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Spansion (NYSE:CODE)

Q2 2012 Earnings Call

July 31, 2012 4:30 pm ET

Executives

Ajay Bhatia

John H. Kispert - Chief Executive Officer, President and Director

Randy W. Furr - Chief Financial Officer, Principal Accounting Officer and Executive Vice President

Analysts

Sujeeva De Silva - ThinkEquity LLC, Research Division

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Christopher J. Muse - Barclays Capital, Research Division

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Daniel A. Berenbaum - MKM Partners LLC, Research Division

Delos Elder

Monika Garg - Pacific Crest Securities, Inc., Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Q2 2012 Spansion Inc. Earnings Conference Call. My name is Darcel, and I will be your operator for today. [Operator Instructions]

I would now like to turn the conference over to your host for today, Mr. Ajay Bhatia. Please proceed.

Ajay Bhatia

Thank you, Darcel. Good afternoon, and thank you to everyone for joining us on today's call to discuss Spansion's Second Quarter 2012 Financial Results. With me today are John Kispert, Chief Executive Officer; and Randy Furr, Executive Vice President and Chief Financial Officer. We hope you saw our earnings release issued today and posted to our website. I wanted to let you know about our upcoming speaking engagements at the third quarter. In August, we will participate at the Pacific Crest technology conference in Vail on the 13th and the Morgan Stanley Corporate Access Day in Chicago on the 22nd. In September, we will participate at the Citi Technology Conference on the 5th and the ThinkEquity G9 Conference on the 13th, both in New York. As always, we hope to see many of you in the coming months.

I also want to take a quick opportunity to announce that Spansion will host its 2012 Analyst Day on November 14 in New York.

This will be an excellent opportunity for investors and analysts to meet a few more members of our management team, gain insight into our short-term and long-term strategic plans and learn about our future products. We will send out a save the date notification in August.

Before we move on, please note the Safe Harbor statement on Slide 2 of today's materials. During the course of this meeting, we may make forward-looking statements regarding future events or the financial performance of the company. Such statements are based on assumptions as of the current date, and you're cautioned that these forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those statements. We urge you to review in detail the risks and uncertainties discussed in our Securities and Exchange Commission filings, including our annual report on Form 10-K for the fiscal year 2011 and the Form 10-Q for the first quarter of 2012.

The company disclaims any duty to update forward-looking statements.

Our agenda for the call today is as follows: John will discuss key highlights from the quarter, then Randy will review the quarter from a financial perspective and provide the forward-looking guidance. Our Q&A session will then follow.

An audio replay of this call will be available for 1 month by accessing the Investor Relations page at spansion.com or by dialing (888) 286-8010 and using the pass code 53393500. Now, I would like to introduce John Kispert, CEO of Spansion.

John H. Kispert

Thank you, Ajay. Good afternoon, and welcome to our Second Quarter 2012 Earnings Conference Call.

We had a strong second quarter. All major financial metrics were in line or ahead of our guided ranges and we believe we executed well in what continues to be a challenging environment. This is all due to our focused execution, the strength of our new solutions and deep customer relationships. And as a result, we extended our leadership position in the embedded market. With our product expansions, strategic partnerships and continued focus on growth areas in the embedded markets, we are well-positioned for the future.

My comments today will be organized as follows: First, I will recap our financial results, then I'll update you on what we are seeing in the market and on the latest developments across our various businesses. And finally, I will review our design win progress.

Randy will then give you the second quarter financial details and the outlook for the third quarter, after which we'll field your questions.

So for the fourth quarter, we achieved revenues of $233 million, non-GAAP gross margins were 35.5%, non-GAAP operating income was $25 million, adjusted net income was $13.7 million and adjusted diluted EPS was $0.22 a share.

Randy will go into more detail on the financials shortly. But at a high-level, we executed well and I'm pleased with the financial results in Q2. The go-forward macro outlook is mixed but we remain focused on what is in our control. We are seeing momentum building with our new products and see continued growth for the company due to increasing market share and continuously increasing design wins.

All regions and new product families had growth quarter-on-quarter. As you look at Slide 4 in our earnings presentation, this is the slide where we breakdown our revenue by segment and geography. I want you to know that we've modified the way we look at and report on our end markets in order to better track against the platforms and segments that we serve. The categories moving forward are as follows: First, consumer, where there's no change in how we define the segment; second, transportation and industrial, here we simply renamed automotive to transportation, recognizing that with our new products we are reaching more platforms in the Transportation segments, including aviation, for example; and industrial remains a key segment with a broad range of digital industrial devices coming to market; and then finally, communications and gaming. This end market group, which includes gaming now, as well as communications and computing, combines all the platforms that rely on our high endurance, high density and high quality performance, all designed to handle the interactivity and the infrastructure for supporting rich content access across multiple platforms.

