Micron Technology, Inc.

Good day, ladies and gentlemen, and thank you for your patience. You've joined the third fiscal quarter 2019 financial call for Micron Technology. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will follow at that time. Should you require any additional assistance during the call, please press star then zero on your touchtone telephone. As a reminder, this conference may be recorded. I would now like to turn the call over to your host, head of investor relations, Farhan Hamad. Sir, you may begin.

Thank you, and welcome to Micron Technology's third fiscal quarter 2019 financial conference call. On the call with me today are Sanjay Mehrotra, president and CEO, and Dave Zinsno, chief financial officer. Today's call will be approximately 60 minutes in length. This call, including the audio and slides, is also being webcast from our investor relations website at .micron.com. In addition, our website contains the earnings press release filed a short while ago. Today's discussion of financial results will be presented on a non-GAAP financial basis, unless otherwise specified. A reconciliation of GAAP to non-GAAP financial measures may be found on our website, along with a convertible debt and GAAP call dilution table. As a reminder, the prepared calls from this call and the webcast replay will be available on our website later today. We encourage you to monitor our website at micron.com throughout the quarter for the most current information on the company, including information on the various financial conferences that we will be attending. You can follow us on Twitter at MicronTech. As a reminder, the matters we will be discussing today include forward-looking statements. These forward-looking statements are subject to risk and uncertainties that may cause actual results to differ materially from statements made today. We refer you to documents we filed with the SEC, specifically our most recent NK and Form 10Q, for a discussion of risk that may affect our future results. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activities, performance or achievements. We are under no duty to update any of the forward-looking statements after today's date to conform these statements to actual results. I will now turn the call over to Sanjay.

