Qorvo Inc (QRVO) — Q2 2019 Earnings Call Transcript

Thanks very much, Brad. Hello, everyone, and welcome to Qorvo's fiscal 2019 second quarter earnings conference call. This call will include forward-looking statements that involve risk factors that could cause our actual results to differ materially from management's current expectations. We encourage you to review the Safe Harbor statement contained in the earnings release published today, as well as the risk factors associated with our business in our Annual Report on Form 10-K filed with the SEC, because these risk factors may affect our operations and financial results. In today's release and on today's call, we provide both GAAP and non-GAAP financial results. We provide this supplemental information to enable investors to perform additional comparisons of operating results and to analyze financial performance without the impact of certain non-cash expenses or other items that may obscure trends in our underlying performance. During our call, our comments and comparisons to income statement items will be based primarily on non-GAAP results. For a complete reconciliation of GAAP to non-GAAP financial measures, please refer to our earnings release issued earlier today, available on our website, qorvo.com, under Investors. Sitting with me today are Bob Bruggeworth, President and CEO; Mark Murphy, Chief Financial Officer; James Klein, President of Qorvo's Infrastructure and Defense Products Group; Eric Creviston, President of Qorvo's Mobile Products Group; as well as other members of Qorvo's management team. And with that, I'll turn the call over to Bob.

