Texas Instruments Inc., Q3 2012 Guidance/Update Call, Sep 11, 2012

Sep.11.12 | About: Texas Instruments (TXN)

Texas Instruments Inc. (NASDAQ:TXN)

September 11, 2012 5:00 pm ET

Executives

Ron Slaymaker

Analysts

James Covello - Goldman Sachs Group Inc., Research Division

Craig Berger - FBR Capital Markets & Co., Research Division

Christopher B. Danely - JP Morgan Chase & Co, Research Division

Tore Svanberg - Stifel, Nicolaus & Co., Inc., Research Division

Shawn R. Webster - Macquarie Research

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

Romit J. Shah - Nomura Securities Co. Ltd., Research Division

Operator

Good day, and welcome to the Texas Instruments Third Quarter 2012 Mid-Quarter Update Call. At this time, I would like to turn the conference over to Ron Slaymaker. Please go ahead, sir.

Ron Slaymaker

Good afternoon, and thank you for joining TI's mid-quarter financial update for the third quarter of 2012. In a moment, I will provide a short summary of TI's current expectations for the quarter, updating the revenue and EPS estimate ranges for the company. In general, I will not provide detailed information on revenue trends by segments or end markets, and I will not address details of profit margins. In our earnings release at the end of the quarter, we will provide this information.

As usual with our mid-quarter update, we will not be taking follow-up calls this evening. Considering the limited information available at this point in the quarter and in consideration of everyone's time, we will limit this call to 30 minutes. For any of you who missed the release, you can find it on our website at ti.com/ir. This call is broadcast live over the web and can be accessed through TI's website. A replay will be available through the web.

This call will include forward-looking statements that involve risks and uncertainties that could cause TI's results to differ materially from management's current expectations. We encourage you to review the Safe Harbor statement contained in the news release published today, as well as TI's most recent SEC filings for a more complete description.

We have narrowed our expected ranges for TI's revenue and earnings from our previous ranges. We now expect TI revenue between $3.27 billion and $3.41 billion, a range that has been narrowed to the middle of our prior range. Although demand for products is in the lower half of our prior range of expectations, we have $60 million of insurance proceeds for business interruption associated with last year's earthquake in Japan, allowing us to narrow our revenue range around the prior midpoint. Since these proceeds are for business interruption, not property damage, they are included as revenue.

We expect earnings per share between $0.38 and $0.42 on a GAAP basis. EPS has moved to the upper half of our prior range due to a couple of considerations. First, lower sequential profit associated with lower product revenue will be more than offset by the high fall-through associated with the insurance proceeds, allowing our earnings to benefit from a favorable revenue mix. Second, we are taking timely actions to reduce costs. Our estimates for acquisition-related charges and restructuring charges are unchanged and are expected to total to about $0.07 per share, assuming TI's marginal tax rate of 35% is applied to these charges.

Operator, you can now open the lines for questions. [Operator Instructions] Operator?

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from Jim Covello with Goldman Sachs.

James Covello - Goldman Sachs Group Inc., Research Division

I guess, first question is if you could give any kind of color at all on where you're seeing the relative weakness that would have caused the operating results to be in -- toward the lower end.

Ron Slaymaker

Okay, Jim. Maybe it's useful to -- let me just kind of walk through where we're seeing both positives and negatives, because they really are a bit of a mix. So although I would describe it as most areas are tracking a little below the middle of our range of expectations, Wireless is actually doing a little better than we had initially expected due to new tablet launches at a couple of customers that use OMAP. Of course, we still expect overall Wireless revenue to decline sequentially as baseband revenue will fall from $90 million last quarter to about $50 million this quarter. And I think we explained that, in terms of expectations on baseband, back in July. Outside of Wireless, though, although we have some product lines that will likely be up sequentially and others that will be down, almost all of them are running a little weaker than what we had expected back in July. So it's probably -- I probably should emphasize also that most of the weakness that we're seeing in third quarter relative to normal seasonality is really what we -- what began back in June and what we had anticipated would continue into third quarter. So for the most part, this is continuation of weakness that began in June, with a little bit lower-than-expected across most product areas, really with the exception of Wireless. Do you have a follow-on, Jim?

James Covello - Goldman Sachs Group Inc., Research Division

Yes. In terms of the insurance benefit, I believe we had one of those last quarter, too. Are there any more of those that we might expect in future quarters that we could model in? Or is this the end of that?