Thank you, Farhan. Good afternoon, everyone. At the end of the day, Micron delivered solid fiscal third-quarter results despite headwinds from industry oversupply and steeper than expected price declines. This financial performance reflects our continued strong execution on technology advancement, product cost reduction and pricing discipline. Our healthy balance sheet, structurally improved profitability and winning team set the foundation for us to emerge even stronger when the industry environment recovers. We are confident that the long-term demand outlook for memory and storage is compelling, driven by broad secular trends such as AI, autonomous vehicles, 5G and IoT. The new Micron is well positioned to take advantage of these trends with innovative products, a responsive supply chain and well-established relationships with customers worldwide. Over the last few months, customer inventory improvements have progressed largely in line with our expectations in most end markets. This reinforces our confidence that bid demand for DRAM will return to healthy -over-year growth in the second half of calendar 2019. NAND bid demand is also increasing in most markets as elasticity kicks in in response to price declines over the last year. Even as customer inventory levels of DRAM and NAND improve across most end markets, producer inventory levels are elevated. Although previously announced CAPEX cuts will start to impact industry supply in the second half of the calendar year, our assessment is that further cuts in CAPEX and bid supply will be required to return the industry to a healthy supply-demand balance. I will discuss our actions from this front shortly, but first let me provide an overview of our fiscal third quarter results. At our 2018 Analyst Day, we discussed our priorities related to technology, cost competitiveness and high-value solutions. Solid execution on these strategies has now yielded over 2,000 basis points of EBITDA margin improvement relative to our peers since 2016. Unlike the last downturn during which Micron's relative profitability declined, in this downturn our relative profitability has continued to improve. In DRAM, we are on track to deliver good cost declines in fiscal 2019. We continue to increase the mix of 1Y nanometer and are making excellent progress towards ramping 1Z next fiscal year. In April, we broke ground on our new cleanroom in Taichung, Taiwan, and earlier this month we announced the opening of a new cleanroom in Hiroshima, Japan. These cleanroom expansions will enable future DRAM node transitions of our existing wafer capacity. In NAND, we continue to ramp our 96-layer 3D NAND and are on track to achieve healthy cost declines in fiscal 2019. We continue to make progress on our 128-layer 3D NAND, which uses replacement gate technology. As we discussed on the last call, we expect a partial transition to this node with a full portfolio transition occurring on the second-generation replacement gate node. In addition to these node transitions in DRAM and NAND, we are also improving our cost structure by increasing the percentage of products produced through captive backend packaging facilities. These facilities now account for more than half of our total assembly requirements. Our captive backend operations are tightly integrated with our front-end systems, enabling greater product customization, tighter quality control, improved responsiveness to shifts in demand, and lower costs. High-value solutions now account for over two-thirds of NAND revenues. We made further progress in strengthening our SSD portfolio with the launch of our 9300 data center NVMe SSDs for cloud and enterprise markets. We more than doubled revenue shipments of our new NVMe client SSD to large PC OEMs, and more customer qualifications are in progress. As a reminder, this new NVMe drive is built with our own controller technology. QLC SSD shipments increased approximately 75% sequentially, driven by growth of our consumer NVMe SSDs. Overall, the Micron team continues to execute well on cost reductions and on high-value solutions. While we are operating in a difficult industry environment today, our progress is visible in our reported profitability and increases our confidence in our ability to drive long-term shareholder value. Now turning to highlights by end markets. Our mobile business was impacted by U.S. trade restrictions, which Dave and I will discuss later in the call. Looking ahead, innovations such as 5G, foldable phones, and advanced cameras will drive growth for our products. Our portfolio of mobile DRAM products features -in-class power consumption. On low-power DDR5, we are leading the industry and recently started sampling the highest-density dye in the market. We continue to make good progress on our managed NAND products as well, and recently launched our second-generation UFS product with -in-class endurance. Within the data center market, cloud customers are turning the corner on inventories, and most are approaching normal inventory levels. Our cloud DRAM bid shipments grew sequentially in the fiscal third quarter, exceeding our expectations, and early trends suggest strong sequential growth for the fiscal fourth quarter. Enterprise customer inventories are taking somewhat longer to normalize than we had previously expected. We continue to sample and secure qualifications on 64-gigabyte DDR4 server modules built with our 1Y nanometer DRAM. In graphics, we saw robust sequential growth as customer inventories normalized. We expanded our customer base for our high-performance GDDR6, which positions as well for strong growth in the second half of calendar 2019. In the PC market, DRAM bid shipments returned to growth as CPU shortages started to improve. Looking ahead, we expect strong sequential DRAM bid growth in our fiscal fourth quarter as laptop sales improve. In automotive, while global auto sales are slow, content growth remains strong, driven by innovations in ADAS and infotainment systems. Micron is well positioned to benefit from the growth opportunity in this market, given our leading market share, deep customer relationships, and high-quality products. We recently began ramping shipments with an industry-leading OEM for their most advanced autonomous system, which uses 16 gigabytes of our low-power DRAM. Before talking about the market outlook, I want to provide some comments related to Huawei. As you know, effective May 16, the U.S. Commerce Department's Bureau of Industry and Security, or BIS, added Huawei and 68 of its -U.S. affiliates to the BIS entity list. To ensure compliance, Micron immediately suspended shipments to Huawei and began a review of Micron products sold to Huawei to determine whether they are subject to the imposed restrictions. Through this review, we determined that we could lawfully resume shipping a subset of current products because they are not subject to export administration regulations and entity list restrictions. We have started shipping some orders of those products to Huawei in the last two weeks. However, there is considerable ongoing uncertainty surrounding the Huawei situation, and we are unable to predict the volumes or time periods over which we will be able to ship products to Huawei. Micron will continue to comply with all government and legal requirements, just as we do in all our operations globally. Of course, we cannot predict whether additional government actions may further impact our ability to ship to Huawei. Now turning to the market outlook for DRAM. As I mentioned earlier, we have seen early signs of bid demand recovery in most DRAM end markets. Based on our assessment of customer inventory improvement, we anticipate robust bid demand growth for the industry in the second half of the calendar year compared to the weak demand in the first half. Our view of calendar 2019 industry DRAM bid demand growth is in the mid-teens with industry supply growing mid to high-teens. Despite the early signs of recovery in DRAM bid demand, the excess supply and resulting higher producer inventory levels have created a challenging pricing environment. We expect that the strengthening demand growth will begin to contribute to an improving trend in producer inventory later in calendar 2019. Turning to our supply, at Micron, our focus continues to be on taking prudent steps to help bring the DRAM market back to stabilization. We are continuing the previously announced wafer start reductions of approximately 5%, which we expect will bring our DRAM bid supply growth for calendar 2019 close to market demand growth. The overall NAND market remains oversupplied from the accelerated supply growth driven by the industry transition from 2D NAND production to 3D NAND. Our NAND industry bid demand growth expectations for calendar 2019 are unchanged at the mid-30s percent range. We continue to target our bid shipments to be close to the industry demand growth rate. Since our last earnings call, we have taken actions to further adjust wafer starts from the previously announced 5% reduction to now approximately 10%, which will result in lower supply growth in the second half of the calendar year. These reductions are the result of both capital optimizations to reuse more existing equipment for our 96-layer conversion, as well as lowering some of our legacy NAND capacity, which we announced previously. While we still believe the NAND industry supply is growing above demand this year, the market is showing signs of increased elasticity stemming from recent price declines. We are optimistic that the overall NAND market will start to stabilize in the second half of calendar 2019. With the higher levels of macro uncertainty and the relatively high levels of inventory on our balance sheet, we are taking decisive action to manage our DRAM and NAND bid production. In addition to the wafer start reductions that we discussed, we are also taking action on CAPEX. Earlier this year, we announced a reduction in fiscal 2019 CAPEX forecast from $10.5 billion plus or minus 5% at the start of the year to approximately $9 billion now. For fiscal 2020, we plan for CAPEX to be meaningfully lower than fiscal 2019. While our CAPEX plans are still being finalized, we seek to balance our manufacturing investments with our free cash flow objectives. I'll now turn it over to Dave to provide financial results of our fiscal third quarter and guidance for the fourth quarter. Thanks, Sanjay.

