Microchip Technology Inc (MCHP) — Q3 2017 Earnings Call Transcript

Good afternoon, everyone. During the course of this conference call, we will be making projections and other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution you that such statements are predictions and that actual events or results may differ materially. We refer you to our press releases of today as well as our recent filings with the SEC that identify important risk factors that may impact Microchip's business and results of operations. In attendance with me today are Steve Sanghi, Microchip's Chairman and CEO, and Ganesh Moorthy, Microchip's President and COO. I will comment on our third quarter fiscal 2017 financial performance and Steve and Ganesh will then give their comments on the results, discuss the current business environment as well as our guidance, and provide an update on the integration activities associated with the Atmel acquisition. We will then be available to respond to specific investor and analyst questions. I want to remind you that we are including information in our press release and this conference call on various GAAP and non-GAAP measures. We have posted a full GAAP to non-GAAP reconciliation on the Investor Relations page on our website at www.microchip.com, which we believe you will find useful when comparing GAAP and non-GAAP results. I will now go through some of the operating results, including net sales, gross margin and operating expenses. I will be referring to these results on a non-GAAP basis, prior to the effects of our acquisition activities and share-based compensation. Non-GAAP net sales in the December quarter were a record $881.2 million and they were well above the high end of our guidance and were up 0.8% sequentially from net sales of $873.8 million in the immediately preceding quarter. We have posted a summary of our revenue by product line and geography on our website for your reference. On a non-GAAP basis, gross margins were 57.8% in the December quarter and significantly above the midpoint of our guidance, which was 56.9%. Non-GAAP operating expenses were 25% of sales significantly below the midpoint of our guidance range of 26.7%. And non-GAAP operating income was an outstanding 32.8% well above the midpoint of our guidance of 30.15% and very close to reaching our prior long-term operating model goal of 33%, which we had previously guided investors that we would achieve in the March 2018 quarter. Non-GAAP net income was a record $246.5 million resulting in record earnings per diluted share of $1.05, which was $0.145 higher than the midpoint of our guidance of $0.905, up 11.6% on a sequential basis and up 64.9% as compared to the same quarter last year. On a GAAP basis net sales were $834.4 million; GAAP net sales were $46.8 million lower than non-GAAP net sales because for GAAP accounting purposes we began recognizing revenue on a sell-through basis for the Atmel Asia distributors. On October 1, 2016, an inventory sitting in the distribution channel on that date was not recognized as revenue in our GAAP financial statement when it was subsequently sold by the distributors. Sales to all Atmel distributors are now being recognized based on sell-through revenue recognition. GAAP gross margins including share-based compensation and acquisition-related expenses were 55.8% in the December quarter. GAAP gross margins include the impact of $3.5 million of share-based compensation, $26 million of gross margin impact from the distributor revenue adjustment I mentioned earlier, $12 million in acquired inventory valuation costs and $3 million of manufacturing shutdown costs associated with the Micrel fab. Total operating expenses were $347.2 million and include acquisition intangible amortization of $82.8 million, share-based compensation of $18.7 million, $4.2 million of acquisition-related and other costs, and special charges of $20.9 million consisting primarily of charges associated with our acquisition and integration activities. With all the purchase accounting adjustments, the Atmel acquisition-related charges and the related tax impact, GAAP net income from continuing operations was $107.2 million or $0.46 per diluted share. In the December quarter, the non-GAAP tax rate was 8.3% and the GAAP tax rate was negative 28.5%. We expect our longer-term forward-looking non-GAAP effective tax rate to be between 8% and 9%. The large difference between our non-GAAP and GAAP tax rate relates to the differences in the specific tax rates that apply to the charges that are excluded from our non-GAAP results. Moving on to the balance sheet, our inventory balances at December 31, 2016, was $419.6 million. Microchip had 104 days of inventory at December 31, 2016, up 1 day from the end of the September quarter. Inventory at our distributors was at 31 days and at the same level as the September quarter. The cash generation in the December quarter excluding our acquisition and divestiture activities, our dividend payment and changes in borrowing levels under our revolving line of credit was a record $258.8 million. As of December 31, the consolidated cash and total investment position was $699.7 million. Our borrowings under our revolving line of credit at December 31 were $1.683 billion, up $5 million from the prior quarter levels. Excluding dividend payment, changes in borrowing levels and our acquisition-related activities, we expect our total cash generation to be approximately $230 million to $250 million in the March quarter. We continue to make good progress on our leverage with our net debt to EBITDA ending the December quarter at 2.47. This is down from 2.91 at the end of the September quarter. We expect our net debt to EBITDA to be under 2.1 by the end of the fiscal year, which ends March 31, 2017, and that's well below the last forecast that we provided to investors of 2.35. Capital spending was approximately $15.7 million in the December quarter. We expect about $38 million in capital spending in the March quarter. And overall capital expenditures for fiscal year 2017 to be about $90 million compared to our previously communicated FY 2017 forecast of $110 million. We are selectively adding capital to support the growth of our production capabilities, for our fast-growing new products and technologies and to bring in-house more of the assembly and test operations that are currently outsourced. Deprecation expense in the December quarter was $29.7 million. I will now ask Ganesh to give his comments on the performance of the business in the December quarter. Ganesh?