Thanks, Doug, and welcome, everyone. I'm proud of the Qorvo team for delivering a strong September quarter, with both revenue and EPS well above guidance. Our products and technologies make Qorvo uniquely positioned to partner with our customers to develop their most compelling products. Our September quarter extends a strong start to Qorvo's fiscal 2019. We are investing in the right types of growth and customer design activity is demonstrating that our technology competes at the highest levels. Operationally, we're making progress related to cost control and capital efficiency, including increased production of 8-inch BAW, continued capacity expansion to support GaN demand and the up-fit of Farmers Branch. We're doing a good job of growing our top line, expanding our margins and improving our return on capital. During the quarter, we supported a series of large product ramps and enjoyed robust design activity in both Mobile Products and IDP. The relentless demand for an improved user experience is fueling large macro trends, such as the deployment of LTE Advanced Pro and 5G, as well as the proliferation of the Internet of Things. These trends are creating new design challenges for our customers, requiring more RF content and placing a premium on performance, product and technology breadth, systems-level expertise and integration. Qorvo is a leader as the industry moves to more highly integrated solutions, enabling wider bandwidths, increased data rates, and enhanced system performance. In IDP, revenue grew to $218 million, led by strength in the base station market. IDP continues to connect and protect across a diverse set of defense and communications customers and applications. Qorvo's 28 gigahertz high power amplifiers were selected for 32-element phased array deployments, targeting large venues with dense cellular traffic, such as concert halls, convention centers, and sporting arenas. Shipments of 5G solutions were a record in support of multiple leading base station customers. GaN-based revenue increased 27% year-over-year, driven by broad market demand, including 5G infrastructure. Design activity for 5G base stations has been robust across geographies and customers. The emphasis is primarily on sub-6 gigahertz, while millimeter wave applications continue to gain traction. We're in the early innings of 5G, and the migration to higher frequency, increasing bandwidth requirements and deployment of massive MIMO favor Qorvo's technologies. As deployments of 5G base stations accelerate, our 5G product revenues are forecasted to be strong over the next several years. In IoT, new markets and applications continue to proliferate. Field trials are underway for cellular, vehicle to everything connectivity, and Qorvo is supporting multiple OEMs with our 5.9 gigahertz FEM, optimized for Qualcomm's cellular V2X chipset solution. We were selected by Continental, a leading Tier 1 automotive supplier, to deliver multiple solutions enabling always-on automotive connectivity to cellular networks around the world. And in connected home, we commenced shipments of a dual-band Wi-Fi iFEM powering Facebook's family of portal video communication devices. We also partnered with a lighting and IoT solutions company in China, enabling smart interior lighting products, which operate on ZigBee 3.0 and Bluetooth Low Energy 5.0 protocols. Among new product launches, we introduced the fully integrated system and package for ultra-low power wireless communications that's certified to ZigBee and Bluetooth product specs and delivers ZigBee Green Power energy efficiency. Turning to Defense, the deployment of phased array radars and higher frequencies of operation are increasing demand for RF solutions that leverage GaN among other semiconductor processes. During the quarter, Qorvo enjoyed strong demand for our solid-state GaN Spatium high power products for electronic warfare and communications applications. In Mobile, revenue increased to $667 million. We supported the ramps of flagship smartphones. We increased our content on key customer programs, and we helped to enable early 5G smartphone designs. Qorvo's Mobile Products revenue is expanding across product categories, and our product and technology development efforts are opening up new opportunities for growth. During the September quarter, we enjoyed robust demand for our antenna tuners, ETP mix, BAW-based quadplexers and RF Fusion Phase 6 solutions. RF Fusion Phase 6 leverages Qorvo's premium BAW and SAW filter technologies to deliver complete main path coverage in two placements: a low band module and a mid-high band module. During the quarter, we commenced shipments of RF Fusion Phase 6 in support of Vivo's newest flagship smartphone, the Vivo NEX. Integration is an industry trend, and Qorvo was built for this. In 5G, smartphone design activity is accelerating across leading manufacturers, primarily in support of sub-6 gigahertz deployments. Qorvo was selected by Samsung to supply our 3.5 gigahertz FEM for a series of 5G handset demos across multiple base bands. We also commenced sampling the industry's first dual-band 3.5 gigahertz and 4.9 gigahertz FEM to a leading China-based smartphone manufacturer. Our customers expect commercial shipments of 5G devices as early as the second half of calendar 2019. Next, let's drill down for a closer look at 5G, given our broad participation across both IDP and Mobile Products. Each quarter, Qorvo gains new insights into 5G, related to geographies, timing, customers, and architectures. We're enabling global 5G base station deployments today and helping to develop the 5G mobile devices of tomorrow. Qorvo introduced the industry's first 5G RF front-end for smartphones, and we've participated in nearly every 5G infrastructure field trial, including the Seoul Winter Olympics. We are a voting member of 3GPP, helping to define 5G standards, and we are collaborating closely with network operators, base station manufacturers, smartphone manufacturers, and chipset providers on their 5G programs. In the base station market, 5G is helping to drive a rapid shift in power amplifiers from silicon LDMOS to GaN. We expect the trend to accelerate, with approximately half of the power amplifier market transitioning to GaN in the next few years. Compounding this, we expect the content opportunity for Qorvo to increase substantially as fixed antennas are transitioned to massive MIMO phased array deployments. A 32-element array requires 32 power amplifiers and 32 small signal chains, and that continues to scale with 64-element and 128-element arrays. On the device side, 5G is increasing the content not only in smartphones but across an expanding set of new products, from fixed wireless solutions and nomadic devices to end-to-end nodes and autonomous vehicles. Each 5G smartphone will retain full 4G capability, and a great deal of that 4G content will be redesigned to coexist with the 5G bands. The added complexity is a huge opportunity for Qorvo, as performance requirements are increasing across nearly all components. In both IDP and Mobile Products, Qorvo's leadership in premium categories like envelope tracking, antenna tuning, premium filters, and phased arrays are already playing a critical role in the definition of 5G architectures. In summary, the demand for data is growing, RF content is increasing, and the commercial traction is expanding for Qorvo's highest performance and most highly integrated RF solutions. The Qorvo team is successfully executing our strategy, and we're confident in our growth and margin drivers. We're pleased with our September quarter, and our outlook remains strong. With that, I'll hand the call over to Mark.