Micron's fiscal third quarter results were within the guided revenue range and above the guided EPS range that we provided on our last call. We also generated healthy levels of free cash flow and made further progress on our share repurchase program. Total fiscal third quarter revenue of approximately $4.8 billion was at the midpoint of our guidance range and was down 39% on a -over-year basis and down 18% sequentially from the fiscal second quarter. Both DRAM and NAN revenue were negatively impacted by restriction on sales to Huawei, without which we would have reached the high end of our revenue guidance. DRAM revenue was approximately $3 billion, representing 64% of total revenue. DRAM revenue declined 45% -over-year and 19% sequentially from the fiscal second quarter. Compared to the prior quarter, the DRAM ASP decline approached 20%, while BIT shipments were roughly flat. If not for the impact of Huawei, BIT shipments in DRAM would have increased sequentially as we had guided on our last earnings call. NAND revenue was approximately $1.5 billion, representing 31% of total revenue. NAND revenue declined 25% relative to fiscal third quarter 2018 and declined 18% sequentially from the fiscal second quarter. Overall, NAND ASPs declined in the mid-teens percent range, while shipment quantities declined in the -single-digit percent range compared to the prior quarter. Adjusting for the Huawei impact, BIT shipments came in better than our expectation due to stronger component sales. Now turning to our revenue trends by business unit. Revenue for the compute and networking business unit was $2.1 billion, down 48% -over-year and 13% from the prior quarter. Lower pricing across major market segments continued to be the leading cause of lower revenue. However, normalized customer inventory levels led to shipment volume growth in the fiscal third quarter, particularly in graphics and client. Revenue for the mobile business unit was $1.2 billion, down 33% -over-year and down 27% from the fiscal second quarter, due in part to lower shipments to Huawei. Lower pricing and DRAM volume drove the -over-quarter decline. Our managed NAND portfolio continued to show strength in the fiscal third quarter, with BIT shipments increasing by over 200% -over-year. The embedded business unit revenue of $700 million was down 22% from the prior year and down 12% from the fiscal second quarter. Revenue was adversely impacted by broad macroeconomic weakness, weaker pricing and inventory adjustments in the consumer segment. Automotive and industrial, which represented almost 75% of EBU revenue, showed strong margin resilience, with gross margins down only 300 basis points from the last fiscal quarter. And finally, the storage business unit third quarter revenue was $813 million, down 29% -over-year and down 20% -over-quarter. The sequential decline was driven by competitive pricing and an unfavorable comparison on component volumes, coming up a large one-time sale we completed in the prior fiscal quarter. The consolidated gross margin for the fiscal third quarter was 39% compared to 61% in the prior year and 50% in the fiscal second quarter. Lower pricing in both DRAM and NAND was the primary driver of the lower margin in the fiscal quarter. Gross margins were also negatively impacted by approximately 200 basis points due to underutilization charges related to IMFT. US tariffs on imports from China were less than 30 basis point impact to gross margins, as we have successfully mitigated approximately 90% of the impact from tariffs. Fiscal third quarter NAND gross margins remained above 25%. Operating expenses of $774 million were well within our guided range. As we've said on prior calls, our goal with OPEX is to remain disciplined with respect to expense control, while continuing to invest in future products and technologies throughout the market cycle. Operating expenses also benefited from the strong execution on qualification of our 1Z nanometer mobile DRAM product ahead of our internal schedule. We delivered solid profitability in the fiscal third quarter with operating income of $1.1 billion representing 23% of revenue. This margin is down 28 percentage points year over year and down 13 percentage points from the fiscal second quarter. Non-GAAP taxes included $162 million of benefits in the fiscal third quarter due to a favorable state tax law change and a change in our annual tax rate from .5% to 9%. Non-GAAP earnings per share in the fiscal third quarter was $1.05, down from $3.15 in the year-ago quarter and down from $1.71 in the prior quarter. Fiscal third quarter non-GAAP EPS was 15 cents higher due to the $162 million of tax benefits. Turning to cash flows and capital spending, we generated $2.7 billion in cash from operations in the fiscal third quarter representing 57% of revenues. Capital spending net of third-party contributions was approximately $2.2 billion, down from $2.4 billion in the prior quarter. We still expect fiscal 2019 capex at approximately $9 billion. However, we expect meaningfully lower capex in fiscal 2020. In the fiscal third quarter, our adjusted free cash flow, defined as cash flow from operations, less net capex, was approximately $500 million compared to $2.2 billion in the year-ago quarter and $1 billion in the fiscal second quarter. We bought back approximately $157 million of stock in the fiscal third quarter, representing 3.8 million shares. For the fiscal -to-date, we have returned $2.7 billion to shareholders in the form of share buybacks, which represents approximately 70% of our -to-date free cash flow. Combined with the redemptions of outstanding converts, we have reduced outstanding share count by over 8% since fiscal third quarter 2018. We will continue to prudently manage capital according to our philosophy of maintaining liquidity throughout the cycle, investing in capital assets to enable cost-effective node transitions and back-end cost competitiveness, and returning over 50% of free cash flow to shareholders. Inventory ended the quarter at $4.9 billion, increasing from $4.4 billion at the end of the fiscal second quarter. The fiscal third quarter ended with 151 days of inventory outstanding, or 143 days using our average inventory balance for the fiscal third quarter. As we mentioned on the last call, calendar 2020 NAND bit supply will be constrained as we make the transition to replacement gate. To meet expected bit demand growth, we're carrying higher levels of NAND inventory in calendar 2019 and 2020. We also project to carry higher than normal levels of DRAM inventory in calendar 2019 as industry supply and demand work toward getting into balance. Total cash ended the quarter at $7.9 billion, down quarter over quarter largely as a result of our $1.4 billion redemption of our Series G convertible notes announced last quarter and completed in the fiscal third quarter. Total liquidity exceeded $10 billion at quarter end while we maintained a healthy balance sheet. In the quarter, we announced that the close of the IMFT joint venture acquisition will be October 31, which is during our fiscal first quarter of 2020. We expect to pay approximately $1.4 billion for Intel's share of IMFT. A portion of the payment will also be used to repay member debt financing, which at the end of the fiscal third quarter was approximately $860 million. Now turning to our financial outlook, both the DRAM and NAND markets remain oversupplied. Having said that, we are starting to see some signs of bit demand improvement. As Sanjay mentioned, we expect strong growth in our DRAM bit shipments for the cloud, graphics, and PC markets in fiscal fourth quarter, followed by more normal bit growth in fiscal first quarter. In NAND, while the industry is benefiting from elasticity kicking in, our bit shipment growth in fiscal fourth quarter will be limited due to the ongoing transition of our SSD portfolio. With that in mind, our non-GAAP guidance for the fiscal fourth quarter is as follows. We expect revenue to be in the range of $4.5 billion plus or minus $200 million, gross margin to be in the range of 29% plus or minus 150 basis points, and operating expenses to be approximately $785 million plus or minus $25 million. Based on a share count of approximately 1.13 billion fully diluted shares, we expect EPS to be 45 cents plus or minus 7 cents. In closing, despite the industry and geopolitical challenges, Micron continues to execute on our key initiatives and remains on strong financial footing. We will continue to draw on our strong relationships with our customers and manage through this cycle with a focus on gross margins and free cash flow. I'll now turn the call over to Sanjay for some concluding remarks.