Thank you, Eric, and good afternoon, everyone. We are pleased with how each of our product lines performed in the December quarter and how the combined assets of Microchip and former Atmel working in harmony are producing differential growth results. Let's take a closer look at the performance of each of our product lines. Starting with microcontrollers. Our microcontroller business in the December quarter held up well in a seasonally slower quarter and was up 0.3% sequentially as compared to the September quarter, setting a new record in the process. We continue to experience broad-based growth in our business as each of our 8-bit, 16-bit and 32-bit microcontroller businesses met or exceeded our expectations for the December quarter. Customers using microcontrollers originating from Atmel continue to gain confidence in Microchip's commitment to those products and began to see how powerful the combined microcontroller roadmaps going forward are. As a result, we are seeing continued growth in our design-in funnel and expect this to drive future growth as these designs progress into production over time. We have also seen many examples of how the joint sales and business unit teams are able to find and win more opportunities using our broader basket of analog connectivity security and memory products to garner a larger share of the available content in an application. This in turn we expect will help drive incremental growth over time. In all our product lines, Microcontrollers at over $2.2 billion in annualized revenue represents 63.1% of Microchip's overall revenue in the December quarter. We remain pleased with the performance on the competitiveness of our 8-bit, 16-bit and 32-bit microcontrollers in the broad-based market, which have been augmented by the addition of Atmel’s portfolio. We continue to gain market share and have the new product momentum and customer engagement to continue to gain even more share as we further build the best performing microcontroller franchise in the industry. Our Analog business was up 1.4% sequentially in the December quarter as compared to the September quarter and also set a new record in what is normally a seasonally weak quarter. At well over $900 million in annualized revenue, our analog business represented 25.9% of Microchip's overall revenue in the December quarter. As I mentioned earlier, we are successfully finding more opportunities to attach Microchip's vast portfolio of analog products to Atmel microcontrollers at multiple customers and applications. This effort will pay dividends over time as new design wins go to production. We continue to develop and introduce a wide range of innovative and proprietary new linear mixed signal, power interface timing and security products to fuel the future growth of our Analog business, as we march relentlessly towards making Analog a greater than $1 billion revenue business for Microchip. Moving to our memory products, our memory business was about flat in the December quarter as compared to the September quarter. During the quarter we introduced a new memory solution called an EERAM, which offers unlimited endurance and safe data storage should a power loss occur. That is ideal for a broad range of applications. A quick summary of where we are with the Atmel integration: We had already made significant progress for the business unit integration by the end of the September quarter and completed this activity in the December quarter. Our sales integration continued to progress well, with extensive cross-training of our direct sales teams as well as our channel partners' sales teams. The sales integration is now largely complete, with pricing changes we have discussed before continuing to roll out during the quarter, and we will have further changes that take place in the March and June quarters. On January 1, 2017, we went live with Atmel’s business systems transitioning to Microchip's business systems. This was a significantly complex activity to plan and execute; the transition is going as planned, but the small number of normal issues are being rapidly resolved. And where we are at this point of the transition to our systems is about where we have been at the same point with prior acquisitions, which is quite positive given the size and complexity of the Atmel business and business systems. The integration work to take advantage of our internal manufacturing capability to lower the cost of packaging and testing products that are currently outsourced has just started and will continue for many quarters to come. All in all, the third quarter of integrating Atmel has progressed on or ahead of our plan. Our profound thanks go out to our many employees across the globe, who have gone above and beyond to contribute to the rapid integration. Their tireless efforts on multiple fronts helped deliver synergy results that are well ahead of forecast. Let me now pass it to Steve for some general comments about our business, our guidance going forward and more about the tremendous results from the Atmel integration.

