UBS.

Parag Agarwal – UBS

This question is on your mobile business and you indicated that lead times for that business are the highest. So just wondering if you can quantify that lead time and also are you well set to meet the capacity internally and externally to meet the demand in the second half, in the third and the fourth quarter?

Mark Thompson

In terms of lead time, they're slightly elevated. But keep in mind in our mobile business it's almost entirely large OEMs and we reserve capacity in OEMs. So the actual calculation of refunds was less important in terms of the impact on the market.

And, yes, we think we have the capacity in place to significantly grow the revenue line in Q4.

Dan Janson

We had done the work on reserving foundry capacity some time ago and the estimates are consistent with that, so we see – and, of course, internally we're in good shape on that. So, yes, that is in good shape for the moment.

Parag Agarwal – UBS

And secondly, as – I mean, especially on the gross margin, how should we think about the various moving parts? We talked about the China (safe reserve) and (Buson) (inaudible). But again, one would expect that you guys have some benefit from the currency to some US dollar and also weakening gold prices.

So if you can help me understand the gross margin (inaudible) for the (inaudible) in the fourth quarter that would be great.

Dan Janson

The biggest impact on Q3 immediately is primarily mix related where we have mix improvements in our power conversion as well as our low voltage (inaudible) business away from commodity computing and in favor of tablets, servers, etc cetera.

And not a huge amount of volume because we haven't tied a large volume to that line. And pricing in Q2 was down a little less than 2%, so that improved relative to Q1. Q1 was about 3%, which is more than seasonal. Q2 was about seasonal.

We would expect that to remain the same going forward. We talked in our notes about the ongoing impact of the eight inch qualification costs at about 100 basis points and then in Q4 obviously if we see the fruition of the volume increases will have both a mix and a volume-based driver that will drive gross margin.

Operator

Your next question comes from the line of Craig Berger – FBR Capital Markets.

Craig Berger – FBR Capital Markets

I wanted to understand channel inventories a little bit better. You said sell through grew 14%. I'm assuming selling grew less than that. Can you just comment on where just the channel inventories are and then also review sort of utilizations and lead times? I know there is a variety across factories and products.

Mark Thompson

So we brought down inventory modestly in terms of dollars but because of the increase in consumption termed in weeks, we're down about 1.5 weeks, so just above 10 weeks, a bit higher than our target range still but lower than typically we've operated in our businesses.

Virtually all of our businesses have channel profiles that we're very comfortable with. In fact, we've been adding in selective areas and then in high voltage as we've said we're elevated. We've made a lot of progress on that in Q2, are planning to make additional progress in Q3 and would expect that we'd be pretty close to equilibrium by Q4.

In terms of utilization, they didn't change a whole lot. They went up slightly to the high 80s overall and I would expect that not to change a whole lot going into Q3 and then as we see the impacts of the mobile growth in Q4 they would step up again.

They are a bit variable within the company. The factories that see our high voltage business, (Bushon) and (Suzo), are operating at lower utilization levels. The factories that see our mobile and our (inaudible) businesses in (Ang) and (Savu) and Maine and Salt Lake, are operating at higher utilization levels.

Craig Berger – FBR Capital Markets

Just as a follow-up, you guys are talking about growth in mobile, new platforms, etc cetera, etc cetera. Can you help us understand the progression of your sort of average dollar content per device or what the future opportunities look like for you from a dollar content perspective and just help us understand where you're coming from there?

Dan Janson

Sure, so again, it varies from OEM to OEM but for some of the top phones today, we range from say $0.25 to $0.60 to $0.70. That's in the pone. The ramp that's starting to accelerate right now is for the controller for the adapter, which people don't for obvious reasons include in the build materials for the handset itself.

But what's happening is as charge times get long there is a lot of work going on to reduce charge times and so the adapter has been pulled into the sort of sphere of influence of the OEMs.

And so the controller for that I think something close to 20% or $0.20 per controller and then the next layer of that will be the (inaudible), which will be more like $0.30 per. So those we anticipate over the next year could cover most of the leading OEMs charging needs for both phones and tablets.