These areas will continue to be the foundational categories for our product roadmap going forward. And except for Transportation, all segments grew quarter-on-quarter.

As we discussed in the past calls, quarter 2 was the quarter in which we transitioned both our front end production facilities and back-end packaging and test facilities. And thus, our revenue here was lighter as automotive customers chose to place orders in the Q3, Q4 timeframe. With this transition behind us, we now anticipate the second half order rate in transportation will be above the first half. And we are seeing net pick up for automobile orders and revenue the first few weeks of July.

During the second quarter, we saw a continued momentum in progress from our customers for our Parallel NOR, Serial NOR, NAND and Programmable System Solutions or PSS.

I will now highlight our progress in each of these key strategic growth initiatives.

In Parallel NOR, we remain the market leader and are working with customers to migrate to our latest generation of products. We saw a particular strength in gaming, which relies on our high-density Parallel NOR solutions.

In the area of Serial Flash, we are seeing new design wins across multiple segments. At lower densities, we are sampling and have broad customer interest and we're going to bring to market additional new higher performance, low density products later this quarter and into next quarter.

As far as NOR technology development, we are on schedule with our 45-nanometer technology qualification and we taped out our first 45-nanometer product early in the quarter. We expect to have our first product on 45-nanometer in production by the first quarter of 2013.

With regard to our NAND offerings, we announced the Spansion SLC NAND family, which will be offered in densities from 1 gigabit to 8 gigabit and feature high-performance, extended temperature range, long-term product support and stringent reliability demands.

We are aggressively sampling and expect initial revenue in Q3. You can expect our first design demand will be in the Consumer segment in Japan. We have a strong patent portfolio in Flash memory. Based on early and significant R&D investments throughout the years, we intend to proliferate and protect our IP by expanding licensing as we move forward.

This quarter, we announced the Spansion Acoustic Coprocessor, a specialty processor for voice recognition.

This new category of products from Spansion includes custom-designed logics and high-speed memory with nuance software to accelerate and optimize voice-enabled human-machine interfaces. It improves system response time by over 50% over typical systems, using separate application processors. It offloads the acoustic processing workload from the conventional CPU by up to 50%. So it increases performance and accuracy and cuts costs for our customers.

Turning to an update on our design wins. We had another quarter of strong design win momentum. Across the board, we are experiencing strong interest in our solutions to address the growing requirements from memory-intensive systems that enable intelligent and connected electronics. The Consumer Products segments continues to grow as users are connected to multiple network devices and consuming more content on the go.

A broad set of innovative devices are coming to the market. Mobile products like tablets and e-readers along with digital TVs, set-top boxes and home gateways rely on the fast boot capabilities of our NOR products.

In Q2, we maintained our leadership position in the mid to high density range with over 200 design wins, led by set-top box designs, as well as digital cameras and home gateways for our parallel and serial designs. In addition, we are engaging the multiple opportunities with our new NAND products.

In transportation, we secured over 50 new design wins, primarily for infotainment applications but we are also seeing growing demand for instrument clusters and Advanced Driver Assistance Systems or ADAS. Like last quarter, we are seeing new opportunities in China and India for the automotive market. In the future, as more interactivity and safety features come inside the cabin and adapt to user preferences and the environment, automakers will continue to rely on Flash memory solutions and voice recognition systems such as our acoustic coprocessor.

In industrial, where interactivity and rich graphics are becoming more prominent in a variety of applications, we secured over 75 design wins. These span many applications from transportation to energy systems to home automation, to point of sale applications and, as usual, medical systems.

Growth areas for high-performance and reliable memory systems include the smart automated home, as well as Telehealth, with the rise of the distributed patient-oriented care model, which relies on conductivity and embedded systems to power portable medical devices that need to provide monitoring 24/7. Customers in the Industrial and Transportation segment value our products' high-performance, endurance and long-term support.

In the area of communications and gaming, we continue to secure wins for high-density NOR, where customers value the fast read and interactivity of rich graphics and digital content. Specifically, in communications, we secured over 70 design wins. From a variety of areas including base stations, routers and optical switches.

In terms of translating design wins into revenue, consumer and gaming design wins generally become revenue in the next few quarters, whereas transportation, communications and industrial design wins will take longer, up to 15 to 18 months.