Thank you, Dave. Clearly, fiscal 2019 has been challenging for both Micron and the industry. While we continue to believe that the industry is structurally stronger, the confluence of events that impacted this year was unprecedented. Still, we have fared better due to the tremendous progress we have made on improving our product costs, advancing our technology, and increasing the mix of high-value solutions. Recent industry financial results show that Micron's profitability and balance sheet are best in class. Having said that, we are not resting on our recent accomplishments and are continuing to raise the bar for ourselves. Our capex and expense controls reflect our focus on profitability and free cash flow. With the economic and trade challenges facing the industry, the near term continues to be uncertain. But looking beyond these challenges, I'm excited about Micron's future. We are in the early innings of growth in cloud computing, and the value of data in the new economy is going to drive secular growth in numerous memory and storage intensive applications. AI, autonomous vehicles, 5G, and IoT will drive significant improvements in our lives, and we look forward to bringing the value of our innovative market-leading solutions to our customers. In April, we issued our fourth annual sustainability report, which details Micron's commitment to enhancing the world we live in through our products and business practices. We achieved perfect scores on industry standard environmental and social audits of our facilities in 2018 and 2019. Our ongoing focus and improvements in sustainable practices is a competitive differentiator for both our customers and our employees, and an important part of the transformation we are driving at Micron. I'm energized by the potential ahead of us and proud of the culture of innovation and execution that we are building. We will now open for questions.

Thank you. Ladies and gentlemen, if you have a question at this time, please press star then one on your touchtone telephone. If your question has been answered or you wish to remove yourself from the question queue, please press the pound key. Again, that's star one on your touchtone telephone to ask a question. To prevent any background noise, we ask that you please place your line on mute once your question has been stated. Again, that's star one on your touchtone telephone. Our first question comes from the line of CJ Muse of Evercore. Your line is open.

Yeah, good afternoon. Thank you for taking the question. I guess first question, I was hoping you could provide a little more granularity on Huawei. You talked about the ability to sell a subset of products. You walked through, I guess, where you're allowed, where you're not. They are, I believe, a 13% customer at least last quarter fiscal year. What kind of impact do you expect as we proceed in the coming quarters across both DRAM and NAND?

So as I said in my prepared remarks, after the Huawei was placed on entity list, we began a review of our products against the Export Administration regulations. And through that analysis, we determined that certain of our products, a subset of our products that we were previously shipping to Huawei, could continue to ship because it is lawful, it is compliant to those export regulations. And, you know, of course, it had impact, as Dave noted. You know, in RFQ 3, it had an impact because you could not ship at that time any product to them of, you know, nearly $200 million. And for RFQ 4, there would be impact to our revenue. What I would say is that our revenue with Huawei in RFQ 4 would be less than what it otherwise would have been if Huawei was not on the entity listing. And, of course, as we look ahead beyond RFQ 4, you know, if Huawei continues to be on the entity list, then in fiscal year 20 as well, we would have an impact, you know, compared to what our revenue with Huawei would have been if they were not on the entity listing. Of course, you know, we had a supplier to all customers in all end markets across the globe. And, you know, we will end our presence with several of those other customers is growing, you know, in terms of our penetration there, in terms of our share there. And we will continue to work on addressing those. But we would not be able to make up in fiscal year 20 if this were to continue the full shortfall. And although we plan to make up part of it through other parts of the business.