And so again, I just (card) it out because some analyses will include that with the phone and some will hold it separate. And in general, what we see is that we're on track to each generation roughly double the content.

So for one of the – for the phone that was at the low end, the $0.25, that generation, which is about to flip, will flip to a number that's in the $0.50 to $0.60 range. So that's the kind of trajectory. So you could go from today at say $0.25, add $0.17 plus the $0.60 with the adapter and the phone and will get you in the range to think about for the next generation.

So and, again, back to the question on seasonality, it's much more timed to the actual launch of the platform than whether it happens to be at Christmas time or not.

Operator

Your next question comes from the line of Tristan Gerra – Robert W Baird.

Tristan Gerra – Robert W Baird

Is the continued (device) in minimum wages in China affecting your gross margin? And also what do you think – how do you think your position relative to the competition in Africa?

Dan Janson

Well, it certainly is. We've seen wage increases in China and they've been headwind to our gross margin projection. Late last year we saw some currency strengthening as well. That's abated recently.

But we expect that and I don’t know anybody doing business in China that doesn't expect the currency to strengthen and wages going up. I think we're about the same as everyone else and so I don't think it puts us in a different competitive position because we all have similar value-added content in China.

And the approach you take is you try to go for higher productivity, so we make our multi-chip modules, which we expect over time to have a higher proportion of material relative to labor, which would be a good kind of complement for a market like that.

Operator

Your next question comes from the line of Christopher Danely – JPMorgan.

Christopher Danely – JPMorgan

Can you just maybe put a little bit more color around the slowdown, when it happened, where you see the impact being a little bit more, the impact being a little bit less, even by geography? And then also what gives you confidence that it's not going to get any worse?

Dan Janson

In terms of the slowdown, it's landing roughly where you would expect it to, which is things that tie to consumer primarily, so things like large panel, core computing and appliance is where we have seen it.

It's awfully hard to quantify, you know, deciding whether it's going to get better or worse. We think taking pretty cautious outlook in our guidance. So but again, it's – the nature of uncertainty is that it's uncertain. And so it's awfully hard to summarize all the impacts around that.

So the – if we look at China, which has been a big driver of growth with the emerging middle class, it's been partially offset by – at least for our profile business – by the incentives for appliances.

And so again, there's a bunch of different puts and takes but, as I said, things like core computing, general consumer things like lap panels and appliances, we think will be a pretty tepid market environment for the second half.

Christopher Danely – JPMorgan

And was this a sort of a sudden slowdown or step down in the last couple weeks of the quarter or is it more of a slow erosion over the last month?

Dan Janson

We saw in general order patterns starting midway through the second quarter.

Christopher Danely – JPMorgan

Then as my follow-up, can you just talk about OpEx trends beyond Q3 and then what is sort of the normal seasonality we should be thinking about for Q4?

Mark Frey

In terms of the OpEx trends, until revenue gets back to our prior runrates, we're targeting OpEx to remain below $100 million while prioritizing mobile R&D and actually taking reductions in other spending areas. And when you say seasonality, do you mean of OpEx or do you mean of revenue?

Christopher Danely – JPMorgan

I'm sorry, of revenue.

Mark Frey

Well, typically it depends. Q3 is often a seasonal peak for us and Q4 would tend to come down but I think the chip (set) shortages and the both computing and phone product cycles probably bode well for Q4.

Q1 tends to be, for our MCQ business, the low end of our seasonality although we've really not seen that in mobile for the last three years because we've had secular trends in mobile that have offset it.

But over time as it becomes a bigger part of the company, I would expect to see it be a little more modest in Q1.

Operator

Your next question comes from the line of (Suzie Giselda – St. Equity).

(Suzie Giselda – St. Equity)

A few questions on the mobile charger – it sounds like an interesting opportunity there. What's the penetration of that high voltage charger on the phones you address now and then is it safe premium or how quickly does that cut over?