Thank you, Ganesh, and good afternoon, everyone. Today I would like to first comment on the results of the fiscal third quarter of 2017 and then provide guidance for the fiscal fourth quarter of 2017. I will also make comments on the progress of integration of Atmel. Our December quarter financial results were extremely strong. I would say that we hit the ball out of the ballpark. Our non-GAAP net sales, gross margin percentage, operating profit percentage and earnings per share all exceeded the high end of our updated guidance. Non-GAAP earnings per share was an all-time record and was $0.145 per share better than the midpoint of our guidance, and up 64.9% from the December quarter of a year ago due to improving sales, gross margin percentage, operating expense leverage, and successful execution of our core business as well as accretion from our acquisitions. I want to thank all the employees of Microchip including acquired employees from Micrel, Atmel and other acquisitions worldwide for delivering a record quarter in every respect. This was also our 105th consecutive profitable quarter. As I reflect on the calendar year 2016, we had outstanding financial results in every quarter in closing out the calendar year with explosive earnings was a befitting tribute to the year. In the last quarter's conference call, we shared with you our 200-day assessment of what we have done to correct Atmel's weaknesses. Today I will provide a 300-day update on where we are in correcting these weaknesses, and this will probably be the last update on that topic. First, lack of pricing discipline. Average Atmel prices continue to go up, and we are seeing it in the improving gross margin. Atmel gross margin improved another 50 basis points sequentially. We mentioned in the last conference call that on the distribution front, we caught a lucky break as one of our largest competitors has changed their distribution program where they will be using distribution only for fulfillment and terminating the registration program under which the distribution earned higher margins for demand creation. This is continued to have a very positive effect on Microchip as the distribution sees a very strong portfolio from the combined Microchip and Atmel franchises and it is increasing their commitment for demand creation for Microchip. We now have a long list of customer design sockets where the distribution has converted the design from this large competitor to Microchip. Number two, high operating expense culture. Atmel had a culture of high operating expenses which routinely ran over 40% of sales. We have now corrected Atmel’s operating expenses, as well as a culture related to operating expenses. Number three, swinging for home runs and getting large customers at low margins; this has now been corrected as we are aligning Atmel sales focus to be consistent with that of Microchip. Number four, accountability: Atmel had a culture of poor accountability with a broad-based implementation of Microchip type of bonus plans, which are based on overall company growth and profitability. We are rapidly changing that culture. In our presentations, communications and classes at Atmel, we are teaching that at Microchip management is accountable. As of now, approximately 90% of the employees of Atmel are under a common bonus program with Microchip employees. Number five, poor teamwork. Atmel did not have a culture of teamwork; bonuses and equity grants were very large at the top at Atmel and less than 30% of the employees had bonus and equity. At Microchip, 100% of our non-Atmel employees are on a bonus program and nearly 100% of our non-Thailand production labor employees are on equity program. With Microchip managers teaching them the role modeling of our culture and with 90% of Atmel employees on a common bonus program with Microchip employees, we are now all pulling the ship together and in the same direction. And number six, Atmel made no investment in training and development of employees. In a short 10 months, nearly 100% of Atmel employees have gone through at least some training class at Microchip. We are continuing to put Atmel sales and field applications engineers through a two-week extensive training that we call boot camp in which we train the employees on Microchip's client engagement process, our values, culture, and align them with our goals and reward system. Rapid changes are taking place and employees are bonding to the superior system at Microchip and the results are improving rapidly. So with that, now let me continue with deciphering the financial results of Microchip from the fiscal third quarter. While we will refrain from providing a line-by-line breakdown of our results between core Microchip and Atmel, we will provide some useful nuggets of information on Atmel as well as Microchip to ahead of those nuggets. We achieved an all-time high operating margin percentage in our core Microchip business. On Atmel, the gross margin improved by another 50 basis points sequentially. Regarding Atmel's operating expenses, I mentioned earlier that Atmel's operating expenses are now in range of the Microchip model and have been corrected. With the combined effect of better than expected net sales, higher gross margin percentage, and lower OpEx, the Atmel business achieved operating margins of over 