That's very helpful. And it affects

both our DRAM as well as the NAND side of the business.

Okay. Thank you. And if I could follow up on capex, you talked about a meaningful cut, I guess, you know, is meaningful meaning scandal territory. And as part of that, is it more focused on DRAM, NAND, both? How should we think about the implications there? Thank you.

So with respect to capex, we have said meaningful reduction in capex from the fiscal year 2019 levels. And we'll provide more details in the next call, you know, as we finalize our plans. Of course, our goal is to have, you know, our long-term considerations in mind with respect to technology and product cost capability, but most importantly to have our supply bed growth aligned with our expectations of demand with growth. And when we look at supply bed growth, of course, we keep in mind the inventory that we are carrying from fiscal year 19 into fiscal year 20 for both DRAM as well as NAND, which will help us supply some of the demand requirement in fiscal year 20 and enable us to reduce our capex requirements in fiscal year 20. And our capex management, of course, applies to both NAND as well as DRAM.

Thank you. Our next question comes from the line of Mark Newman of Bernstein. Your question, please.

Yeah, hi. Thanks, sir. I'm just taking my call, taking my question. And the first question really following on Huawei, can you give a little bit more quantification on how much the 13% or so revenue you expect you will be able to continue to export to Huawei? And it is, can you give us some guidance also for your peak growth for this next quarter? I don't think you have mentioned that yet

on

the earnings, on the guidance. If you can mention about your expectation for peak growth for the following quarter. And I have a follow up question. Thanks.

So with respect to Huawei, as I said before, our revenue expectation in fiscal Q4 is less than what it would have been without Huawei being on the entity list. Beyond that, we don't really get into specifics in terms of revenue, et cetera, on a -by-customer basis. Of course, our revenue expectation with Huawei is baked into the guidance, revenue guidance that they have provided for FQ4 of $4.5 billion plus or minus $200 million. And your second question with respect to...

Okay. Thanks so much, Dave and Sanjay. My follow up question is really taking a step back and looking at the industry. You know, clearly it's been quite a challenging year this year with the oversupply. But just looking forward to 2020 with the pretty severe cuts you guys are making on utilization, the capex. And, you know, we're hearing similar cuts from some of your competitors in Asia. I'm just curious what you think for next year. I guess it very much depends on the economic outlook, which is a little bit unpredictable at the moment. But looking forward to 2020, do you not think that there could be a danger of potential undersupply at some point next year? I'm just curious how you're thinking about that because to me, at this level of utilization and capex, it seems like inevitably there will be a period of undersupply coming just a matter of time.

So as you said, you know, the industry is in oversupply right now, you know, both in DNAM as well as in NAND. And while demand is increasing, you know, in the second half, both for NAND and DNAM, the oversupply situation does persist. And we have talked about in DNAM, you know, challenging pricing environment. And therefore it's important that, you know, capex cuts are made as well as supply-based growth is managed to bring the supply-based growth in line with the demand growth. As well as over time to bring inventories in line with expectations as well. So we are not providing a fiscal year 20 guidance at this point, but all of the actions that we are taking here are really targeted to restore the industry demand and supply balance over the course of next few quarters.

Thank you. Our next question comes from the line of John Pitzer of Credit Suisse. Your line is open. You guys,

thanks for letting me ask the question, Sanjay. Congratulations on the solid execution given the industry conditions. Just going back to the capex questions, I would argue, Sanjay, that one of the biggest strategic initiatives you've had has been to try to close the cost gap with your peers. And clearly capex is a pretty important tool in which to do that. You guys are sort of bucking the trend this fiscal year with capex actually up slightly versus peers that have actually taken it down. I'm just kind of curious, help us get some comfort level that despite, you know, the cuts you're talking about for the fiscal year 20, you're still very much on plan relative to closing those cost gaps with your peers.

So, you know, certainly, as you noted, we have made tremendous improvement in our cost position and with respect to our peers, and that reflects in our financial performance. As was noted in the prepared remarks, our margin improvement, relative margin improvement from, you know, previous times has really improved by 2,000 basis points, and that's because of our execution on the cost front as well as on the execution on the high value solutions front. And, of course, we have more room to go with respect to cost competitiveness as well as strengthening our high value solutions portfolio. So we are extremely focused on this. And, you know, as we look at driving our future opportunities, we, of course, when we make our capex decisions, we make them based on cost competitiveness of our supply in the future and, of course, keeping in mind our free cash flow considerations. And most important is that our total supply available to us coming from our inventory and coming from our supply bed growth should be matching with our demand expectations going forward over the course of next few quarters and to continue to improve our inventory position. But on the cost side, we feel very good about the 1Y and 1Z progress on DRAM, as well as we feel good about our 96 layer. And, you know, overall, even with the capex reductions that we are talking about, we'll be in a good position with respect to cost both in DRAM and NAND next year. Of course, we have talked about in NAND, our first generation replacement gate node will be a small node in the sense that it will be deployed across a small set of products and we will not have any significant cost benefit from that first generation replacement gate node. But the second generation replacement gate node will give us meaningful cost benefit compared to the large generations of floating gate node. So we absolutely are on top of the game in terms of managing to our cost objectives. I'd

