Microchip Technology Incorporated

Greetings and welcome to the Microchip first quarter fiscal year 2025 financial results conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Eric Bornholz, CFO. Please go ahead.

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 Ganesh Morthy, Microchip's president and CEO, Steve Sanghi, Microchip's executive chair, Rich Simonsek, Microchip's COO, and Sajid Dowdy, Microchip's head of investor relations. I will comment on our first quarter fiscal year 2025 financial performance. Ganesh will then provide commentary on our results and discuss the current business environment as well as our guidance, and Steve will provide an update on our cash return strategy. We will then be available to respond to specific investor and analyst questions. 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 of our website at www.microchip.com and included reconciliation information in our earnings press release, which we believe you will find useful when comparing our GAAP and non-GAAP results. We've also posted a summary of our outstanding debt and our leverage metrics on our website. I will now go through some of the operating results, including net sales, gross margin, and operating expenses. Other than net sales, I will be referring to these results on a non-GAAP basis, which is based on expenses prior to the effects of our acquisition activities, share-based compensation, and certain other adjustments as described in our earnings press release and in the reconciliations on our website. Net sales in the June quarter were $1.241 billion, which was down 6.4% sequentially. We have posted a summary of our net sales by product line and geography on our website for your reference. On a non-GAAP basis, gross margins were just below the midpoint of our guidance at 59.9%, including capacity under utilization charges of $36 million as we continue to manage production activities to adjust to the challenging business conditions. Operating expenses were at 28.4% of net sales, and operating income was 31.5%. Non-GAAP net income was $289.9 million, and non-GAAP earnings per diluted share was 53 cents, which was a penny ahead of the midpoint of our guidance. On a GAAP basis in the June quarter, gross margins were 59.4%. Total operating expenses were $517.8 million. and included acquisition and tangible amortization of $123 million, special charges of $2.6 million, share-based compensation of $37.4 million, and $1.8 million of other expenses. GAAP net income was $129.3 million, resulting in $0.24 in earnings per diluted share. Our non-GAAP cash tax rate was 13% in the June quarter, which was in line with our guidance. Our non-GAAP tax rate in fiscal year 25 is expected to be about 13%, which is exclusive of the transition tax and any tax audit settlements related to taxes accrued in prior fiscal years. We are still hopeful that the tax rules requiring companies to capitalize R&D expenses will be pushed out or repealed. If this were to happen, we would anticipate about a 200 basis point favorable adjustment to Microchip's non-GAAP tax rate in future periods. Our inventory balance at June 30, 2024 was $1.308 billion, which was down $8 million from the end of the March 2024 quarter. We had 237 days of inventory at the end of the June quarter, which was up 13 days from the prior quarter's level as a result of a lower dollar value of quarterly cost of goods sold from lower sequential revenue. At the midpoint of our September 2024 quarter guidance, we would expect inventory dollars to be up modestly and days of inventory to increase. We also continue to invest in building inventory for long-lived, high-margin products whose manufacturing capacity is being end-of-life by our supply chain partners, and these last-time buys represented 19 days of inventory at the end of June. Inventory at our distributors in the June quarter was at 43 days, which was up two days from the prior quarter's level. Distribution took down their inventory holdings in the June quarter as distribution sell-through was about $85 million higher than distribution sell-in. Our cash flow from operating activities was $377.1 million in the June quarter. Adjusted free cash flow was $301.3 million in the June quarter. As of June 30th, our consolidated cash and total investment position was $315.1 million. Our total debt increased by $179 million in the June quarter, and our net debt increased by $183.6 million. The increase in debt was impacted by our refinancing activities in the quarter, which included issuing a 0.75% six-year convertible bond, for which we paid $105 million for a 75% cap call to provide some protection from future equity dilution from stock price appreciation. Our adjusted EBITDA in the June quarter was $456.2 million and 36.8% of net sales. Our trailing 12-month adjusted EBITDA was $2.908 billion. Our net debt to adjusted EBITDA was 2.02 times as of June 30, 2024, up from 1.29 at June 30, 2023. Capital expenditures were $72.9 million in the June quarter. Our expectations for capital expenditures for fiscal year 2025 is about $175 million and is more heavily weighted in the first quarter of fiscal year 2025 as we had worked with our suppliers to push out capital that was originally planned for delivery last fiscal year. Depreciation expense in the June quarter was $43 million. I will now turn it over to Ganesh to give his comments on the performance of the business in the June quarter, as well as our guidance for the September quarter. Ganesh.