Thanks, Bob, and good afternoon, everyone. Qorvo's revenue for the second quarter was $884 million, $29 million above the midpoint of our guidance, up 28% sequentially and 8% year-over-year. Mobile Products revenue was $667 million, a 37% sequential increase and reflected strong seasonal ramps. IDP revenue was $218 million, another quarter of double-digit year-over-year growth, with particularly strong demand in Infrastructure. Non-GAAP gross margin in the September quarter was 47.7%, 20 basis points over our guide. Our margin outlook remains positive as we transition the mix of our product portfolio, improve factory utilization and drive productivity. Operating expenses were in control at $168 million, down slightly from our guidance. We expect OpEx to trend down slightly through the back half of the year, with full-year OpEx ending at approximately 20% of sales. Non-GAAP net income in the September quarter was a record $225 million, and non-GAAP diluted earnings per share was $1.75 or $0.13 above the midpoint of our guidance. The earnings power of the business is increasing as we grow in the right areas and remain disciplined in capital and operating spend. September quarter cash flow from operations was near $215 million, and CapEx was $70 million, yielding free cash flow of $144 million. CapEx is currently projected to end the year a little over $300 million and remains principally for BAW and GaN capacity additions at our Texas fabs. We repurchased $87 million of stock in the quarter and ended the September quarter with $558 million of cash and cash equivalents. During the quarter, we redeemed our remaining 6.75% notes due 2023 and repurchased $436 million of our 7% notes due 2025. Also, in the quarter, we issued $630 million of 5.5% notes maturing in 2026. With these actions, we've lowered our interest costs and extended our average debt maturity to 2026. We are below our long-range leverage target and retain significant financial flexibility to grow the business and return capital to shareholders. Turning to our outlook. In the third quarter of fiscal 2019, we expect non-GAAP revenue between $880 million and $900 million, gross margin to increase sequentially to approximately 50%, and diluted EPS of $1.95 at the midpoint of our guidance. We currently project Mobile Products revenues in the December quarter to be up slightly sequentially in support of seasonal phone ramps. For China, we see a relatively healthy channel, but given the strength from China-based handset manufacturers year-to-date, we are taking a measured view on demand in the back half of the fiscal year. We expect IDP to post another solid quarter with strength in infrastructure, offsetting near-term weakness in Wi-Fi. On gross margin, our December quarter guide reflects ongoing progress improving the portfolio, utilizing our fabs and driving productivity. We expect gross margins in the back half of the fiscal year to average 50% or more. Operating expenses are forecasted to decrease slightly in the December quarter to approximately $165 million. We're maintaining a full-year non-GAAP tax rate forecast of approximately 8%. We expect operating cash flow to strengthen in the second half of the fiscal year on higher revenue, stronger margins, and lower working capital. In the third quarter, CapEx is expected to peak for the fiscal year with BAW and GaN capacity investments in Richardson and the continued build-out of BAW capacity in Farmers Branch. So in summary, the September quarter was a record revenue and earnings quarter for Qorvo. Our portfolio strategy and operational improvements are yielding stronger and more consistent results. Looking ahead, our outlook remains essentially unchanged with full-year revenue growth around 10%, gross margin increasing to 50% or more for the fiscal second half and OpEx in control and ending at about 20% of sales for the full fiscal year. With that, I'll turn the call back over to the operator for questions.

Happy Halloween. Congratulations. Stellar execution on the top line, but also congratulations on the margins. Mark, I had one for you. Just looking beyond sort of the second half fiscal that you talked about, now that your factories are mostly BAW, and now that you're kind of set with your share at some of the large Tier 1 guys, should we think of 47%, 48% to 50% as sort of the new range for you guys going forward? And I've got a quick follow-up.

And your question, Harsh, was around gross margin?

Yes, sir.

Yeah, I mean, we're not giving quarter guidance. I would, certainly beyond the quarter we're giving – and we've talked about second half guidance for gross margin. I guess the question is, what should gross margin do if we execute on our plan? And we believe that we have the potential to expand gross margin going forward. And we believe there are a number of reasons. One is, we know this year that the SAW under-utilization is a headwind for us, and we expect that to some effect in the near-term, which would include early next year. We also have, that will wane through this year and then into next year, so become a lesser effect on the business. We're also continuing to affect the mix transitions that we want to occur with BAW related revenue, GaN and other premium technology products, and that will have a positive effect. We are being very disciplined around capital, and as our capital efficiency improves through larger wafers, die shrinks and other things, we should see those effects help with the margin. And then there's, of course, other productivity, better yields, lower inventory charges, improved cycle times. I can go on and on. The team is working on a lot of things. I'd say, lastly, we are tightening relationships with our supply chain, developing selective partnerships, joint productivity programs and other things to broaden the scope of our productivity efforts.