Mark Thompson

So the penetration is it's active and being sort of cut over to the next generation of both of the dominant smartphone makers and extending to varying degrees into the tablet portion of those businesses over the next couple of quarters.

(Suzie Giselda – St. Equity)

(Inaudible) for the two large guys?

Mark Thompson

Yes.

(Suzie Giselda – St. Equity)

Then on the (Bushon) …

Dan Janson

Let me just – I wanted to highlight one of the things that's interesting in that market. What you're finding is that as we move beyond the five volt charger market, which you see a lot of monolithic solutions that are perfectly acceptable in that level, now you're moving into the seven volt and 10 volt chargers because you've got a larger battery.

And if you want an acceptable charge time, you have to have a more powerful charger. And there you're seeing the strength of our ability to have a multi-chip package with the deep trench (inaudible) that technology that we have coupled with our controller really become the dominant solution.

There's from a competition perspective, we're very uniquely positioned there to take advantage of that move to higher power. It really kind of plays to our strength and that's why I think you're seeing that Fairchild's quickly being recognized as king of like the go-to solution provider for your higher power chargers.

(Suzie Giselda – St. Equity)

And then on the gross margin, the (Bushon) startup costs, it sounds like they're (100 bips) of impact. When does that tail off? How far into the future?

Mark Thompson

Sometime in the first half of 2013 is our current expectation.

Operator

Your next question comes from the line of Steven Smigie – Raymond James.

Steven Smigie – Raymond James

I just wanted to try to understand your comments about the handset push out – or mobile push outs I guess I could say. I think you said maybe $5 million from the June quarter and $10 million from September quarter. And then you said you saw it moving into the fourth quarter. So would I just take my normal assumptions for the September quarter and then add $15 million of revenue to that quarter? Is that the right way to be thinking about that?

Mark Thompson

So I – it's probably more exact than I would prefer to say it was 100% dollar for dollar. But certainly we expect that there will be some catch up. And, again, as we get closer to it and right now it's an anticipated catch up.

I think it's likely to occur during the third quarter but, yes, quantitatively that's a reasonable assumption, but it could be more or les, again, depending on where those chip (sets) are going.

An increasing portion of our business obviously is tied to the reference design of chip (sets). The pattern in the third quarter, what we've seen is that the top players haven't seen any negative effect from sort of tepid global economy. But the Tier 2 players definitely are and I think that's really – if you think about where there's risk in that, that's really the way I think it partitions.

But certainly a majority of that – I'm not saying $15 million – should materialize in the fourth quarter.

Steven Smigie – Raymond James

Looking at the (inaudible) power module business, it obviously had very strong growth (inaudible). And then as the subsidies came off that they're secured. Subsidies coming back online and this is picking back up again. So I guess my question is when those subsidies are not there, do you se your customers switch back to a type of device where they just go to the cheaper solution and as long as there aren't subsidies there they're just going to go with the cheaper solution?

Or is there a long-term sustainable trend – or I shouldn't say long-term, obviously more short and intermediate trend where they're definitely going to switch to the new variable (inaudible) technology even without incentive?

Dan Janson

So there is inevitably, especially in China, where price points are a way of life – there is definitely some impact on the total market by the incentives for efficiency. But it's not the dominant element.

If you look at it has appeared that the market in China is really like the rest of world, which is that incentives don't actually change demand. They just change timing.

And so what happened was that there was a big push to get stuff prior to the expiration of the incentives in the first half of 2011 that created a big inventory overhang. And as we commented before, the supply chain tools an capabilities in China are not at all in keeping with those in the West and Korea and Japan.

So there was huge inventory built up that people just didn't know was there. And that's been the – the incentives also – it was a two-part thing, right. So there was more inventory than the customers realized they had. There was stuff out on the shelves that they didn't know was there and then demand fell because the incentives rolled off.

So what it'll do is I think the extent that they're going to be swapping incentives in and out, it's going to make it a lumpy business in China and but I don't think it will materially effect the rate of conversion to (inaudible) PC because it really is quite a compelling solution.