Ron Slaymaker

In fact, this is the end of it. So the $60 million that we are receiving this quarter will be our final proceeds for business interruption associated with the Japan earthquake. So just for your record, cumulatively, we received about $170 million in business interruption proceeds, including this quarter's amount. And again, that's specific to the Japan earthquake. We've also received about $40 million total in property damage, and those proceeds are now final as well. So at least with respect to the Japan earthquake, all the insurance proceeds are now behind us.

Operator

Our next caller is Craig Berger with FBR Capital Markets.

Craig Berger - FBR Capital Markets & Co., Research Division

I guess, just on the demand picture -- or the revenue picture being a little weaker generally outside of OMAP, is that a demand issue? Is it inventory in the channel? And can you update us on where inventory stands?

Ron Slaymaker

Okay. Craig, I guess I would suggest that inventory, we believe, remains pretty lean. And I'll talk specifically about distribution inventory in a minute. But if you go back to July, we also allowed at that point that this potentially could be just weaker demand, or alternatively, it could just be that customers were taking advantage of short lead times to potentially get orders at the last minute. And I guess what I would say on that consideration, at this point, we've really concluded we're just operating in a weaker demand environment than would be seasonally normal. As our quarter has progressed, we've seen some of the demand that had initially been scheduled for the months of July and August shipments pushed into September. And I say that because we also, I think, said back in July that our backlog coverage for July and August looked pretty normal from a seasonal standpoint. But the real question mark we had was the month of September, where backlog coverage was lighter. So as the quarter progressed, some of that July, August backlog in fact pushed out into the month of September. But beyond the just shifting of backlog and demand between months, overall product demand for the quarter has also declined a little, as I said a minute ago. With respect to channel inventory, really, we expect distributor inventory to hold at about flat with where it was last quarter, which you'll recall was just under 6.5 weeks. So that remains lean. I guess I should also note that we expect resales from our distribution channel to also be about even sequentially. So flat resales, relatively flat absolute inventory. And then also from a weeks basis, about the same as where we ended up last quarter. Do you have a follow-on, Craig?

Craig Berger - FBR Capital Markets & Co., Research Division

I do. Can you just comment on whether TI has the right amount of total capacity following the 300-millimeter expansion and National acquisition and your demand commentary? And just update us on utilizations, lead times and underabsorption-related charges.

Ron Slaymaker

Okay. I'm not sure I can update you on all of that, because I'm not sure I can remember all of it. But let me hit on, do we have the right amount of capacity? And I will interpret that from the standpoint of you're really asking if we have too much capacity. So let me just say, although I think our underutilized capacity, on the one hand, you can draw a line to gross margins and say, "Hey, it's pressuring gross margins by a few points currently," we really view the open capacity more from the standpoint as an opportunity to support our future growth and really not as a headwind to our financials. Because we were able to buy those assets for pennies on the dollar, the impact that lower utilization is having on our income statement really is muted. And in fact, I should add that I think we believe the more important consideration is the benefit that we're seeing today to our free cash flow. And that's really a direct result of the opportunistic capacity investments that we made over the past few years, as we're now spending well below our historical rates on capital. So I'll point you -- specifically, if you look at the first half of this year, our capital expenditures were below 4% of revenue. And if you go look at our history, that's several points below where we ran even just a few years ago. I guess, back to the gross margin consideration, I'll just point out a large part of the impact that underutilization has on gross margin really are associated with noncash charges such as depreciation. So gross margin, in our view, may not be the best metric when evaluating these capacity investments in the short term and at least should be balanced out with the benefits that we're seeing from a free cash flow standpoint. So I know I took a little different direction maybe than what your original question was, but I thought it was important.

Operator

Our next question comes from Christopher Danely with JPMorgan.

Christopher B. Danely - JP Morgan Chase & Co, Research Division

Can you just talk about sort of what areas or products you guys are taking the cost out? And is the EPS upside evenly split between the insurance proceeds and the lower costs?

Ron Slaymaker

Okay. Yes, first of all, I would say, in terms of the type of expense reductions, I don't know that I would try to draw a line to any specific product areas. Think about the expense reductions at this point really just representing general tightening our controls on expenses in a more uncertain environment. So that includes minimizing discretionary spending, keeping hiring to new college graduates, the critical few, those types of things, as opposed to specific product area or segment reductions. And then your other question that tied into that, I guess, was the EPS -- the $0.02 of additional EPS. Think about it as about $0.01 came from the revenue mix benefit, so what you just described as the higher fall-through from the insurance. And then, you're right, about $0.01 of that coming from the cost reductions that we're in the process of implementing. Do you have a follow-on, Chris?