just add that, you know, Sanjay already mentioned this drive to high value solutions, another way we can, you know, improve our gross margins. But also, you know, the node transitions isn't the only way we affect the cost of the product. And so, you know, one example is, for example, the backend. We're very acutely focused on the backend. We are bringing some of that activity that we were doing that was being outsourced internally. We think we can improve our cost structure in that regard, too. So there are many ways we can drive the cost to improve it.

And one thing I would just add is in terms of our overall CAPEX that you mentioned, of course, as you know, that in fiscal year 19 we had a meaningful part of our CAPEX, around $2 billion, that was actually tied to facilities, you know, clean room expansions to enable technology transitions. And, you know, this facility spend, you know, may not be the same from one, you know, manufacturer to the other manufacturer. But for us that was a meaningful part to, again, as noted in our remarks before, to prepare us for technology transitions and not targeting any of that clean room space for any meaningful capacity, but really for technology transition.

Thanks, Sanjay. And then, David, just on inventory, it's clearly a key metric that investors are looking at. I'm kind of curious as to how we should think about inventory levels exiting the fiscal fourth quarter. And as you answered the question, you know, clearly the inventory is somewhat a reflection of where we are in the cycle. But you've got sort of the added burden of wanting to build some NAND inventory as you make this transition replacement gate. So how would inventories look if you sort of normalized for that? And then lastly, as part of the question, I apologize. Digitalization coming down, CapEx coming down, is a good way of controlling inventory. So is the potential for write downs. Can you just talk about, you know, how you're thinking about the value of the inventory in this sort of environment?

The three-part question, huh, John? Okay. So, yeah, the inventories obviously are elevated right now. As you point out, one of the big drivers of our increased inventory level is in NAND, and that is, you know, kind of by design for us. We are trying to build up some inventory going into 2020, fiscal 2024, because we are going to make this transition to replacement gate. Replacement gate doesn't drive very much bit growth for us in the first node in replacement gate. And so we'll need to draw on our inventory in order to meet demand. And that's a, you know, I don't know the exact number, but that's a decent chunk of the overage in terms of days. The other aspect of the elevated level of inventory is in DRAM. That was a little bit more a function of pretty good bit growth in the first couple of quarters of the calendar year of 2019. And of course, you know, we had had customers working down their inventories. And so inventory was building up in our on our balance sheet. We do expect now that we're in a place, Sanjay mentioned that we're seeing inventories get to be in a good place in the in the cloud space, in the graphics space, in the PC space. And so, you know, we would we would expect to start to see inventory start to come down now. We think we'll be in a relatively good spot by the end of the calendar year. May not be at quote unquote optimal levels, but certainly in a healthier place. And then, you know, quick, quick, quickly after that, I would expect DRAM to be in a good place. From a write down perspective, we did write down about 40 million dollars of inventory this quarter specific to Huawei. We finished goods inventory with Huawei. That does not look like that's going to get sold. So we did reserve that outside of that from a kind of an obsolescence perspective. We don't see really any risk with the inventory we're carrying. We think it's very good inventory. It's got a good cost position, you know, very good demand with that inventory. So unlikely to have any issue as it relates to obsolescence. The other, of course, area you have to concern yourself with is the any sort of lower cost of market issue with the inventory. And, you know, I think you can kind of guess by the quality of our gross margins that we're not really in danger of having any write down associated with lower cost of market. So, you know, outside of these kind of one off issues that we deal with from time to time, like we did with Huawei this quarter, I don't really see a big issue with inventory in terms of write downs or reserves.

So

before

we go

into the next question, I just want to make a small correction. In the prepared comments, I mentioned that QLC shipments were up approximately 75 percent. I meant to say that QLC bit shipments were up 75 percent quarter over quarter. So just wanted to make that correction. And now I think we can move on to the next question.

Thank you. Our next question comes from the line of Ambrish Srivastava of BMO Capital. Your question, please.

Hi. Thank you very much. Sanjay, good to see the discipline here on the CAPEX and also with the day's focus on free cash flow. I was just a little confused. I want to make sure I understood this. If we go – and I appreciate that you don't want to talk about any specific customer, but if we go back to the reported last two quarters and if we triangulate that, if you exclude Huawei, that would mean that bit shipments would be at best up single digits. So the question is, in your CAPEX thinking for fiscal 2020, how are you handicapping the Huawei impact? Are you expecting this to continue to be on that list and hence your CAPEX, lower CAPEX, includes a certain amount of capacity being taken offline because of that? What's the right way to think about it? And then I had a quick follow-up.