Great. And then maybe one real quick on IDP. We've heard from several other companies talk about weakness in a variety of different areas, infrastructure, generally from everybody has been positive, suggested by you guys as well. But there are other parts of your business in IDP that are broader. Maybe, Bob, you could take this one or somebody else in the IDP team, help us understand the different parts and pieces, the pluses and minuses around those sub-segments in IDP?

Harsh, this is James. As you said, we did have a very strong base station quarter across all the OEMs. It was driven by strength in both 4G and 5G deployments, and we also saw a strong demand for small cell and massive MIMO products, including very early deployments for 5G. That includes material orders for GaN to support those MIMO deployments. And on top of that, we've also done very well with share gains, particularly in one of our European OEMs. So, very strong growth in base station. We did talk a little early about Wi-Fi. So, we have seen some effects in our Wi-Fi business that we think are relatively near-term. We think that slowdown has been based on the delays in the release of the AX standard. We also have customers experiencing some shortages in other materials that are affecting their production, and some impacts of tariffs as they transition some of their manufacturing locations. Defense, we're off a little bit of our record highs that we experienced back in the back half of last year, but that business is typically a bit lumpy. What I would say about both Defense and Wi-Fi, the fundamentals are both very, very strong. We do see that the technologies we have are matched very well with where we see both of those marketplaces going.

Hey, guys. This is Tom O'Malley on for Blayne Curtis. In your prepared remarks, you mentioned a more measured view on demand from China into the December quarter. Can you kind of give us some puts and takes on where you're seeing that weakness from the high-end or the low-end and just give us a little more color there?

Yeah, this is Eric. I can give a little more color on that. We mentioned in last quarter's call that we had seen a very strong market year-to-date and that a lot of the high-end handsets had just launched and we are waiting to see how the sell-through goes there. Obviously, we've got a lot of content and a lot of the high-end handsets there. So, I think that's the area that we're most conservative on now. Just keeping an eye on it, as Mark said. Sort of a measured view to see how those sell out.

Great. And then one quick other one and I'll hit on the margin point again. You guys, obviously, are seeing some great improvement here and this quarter a lot of that is obviously bringing your premium parts through at the high-end and some premium smartphones. Can you talk about what that was like bringing that through and kind of what you're seeing going forward with that product?

Sorry, Tom. I'm not sure we fully understand your question. I will say this, the ramping of our BAW facility is going extremely well. I commented on that before. I'm very proud of what the team's been doing and fantastic ramp in what we've seen and we're looking forward to continuing to grow our BAW-based business.

Sorry about that. I was on mute. Congratulations on the strong results and guide. Thanks for taking the question. I guess, coming back to China, and I think there's a view that the domestic China market is fairly weak, and you commented as your content tends to be in some of these flagships maybe global phones. But, I guess, as we look into next year and assuming unit volumes still kind of remain muted, what can drive content growth? Are you seeing further opportunities for diversity receiver antennaplexing? Or what are the areas where you can drive content further from here in China?

It's a good question. I think the opportunities we see may be centered around integration more. As those customers look to pack more features in and, in particular, prepare for 5G capability, people are generally taking more of the handset portfolio up the integration curve. So, Phase 6, as an example, where we combine the entire main path into two placements, we think that's just a great opportunity for Qorvo to see that really penetrate further and further into the handset portfolio.

Thanks for taking my question. James, I'd maybe just follow-up on that point around GaN and the 5G. Is that related to sort of the higher frequency base stations that you're looking forward to? Is that kind of the content growth that we could expect as those ship? Or are there additional content opportunities as we move over to those high-frequency base stations for 5G over the next few years?

I would say that the content is certainly today, as Bob talked about in 6 gigahertz and below. In the out years, we believe millimeter wave will continue to gain traction, and we're certainly supporting multiple different millimeter wave opportunities around the industry. As far as the breakout of below 6 gigahertz, we're seeing strength both in Asia deployments and deployments in the U.S., and so you'll see a little bit of different frequency band selections. Predominantly, I would say, we play in a little bit of the higher end of frequency ranges, but it's relatively broad-based at this point.