In summary, we performed well this quarter. While the industry is cautious about the second half, we remain focused on executing against our strategy and working closely with our customers to meet their specific requirements. Clearly, the macro environment has weakened, however, we see our growth in the intermediate timeframe more a function of the design wins over the past 18 months. Thus, we expect all regions and all segments to grow in the third quarter. With our expanding product portfolio, strategic partners and customer relationships, we are confident about our ability to continue driving revenue and earnings growth.

And with that, I'll turn it over to Randy.

Randy W. Furr

Thanks, John. And as usual, let me start with the summary of our fiscal Q2 2012 operating results. Which as John indicated earlier, we are pleased to report we're in line with the guidance provided during our Q1 earnings call.

On a non-GAAP basis, sales was $233 million; gross margin was 35.5%; adjusted operating income was $25 million equating, equating to an operating margin of 10.7%; adjusted EBITDA was $43 million and non-GAAP diluted EPS come in just over the high-end of our guidance at $0.22.

As I discuss the financial results in more detail, I'll be referring to the presentation that we posted to our Investor Relations section of our website. And just as a reminder, Q2 was a 14-week quarter. On Slide 4 of that presentation, you'll see a breakdown of our sales by end market and geography.

In general, as you can see, it was a good quarter with respect to our top line. Revenue was up almost 7% sequentially and coming in the high end of the range. In our key focus Embedded business, revenue was up 11.1% quarter-over-quarter. Overall, we had balance growth across all our regions. Higher sales in the Americas was driven by strength in the communications market.

Turning the discussion to end markets, and again as John mentioned, during the quarter, we modified our end market categories.

We classified them to be more reflective of how we run our business. To help you with historical figures, we've added Slide 13 to our presentation, showing a breakdown of these end market categories back to Q1 2011. Strength from communications and gaming, driven by recent design wins and the overall robust Japanese gaming industry, more than offset the lower sales in the transportation and industrial end market. As John mentioned earlier, the decrease in the transportation and industrial end market is related to product transitions as we migrate our customers from our former Japanese fab and Kuala Lumpur final manufacturing operations to our Austin fab and Bangkok final manufacturing operation sites.

It is important to note that we continue to have strong design win momentum in the transportation and industrial market that will support stable growth for Q3 and beyond.

Turning to Slide 5, we will review the income statement highlights. Overall, the income statement was within guidance and reflected a strong quarter. Non-GAAP gross margin, driven by an improvement in capacity utilization in our internal operations, increased from 30.7% in Q1 to 35.5% in Q2. The catalysts for further margin expansion not only includes continued improvement in our overall capacity utilization, but also the migration from our 110 and 90-nanometer products to our new 65-nanometer products.

In Q2, the percentage of 65-nanometer revenue grew from approximately 15% in Q1 to 23% in Q2, an increase of 66% sequentially.

Moving to operating expenses. R&D increased from Q1 as we've accelerated our new product development efforts, including launching SoC NAND for embedded customers. During the quarter, we released a record 5 new products, total operating expenses of $58 million, translated to non-GAAP operating income of $25 million, compared to last quarter's $14 million and last year's Q2 of $50 million. We incurred $8 million of interest in other nonoperating items. Our income taxes in Q2 were $3 million.

I will also add that in Q2, we had an EPS benefit of approximately $0.01 related to taxes, and this was mainly driven by the release of a previously unrecognized tax benefit due to a statute of limitations expiration.

As a reminder, we have significant U.S. and California NOLs, and all the $3 million represents foreign taxes.

Adjusted EBITDA was $43 million or 18.5% as a percent of sales. Our non-GAAP diluted EPS was 22% in Q2.

Still on Slide 5, column 5 takes GAAP results listed in column 1, and that's for the non-GAAP adjustments to get non-GAAP results for Q2. During Q2, you see that GAAP results reflect a higher net income than non-GAAP. This was driven by the sale of the land and building of our former final manufacturing operation facility in Kuala Lumpur.

Proceeds before tax were approximately $39 million, and this resulted in a one-time gain of $28 million. The Q2 results listed in column 5 here relate to the financials depicted on Slide 6, which we have included to show a quarterly apples-to-apples comparison going back to Q2 of 2011.

I would now like to turn the conversation to the balance sheet.

Please refer to Slide 7, and I will start with cash. We ended the quarter with cash, cash equivalents and short-term investments of $292 million. During the quarter, not only did we generate cash from operations but as previously mentioned, we realized approximately $35 million in cash from the proceeds of the Kuala Lumpur land and building sales. This was offset by $15 million in interest and principal paid on our debt, $5 million paid for capital purchases and $9 million paid related to restructuring.