So that's – those are kind of the puts and takes on that. What I will say is that it's a pretty smart industry in general and so everybody got hurt, particularly the OEMs and distributors in China by the inventory as well. And so I think it won't happen again. Whatever else will happen, we won't know.

But I don't see that pattern repeating again. I think there's tracking systems that are being put in place now that will prevent that in the event that there is another removal or expiration of the incentives.

Steven Smigie – Raymond James

If I can just speak a sort of follow up and tie to that is you mentioned the unusual Chinese sales reserves. What were the natures of that – what was the nature of that? Was that tied to these (inaudible) module or was it something else?

Mark Frey

It was related to the – heavily related to appliance. Sales reserves typically wind up trending to revenue trends, right, so that's why – and they're formulaic. That's why, back to Ross' question of did we see it coming, the answer is yes. And that's why we expected it was likely to land in the second quarter at the same time as the completely independent thing was likely to land.

So they just wanted the puts and takes. But yes, that's basically what it was and it's also related to what Dan commented on on a bit of an architecture change in terms of people – how people are making the efficiency standards which is focusing more on the fan than the compressor, which actually is interesting because it really affects your experience of the thing as well.

But you don't notice the compressor conversion as much as the fan because the fan becomes variable speed and much quieter. And so I think it's not just clever engineering but I think there's a recognition that people like the (BLDC) solution for the fan in terms of what they choose to buy.

So it was a little bit all of the above, right: an architectural change and the alignment of the product with that that triggered that reserve.

Operator

Your next question comes from the line of Brendan Furlong – Miller Tabak.

Brenda Furlong – Miller Tabak

A question back again on China, fortunately the data appears to indicate that the AC business or the AC market has turned in China with good incentive so for whatever reason but the appliance market is still pretty weak. When do you think the incentives or whatever is going to turn the appliance market?

Mark Thompson

I don't have any insight into that. We are heavily in air conditioning and not so heavily in the rest of the appliances at this point. So our data and tracking insight is largely hubbed around AC.

Brenda Furlong – Miller Tabak

AC is (inaudible).

Dan Janson

The other thing I would throw in there is that we do know that appliances sales in China are highly correlated to residential construction. And so, I mean, that's what we watch. How is residential construction doing? It looks like it's getting better and obviously it got pretty weak there over the last year. So we'll just be watching that.

Brenda Furlong – Miller Tabak

Then I have a follow-up on the eight-inch conversion. There were several comments made during the call. You said it was – you pushed out the cost a couple of quarters and then somebody asked a question. You said that it would tail off in the first half of '13.

When do we expect to – is it like third quarter of next year that we expect to see the (pump) in gross margins from when these costs are finally done and the eight inch is running?

Mark Frey

Well, we haven't made the final determination of when to turn it on. We continue to qualify more and more products as we qualify the line. And obviously depending on the progress of that qualification activity and the development of the market, we'll make a final decision.

But let's say if it were in the middle of next year, towards the end of the first half, what would you – what you would see is the tailing off of the period expenses related to qualifying line.

But of course, the first couple quarters that a line comes online, it doesn’t come at 100% of utilization and at maximum efficiency. So you would see a lag effect of the ultimate productivity improvement that we would expect from the eight-inch line and so a couple quarters after we turned it on.

Brenda Furlong – Miller Tabak

So the 100, 150 (bips) of what we would expect is probably not going to be fully impacted until like the first quarter of 2014 type of thing.

Mark Frey

Yes, you can't take Q3 and say, okay, things are going to step up 100 basis points.

Operator

Your next question comes from the line of Shawn Harrison – Longbow Research.

Shawn Harrison – Longbow Research

Just a follow up on the eight-inch facility – what is I guess the CapEx plans for the back half of the year in terms of just he delay in bringing that on?

Mark Frey

We're targeting about $175 million for the year. And so it's sort of online with what we spent in the first half of the year. And so that would be – we would expect that to then tail off significantly next year.

