OCZ Technology's CEO Discusses F3Q12 Results - Earnings Call Transcript

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OCZ Technology (NASDAQ:OCZ) F3Q12 Earnings Call January 9, 2012 5:00 PM ET


Bonnie Mott - Investor Relations

Ryan Petersen - President and CEO

Arthur Knapp - Chief Financial Officer


Andrew Nowinski - Piper Jaffray

Alex Kurtz – Sterne Agee

Aaron Rakers – Stifel Nicolaus

Rich Kugele – Needham & Company


Good day ladies and gentlemen. Welcome to the OCZ Technology fiscal 2012 third quarter financial results conference call. [Operator instructions.] Now I would like to introduce your host for today’s conference, Ms. Bonnie Mott, investor relations senior manager at OCZ Technology. Ms. Mott, you may begin your conference.

Bonnie Mott

Good afternoon and welcome everyone. On the call today are Ryan Peterson, CEO, and Arthur Knapp, CFO. Ryan will provide a business overview and then all will review the firm’s financial results. Following their formal remarks, we will open the floor to a few questions.

Before I turn the call over to them, I need to remind our listeners that the information is presented as of January 9, 2012. Please keep in mind that while being made available for listening after today, the information is current only as of today. Remarks made during this call may contain forward-looking statements that involve risks and uncertainties.

Forward-looking statements on this call are made pursuant to the Safe Harbor provisions of the federal securities laws. Information contained in the forward-looking statement is based on current expectations and is subject to change and actual results may differ materially from forward-looking statements. Some of the factors that could cause actual results to differ are discussed in the reports filed with the SEC. These documents are available on OCZ’s website, www.ocztechnology.com.

With that, it is now my pleasure to turn the call over to Ryan Petersen.

Ryan Petersen

Thank you Bonnie, and good day to everyone. We’re very pleased with our achievements this quarter as we reported record revenue of $103.1 million for the third quarter, an increase of about 94% over our third quarter of fiscal ’11. SSD revenue in the quarter reached $95.5 million, a sequential increase of approximately 35% and an increase of 130% year over year. On a trailing 12-month basis, SSD revenue was approximately $294 million, compared to a trailing 12-months as of Q3 of last year of $87 million, representing 237% SSD growth.

Taking a look at revenue by product classification, the largest sequential revenue gains this quarter were generated from our enterprise and high-performance server products. Enterprise-class SSD revenue increased approximately 50% sequentially and was about 21% of SSD sales. This is our third consecutive quarter of 50%-plus sequential growth within our enterprise products. We continue to see increased activity in our enterprise pipeline and are confident in the continued growth of this segment.

Server and high-performance class revenue represented 71% of our SSD sales during the quarter and grew over 25% sequentially. The growth in demand within this segment remains strong, and some of our OEM clients have recently indicated significant increases in demand for our SSD products. We believe this trend illustrates increasing traction of SSDs in server and high-performance markets and we believe OCZ to be well-positioned to gain market share in these segments.

Finally, revenue from our consumer class products doubled sequentially and represented roughly 8% of our SSD sales during the quarter. We continue to see indicators of growth from laptop manufacturers.

In regard to our non-core power supply and other revenue, this segment increased 3% sequentially and represented about 7% of revenue. It is perhaps not surprising that we are seeing a trend of increased SSD adoption across all of the segments we address. SSDs, after all, are disrupting multiple massive markets.

In the enterprise, the shift to cloud computing drives data centers to contend with ever-increasing amounts of data. The mixed workload and high-performance capabilities that our products address are needed to support previously inconceivable levels of I/O congestion. Data centers simply have no cost-effective option other than SSDs.

On the client side of the equation, the need for massive local storage is being obviated by the movement of user data to the cloud, and PC manufacturers are rapidly shifting focus to providing smaller, faster booting and less power-hungry systems. Take, for example, the Macbook Air and/or the Intel Ultrabook initiative, with which, as the press have noted, [unintelligible] buyers to achieve 40% market share exiting calendar 2012. I’m sure everyone is aware that these products use SSDs for primary storage.

Further, it’s not surprising that many analysts, when combining both the hard drive replacement segment and the PCIe SAN replacement segment state that the possible [unintelligible] is in the $30-40 billion a year range.