26% of net sales, which is the highest operating profit percentage ever achieved in Atmel’s history. We achieved an accretion from Atmel of $0.21 per share versus our guidance of $0.13 to $0.17 per share. Now despite the significant initial skepticism from investors and analysts about our ability to realize synergies, we had forecasted from Atmel, we were always confident in our assessment of synergies and our results have shown that we were actually extremely conservative in our initial projection. By any measure, our December quarter results are stellar. We are also proud to have crawled back up to 32.8% operating profit percentage for the combined company and within a smidgen of our long-term model of 33% operating profit, which we initially guided to be three to four years away at the time of the Atmel acquisition announcement. I want to again thank the worldwide employees of Microchip, including acquired employees of all of our acquisitions for delivering a stellar and record calendar year 2016. Before we go into March 2017 quarter guidance, I want to bring up one point. Our integration of business systems for Atmel was originally scheduled for November 1, 2016. However, due to the extreme complexity of business systems in our largest acquisition ever, we had to push out the go live of our business systems integration to January 1, 2017, a two months delay. As a result, several of our customers requested early shipment of their product that was originally requested to be delivered in the early part of January. We believe the impact from these customer requests added approximately 1% to our December quarter revenue. Ordinarily, we attempt to schedule these business system integrations in the middle of the quarter to minimize the impact on our quarterly revenue results. As a result, investors should view the true end market demand for our products in the fiscal third quarter to be about 1% lower than our reported GAAP and non-GAAP net sales. And our fiscal fourth quarter 2017, true end market demand to be about 2% higher than the midpoint of our GAAP and non-GAAP net sales guidance. So now let's go into the non-GAAP guidance for the March quarter. We expect total net sales to be between minus 1% to plus 3% sequentially. Again, without the customer requested early shipments in the December quarter, the guidance for net sales would have been plus 1% to plus 5% sequentially. But we will report and compare net sales against our true non-GAAP guidance of minus 1% to 3% sequentially. We expect gross margin to be between 58% and 58.5% of sales. We expect overall operating expenses to be between 24% and 25% of sales and we expect operating profit percentage to be between 33% and 34.4% of sales. And we expect earnings per share to be between $1.01 and $1.11 per share with a midpoint of $1.06. The earnings per share guidance includes an accretion from Atmel of between $0.18 and $0.22 per share. Now last quarter, we increased the accretion target from Atmel from $0.40 to $0.50 for fiscal year 2017. With $0.44 of accretion already achieved in three quarters, the $0.50 target is a given. With this quarter's midpoint guidance, we are revising the fiscal year 2017 accretion targets from $0.50 to $0.64 per share. In the last quarter, we also increased our accretion targets for fiscal year 2018 and fiscal year 2019. Those increased targets were $0.70 for fiscal year 2018 and $0.90 for 2019. All these targets are without stock buyback. We’re again revising the accretion targets upwards for fiscal year 2018 and fiscal year 2019. We are revising fiscal year 2018 accretion target from $0.70 to $0.90 and we are revising the accretion target for fiscal year 2019 from $0.90 to $1. I remind you that the businesses of Microchip and Atmel are now completely intertwined after January 1, 2017, and increasingly difficult to break down. Last quarter we told you that we will achieve our long-term financial model by the end of fiscal year 2018 versus three to four years that was embedded in our forecast when we announced the Atmel deal. With the success we have seen so far with Atmel and Microchip and with great results from the core Microchip business as well as Atmel, we just about achieved our long-term model on the operating margin of 33% last quarter, it's fully ahead of our last update. We also expect to achieve our 59% gross margin model in the next six months as some of the benefits of Micrel fab shutdown are ahead and we have barely begun on moving some of Atmel’s products to Microchip’s assembly and test technology and we are already ahead of our operating expense model. Therefore today we are revising our long-term financial model upwards. We're setting up a new long-term financial model that new long-term non-GAAP financial model is 60% gross margin, 24% operating expense and 36% operating profit. Given all the complications of accounting for the acquisitions including amortization of intangibles, restructuring charges, and inventory write-up on acquisitions, Microchip will continue to provide guidance and track its results on a non-GAAP basis. We believe that non-GAAP results provide a more meaningful comparison to prior quarters and we request that the analyst continue to report the non-GAAP estimates to first call. With this, operator, will you please pull for questions?