So I think we'll be able to provide you more details related to fiscal year 2020, CAPEX, et cetera, in our next earnings call. I would just point out that there is obviously considerable uncertainty here, as you can all see from the rather fluid situation with respect to Huawei as well as with respect to U.S.-China trade matters. And of course, we are just staying focused on optimizing what we can control and really remaining nimble in our actions. You have seen that how over the course of last one year we have for fiscal year 2019 managed our CAPEX down from $10.5 billion plus minus 5% to $9 billion now. So we continue to stay vigilant. We are making decisive actions with respect to meaningful CAPEX reductions in fiscal year 2020. But with respect to the further details, we will be in a better position to provide you information at the next earnings call.

Okay. I appreciate that, Sanjay. And just a quick follow-up, and it's not a multi-part day for you. What's the AR or DSO target that we should be thinking about as we go through the next couple of quarters? Thank you.

Yeah, so it got up there, and we did kind of work it down this quarter. I think we got it down to about 62 days. I would say ideally it should be in the 50s. There was a little bit of a mix challenge this quarter that kind of drove it up a bit. And there is a couple of customers that have extended terms, and they kind of hit us at that point. But ideally, you know, we'd like to be somewhere in the mid-50s. Okay. Thank you. Good luck.

Thank you. Our next question comes from Chris Dainley of Citi. Your question, please.

Hey, thanks, guys. You said you've mitigated, I think, 90% of the tariffs so far. Now we're, you know, looking at another $300 billion in tariffs. Can you estimate the approximate impact to your business if that goes through?

I would say that, you know, as we, you know, of course, we don't know for sure what the list looks like. We have a general sense. Based on what we've seen, there's minimal impact from the incremental list. Most of what affects us was contemplated in the first two, 1A, 1B, and then the second list.

Got it. And then for my follow-up, you know, Sanjay talked about 5G being a big driver. With the Huawei issue, is that impacting the development of 5G? Have you seen any change in, you know, like the ongoing development of the standards out there?

So I think it is too soon to tell. And, you know, keep in mind that in certain countries, you know, 5G is already started to be deployed, such as Korea. There are, of course, you know, leading suppliers other than Huawei as well for 5G. So it will remain to be seen, you know, how this deployment, you know, occurs over the course of next few quarters in particular here. But there is no doubt that, you know, 5G will bring about, you know, greater applications for memory and storage, not only in smartphones but also in -to-machine on the IoT front. And all of this will drive greater demand for memory and storage. And we demand absolutely well-prepared, of course, in a flexible fashion to meet the growing demand requirements for the business that 5G will provide over the course of next many years. But near term, in terms of exactly what happens with respect to Huawei aspects, I think really it is too soon to tell.

Okay. Thanks a lot,

guys. Thank you. Our next question comes from Harland Sir of JPMorgan. Please go ahead.

Good afternoon. Thanks for taking my question. In DRAM, given the transition to OneY and early 1Z move, can you guys just help us understand qualitatively your cost reduction profile as you move to the second half of this calendar year, maybe compare that versus the cost downs in the first half of this year? With

respect to the cost declines, of course, you know, we are continuing to execute well with respect to our, you know, node transitions as well as continuing to drive cost declines, the OneY and 1Z nodes that you talked about. And we are on plan in terms of ramping up these nodes as well. And as I said before, you know, we don't break out the cost reductions on first half versus second half. Of course, our expectations of cost reductions are baked into for FQ4, the gross margin guidance, as well as, of course, you know, that takes into account our price decline assumptions as well for FQ4. So all of that is really baked into it. We don't break it down. But keep in mind that as the new technology nodes advance, the cost reduction coming from new technology nodes is less and less compared to the prior nodes just because, as we have explained several times before, they naturally give you, given the challenges of scaling, less per-wafer bid growth capability and less cost reduction capability. Yep.

Thanks for the insights there. And then back in April, the team announced its 9300 Series NVMe. This is your new cloud and enterprise SSD family. I think you guys have had solid momentum in cloud and enterprise with your SATA family, and that's helped to sustain a better margin profile for the NAND business. So what's the design wind momentum been like on the 9300 Series? And when do you anticipate your cloud customers to start ramping these new NVMe products? Thank you.

So as we have discussed in the past that we would be introducing over the course of our fiscal year 2019, actually during calendar year 2019, our NVMe products. And we started that first with consumer NVMe and later with our OEM NVMe that we talked about today, and now also for cloud and enterprise applications, NVMe drives. And these will take some period of time over the course of next few months in terms of getting qualified by customers, in terms of getting traction with customers. And that's why we had mentioned that 2019 will basically be a year of transition for us from SATA to NVMe. I just want to remind you that a couple of years ago Micron did not actually have investments in NVMe product development. We did very well and are continuing to do very well in SATA, as you noted. And we began to significantly increase our investments in NVMe product development a couple of years ago, and it takes a while to have these products in the marketplace. So in 2020, as our NVMe solutions get adopted by our customers and as we ramp those into production, we do expect to be gaining share with NVMe all throughout the 2020 timeframe. Thanks,

Sanjay.