With that as a backdrop, demand in the third quarter was strong and, of note, exiting the quarter we saw a material increase in demand for our high-margin products. These include our enterprise and server PCIe SAN replacement products and our Everest-based SATA SSDs, which utilize our proprietary Indilinx controllers.

Initial demand for our recently launched PCIe products, the Z-Drive R4 and the Revo 3 series, continues to exceed expectations. These initial orders indicate a strong start and we’re highly confident that these products will ramp materially going forward. As a reminder, enterprise design cycles are typically a minimum of several quarters in length and we introduced these products in August.

On our last earnings call we mentioned our plan to integrate our Everest controllers into our SSDs over the next two fiscal quarters and I’m pleased to report that we’ve begun to do so. We’ve seen dramatically increased demand for Indilinx-based products driven by these new launches. Going forward, we believe that Indilinx-based SSDs will continue to increase in both volume and as a percentage of overall sales.

It perhaps goes without saying that the success of our higher-margin products and the shift toward our proprietary controller platforms support an acceleration in the rate of our gross margin expansion. In regard to margin, over the past five quarters we have been able to drive steady, meaningful increases in our gross margins and while we don’t disclose segment margins, I should note that the margins for SSD products are higher than our reported gross margins as non-SSD revenue does have lower margins than our SSD products.

It’s important to understand that our focus on vertical integration and driving gross margin increase lies not only on the controller but in our ability to procure NAND flash at favorable prices. We began to address this issue last quarter with a NAND flash wafer purchasing arrangement and I’m happy to report our continued progress in this direction.

NAND flash processing represents the next step in the evolution of OCZ, and delivers numerous benefits other than the obvious cost reductions including the ability to sort wafer for high-performance, higher endurance, and higher reliability. When I previously mentioned this product, it was nascent, and we have since made considerable progress in terms of our purchasing scale and our NAND flash processing capabilities.

I’m happy to report that late in the third quarter we were able to begin to take advantage of these increased capabilities and opportunistically filled NAND flash wafer inventory. The process of turning NAND flash wafer into packaged NAND adds approximately six to eight weeks to our manufacturing cycle time and as a result we’ve had a notable increase in our inventory during the quarter.

To be clear, we continue to strategically build inventory based on our growing business pipeline and account for additional manufacturing turn time, insuring our ability to execute on these large opportunities and to reduce our costs. As a result of our procurement decisions, we expect to see increased traction and gross margins related to the use of our own OCZ-branded NAND flash in the beginning of our fiscal year.

Now I’d like to take a few minutes to speak more specifically about how we’re executing on some of our key strategic initiatives. Our ability to execute on our growth initiatives and our continued success has been supported by OCZ’s substantially increased investments in R&D, which support the ability to bring new, leading edge products to market ahead of our competitors.

OCZ has increased its engineering headcount to over 4X the level of just one year ago, and R&D now represents more than 50% of our non-manufacturing headcount. This higher level of investment in R&D has resulted in advantageous competitive position as we continue to release innovative products that meet the needs of our customers and as we move to our own internally developed proprietary technology supporting our strategy of building barriers to entry.

We have made a series of successful technology-focused acquisitions over the last 12 months starting with Solid Data Systems, then Indilinx, and in the third quarter the UK-based storage team from PLX, who have been working on our next generation controllers. These key acquisitions have been instrumental in contributing to our continued development and allowed us to reach new heights as an organization, adding intellectual property and R&D strength and resulting in the technology leadership that we enjoy today.

In this vein, today we announced the acquisition of Flash virtualization pioneer SANRAD. SANRAD’s field-proven virtualization products have numerous enterprise deployments and the VXL software platform delivers application optimized caching and virtualization technology for VMware vSphere, Microsoft Hyper-V and Citrix Xen-based server virtualization platforms.

This acquisition can be transformational for OCZ as it brings unique proprietary virtualization and caching software to the table. When coupled with products such as our Z-Drive series of PCIe SSDs, we can now offer a complete solution for the virtualization of even the most intensive applications, increasing the value of our offering and driving demand with our enterprise customers.

VXL enables efficient distribution of host-based resources to guest virtual machines. It ensures that the Flash cash is optimally utilized at all times, regardless of how many VMs are running concurrently, and the VXL SCSI connectivity enables support of most modern operating systems, including all variants of Windows and Linux.