Although we've made the biggest payments on the eight-inch line, we have also made an expansion in our analog capacity in Maine and some of the more advanced packaging platforms that are associated with both our mobile and our (inaudible) business. And those programs are largely in place by the end of the year.

Shawn Harrison – Longbow Research

And I just wanted to go back to some earlier comments, just clarifying what you said in terms of mobile content. Right now you said maybe it's $0.25 at the low end. But once you get the adapter, at a minimum do you think with some of the higher employers your content potential is at least $0.60? Is that the way to think? Is that the correct math?

Mark Frey

Yes, I think the next generation, once the conversion of the handset and the adapter occurs, I don't think there will be any major handset that's less than $0.50.

Shawn Harrison – Longbow Research

Of the ones that you participate in.

Mark Frey

Correct.

Shawn Harrison – Longbow Research

The follow-up commentary, that is that your share is going to be relatively high across all the top vendors and as we get into 2013.

Mark Frey

That's our expectation.

Operator

Your next question comes from the line of Bill Ong – G Reilly.

Bill On – G Reily

Just to clarify, so in the June quarter, revenue guidance at this point is $370 million. The $10 million (inaudible) was largely chip (set) shortage related. So if you compare that to September quarter, mid point guidance (inaudible), what would be the growth in the (delta) $10 million from the low end of $360 million? Would that improved chip (set) availability?

Mark Frey

Yes.

Dan Janson

That and the ramping of our adaptor controller.

Operator

(Operator Instructions) Your next question comes from the line of Mike McConnell – Pacific Crest Securities.

Mike McConnell – Pacific Crest Securities

Looking at mobility and the mobile group and right goods, what do you anticipate each of those segments to be a total revenue by the end of the year?

Mark Thompson

So semi-quantitatively what I would say is that we would expect the mobile revenue to grow – to grow the path and therefore to take a larger relative percent of the revenue. We think that the appliance – we've probably, again – recall we report on sell in, so given the channel inventory correction that we've estimated in the third quarter, probably won't go up as a percent during that period of time. So I would say appliance is probably flat and mobile is probably up.

Mike McConnell – Pacific Crest Securities

But can we get mobile I guess in excess of a quarter of your revenue? Is it that big?

Mark Frey

Yes.

Dan Janson

And the appliance was 10% of our revenue prior to the current inventory corrections.

Mike McConnell – Pacific Crest Securities

And both of those categories are relatively higher gross margin relative to the company average. Is that correct?

Mark Frey

That's correct.

Mike McConnell – Pacific Crest Securities

And then just – I hate to ask the final question on the incentives that are going on in China. So you are actually seeing at this point right now orders pick up as a result of the incentives or is there just expectations they'll pick up some point in Q3.

Mark Frey

I would put it more in the interest/expectations as opposed to seeing a definitive uptick. So it's one of the places we've been a bit – of course, we remain cautious on and it's one of the watch points as we go across the quarter. They could lead us to the high end rather than toward the mid point if that does start to decisively turn into quarters.

Dan Janson

There are other factors. So overall between Q1 and Q2 on a 13 week, 13 week basis, we saw the consumption of our high voltage business at just distributors, (POS) sell through, up mid teens.

Mike McConnell – Pacific Crest Securities

Which lead to the inventory reduction. And then I guess when you saw the incentives in '09, was there typically a lag before you actually say, I guess – because this – I think the program sort of at least a year.

So I mean was there typically a lag from the time it was announced to when you actually saw the (POS) tick up?

Mark Frey

Yes.

Mike McConnell – Pacific Crest Securities

A couple quarters, do you remember?

Mark Frey

A quarter or two. I think as soon as they get turned on people get interested and there's usual design cycles and stuff like that, so one to two quarters.

Operator

And we have no other questions at this time.

Dan Janson

Okay, great, well, that will conclude our earnings call today. Thank you for your interest in Fairchild.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Fairchild Semiconductor International, Inc CEO Discusses Q2 2012 Results - Earnings Conference Call
This Transcript
All Transcripts