With respect to working capital, trade accounts receivable was $135 million, up approximately $22 million from Q1. This was due to higher revenue in Q2, as well as a slight mix change towards selling more to our Japanese customers who have longer payment terms. Inventory for Q2 was flat quarter-over-quarter at $160 million and we ended with 98 days of inventory, up from 91 days in Q1. However, this calculation was based on using 14 weeks of cost of goods sold in Q2. If we were to use 13 weeks, days of inventory would be flat. Accounts payable was $68 million at the end of Q2 and is equated to 35 days.

I'll now turn the discussion to guidance for Q3. Please refer to Slide 9. As we show on our earnings release, the expected range for Q3 net sales is $230 million to $250 million. We are guiding GAAP diluted EPS per share to be in the range of $0.1 to $0.08. As I mentioned in our Q1 earnings call, our restructuring effort was substantially complete and you will see only minor expenses in the range of 0 to $2 million related to restructuring in Q3. Without stock-based equity compensation, fresh start accounting adjustment related to IP amortization and the minor restructuring I just referred to, we expect non-GAAP gross margin to be 35.5% to 38%, translating to a GAAP -- I'm sorry, translating to a non-GAAP diluted EPS in the range of $0.27 to $0.33.

Slide 10 lists our Q3 2012 focus areas, which include growing our core embedded business, staying on track with our new product roadmap, continuing to improve internal loading and aggressively lowering our operating cost. Slide 14 is presented to help in reconciling historical GAAP to non-GAAP.

With that, I'd like to thank you for your time today and turn the call over to Darcel for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Suji De Silva from ThinkEquity.

Sujeeva De Silva - ThinkEquity LLC, Research Division

Suji De Silva here. So for the quarter that you just had, where did the channel inventories end up? And where is your utilization on the standard supply chain at?

John H. Kispert

Suji, it's John. The channel inventories were -- all continue to be, let's say, light, or we haven't seen a real big pickup. One place I'd say it's up right now is in Japan, but it's early tied to this transition and the automobile, so we planned for it that way. But we haven't seen any real pickup through the distributors. And the second question was?

Sujeeva De Silva - ThinkEquity LLC, Research Division

The utilization. Just trying to get the supply chain?

John H. Kispert

Yes, utilization has kind of moved itself up into that 90% range for Q2.

Sujeeva De Silva - ThinkEquity LLC, Research Division

Okay, good. And looking at the Communications and Gaming segment. Can you talk about how much of that was Gaming coming back seasonally versus the broader category?

John H. Kispert

Gaming did pick up, but so did Communication. Both of them were pretty big growers for us. Gaming -- in the case of gaming, it was really more market share gains. Our new 4 gigabit products are doing extraordinarily well there. But communication also picked up. That was really our 1 gig and 2 gig product sets. So both probably equally growing.

Sujeeva De Silva - ThinkEquity LLC, Research Division

Okay. And then last question for me. Can you size the opportunity of the autos product you have for voice recognition? And then what product should we expect to kind of follow that product? And what's the timing of additional products there, in the PSS category?

John H. Kispert

Yes, when we think about our voice recognition shift, if you will, we think just for a voice recognition in-cab, and it's really for the high-end automobiles, over time it should become bigger. We think it's about a $100 million opportunity for us. We are moving quickly to expand into other segments, other applications. You will be hearing from us, I think, over time, as we move. You can imagine the number of in and around home entertainment for instance, the coordination of all the electronics that you have in the home, the speed and power. So we are working on a bunch of things there, and then we'll announce those over time.

Operator

Your next question comes from the line of Raji Gill with Needham & Company.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

On the OpEx, Randy, what type of OpEx run rate should we be looking forward to, now that we've gone through the restructuring? Should we look at something like $59 million in a quarter type of run rate, or should we bake in a little bit more than that?

Randy W. Furr

You're very close. I'd probably be more in the $60 million range, but you're right about there.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Okay. And as we kind of look into Q4 seasonality, maybe you can remind us, what is the seasonality in Q4? And given the push start with the automotive that's now kind of ramping back up again a little bit in the third and fourth quarter, how should you look at the Q4 type of model?

John H. Kispert

Yes, it's John, Raji. I think when you think about Q4, we're not giving guidance for Q4. If you look at it historically, which is awful hard to do given all the changes we've driven through Spansion over the last 2 years or so. It's typically the highest quarter. I think you got 2 things. You got this kind of anomaly with the automobile for Spansion, with that space for us. But the other one is, is that that's the core that we really will be ramping, our low density SPI, and that's 64 megabit, 32 megabit and below, but also it's the -- over the quarter where we'll be ramping our NAND. We're sampling it now. We have over 1 million units of sampling. The question is when orders come in, and we really think that's probably going to be in Q4.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Well, how much revenue -- was there any SLC NAND revenue in second or third quarter?