In contrast to other Flash virtualization caching solutions, VXL does not require an installation of an agent or driver on each virtual machine, thus dramatically simplifying the use of OCZ PCIe solutions and increasing the scalability of these solutions in large, virtualized environments.

It’s key to understand that, in addition to the integration SANRAD’s VXL software with our PCIe solution, which greatly expands our offering, SANRAD brings multiple high-margin revenue streams to the table, including their hardware-based virtualization solutions and numerous standalone software solutions, which we intend to license to storage and networking OEMs on a go-forward basis.

SANRAD’s revenue has been in the low single digit millions of dollars over the past few years but we are optimistic that with OCZ’s strong sales and distribution network we will see a material increase in revenue in each of those segments. We’ll be demonstrating this week the Z-Drive R4 series of products coupled with SANRAD’s VXL solution, at CES.

With that said, I’d like to take a moment to cover some of our new products, though I’ll try to be brief this time. This week announced the new Kilimanjaro native PCIe controller platform which we jointly developed with Marvell. The Kilimanjaro platform is the base controller for the world’s first PCIe 3, or PCIe gen 3, solid state storage solution, the Z-Drive R5. The Z-Drive R5, thanks to its PCIe 3 interface, delivers about 2.5 million 4K file size IOPS per card and about 7 gigabytes a second of bandwidth, making it the world’s fastest PCIe SSD.

We’ll be demonstrating the R5 at our OEM showcase at CES and Storage Visions, with the IBM system x3650 M3. We expect commercial availability of this solution in the second half of the calendar year. Also at CES, at the OEM showcase, we are demonstrating HP ProLiant DL370 T6 server, running our Z-Drive R4 cloud serve, delivering about 3 million IOPS with 16 terabytes of PCIe-based Flash storage per PCIe device. As the ProLiant ML370 features about nine PCIe expansion slots, this solution supports 144 terabytes of PCIe-based storage.

Finally at CES, it is key that we are demonstrating the next generation of Indilinx controllers, in this case our Everest 2 controller, in a head-to-head comparison with competing solutions. The Everest 2 supports 150,000 IOPS overall and 90,000 4K random write IOPS, and among other things is the fastest SATA 6 gigabit controller yet. We expect to ship the Vertex 4 series of SSDs based on Everest 2 in our second fiscal quarter.

In regard to our sales and marketing efforts, we continue to make substantial progress two our goals, and I think it’s become clear after eight quarters of sequential revenue growth that our strategy is solid. The results speak for themselves.

We’ve recently announced a multitude of new client wins. However, in the interest of remaining brief, I won’t go into detail on this call. Our OEM and enterprise pipeline is stronger than ever. From laptop and server makers to Fortune 500 companies, we continue to rapidly expand our client base across segments, and our OEM clients continue to ramp, becoming an increasingly large percentage of our business.

Additionally, we continue to bill direct to the enterprise sales force, who enable our products with our enterprise clients by going into enterprise accounts alongside our OEM partners to ensure that we not only win the business, but that our end customers are satisfied with the result.

Now, moving on to cover the widely reported hard disk drive shortage, I think it’s important to note that the shortage had minimal impact on revenue during our third quarter, primarily due to timing. However, we see a continuing increase in demand and strengthened market demand that presumably result from the shortage.

We plan to aggressively address the segments of the market that we feel represent permanent conversions to SSDs from hard disk drives. Further, as a result of this specifically increased demand within certain client groups, as we previously noted, we opportunistically built inventory of NAND flash wafer during the quarter and we anticipate addressing the demand created by the shortage in our first fourth quarter 2010.

In conclusion, I’d like to reiterate our commitment to the design and manufacture of solid state drive solutions that address the needs and the challenges facing our customers. We continue to deliver best-in-breed products with high performance and reliability and the most robust feature sets to our customers.

Now I’m going to go ahead and turn the call over to Art. Art, thank you.

Arthur Knapp

Thanks Ryan. As you mentioned, we’re really pleased with the continued business progress this quarter. Our trailing 12-month revenue is now about $320 million, of which nearly $295 million is SSD-related, so there has been tremendous growth in those products. Ryan covered the segment revenue, so I’ll just add a little additional information regarding revenue by geography, some detailed financials, and the guidance.