Thank you, Eric, and good afternoon, everyone. Our June quarter results were consistent with our guidance, with net sales down 6.4% sequentially, as we continued to navigate through a major inventory correction. Non-GAAP gross margin came in just under the midpoint of our guidance at 59.9%, while non-GAAP operating margin was at the midpoint of our guidance at 31.5% as we continued our strong expense control programs. Our consolidated non-GAAP diluted earnings per share came in a penny ahead of guidance at 53 cents per share. Our sequential revenue decline resulted in June quarter adjusted EBITDA dropping, and as a result, our net leverage rose to 2.02x. We expect our net leverage to rise modestly for a few more quarters as trailing 12-month adjusted EBITDA drops when replacing stronger prior year quarters with weaker current year quarters. However, our cash generation continues to be solid and we remain committed to our capital return plan. Our capital return to shareholders in the September quarter will increase to 92.5% of our June quarter adjusted free cash flow as we continue on our path to return 100% of our adjusted free cash flow to shareholders by the March quarter of calendar year 2025. My thanks to our worldwide team for their support, hard work, and diligence as we continue to navigate a difficult environment and focus on actions that we believe position us well to thrive in the long term. In early July, we announced our entry into the 64-bit embedded MicroPlus as a market with a suite of products, development tools, and other support requirements to address high-performance embedded processing applications, including AI-enabled edge solutions. This extends our strong 32-bit embedded microprocessor portfolio to higher performance and increased capabilities while preserving Microchip's historically strong ecosystem of leading development tools to make adoption easy for embedded system design engineers. Microchip is the only company to offer the widest embedded control and processing platform from 8 to 64-bit, as well as FPGAs with a common development tool ecosystem that's empowering customers to innovate and reuse their work across a wide spectrum of markets and applications. Now for some color on the June quarter and the general business environment. All regions of the world and most of our end markets exhibited varying degrees of weakness. The exceptions were aerospace and defense, which was stable, and the artificial intelligence subset of data centers which continue to be strong. Our business in Europe and America, which are dominated by industrial and automotive markets, are particularly weak, on the heels of a very weak March quarter. Our broad base of customers continue to manage their inventory tightly and adjust their business plans in the midst of a weak macro environment for manufacturing, high interest rates, very short lead times, and an uncertain business outlook. This combination of factors we believe is driving inventory destocking, as well as reductions in target inventory levels in multiple areas. At our direct customers, at contract manufacturers, and at distributors who buy from us. At our indirect customers who buy through our distributors, and in many cases, at our customers' customers. The early signs of green shoots in our business we saw in February, March, and April have continued to progress, although at an uneven pace, with bookings up sequentially in some months and relatively flat sequentially in other months. Although quarterly bookings grew close to 50% in the June quarter as compared to the March quarter, overall bookings were still below where we would like to see them. Bookings, however, continue to age over a shorter period of time, and we continue to see many requests for expedites of new orders and shipment date pull-ins for previously placed orders requests for cancellations and push-outs continue to subside. Our average lead time continues to be about eight weeks or less, while the short lead times are resulting in reduced near-term visibility as customers delay placing orders since they have high confidence their supply is readily available. We also believe short lead times during a period of business uncertainty are the best way to help customers navigate the environment successfully and improve the quality of backlog placed with us. We have adjusted our operational systems to adapt to this uncertain environment and pre-positioned semi-finished and finished goods inventory as best as we can to accept and ship the turns orders we need this quarter. Given the severity of the down cycle, our factories around the world are continuing to run at lower utilization rates in order to help control inventory levels. Our internal capacity expansion actions remain paused. We expect our capital investments in fiscal 25 and likely in fiscal 26 as well will be low as we will use the inventory we have invested in as well as our underutilized capacity to support the next up cycle. We're also prepared for the long-term growth of our business. On the one hand, in partnership with our foundry and our source assembly and test partners, and on the other hand, for our internal factories with the optionality of deploying capital, which we have purchased but not yet placed into service. While neither we nor our customers know the shape of the recovery in the coming months, we do expect it to arrive, as it has in all prior semiconductor cycles. And we believe we are well prepared for the things we can control to exploit whatever the market recovery looks like. On the CHIPS Act front, we continue to work through a number of challenges with the CHIPS office and