Yes, thank you. Steve, even if you exclude the 1% contribution from Atmel, the December quarter was a bit above seasonal. So can you talk about the environment you're seeing out there, how much of it is just some slight improvement versus Microchip specific?

Well, I think we have been kind of telling you all along that we see the environment to be pretty good, and many of the concerns that the Street has shown on the environment or in China in the past year or so, we have been continuously arguing that we were not seeing those; our results were very good, they were good by month and for the whole quarter. So, true, if you take that 1% away, our result would still have been about flat to the September quarter, and we have never had a flat December quarter. It’s always down two percentage points.

Got it. And then as my follow-up, any thoughts on the dividend in terms of just potential growth there and I ask that just because free cash flow is starting to inflect higher. Certainly on the other hand, you guys have been very effective at M&A and creating value that way. So just how you think about kind of dry part of M&A versus some potential for increased dividend growth?

Well, we're basically using all of our free cash flow created in the U.S. for paying the dividend. I mean we're really breaking even on the U.S. cash flow; sometimes you have to borrow a little bit from the credit line, and all the excess cash generation is all overseas. So there's really no change in the dividend strategy. We'll continue to do what we're doing: increase it by just a smidgen every quarter, and the majority of the cash will continue to really grow overseas. And none of this has any kind of repatriation dialed in. We don't know what that rule would be and what the new administration will or will not be able to do.

Yes, good afternoon, guys. Congratulations on strong results. Just going back to the updated accretion numbers for Atmel. I just want to make sure that I'm clear. Is that just assuming incremental sort of cost synergies and your ability to do things like have better price discipline at Atmel and doesn't include any potential revenue synergies? And if that's the case, can you kind of give us the 300-day update on what sort of revenue synergies we should expect over time between core Atmel and core Microchip?

So it basically includes all of that: it includes a cost reduction, it includes the gross margin improvement, it includes a reduction in the product cost using some of Microchip's technologies and others. And it includes revenue energy. Basically, if we didn't have Atmel, what the result would have been and what are the results total, the difference is the accretion. So it's all included.

I guess that’s all. And then a little bit more detail from Ganesh on the internal manufacturing capability that you're building up this year on the CapEx. I guess help me understand at the end of sort of this CapEx then what percent of your test and packaging will you be doing in-house versus sort of external and I guess what's the financial implication as you bring more in-house?

We have a multi-quarter plan that looks at different package combinations being brought in for assembly and test. If you go back and look at the last several acquisitions that we've done, they all had little to no internal capability. And so the percentage of assembly we were doing in-house has come down and the percentage of test we've done in-house has come down. Now we will only bring things back in-house when we find that the cost improvement is significant and the payback in any CapEx we have is within our guideline. And we have plenty of opportunity within that – within those guidelines. And so we are systematically going ahead with CapEx increases specifically to build up our assembly capacity in-house as well as the test capability in-house. We have some more advanced test technology that we have deployed on many of our Microchip products that we can bring to bear on the Atmel and micro product lines as well. And so it will be a sustained investment over many quarters as we bring more in-house capability for assembly and test and bring the cost down in every one of those cases within the return on investment guidelines we have for any CapEx investment.

And Ganesh, those efforts are already fully reflected in your long-term operating margin targets?