Looking at the third quarter revenue by major geographies based on shipping destination that you saw in the press release, North America grew 96% year over year and represented 34% of revenue. EMEA grew 79% and accounted for 53% of revenue, while the rest of the world grew 174%, representing 13% of revenue. On a sequential basis, the revenue growth was consistently strong, as revenue from North America grew 34%, EMEA grew 29%, and the rest of the world grew 32%. All shows consistent SSD growth of about 35%, so the revenue success this quarter was very widespread.

Turning to the detailed financials, GAAP gross margins were 22.5% for the third quarter versus GAAP gross margins of 14.4% a year ago and 21.6% in Q2. This improvement continues to be driven by purchasing efficiencies, migration to our in-house controller, and favorable product mix, driven by the revenue growth in enterprise.

Our operating expenses were $20.8 million on a GAAP basis and $19.9 million on a non-GAAP basis after adjustments for costs associated with stock based compensation. This $19.9 million compares to $10.6 million of non-GAAP operating expenses in Q3 last year and $18.1 million in Q2.

Looking at the components of our opex, non-GAAP R&D declined slightly on a sequential basis as we had the unusually high level of prototyping charges of approximately $2.3 million, which we described on the Q2 call on October 5. The Q3 R&D number includes approximately $700,000 of expenses related to the UK design team acquired from PLX. On our quarter 2 call, we had said that the acquisition of the PLX design team would add approximately $2.2 million to $2.4 million per quarter, primarily in R&D, so we are tracking toward that.

Sales and marketing represent the largest sequential increase in opex, at 24%, primarily driven by the robust sales growth and our continued focus on building the direct sales channel. G&A and operations increased 12% sequentially, also due to shipping and operating costs related to these higher sales levels.

During Q3, we drew down approximately $23 million of our credit facility in order to finance the working capital as we continue to grow the business. Throughout the quarter, we have been working closely with Wells Fargo to put a more robust credit facility in place. We are pleased to announce today that we signed a proposal letter with Wells Fargo Capital Finance for a $50 million credit facility that can expand to $75 million if certain conditions are met. This new credit facility is subject to receivable based borrowing base calculations, finalizing a definitive agreement, and the final approval by Wells Fargo, but we expect it to be available in February 2012. This will help increase our debt capacity while lowering our financing cost.

The fair value adjustments of warrants issued with our initial equity financing in Q1 last year resulted in a $3 million noncash loss, principally due to the stock price variance. This theoretical noncash adjustment is removed as part of the non-GAAP presentation. GAAP net loss for the quarter was $0.9, or a loss of $0.02 per share compared to a net loss of $8.3 million, or a loss of $0.29 per share in last year’s third quarter.

On a non-GAAP basis, net income for the quarter was $3 million, or $0.06 per share, versus a net loss of $0.9 million, or $0.03 per share last year. Included in today’s financial release is a table which shows the reconciliation of GAAP to non-GAAP measures, as well as the related calculations.

Turning to the Q3 balance sheet, we continued to use working capital to grow our business. Our cash was approximately $39 million, a decrease of $7 million from Q2. Inventory levels increased by $19 million to $78 million, compared to $59 million in Q2, but only $16 million in the year ago quarter.

This inventory growth is a strategic move for us to have available levels to support the expected future business. Ryan mentioned the wafer purchases, which are important to us going forward. We are working to decrease the conversion time on these, and would like to see it at half the six to eight week level that Ryan mentioned.

With the higher level of sales, our accounts receivable increased by $20 million from Q2, although our receivable days decreased slightly to 48 versus 51 in Q2. Inventory days were 82 versus 76, with the strategic inventory increase noted, and payable days were 70 versus 75 in Q2. our capex for Q3 was $1.3 million, making a total of approximately $2.3 million invested the past three quarters, mostly related to the factory expansion, with SMT machines and other related items. We expect that our equipment-related capex investment will continue at these levels as we invest in our continued expansion throughout the next year.

For our shares outstanding, with the SANRAD acquisition we now have approximately 54 million shares outstanding and 10 million shares subject to warrants and options. Weighted basic shares are estimated to be 53 million in Q4 and weighted diluted shares are estimated to be approximately 56.5 million at the current price levels.

Turning to guidance, we are starting some quarterly revenue and gross margin guidance. We expect that our fourth quarter ended February 29 to be in the range of $105 million to $120 million, and revenue for our fiscal year ending Feb 29 to be in the range of $360 million to $375 million. GAAP gross margins are expected to be between 23.5% and 25.5% in the fourth quarter.