John H. Kispert

Well, second quarter, we just finished, there was no SLC NAND. Q3, we'd like to got a little bit in there. By a little bit I mean, $2 million, $3 million.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

Now you had talked about a certain range in the past, $35 million to $50 million or something like that. Are you still holding to that number or -- from SLC?

Randy W. Furr

Yes. This is Randy. So the range that we put in this year was a $20 million to $30 million range, and we're still holding to that number.

John H. Kispert

Certainly, Raji, we see those kind of opportunities out there for us for this year.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

And where -- what category will that be put in, will not be across all the major end markets?

John H. Kispert

Yes. I think the first place you can see that, I said this in the prepared remarks, is we're very focused right now in consumer. And the applications are set-top box, Digital TV, home gateways. There are some opportunities in, I'd say, enterprise switches, base stations, certainly in gaming. So a bunch, but I think the first place is you're going to see it is probably in our Consumer segment.

Rajvindra S. Gill - Needham & Company, LLC, Research Division

So is it fair to say, then, that if you're going to do $2 million to $3 million SLC in the third quarter and your, for the year, is $20 million to $30 million, then you should be looking at least an incremental improvement of kind of $20-plus-million, just looking from SLC from third or fourth quarter?

John H. Kispert

I think, yes, that's what Randy just said.

Randy W. Furr

Yes.

Operator

Your next question comes from the line of C.J. Muse with Barclays.

Christopher J. Muse - Barclays Capital, Research Division

I guess first question, I was hoping you could quantify what the financial impact is from the delay in auto revenues from Q2 to Q3. Your guide is up about $7 million sequentially Q-on-Q at the midpoint. So I'm just curious, how much of that is coming from auto?

John H. Kispert

Yes, round numbers -- I mean, I'll take the first part of the question. I think you should think about it as about $10 million. We've got a bunch of it, some of it, a small portion of it in Q1 and the other portion of the $10 million, roughly $8 million you see spread over Q3 and Q4. Timing of that, C.J., is very difficult to call.

Christopher J. Muse - Barclays Capital, Research Division

Okay. And I guess what I'm going trying to get at, John, is in your prepared remarks, you talked about all segments and geographies up Q-on-Q. Yet you're guiding at the low-end of the range, revenue's down 1%, and you got this kind of onetime benefit here of auto picking up given the desire to wait, given the change in the back-end manufacturing. So I guess, can you kind of help me understand what's going on end market-wise? And what gives you the confidence that things are growing when your guidance, at the midpoint at least, appears to be a little bit more subdued than that?

Randy W. Furr

Yes, so this is Randy, C.J. So we're guiding up, like you said, about, hit the midpoint, about $6.6 million. And as John kind of alluded, we think that's going to be pretty balanced across most of the segments that we have. So I'm not sure how to fully -- why don't you kind of try to drill down a little bit more on that, I'll try to answer it. I'm not sure how to -- unless you want me just get into segment-by-segment forecast, I'm not sure how to answer your question.

Christopher J. Muse - Barclays Capital, Research Division

Okay. I guess, let me ask another way. You talked about how on the auto side, there are delayed purchases to calendar Q3 because of some changes on the back-end side, right? And that impact is, roughly, $8 million?

Randy W. Furr

That's right. And spread it over probably Q3 and Q4, maybe even a little bit in Q1.

Christopher J. Muse - Barclays Capital, Research Division

Okay. So if I take that number out of your calendar Q3 revenue guide, at the midpoint, your business is flat to down. So I guess what I'm wondering, are all your other segments x auto flat to down, or am I missing something?

John H. Kispert

As I said, we expect all of our segments to be up. I think it is 2 things, C.J., to think about. I think our guidance incorporates appropriate conservative assumptions under the -- given the macro scenario. I also think we give a range, and you're picking the midpoint. If you go through gaming, gaming is a lumpy business. Consumer, in general, is lumpy for us. Lumpy, meaning there could be bigger orders to come and it also can change quickly. On transportation and industrial, much more predictable. I think in the case of industrial, if you look at the prepared remarks, we had a bunch of things in play there. We are a little bit nervous about some of those projects slowing down, and they're really a lot of municipal kind of projects that folks are working on that we know we can be a big part of and so, certainly, we're a bit nervous on that. So that's the wide range in guidance. And as far as the Communication space, we're pretty sure we'll be up. That one looks strong for us.

Christopher J. Muse - Barclays Capital, Research Division

Okay. That's very helpful. And if I could sneak one last one in. On the gross margin side, nice, either flat to up 250 bps. So curious in terms of what your expectations are in terms of what's rolling in there? How much of that, I guess, is mixed focus? How much is migration to 65-nanometer, and how much utilization, how should I think about the drivers there?