Thank you. Our next question comes from the line of Timothy R. Curry of UBS. Your question, please.

That's been asked a couple of times. And I'm just trying to figure out how lower capex, you know, you're going to cut capex by a couple billion, and you're certainly cutting wafer charts quite a bit. How that doesn't ultimately have some negative impact on your costs. I think you've been costing down in DRAM, maybe low to mid-teens, and the expectation was that you'd be down somewhere, you know, that 2020 would be kind of another good year for DRAM cost downs, and you've been down kind of like mid-20s and NANDs. So yet it sounds like you're saying that it does not have much of an effect on your costs. So I'm just trying to fit those two things. Thank you.

No, I'm not saying that will not have effect on cost. What I'm saying is that we will be in good position with cost because our technologies, underlying technologies give us good cost reduction capabilities from one node to the next node. Overall, from a cost point of view, we'll be in good position. And, you know, for NAND, I'll just remind you that, you know, our CMOS under the array technology gives us the smallest die size in the industry, and that has meaningful implications with respect to the cost competitiveness that we have. So overall, we feel good about the technology and the production mix that we will be driving, you know, through the remainder of fiscal year 19 as well as through fiscal year 2020 in terms of meeting our demand expectations as well as remaining cost competitive.

Thanks for that. And then I guess just related to that, maybe, Dave, can you maybe break down CAPEX sort of how much is building versus equipment? It sounds like there's roughly $2 billion that was, you know, buildings this year in fiscal 19. Is the cut next year going to be almost all in infrastructure so that WFE is kind of, you know, flattened down a smidge year over year? Is that kind of how to think about it? Thanks.

Yeah.

So getting back to the FY19, just to be clear, what Sanjay said was about $2 billion was kind of construction-related spend. The rest is front end and back end. So there is some, you know, some miscellaneous capital spend for the R&D group and so forth. So there's more to it than even that. I'll be honest with you, we have not kind of completely finalized the CAPEX budget for next year. We have a pretty good sense of directionally where it's going. But, you know, all the pieces specifically were not quite there yet. And so, you know, what we'd like to do is wait and give you more granularity around that in the next quarter's call.

Okay. But I would

anticipate that both areas would have some reduction to them.

Okay. Awesome. Thanks. I think our next question comes from Blaine Curtis of Barclays. Your line is open.

Hey, guys. Thanks for sharing my question. Just want to follow up on the Huawei point. Just want to make sure I understood what you're saying. Are you able to ship because the IP resides in another country? Just trying to understand how exactly you're able to continue to ship. And then just kind of curious as you look out, I'm sure there's going to be some components that go into these phones from other vendors. That don't have an ability to ship. I'm kind of just curious your thoughts on kind of downstream impacts and whether you've encapsulated all that.

So with respect to what we are able to ship to Huawei, as I said before, that what we are able to ship is what is not under the export administration regulations. And that's what we are able to ship and actually export administration regulations have various complex aspects and considerations, several criteria that you have to go through. If you're interested in that, you can certainly go to the BIS site and look for those. And we assessed our products versus those. And these considerations are not just limited to any one or two aspects such as what you mentioned. I mean, they have several aspects. And we assessed our products that we can ship to Huawei versus those and have made determination of shipments. And as we said, we began those shipments in the last two weeks. And with respect to your question around other components, et cetera, of course, this is a company by company decision. And each company has to evaluate its own situation. And obviously, you know, Huawei has to look at its own supply chain. So with respect to the products that we can ship to them, we work closely with them to understand what is their latest demand on those products. And that is what is baked into RFQ4 guidance. What I would like to point out here is that at the end of the day, since you asked the question about mobile phones, you know, the smartphone demand overall from consumers point of view is really going to be the same. I mean, consumers are going to be buying the phones that they are going to buy, you know, based on the features, the new models. All of that will be bought. There may be some share shift that may be occurring between the various suppliers of smartphones. And as you know, we are well engaged with customers, you know, across the smartphone ecosystem as a supplier to them. Of course, you know, Huawei was our number one customer. We continue to engage with, you know, other customers as well. And, you know, we have had growing presence with those other customers. And we'll continue to look for opportunities to best optimize our business, while always, of course, continuing to comply with U.S. laws and regulations. And for that matter, we always comply with laws and regulations in all countries that we operate in.

Thanks. And then I just want to ask you on the cloud data center, obviously an important segment, and you did have some encouraging comments. Just kind of curious on that pace of recovery maybe versus what you had thought a quarter ago, just kind of the health of the channel and the pace of recovery there.

Pace of recovery for cloud and data center. I mean, as we said, I think, you know, cloud customers as well as several other customers had operated with high levels of inventory in the – starting late last year and, you know, through the course of first half of this year, those inventory levels have been largely worked to normal levels except for in enterprise, as we noted in our prepared remarks. And, you know, we look forward to robust growth in fiscal fourth quarter in the area of cloud. And, you know, we are, of course, continuing to broaden our product portfolio as well with solutions such as NVME solutions. And that will bring us bigger opportunities in the future as well. Thank you.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and have a wonderful day. You may disconnect your lines at this time.