For expenses, the SANRAD acquisition is expected to add approximately $700,000 of cost per quarter and as Ryan described, there are multiple revenue opportunities. We expect this deal to be accretive in the last half of fiscal 2013.

With the increase in R&D spending, we would anticipate that the R&D costs will run between 36% and 40% of our total operating costs. Sales and marketing and the G&A ops lines will tend to split the remaining cost mix.

Finally, last quarter we raised our gross margin long term target to be between 30% and 40%. We still expect gross margins to reach this target model range during the latter part of next fiscal year.

That concludes my formal remarks. At this point, we would like to open up the call for questions. Operator?

Question-and-Answer Session


[Operator instructions.] We’ll take our first question from Andrew Nowinski from Piper Jaffray. Please go ahead.

Andrew Nowinski - Piper Jaffray

I just had a few questions around SANRAD. My understanding is that without that functionality, it was difficult to compete in a virtualized environment where virtual machine mobility is prevalent. I’m just wondering if you could provide any color on how much incremental market opportunity you can now address with that acquisition, and then how long it will take to integrate that functionality into R5.

Ryan Petersen

I think the question is twofold. From a market or a TAM perspective, when you start viewing the PCIe market as more than simply a component and truly as a storage system, which includes things like having VMware, virtualization capability—and frankly you support things like vMotion, where there is mobility among the virtual machines of the cache—the market size looks a lot bigger.

Essentially, we’ve been building out our direct enterprise sales force and our offering has been growing in that direction, or moving in that direction, but I think the SANRAD acquisition kind of puts us clearly in the ballpark. Now, we’ve been working with them a little bit prior to the deal, obviously, and we’ll be showing, working vMotion at CES tomorrow. We’re having an analyst day, so tomorrow we’ll be showing vMotion working among a number of other features of the VXL software.

So it is ready to go, and I think it’s important to note also it will not only be released with the R5 but it will in fact be released to people who’ve already purchased our R4 for years, and it will be available with the R4 series of PCIe SSDs immediately.

Andrew Nowinski - Piper Jaffray

And then I assume it will have a favorable impact on your gross margin, so I’m just wondering why we wouldn’t see you achieve your long term target prior to the second half of FY13 with the addition of this acquisition.

Ryan Petersen

Well, I understand that there are many items that obviously could impact our margins favorably. However, we do try to remain reasonable and conservative in our guidance. So we’re not going to bake in something that’s not shipping already.

Andrew Nowinski - Piper Jaffray

Okay, fair enough. And then last question from me and I’ll cede the floor. Just wondering if you could provide any insight on progress you’re making at penetrating some of the larger social media type customers.

Ryan Petersen

We have had some success, obviously, with some clients. I’ve received calls from clients that they’re getting calls from Wall Street, so I presume one of those analysts calling around is you. So we’ve had some success there. Obviously, again, from the initial success or even qualification to any substantial revenue ramp is in multiple quarters, typically. So we’d expect - though I’m not going to give any timeframe - over the next year you’d see substantial increases in the really, [unintelligible] web scaling, but into ISPs and social media plays over the next, I guess, year, if that makes sense at all.


And we’ll take our next question from Alex Kurtz from Sterne Agee. Please go ahead.

Alex Kurtz – Sterne Agee

First, Ryan, in looking at the gross margin line, was there any DRAM or writedown of DRAM that we need to sort of back out on a pro forma basis out of the November gross margin number?

Ryan Petersen

Actually, as you know, we’ve not mentioned DRAM, as it’s been immaterial in terms of revenue over the past few quarters. There was some margin impact from the final disposal of some of those goods. I believe the impact was less than 1% on our gross margin.

Alex Kurtz – Sterne Agee

[So if I just] cut it in the middle, Art, would 50 bps sound about right?

Arthur Knapp

Yeah, it [unintelligible] a little bit, but it wasn’t material.

Alex Kurtz – Sterne Agee

Okay, so is 50 basis points a good place to start from on that?

Arthur Knapp

I think we’re trying to stay away from specifically commenting, but less than 1%.

Alex Kurtz – Sterne Agee

Okay. And just moving on the the Marvell announcement two days ago, Ryan. Can you explain how you guys are going to market with Marvell and how this product’s going to be sold into the market, to the OEMs?