Randy W. Furr

Yes. So I didn't quantify it in terms of exactly which of those categories fits there. But I certainly think the 3 things that are contributing to gross margin improvement: one, is the top line increase; two, as you alluded to, was mix; and then the third one was utilization. If I had to say which 1 was heavier weighted, I mean, clearly the -- in terms of the margin expansion itself, the utilization was a big part of that. But I'm probably going to talk about this even a little bit more into the next quarter, but the thing that we are doing a really good job at, at Spansion, is we're very aggressive in cost reductions. So in addition to getting the benefit by our internal operations running much higher utilization rates, we are doing a very good job at taking cost out of the operation. And that's a huge focus on the company in terms of just picking out period and as well as product costs and getting efficiencies in there. So clearly, the biggest part of our overall margin expansion improvement was the utilization and those cost reductions. But we are getting some improvement from the volume, as well, and the mix is moving in the right direction.

Operator

Your next question comes from the line of Krishna Shankar from Roth Capital.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Can you talk about the booking strength during the quarter, and what kind of backlog coverage do you have going into Q3? And the termed dependency?

John H. Kispert

That's a good question, Krishna. We're in better shape than we were, I'll say, 90 days ago, as far as essentially book-to-bill as we look at Q3. Things have, I think, firmed up nicely for us. Where they firmed are on these newer products, the 65-nanometer products. That's not those say there isn't in turns [ph] business in the quarter, there certainly is. Those as generally, as we've talked about in the past, were in the consumer space. We think we are in a good position on those, those kind of deals, and we feel good. But to answer your question directly, a much better position than we were a quarter ago as far as book-to-bill and backlog.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Great. And given the progress on gross margins and the new product mix, can we look at pro forma gross margins getting to a number with the 4 handle on it soon?

John H. Kispert

When's soon, Krishna? Before the end of the day? Or...

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Well, I mean, sometime in the next, say, 3 quarters?

John H. Kispert

I will certainly say, look, that's our goal. And everybody in Spansion understands that goal and is focused on that. And we're trying to get there. But -- and clearly -- clearly, that's our goal, I think I'll just leave it at that. But the guidance that we give for Q3 doesn't happen to skip there, but it has -- it's certainly moving in the right direction and continuing to move towards that goal. And right now, that's as far out as we're giving guidance.

Randy W. Furr

So we think we'll get there and then we'll increase our goal. That's just how we're going to continue to operate here.

Krishna Shankar - Roth Capital Partners, LLC, Research Division

Okay. And then on SLC NAND, can you give us a little more detail on that new relationship with SK Hynix? And how the Micron, Elpida deal is accelerating that, or what's changed there?

John H. Kispert

So the relationship with Hynix is going great. I mean, we're shipping units. I have to remind everybody that Hynix wafers, if you will, Spansion tests, Spansion packaging, we add our software and support to it. And then, of course, tailored to these different segments, different applications. And so it's a lot of value add on our end, that's one thing, it's taken an extra month or so for us, as far as getting into this business. Relationship with Hynix is wonderful. Our relationship with Elpida was great also. Clearly, that changes sooner or later and, certainly, we're prepared for that. And the idea behind Hynix really was time-to-market. You can, royalty-free at a very low cost, get NAND product to market right away at over 3 technology nodes. So it's a long-term deal at costs that we think are best of breed and we could get to market right away. We'll continue to work on our charge trapping NAND. You'll hear more announcements from us on that. We actually have samples on it now and we'll talk about that at a later time.

Operator

And your next question comes from the line of Daniel Berenbaum with MKM Partners.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

So just to clarify in the Q3 revenue guide. Your Q2 was a 14-week quarter, Q3 is a 13-week quarter. So on an apples-to-apples basis, should I think about really you're guiding up closer to 10%? Is that the right way to think about it?

Randy W. Furr

I don't understand where you come up with that one, Dan.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

Well, if you'd have 14 weeks to sell stuff in Q2 and you only have 13 weeks to sell stuff in Q3, is that fair to say that?

Randy W. Furr

That's fair to say that, yes.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

Okay. So even flat-ish sales sort of on a weekly basis, you would be thinking about things being generally better in Q3, the environment being better in Q3 than Q2?