Yes. There's a big chunk of it which will be – there will be additional improvement that we will make over time. But by and large it's hard to separate out a single element of just assembly or test; overall improvement so we're trying to make that are reflected in the long-term goals.

Yes. Congratulations on the good results and thanks very much for taking the question. The question's on the manufacturing side and just where your lead times are with the strength that you're seeing in the cycle on some of the changes you're making to your operational footprint; are any of your lead times for products starting to extend?

Our lead times at all are generally normal; there are always pockets here and there, but there's no significant lead time changes.

Got it, that’s helpful. And then just in terms of the timeline to get to the new target model of 50% gross margin. When you get Atmel fully integrated to that, get you to that 60% gross margin or are there other things that need to occur if you to close the remainder of that gap?

We usually do not provide the revenue level or the timeline at which we achieve that model. It's a long-term model usually it's a little bit out. And you saw in the last couple of times we achieved that rapidly while initial guidance was three or four years away, but we don't clearly provide a granularity on that.

Right, we don't; maybe to what I'll add to that is, we said on this call that in six months we'll be at 59% or above gross margin. So that leaves us 1 percentage point away from the gross margin side and the midpoint of our guidance, for operating expenses this quarter is 24.5%. So we're going to make pretty rapid improvement to get there, but we don't want to tie it to a specific date or revenue target.

Good afternoon and congratulations on this solid quarterly performance and outlook. On the analog side, you guys are within striking distance of billion dollars in annualized sales. I think Steve you've shown previously, your MCUs and attach rate to Supertex's products for example post that acquisition. I'm wondering if you have any attach rate metrics you can share with us as it relates to Microchip's analog attach rates to Atmel's MCUs?

We probably have some data on it. It’s early; not enough time has lapsed. But nothing that I can give you verbally on this call; we’ll see if you can include slides in some future conference presentation.

Thank you, great job. Hey, just a question on market share out there. Now that Freescale is being taken over by NXP and Renaissance is undergoing a big restructuring in Japan. How has that been for you guys market share-wise; do you see any opportunities there? Is there any impact on the microcontroller marketplace from those transactions?

There is nothing I can point to in the near-term that results in market share changes from what you just described. Obviously, as the combination for NXP and Qualcomm complete, they will be restructuring actions that will be announced, some of that will create opportunity for us; we’ve seen that in prior combinations as others have gone through. And we expect to gain our unfair share on that. Renaissance is more of a mystery, and a lot of their business is really transacted in Japan; Japan is not always the easiest market for a non-Japanese manufacturer to be able to break through. But we have seen Renaissance opportunities outside of Japan and that is not just something recent that has happened ever since the combination of Hitachi, Mitsubishi and then subsequently NEC all have taken place as people will have different challenges with Renaissance from a long-term perspective; some of it natural disasters faced, many of it business faced in terms of how they have gone forward.

Yes. Thank you. Just a question as you move towards the long-term operating model, are there any discrete items in there – discrete things that you need to accomplish there or is this more of just kind of the normal revenue growth and blocking and tackling going forward?

Lots of moving parts, mostly blocking and tackling but the completion of the Atmel integration, which means all the duplicate expenses after go live going away, which will be really completely gone away next quarter; then you got all the cost savings from Micrel fab into the P&L. Remember we ship in first-in, first-out and we close the fab in the November timeframe. So you’ll see some this quarter, some next quarter; some may even filter into the following quarter. Then as the business is rising, the utilization in all of our factories is increasing. In the last couple of months, we have increased wafers in essentially all three of our fabs, the wafer starts. So as the number of wafer starts continue to increase with the revenue growing this year, there is a higher utilization contributing to gross margin, then Ganesh talked about applying our assembly test technology to some of Atmel’s products and bringing them in that would be beneficial; doing the same thing from Micrel that thing is continuing. The utilization is also improving our backend factories; we have three of them now, two in Thailand and one in Philippines; the Philippines one came from Atmel. So it’s really all those things, the pricing increase on Atmel that we have instituted: some is done, some is underway, some yet to be done, some customers had staged pricing increases and the last piece doesn’t go effective for a while. The new customers where winning from Atmel products have better Microchip kind of pricing than very old pricing and that’s kind of a gift that keeps giving. So it’s just lots of different things.