other government departments in regards to the grants. While the investment tax credit process has been relatively straightforward, and we are greatly appreciative of this benefit, the journey to receive grants has taken much longer and been more complicated than we expected. Recall, we announced a preliminary memorandum of terms in early January 2024 and supported the completion of diligence by March. Given that we align extremely well with the US government's goals of shoring up semiconductor supply for national security and industrial security, It would be unfortunate if a pragmatic agreement on the conditions attached to the grants cannot be reached. We continue to persevere through the challenges by collaborating with the CHIPS office while remaining resolute that whatever agreement we reach must also be consistent with our business values. Before we get into our guidance, a note about the strength of our design inactivity. After two plus years of dealing with shortages and redeploying their innovation resources towards mitigating the impact of shortages, Our customers over the last year plus have returned to prioritizing their innovation projects. The result is a strong design and pipeline for us across all end markets, megatrends, and key customers, amplified by our total system solutions approach to take advantage of our broad portfolio of solutions. The impact of this growing design pipeline is muted in the current environment where excess inventory gets most of the attention, and design and activity takes time to gestate into production. But design wind momentum is the engine of long-term growth that we have always focused on and which we expect will drive above-market long-term growth. Now let's get into our guidance for the September quarter. While we continue to see a number of green shoots in our business indicators, we do need turns orders within the quarter to meet our guidance. Operating in a high-turns environment has historically been normal for microchip, but it is challenging to predict during abnormal times as we're in today. We are, however, forecasting strong signs of growth in our data center business beyond the artificial intelligence subset after several quarters of weakness. This is effectively another green shoot. Taking all the factors we have discussed on the call today into consideration, especially the very low backlog visibility we are faced with, we expect our net sales for the September quarter to be between $1.12 billion and $1.18 billion. We expect our non-GAAP gross margin to be between 58.5% and 59.5% of sales. We expect non-GAAP operating expenses to be between 30% and 31% of sales. We expect non-GAAP operating profit to be between 27.5% and 29.5% of sales. And we expect our non-GAAP diluted earnings per share to be between 40 cents and 46 cents. This multi-year semiconductor cycle for microchip and for the overall semiconductor industry has been like none other we have seen. It started with COVID-related supply and demand disruptions in the March quarter of 2020, which then continued for many months. This was followed by extreme product shortages and resultant supply chain challenges later that year and for several quarters thereafter. And finally, a substantial inventory correction over the last several quarters. We recognize that on a piece-to-trough basis, our revenue decline has been sharper than many of our competitors. Some of this variance reflects the differences in end market exposure, as this cycle has impacted different end markets at different times. Some of the variance is due to differences in non-cancellable, non-reschedulable programs implemented by us and our competitors. And finally, some of this variance is driven by differences in the relative size of business transacted either directly or through the channel. While peak to top revenue performance is relevant, we believe a better longer-term indicator is a comparison of the cumulative revenue generated through the entire cycle. Assuming the December quarter of 2019 was the last unaffected or normal quarter, Microchip's cumulative revenue over the next 19 quarters, inclusive of our guidance for the September 2024 quarter, when indexed, to the December quarter of 2019 shows very comparable performance between us and our competitors. This is of course excluding the impact of acquisitions for everyone. The revenue peaks and troughs were different for each company. We believe for the factor that we mentioned earlier. However, when looking at the cumulative 19 quarter revenue, essentially the area under the revenue curve is what that would represent. While the journey for each company was different, the destination was very similar after 19 quarters. This would suggest that Microchip may be positioned for a sharper growth in the coming quarters, although we're not ready to predict the shape of that recovery at this time. My point is that rather than be focused on peak-to-trough performance alone, it seems prudent to consider the area under the curve of cumulative revenue performance as well. We believe the fundamental characteristics of growth, profitability, and cash generation of our business remain intact, We are confident that our solutions remain the engine of innovation for the application of the end markets we serve. We remain committed to executing our strategic imperative, which we believe will deliver sustained results and substantial shareholder value. And finally, at a time of macro uncertainty, we remain focused on the things we can control to create long-term shareholder value. With that, let me pass the baton to Steve to talk more about our cash generation to shareholders.