Randy W. Furr

Well, look, I mean, if I were to do the math, it would've been the other way from the way that you're thinking about it. But -- so -- but I don't think the fact that we had 14 weeks in a quarter in the business that we're in really makes that big a difference in terms of the way to think about sales. I mean, if we were selling more in the retail space, I think it would make a difference. But given who our customer base is, I don't really think it makes that big a difference whether there's 14 or 13 weeks in the quarter. Unfortunately, we kind of look at it as a 14-week quarter as probably a bigger penalty box than a 13-week quarter because we have 14 weeks of expenses that definitely is going to hit the P&L, and at 13 weeks we only have 13 weeks, but, yet, our customers kind of planned all of their pulls and their takes on a quarterly basis. So we don't look at it like the top line was impacted that much between the 13 and a 14-week quarter, but we look like at our expenses were, unfortunately, impacted a lot in Q2 by having 14 weeks.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

Okay. That's fair. But then sort of to follow up, your OpEx is going up by about $4 million, it looks like, in Q3. So I mean, are you spending on kind of incremental R&D programs? What's that extra money going for?

Randy W. Furr

So my math is a little bit different than yours. We do have total operating expenses about -- up about $1 million, maybe $1.1 million, $1.2 million, but we're not up that much. So somewhere there's a breakdown in the model.

John H. Kispert

So, Dan, on R&D, this is John. We're going to continue to push ahead with 45-nanometer with NAND. Certainly, with the acoustic processing that we were talking about earlier, we have a bunch of programs in place there to move things along. So but, as you know, we'll continue to squeeze every part of this company to stay in line, and stay in the plans and profile that you see this quarter, in fact, we're going to continue to see improve on it. Yes, I think to the first part of your question, on what Q3 is, if there's confusion there. Listen, our biggest opportunities in Q3 continue to be these new design wins, the newer products. And what our customers are looking for across all these segments we're talking about, is they want to simplify their design implementation. They're trying to reduce their building materials, they're trying to cut out other components, they're trying to reduce cost, like everybody is in this kind of economy. And we are well situated for that. And the prediction of are they going to all get close, or what's the volume going to be in Q3? There is some portion of that, that we're not sure of, thus the wider range in the guidance. The newer products, I think, is the other piece for us, the adoption of particularly our lower density SPI and NAND kind of at the end of Q3 and going into Q4, is one that we're being conservative in with our guidance.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

Okay. That make sense. And then just on revenue in this quarter, for the royalties, was there anything more than the Samsung royalties in there? And how should I think about other potential royalties moving forward?

Randy W. Furr

Yes. So we have a small royalty business, Dan, it averages in the neighborhood of $1 million to $2 million per quarter. That's kind of legacy royalties that we've had. And I think in the future, you should just think of it as the Samsung royalties that we have, which is the $25 million a year divided by 4 quarters, or $6.25 million a quarter, plus another $1 million to $2 million of other royalties that we have. Clearly, our goal is to enter into new licensing arrangements that will generate additional royalty income in the future. But as far us right now, the present run rate, that's the way to think of it.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

And that's the way to think of it for the rest of this year, at least?

Randy W. Furr

Until we announce something else, yes.

Daniel A. Berenbaum - MKM Partners LLC, Research Division

Okay. And then lastly, Randy, you talked about significant NOLs. Can you please remind us what sort of NOLs you have off balance sheet, and when some of those might come back on to the balance sheet?

Randy W. Furr

Yes. So, look, we have approximately $1 billion of NOLs. And I have right now -- we don't have any plans of putting any on them on the balance sheet, but I've been asked that question before and that's still the same answer that I get. So we will stay with that.

Operator

[Operator Instructions] Your next question comes from the line of Glen Yeung with Citi.

Delos Elder

This is Delos for Glen. I just wanted to ask a question about 65-nanometer growth products there. I think you've got them growing 66% in the second quarter. What could we expect going forward for 65-nanometer products?

Randy W. Furr

Yes. We expect about something in the same percentage range, growing from Q2 to Q3. So -- and we hope that, that's going just kind of continue at that rate for the next several quarters. So as John pointed out in our design wins, the vast majority of those are all our new 65-nanometer products. And Q2 was a great quarter for that and for the forecast and the plans that we are looking at, at Q3, we have it growing in a very, very similar way.

Delos Elder

And so as you have 65-nanometer ramping here, how long does 110- and 90-nanometer last?

Randy W. Furr

Well, the real answer to your question is it will last for many, many, many years. I mean, there's legacy automotive, as you know. Once you get designed in, some of these jobs, some of these programs that we have, they literally last for 12, 15 years. We're still producing a lot of auto-parts on -- or not a lot, we are producing a few parts, but still, it's 3%, 4% or 5% of our revenue is on 320-nanometer, and it goes back. So the real answer to your question, these will go for a long time, but, I think, you're kind of going to see this at a rapid rate decline and being replaced by these 65 products. But they won't all go away, they'll have a long tail to them.