Thanks, James. And then a quick follow-up for Eric, just around the China commentary. Number one, can you remind us what your exposure to China is? And then number two, in terms of the commentary on the channel remaining relatively healthy; so it sounds like the component inventory is healthy? Or do you think it's a combination of component inventory and actual handsets out there? Thank you.

Yeah, so in terms of Mobile exposure to China, it's about 30% of the business goes to China, not including Huawei, the broader customer base in China. And regarding the channel inventory, we've got visibility, a very clear visibility into our component inventory in the channel and we know that, that is quite healthy and in line. We don't have quite as good a visibility on the final handset that – a little bit of a delay, but our own component inventory is clear.

Yes. Thank you. A question regarding your capacity utilization – sorry – capacity expansion plan that's underway for next year. Can you talk a bit about the visibility on the design wins needed to fill that capacity and your level of confidence? How much is perhaps design wins that have already been won? How much are sort of high probability design wins? I'd imagine now that you're guiding to 50% gross margins, the goal is to keep it there. What's your level of confidence?

Yeah, Chris, this is Mark. We're not going to talk about customer-specific programs and handicap those. What I can talk about generally is our expansion plans. I think we've talked at length about our utilization issues on SAW and we continue to work through those. We do believe SAW is a critical technology for us, and so we will maintain SAW capacity and we have good technology and we'll deploy that in Phase 6 and other areas, particularly in BAW-related applications. As far as gas capacity, it is well loaded in Oregon and North Carolina. And then BAW capacity, you heard James talk about GaN, so we're fully loaded there, and then we've got our BAW capacity in Texas, which currently is production's all out of Richardson, and Richardson is at capacity. Currently, about 70% of our capacity in BAW is on 6-inch and 30% is on 8-inch, and we are undertaking over the next year between wafer conversions and bringing Farmers Branch online, bringing on more 8-inch. So, this time next year, we will have actually the reverse of what we have now, roughly 30% 6-inch and 70% 8-inch. And based on our current plans, which also include not only that wafer conversion, but also die shrink programs, yield improvements, cycle time, all these other things, we believe we have the capacity to meet what we believe is our revenue outlook. Now we're continuously reviewing that plan and update the spend plan when needed as we consider opportunities, the pace of tool conversions, new tool lead times, technology and process changes, and other factors, but hopefully that gives you some color as to our thinking on capacity.

Yeah, that's helpful. Thank you. If I could just follow on with that explanation, and then based on what you said, it sounds like then the sort of variability in capacity, depending on how design wins go, would be the loading on the 6-inch fabs then and you would swing that higher or lower and therefore get the efficiency benefits of loading up the 8-inch fabs. Is that the right way to think about it?

It's hard to say, Chris. It's just a very complex, continuously assessed situation, and it may – you could slow the conversion. You could slow various technology programs. You could accelerate them. It's just, you know, I gave you what our current view is sitting here on October 31, and we'll give you an update periodically as things change.

Hi, guys. Congratulations on the nice results. Wanted to come back – I think in past calls, you guys had mentioned sampling custom mid-band, high-band PADs to multiple customers. As you look into 2019, what's your just sort of market share assumptions or what's your market share opportunity as you ramp both Phase 6 designs as well as the opportunity for other custom mid-band, high-band PADs into next year?

This is Eric. Yeah, I think we're working with virtually all of our customers with these product types, and there's – in terms of specific share, it will vary by customer, of course, and product type. But we're clearly one of only a few people that can do this, and when you combine it with our high-performance SAW, our leadership in tuning, switching and power management and advanced packaging, we really like our odds. We've got a lot to bring to the party. We're helping customers design fantastic products and helping them get ready for 5G. So, there's a lot of excitement around a broad portfolio of products for a lot of customers.

Good evening. Thanks for taking my question. Congrats on the great results. So as many of us know, a few of the marquee phone launches this year were a bit delayed or launched later than usual. Can you maybe just talk in a very general broad sense what you're seeing in terms of seasonality for this year for the December and March quarters versus what you've seen historically?