Christopher B. Danely - JP Morgan Chase & Co, Research Division

Yes, thank you. Can you just talk about how the book-to-bill and backlog are trending this quarter? And remind us what we should be thinking about Q4 as far as normal seasonality.

Ron Slaymaker

Okay. In terms of order trends, I would say orders are soft this quarter and likely will be down sequentially from last quarter. From a book-to-bill standpoint, as usual, we'll wait until the end of the quarter to comment on that. And then in terms of fourth quarter, call it, average sequential growth, probably the right number to look at is, if you exclude the fourth quarter '08, we are down, on average, about 4%, and that is a 5-year average. And keep in mind, that down 4% really is all coming from the sequential decline in our calculator business following the third quarter peak back-to-school periods. Semiconductor revenue -- and I realize we don't specifically break the products out that way, but semiconductor revenue historically is flattish third to fourth quarter. But the seasonal decline in calculators pulls us down to about a 4% decline, again excluding the fourth quarter '08 number.

Operator

Our next question comes from Tore Svanberg with Stifel, Nicolaus.

Tore Svanberg - Stifel, Nicolaus & Co., Inc., Research Division

First of all, Ron, can you talk a little bit about the actual end markets? I think you said all product lines were tracking below seasonality or were a little bit weaker. But as far as end markets are concerned, are you seeing any differences there?

Ron Slaymaker

Not really. I'll kind of walk you through them individually, but probably, the overview is not really. So I'll start with computing. It's weak essentially on every front with the exception of tablets. PCs and associated peripherals are weak. I know there's debate whether this is due to delayed purchases associated with Windows 8 or whether it's due to displacement by tablets. I'm sure there are a few other theories I don't want to weigh in on. So I'll say I don't know why it's weak, but we are seeing notable weakness in the computing and the PC space. Turning to communications, I would describe that also as generally weak. Part of it is TI-specific, of course, because our baseband revenue is taking a pretty good step-down this quarter as we wind down, really in the final stages of that business, now. If you look at comms infrastructure, that revenue will likely also decline this quarter, and I'd really point to maybe 3 different reasons. One is the impact of a carrier in North America that is -- has, in fact, slowed down its orders. The second would be the economic slump in China is now pushing out infrastructure spending. And then the third is that some of our OEM customers are working down some of their excess inventory now. In consumer, we expect our revenue to be sub-seasonal. A couple of examples I can give, television manufacturers, the panel manufacturers, anyway, have now reduced their forecast to a sequential decline. Really, they're pointing to overall economic weakness, as well as high inventory levels. On the other hand, a bright spot, I guess, is game manufacturers are ramping for the upcoming holiday season and seem to be driving some growth there. Automotive, we expect our revenue to be about flat sequentially. And then elsewhere, industrial, I would just say demand is on the weak side. Some of that certainly is seasonal, although there's a lot of just general caution amongst industrial OEMs as well. All right. Do you have a follow-on, Tore?

Tore Svanberg - Stifel, Nicolaus & Co., Inc., Research Division

Yes. You talked about bookings potentially being down this quarter, so could you also talk a little bit about the linearity of the bookings?

Ron Slaymaker

Oh, I don't have any view on month-to-month linearity, Tore. So I can't help you on that one.

Operator

[Operator Instructions] And our next question comes from Shawn Webster with Macquarie.

Shawn R. Webster - Macquarie Research

A lot of questions have been asked, but I was wondering if you had any visibility from a geographic perspective in general on what's going well and what is going down for you in Q3.

Ron Slaymaker

Sure, Shawn. That's hard to say, "Sure, Shawn." Okay. So geographically -- and again, what we're -- what I'm going to convey are basically quarter-to-date and just if we extrapolated that out for the rest of the quarter. So we're seeing growth in the U.S. market. Asia, about flat with last quarter. And then declines in Europe and in Japan as well. So again, growth in U.S., flat Asia and then declines in Europe and Japan. Do you have a follow-on, Shawn?

Shawn R. Webster - Macquarie Research

I guess, just quickly on the connectivity side of things, was that also down within your Wireless segment for Q3?

Ron Slaymaker

We do expect connectivity to decline sequentially. That's correct.

Operator

Our next question comes from Srini Pajjuri from CLSA Securities.

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

Ron, on the OMAP business, the strength that you mentioned, I recall the last couple of quarters, I think you did lose some money in this business. Do you think that strength is enough to drive profitability in this business? And if not, could you give us an idea what the longer-term strategy for this business is?