Ryan Petersen

Sure. Obviously we have numerous solutions based on the platform. The platform is co-developed and exclusive, so we’re working with Marvell side by side to sell into the OEMs. I think there’s a benefit to OCZ from working with Marvell due to their customer base and that about sums it up. Is that what you were looking for?

Alex Kurtz – Sterne Agee

Is Marvell selling the R5 in the market is the question.

Ryan Petersen

No, we would be selling it, but they of course will be walking us in. Because they are in fact the fab of the chip, so they benefit from the in client sale, though it is co-developed. So we’re working together on the sale side also. But we’ll record the revenue for all of those clients.

Alex Kurtz – Sterne Agee

Okay, one last question, and then I’ll jump off the queue. Art, obviously the cash consumption is going to be a focus for people going forward. Can you give us some parameters on cash conversion cycle? Obviously the new debt line helps, but how do we reconcile the growth? We understand the growth in inventory but how does this become a self-funding model and what signs should we look for, and how does all this relate to the shelf? A lot to consume there, but however you can address that would be appreciated.

Ryan Petersen

I’d like to step in a minute before I turn it over to Art. He can run the working capital model, but you have to understand that very specifically we purchased a large amount of NAND flash wafer in order to meet some very specific demand for NAND flash in the first quarter. And the NAND flash wafer we’re purchasing, though it is adding six to eight weeks to that portion of our inventory turns, just from a business standpoint, the reason we’ve done that is because it has a substantial and material positive impact on our margins, which we commented, really referring to what will happen in Q1. So I can let Art run the metrics, but I do want to make sure that everybody understands the business situation.

Arthur Knapp

So Alex, on liquidity, because of that build, that does knock our cash conversion cycle down to about 4.5, and we would look to improve a little on that each quarter as the inventory turns improve by various methods that we’re doing. But from a financing standpoint, that’s where the Wells Fargo line will come in, where it’s additional borrowing capacity at a lower cost. So we’re very confident that the debt lines that we’ll have in place will be able to provide the working capital for what the analysts have out there and beyond.

Alex Kurtz – Sterne Agee

Okay, and just to finish up, what are the rates on the current credit line and the Wells Fargo?

Arthur Knapp

Current line is about 5.5%, and we expect about a 200 basis point improvement with the Wells Fargo line. There’s additional interest rate options, so as we finalize the deal, that’s the kind of economics we looked at. So we’re very pleased with that.

Alex Kurtz – Sterne Agee

And Art, is that NAND purchase that Ryan just talked about, was that for a single customer, or was that for a handful of customers?

Arthur Knapp

No, it’s a handful. There’s a lot of opportunities.


And our next question is from Aaron Rakers from Stifel Nicolaus.

Aaron Rakers – Stifel Nicolaus

First, on the guidance side of things, just to be clear, Ryan, I know that you’ve talked about Thailand. You’ve talked about the situation on the hard drives, but as it relates to your guidance for this next quarter, are you assuming any revenue hit, or benefit for that matter, in the current quarter’s guidance?

Ryan Petersen

Basically, it goes back to the supply situation. We’ve needed to beef up our supply chain in order to really address the demand, which is just - to make it abundantly clear to everybody - we would expect that to be in Q1. For the record, our factories shut down for Chinese New Year and things like that in the month of February. So there will be some positive impact in Q3, hence the guidance for sequential growth in Q4, but really, to see the major impact we need to process significantly more goods.

Aaron Rakers – Stifel Nicolaus

And then on the gross margin line, can you just remind us, in the last quarter you exited the quarter at 75% of your NAND flash procurement coming directly from the suppliers. Was that the case throughout this last quarter?

Ryan Petersen

Yeah, it was over the 70% mark, which is I think why we’re not talking about it anymore. I think the real story in terms of getting margin traction now is being able to process wafers.

Arthur Knapp

And note please also that the margins for SSDs are obviously not the same as our overall GAAP margin.

Aaron Rakers – Stifel Nicolaus

And then the final question from me is on the enterprise and also on the HPC/server segment. Can you help us understand how much of the momentum or sequential growth that you’ve seen is really coming distinctly from the PCIe business right now and how we should think about that as far as that being a real fundamental driver of your gross margin story to think about as we head toward fiscal 2013?

Ryan Petersen

I think we’re not being specific about PCIe growth because frankly it’s still early days for the new PCIe products which are well north of 50% margin. So we would expect that those will become material to our revenue next year in the first half of the year.