Delos Elder

Then how should we expect margins to trend as 65-nanometer rolls on? What's the contribution, say, per $1 million of 65-nanometer sale?

Randy W. Furr

Well, let me try to answer it this way. I'm going to be careful at how I answer this, just for competitive reasons, but let me say it this way. On a wafer -- on an average wafer that we do, that's 110-nanometer, and if we convert those products, it's 2 nodes, but If we convert those products to a 65, which is if you look back in 2011, the majority of what we had was 110 and, certainly, next year, the majority of what we're going to have is 65, you get 2.4 more die per average per wafer on that 65 when you do that 110. So in general rules, with our mix of products, somewhere between 70% and 75% of the cost of our product is that die. So you can kind of get a feel on an average that we get a pretty good kick in terms of both increasing throughput, increasing capacity in our internal operations, as well as a margin kick when we make these conversions.

Delos Elder

Great. And then on 45-nanometer development, what have you spent, roughly speaking? And then, will this cost start to ramp at some point?

John H. Kispert

Yes. Delos, I'm not going to give you out numbers on what the program has cost. We've been working on it since I've been at the company. It's one of the first programs we jumped on. And your question -- your second question was cost to ramp it?

Delos Elder

Right. So when did they start to peak in terms of -- what is the timing of 45-nanometer?

John H. Kispert

We're going to start ramping it here in the December, January timeframe.

Operator

And your next question comes from the line of Monika Garg with Pacific Crest Securities.

Monika Garg - Pacific Crest Securities, Inc., Research Division

I just have a follow-up on the first question which was asked, the sizing of the nuance opportunity which you talked about, about $100 million. I just wanted to see if you could give us some timeline on when can we see the revenue recognition of that, and also the growth margin that we should expect for that opportunity?

John H. Kispert

You know, Monika, I didn't understand -- it's John. I didn't understand the second part of the question. I understand the first part. Which is when, is the question?

Monika Garg - Pacific Crest Securities, Inc., Research Division

Yes. When, and the gross margin for that?

John H. Kispert

Oh, well, I won't answer [indiscernible] the second part, it's well above our company gross margin. But as far as when, we definitely -- this is a long lead time kind of a product issue, as I know you well understand, it's designed in right now and -- in our future cars. Revenue, we believe in 2013, it's in the latter half of 2013, we're working real hard with all the -- everyone in the car companies in every part of the world. I think the key is who gets there first as far as the models that get out, and how quickly they ramp as far as what our revenue will be. I could tell you, we're doing really well, there are 2 or 3 right now that I think are further along, but there's another 10 that we're working closely with also.

Monika Garg - Pacific Crest Securities, Inc., Research Division

Okay. And just another one. So you've talked about that you were expecting the revenues to be up in all the segments for next quarter, but given that your 50% of revenues from Europe and Asia Pac, excluding Japan, are you seeing any slowdown from your customers? The reason I'm asking is we have seen China slowing down and Europe slowing down. I'm just kind of trying to get any lead to what are you seeing at your customer's end?

John H. Kispert

Yes, we certainly -- everywhere I travel, all of these parts of the world, and talk to all of our customers, absolutely everybody right now is -- the second half of the year is not -- we no longer view the second half of the year like we did 6 months ago. The first half played out about the way we thought it would play out. The second half of the year, we think, is certainly muted. We're more focused on the newer products, as Randy mentioned, those newer opportunities, that's where our attention is. We've talked in this call about lead times are low. We haven't seen any restocking from any of the bigger customers. I think pricing has stabilized and is very predictable. But there's no signs that we see a pickup with the product set that we have out on place right now.

Randy W. Furr

Let me add, Spansion has 8,000 customers. And clearly, in any one point, some are going to be up, some are going to be down. But we think with our new products out there, we're doing a good job at winning market share, bottom line. We think we've increased the quarter before, we certainly think we increased this quarter. So part of what you're seeing here is, from a Spansion point of view, is that reflection of that increased market share as we move forward here as well. So I want to point out that it's not necessarily indicative of necessarily end markets, that where we can grow because of these market share gains, so...

Operator

I would now like to turn the call back over to Mr. Randy Furr for closing remarks.

Randy W. Furr

So thanks, Darcel. As we continue to drive revenue and earnings throughout the year, we've successfully maintained our leadership in the embedded market. We are focused on design wins, new products and strategic relationships. As Ajay mentioned earlier, we've got a pretty active conference schedule. And we hope to see many of you on the road at the conferences.

Thanks, again, for your continued support. We certainly, thank you for joining us today. And Darcel, this concludes the call, and you may disconnect.

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