Ron Slaymaker

Okay. Srini, so I guess what I would say is that considering that -- overall Wireless revenue we expect to decline sequentially. Keep in mind, the OMAP revenue increase will be more than offset by the decline that we're seeing in baseband. So given that the overall revenue will be down, we would expect that the operating loss that you saw last quarter to increase somewhat this quarter. So in general, we remain enthusiastic about the opportunity to broaden our base of customers and applications for both our OMAP product lines, as well as our connectivity products, in markets outside of smartphones and tablets. And we've been explaining that strategy to go more horizontal into different adjacent markets for probably 6 months or so now. So we're enthusiastic about what's happening outside of smartphones and tablets, yet on the other hand, I'd have to say the smartphone and tablet market has become less attractive to us, even in the past 12 months. And that really is being driven by -- our view is that the 2 largest players in that market or those markets have really shown a very strong tendency to vertically integrate the key chips in their systems. And so I would just say, obviously, we're not satisfied with the operating loss that we reported last quarter and that we're going to report again this quarter, and we're in the process of working to re-profile the investments that we're making in those areas. So that's probably about as much as I can say at this point. Do you have a follow-on, Srini?

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

Yes, Ron, thank you. On the inventory, I think last quarter, you said the distributors had about 6.5 weeks of inventory. I'm just wondering what you think they'll end up with this quarter.

Ron Slaymaker

Yes, distribution. Somebody asked that question earlier. Distribution inventory, we expect to be unchanged with what it was last quarter.

Operator

Our next question comes from Romit Shah with Nomura Securities.

Romit J. Shah - Nomura Securities Co. Ltd., Research Division

Ron, I was wondering if you could just spend a little time talking about your view around share buybacks. You guys in the past have announced some pretty large repurchase programs. You did the National deal last year, and the balance sheet's not as strong as it was 12, 24 months ago. Can you just share with us how you're thinking about buybacks going forward?

Ron Slaymaker

Sure, Romit. I think if I go back pre-National, we were probably repurchasing $500 million plus, maybe $500 million to $600 million per quarter. I think if -- you're right. When we acquired National, we took on some debt. And we explained at that time that we would continue to repurchase, but we would moderate our repurchases as we also had some debt to service and repay. Since then, we had repaid about $1.5 billion of the debt. And in fact, about, oh, a month, 6 weeks ago, we went back into the debt market and took on basically that amount again, another $1.5 billion. And that really was just based on the very low rates that were available to us in the market today. We described -- and by that, I think our coupon rate on -- we took -- that $1.5 billion was split between 3-year debt, where our coupon rate was 0.45%; and 7-year debt, where I believe, if I remember right, our coupon rate was 1.65%. And so those obviously are very attractive rates. What we described that we would be doing with those proceeds would basically be general corporate purchases, including share repurchases. So the thinking is that we would like to move our repurchases back to the general levels that you saw from TI prior to our acquisition of National Semiconductor. And in fact, if you just look at, in terms of authorization that remains, at the end of the second quarter we still had $5.1 billion of repurchase authorization remaining from our board. So hopefully, that answered your question. Do you have a follow-on, Romit?

Romit J. Shah - Nomura Securities Co. Ltd., Research Division

Yes, that's good color. Just on baseband, should we expect that to go to 0 by the end of the fourth quarter?

Ron Slaymaker

Yes, that's our expectation, is that by the time we get into 2013, baseband revenue will be essentially 0. Okay, Romit. And I think, as you see from the trends, we're well on that path, so thanks for your questions, Romit.

Operator

And now for our final question from Richard Davis [ph] with Richard W. Davis.

Unknown Analyst

My question, is there a merger in divisions between OMAP chips and the embedded area?

Ron Slaymaker

So, Richard, what we have organizationally is that those are 2 separate product lines. Our Wireless reporting segment and our Embedded Processing reporting segment actually have been combined. I believe we made an announcement on this somewhere back in the May time period, that they've been combined into one organization, really since the priority for both of those product line areas is focused on these horizontal or embedded application markets. So they are all combined, meaning microcontrollers, DSPs, connectivity, the OMAP products, all within one organization that is managed by Greg Delagi. However, for transparency reasons, we have -- we are continuing to report the Wireless business as a separate reporting section. Do you have a quick follow-up, Richard? Okay. Thank you very much for your questions.

And before we end tonight's call, let me say that we have an upcoming investor meeting on September 25 in New York, really focused on drilling down into our strategies for Embedded Processing and Wireless. Most of you should have received an invitation, but if not, please contact us for details. If you haven't registered yet, please do so as soon as possible. Also, let me remind you that the replay is available on our website. Thank you, and good evening.

Operator

That does conclude today's call, and we appreciate your participation.

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