And we’ll take our next question from Rich Kugele from Needham & Company.

Rich Kugele – Needham & Company

Just a few questions. First, just to revisit the LG win and the CE space in general, we often get asked your strategy for this space. Can you just refresh us on your thinking, especially in light of the interest level for ultrabooks, where we believe you’re the only one besides Intel qualified today. But if you can comment on that segment of the market.

Ryan Petersen

The ultrabook is obviously Intel’s initiative to move everybody to thin and light laptops. Interestingly, Intel has been mentioning, or has mentioned several times to the press, that they expect to have 40% of the overall laptop market share. They’re showing 75 - and I know it’s hard to conceive there are 75 different laptops out there - but there are 75 new laptops in the ultrabook format showing at CES this week. Today, we are the - as far as I know - the only one on the list other than Intel’s own branded SSD. And frankly, your guess is as good as mine as to how well Intel will do in terms of market penetration. But we do believe it’s a good initiative, and small-form factory SSDs, these are obviously small SSDs that do require oftentimes us to do our own NAND flash packaging. You can have pretty substantially higher margins than maybe some of our historical business. So it’s a good opportunity for us. Again, as with anything OCZ related, we tend to not try to bake the revenue in until it’s there, so we’re going to have to see how it plays out. But it’s the same thing with the LG wins that we’ve seen recently have been related to this also.

Rich Kugele – Needham & Company

But is your intention to get as many OEMs in this space as possible, or does it need to meet a certain margin profile first? What is your intention? What’s your strategy really for the space?

Ryan Petersen

Well, our strategy is to take the high-margin business in this space, which means that we are in fact limiting the revenue.

Rich Kugele – Needham & Company

Okay. And then in terms of Indilinx, is there any sense you could give us on what the percentage today is in terms of what’s been integrated and what you think it might be exiting fiscal ’13?

Ryan Petersen

Let me break it into product classifications to make it easier. With the R4, which uses the SandForce-based controller, it’s not going to go away, obviously. It’s just starting to sell. There are a number of other products that are based on SandForce controllers that are relatively new. Those products won’t go away.

So outside of the R4 sales obviously moving to R5, you can take a guess as to what that transition will be. But I think the move is non-impactful to our margins, just because the margins are so high to begin with. A few dollars of savings per controller - even $100 of savings on the bomb, on a $10,000 ASP item, is minuscule in terms of the margin overall.

So moving, then, out of the enterprise, and really looking at the server, and the high-performance segment, we think that the Vertex 4 will pick up the majority - and the Vertex series is generally sold into the Tier 2 guys as a nonspecialized product. It does go into a number of server manufacturers though. We believe that we will see a pretty rapid shift from Vertex 3, SandForce based, to Vertex 4, after we launch the product, which will be in our second quarter.

To run back to the switch from Indilinx to SandForce, for the majority of the Tier 2 business - this is the shorter-term for design cycle business - it was three or four months before the majority of our sales had moved over. And I think really the Vertex 4 is the key point given that it’s about three times faster than the SandForce product. But that’s what’s going to drive adoption for Indilinx products. Though the current Octane, Everest, Petrol, are all doing very, very well, we’re not going to see that 60-70% of revenue is based on Indilinx until later in the year.

Rich Kugele – Needham & Company

Then last question from me is historically you had a fairly material drop in the fiscal first quarter due to seasonality, but that was also when you had a more meaningful consumer presence. Would you expect, under your new business model, business mix, to see a similar drop in the fiscal first quarter?

Ryan Petersen

Well, you know, frankly, given the underlying growth and the fact that the majority of enterprises and OEMs are coming out with new products in the first quarter, we see a lot of activity around March. And it’s early to say, and I’m not going to guide on it, but I’ve got to think that the pattern is not going to be down as it was necessarily in previous years. It was generally flat last year, and SSDs were up slightly last year. I’m just looking at the numbers. So I would guess it’s going to kind of follow last year’s pattern. But we can’t really guide to it until we get there, and we’ll provide guidance at the February quarter.


And this does conclude our Q&A session for today. I would like to turn the conference back to Ryan for any concluding remarks.

Ryan Petersen

Well, I wanted to thank everybody for being here, and thank the analysts for their questions. And with that, I’ll see you all next quarter. Thank you.

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