Yes. Thank you and congrats on phenomenal results. Steve, I wonder if you could perhaps characterize the demand environment that you're seeing across the different segments as well maybe any color on the geography. Any view on kind of overall demand that will be helpful.

Well, I mean all this is not strictly speaking about Microchip; really nothing to say about the overall semi-industry. We're finding that demand environment to be normal. Really I mean if you look at the industry numbers for 2015 and 2016, I believe 2015 industry was low single-digit negative and so the numbers I've seen for 2016 was plus 1% give or take some. And the numbers for 2017, I'm hearing numbers to be positive. So after two years of really flat or down industry, I'm hitting industry numbers to be positive but not giving any personal view on it. When I look at the Microchip opportunities and we see our markets in U.S., Europe, Asia and Japan, I'm seeing market to be normal.

Thanks for taking my question, and congratulations also. My question was around the semiconductor industry and whether you've seen any change in behavior from your customers; and with the consolidation in the industry, are they giving you better visibility for orders, as Ganesh had said earlier that lead times have been stable? And just seems like we're in a long cycle and do you think this has the semiconductor industry changed, becoming less cyclical?

I think from the consolidation – I don't think lead time behavior is any different. And the behavior that’s different is on pricing. There are customers who have recognized that the industry has consolidated; it has changed and how they were able to essentially wrestle the supplies before to constantly get lower prices. It's less possible today if suppliers are standing up to them. Many customers have realized that, and many customers are painfully realizing it and not quite accepting it and fighting it, but losing.

Good evening, wonderful job. Question on your inventories: aren't they a bit light or where would you like them to be at the end of third quarter?

Our inventories are definitely on the lighter side; they are lower than they have been in recent past. But every quarter we have been kind of beating the numbers, and honestly not been able to build the inventories we set a target where the inventory would slightly grow and then we ship it all, and the inventory does not grow. Last quarter especially we shipped all those product requested by the customers because of the go live shipping out. So that product got shipped; otherwise that would have been in the inventory. So if the inventory builds a little bit in the coming quarters, we will not be disappointed but we haven’t been able to build them.

So no significant change; I think if you look at our current model for this quarter of 24.5%; non-GAAP R&D is about 13.5% to 14%.

It's in the 13% range or so; so whatever model for the revenue you want to use for the year, but 13% and that would be pretty good approximation.

As a follow-up, you talked about; I think you said you expected to be under 2.1 net debt EBITDA by the end of March 2017. What should we expect after that in terms of priority for the use of cash going forward? Are you interested in doing something else? Are you looking to return that? What's your view going forward for the use of cash?

Well, I think it was the same question asked earlier. Basically we are not changing any of the Board’s decision, but the Board has discussed, we're going to maintain our dividend policy that we have today just increasing it by a very nominal amount every quarter like we have been doing and really reserve the majority of our cash for M&A’s which have been so successful. We have added so much accretion and so much of the revenue in profit and market share and all that has come from a good number of acquisitions we have done over the years.

Thank you for taking my questions. And congratulations on solid results and the guidance. So Steve you did mention that back and specifically utilization rates are improving. Would you mind to give us some numbers on that usage rate?

No really, I can’t. We don't share the utilization that way. I don't really have been fingertips or other to share it qualitatively, we are improving utilization in all of our three fabs and change to all of our three backend manufacturing plants but really not in percentage terms. The percentage is also always misunderstood; you try to make a mathematical calculation of utilization going from one number to second number and try to derive that gross margin. It doesn't tend to see really kind of correlate that well that way. This is different complexity of processes, and you could be doing a higher value-added step outside and being a lower value-added step inside, and utilization looks higher. But the change may not be as much. So we haven't seen the street decode utilization to gross margin as well, and I think it adds to confusion. So we tend not to share it.

Thank you. Congrats again.

Thank you for everybody for attending the conference call. We are pleased to deliver an outstanding quarter. And we'll see some of you on the road as we attend various conferences this quarter. So thank you, bye-bye.