Yeah, Krysten, I appreciate the question and understand why many investors might want to know that answer, but like I've said on prior calls, we're not going to comment on how future customer programs are running and things like that. I think we've given you guys enough color on at least the entire industry of our business with the guidance that we provided for this quarter, Mark's opening comments about what we expect to grow for the year. And I think that's really enough information that's needed at this time.

Okay. Thanks. And for my follow-up, in the prepared remarks, you mentioned that for 5G, some of the prior 4G content will need a redesign. I was just wondering, if you maybe delve into that a little bit more and maybe discuss how much content that will – how much 4G – how much increase in content for 4G that will lead to for 5G handsets.

Sure. Yeah, Krysten. This is Eric. I'll be happy to speak to that. We talked about this a bit at our Analyst Day as well and we've learned a lot since then, of course. We do see some brand-new bands coming into the handset, a lot of activity right now around 3.5 gigahertz bands and 4.9 gigahertz bands, which will be dedicated 5G bands. So, that's all new content. But when you put those in and you also look at taking the 4G in the phone fully up to LTE Advanced Pro – and that's going to be important for any 5G handset, because when it isn't in a range of a 5G base station, you're still going to want to – some sort of competitive throughput and so you'll see virtually all 5G phones have LTE Advanced Pro as a baseline. So, there you've got full 4x4 MIMO, 256 QAM, high-power amplifiers, and so forth. So, we see 5G handsets having significantly more 4G content. And that's why in total in CY20 we think the effect of 5G on the RF10 for us is about $1 billion.

Thank you. Eric, just to follow-up on the previous questions. Some of the U.S. carriers are talking about rolling out 5G on lower-frequency bands, I guess T-Mobile is talking about 600 megahertz and Sprint 2.5 gig. I'm just curious, in that case do you still expect incremental content, whether it's 5G or 4G, given that's these are lower frequency bands?

Yeah, it's a very good question. Yes, we do, although the effect is not as great, of course, in those bands as when you add completely new bands. But when you run the 5G modulation through that, it does affect what power amplifying, switching, filtering and everything around those bands and of course, it gets harder. It never gets easier when you're pushing more data through a phone in any band. So, we do see some impact from those bands as well.

Great. And then for my follow-up, Mark, I know you don't want to talk about customer-specific demand. But if I look at your March quarter implied guidance for fiscal 2019, you seem to be implying about down 10%, which is much better than the last two years. I'm just curious as to what's driving that better-than-seasonal guidance for the March quarter.

Yeah, I'll let Eric answer that since this is a mobile-specific driver.

Yeah, I think we've talked about opportunities with Samsung, in particular, where we have much greater content. We've talked for some time now about new opportunities with Samsung's phones, both this fall with ultra-high band as we've now discussed, and then a big step up in the spring launch with a much higher integrated platform there. So, that's going to be a bit of a tailwind for us in March.

Hi. Good afternoon, gentlemen. If I may, I'd just like to go back to the last question. I was curious whether your content uplift in March is exclusively focused on mid-range models or tie more to flagships, because I think your prior guide was dependent on ramping on a particular model at that key customer in the March quarter. And I had a follow-up, please.

So, forgot exactly the way you phrased it. But if you're asking about the less than seasonal decline or the offset to seasonality maybe, it's a mix. One, the – probably the biggest driver is flagship content and then, but also a continued just migration towards more Phase 6 phones with our China customers, too. Hello. This is James. So, we are seeing significant traction with our focus on the AEC qualified parts, particularly Wi-Fi, satellite radio and the VDX systems that Bob talked about in his remarks. We are – our Cat 4 and Cat 6 products are shipping into car models early next year. So, I think that's when we'll start to see the first really material revenue. And then, Cat 16 products will support 2022 models. So, we're still in a pretty long design cycle for the automotive business.

We want to thank everyone for joining us on tonight's call. We hope to see you at upcoming investor meetings, and we look forward to speaking with you on our third quarter call. Thank you again, and have a good night.