ASE Technology Holding Co., Ltd. (ASX) Q2 2007 Earnings Report, Transcript and Summary

Good day everyone and welcome to ASE Incorporated Second Quarter 2007 Earnings Conference Call. For the duration of the presentation all lines will be placed in listen-only mode. A question-and-answer session will follow after the main presentation. [Operator Instructions]. And I would like to hand the call over to Mr. Joseph Tung, and I will be standing by for the Q&A session. Thank you sir, you may now begin.

Thank you. Good morning and good evening everyone. Thank you for attending ASE Q2 2007 earnings release conference call. Let me jump right in to it. Please turn to page 1; where we see the sequential comparison of Q2. Second quarter was actually a very good quarter for us as our consolidated revenue grew 11% sequentially to NT$32.4 billion due to across the Board volume increase. Gross profit went up 28% sequentially to NT$6.4 billion and operating profit grew 40% to reach NT$3.9 billion. After deducting non-operating expenses of NT$291 million, pre-tax income amounted to NT$3.6 billion. Net income went up 55% from previous quarter to NT$2.6 billion after recognizing tax of NT$865 million and minority interest adjustment of NT$156 million. EPS for the quarter was NT$0.52, up from NT$0.36 a quarter ago. Individually, assembly revenue increased by 11% and test revenue by 9%, and given the higher assembly volume in direct sales material revenue grew 19% in the quarter. Utilization rate of assembly was around 85% while test utilization was at around 80%. ASP in the quarter was relatively stable with only 1% to 2% decline on selective customers. Q2 profit margin exceeded our guidance, gross margin climbed back from 23.7% to 27.4% due to overall higher volumes. Material cost stayed flat at 27.3% of sales while depreciation and labor cost as a percentage of revenue decreased to 17.6% and 14.7% respectively comparing to 18.2% and 16.2% a quarter ago. Total depreciation expense plus machine rental increased from NT$3.84 billion a quarter ago to NT$4.1 billion given additional CapEx that we accumulated in the past two quarters. On the operating expenses, R&D and selling expenses both went down as a percentage of sales to 3.1% and 1.1% respectively comparing to 3.3% and 1.3% a quarter ago. G&A on the other hand went up to 6.6% from 6% as we recognized 2006 Director compensation and employee bonus of roughly NT$260 million at subsidiary levels. As a result total operating expense as a percentage of revenue inched up from 10.6% to 10.8%. With higher gross margin and relatively flat operating expense ratio, operating margin improved from 13.1% a quarter ago to 16.6%. Actually if taking out the additional bonus and the compensation of the Directors, the adjusted operating ratio should be lower to 9.5% of sales and operating margins should have improved to 17.9%. Q2 total non-operating expenses was NT$291 million, of which net interest expense went down from NT$353 million to NT$305 million due largely to interest bearing debt... lower interest baring debt outstanding. Foreign exchange gain and valuation gain was NT$152 million in the quarter due to appreciation... I am sorry, due to deprecation of U.S. dollar denominator liabilities. Long-term investment gain of NT$65 million was reported in the quarter which consists of NT$50 million of investment income from USI, NT$16 million income from Hung Ching Construction and NT$600,000 loss from Hung Ching Kwan. There was no one-time charge recognized in Q2, comparing to impairment loss of NT$179 million on disposing shares of TSN [ph] in Q1. EBITDA for the quarter was NT$8.1 billion, up substantially from NT$6.6 billion a quarter ago, as a result of improved profitability. EBITDA margin went up from 31.4% a quarter ago to 34.6% in quarter two. Please turn to page 2, where we see the year-on-year comparison. Comparing to same period last year consolidated revenue went down 11% with assembly, test, and material each declined by 10%, 17%, and 2% respectively. Gross margin went down from 28.5% to 27.4% due to lowered volume. Operating profit also came down from NT$5.4 billion to NT$3.9 billion with operating margin declining from 20.7% to 16.6%. Net income came down 65% comparing to same period last year to NT$2.6 billion where in the same quarter two of 2006, the net income was NT$7.3 billion. But netting out the fire insurance claim that we have recognized in Q2 last year, the actual net income should be NT$3.12 billion in quarter two, 2006. Please turn to page 3, this chart shows the revenue and profit trends in the last six quarters. As shown up to two consecutive quarters of revenue and margin declines we are seeing up turn starting in Q2 and we are expecting this up trend to continue in second half of 2007. The next page we look at packaging operations. Revenue in Q2 of packaging revenue grew 11% and gross margin improved from previous quarters 21% to 24% due to higher revenue and improved gross margin at GAPT. Utilization in the quarter came back up to 85% level and expected to improve further in Q3. Q2 CapEx of U.S. $46 million... Q2 CapEx of U.S. $49 million was primarily for capacity ramp up in Taiwan, China, and also for Power ASE. At the end of Q2 we have 7040 wire bonders, down 10 units from last quarter. We currently have 80K 8-inch wafer bumping capacity running at full capacity and 15K 12-inch bumping running at around 60% utilization. In Q3 we are expecting assembly revenue to go up a high-teen percentage and therefore you should see gross margin to improve to around 26% levels, higher than Q2 CapEx is planned for Q3 after we ramp up our capacity to meet the increasing demand in second half. Page 7. In Q2, revenue from advanced substrate and leadframe based packages accounted for 85% of total packaging revenue while bumping plus flip-chip packaging accounted for 10% of total assembly revenues. Moving now to page 8, taking a look at the test operations. Test revenue grew 9% from last quarter primarily due to higher volume with relatively stable ASP. Gross margin went up from 29% to close to 35% reflecting the high marginal contribution of incremental test revenue. Test CapEx in the quarter amounted to U.S. $19 million in the quarter mainly for capacity replacement in... and ramping up DRAM testing capacity at Power ASE. Test utilization rate in Q2 was around 80% blended and during Q2 we added 58 testers while we have hired 38 testers making total tester count at 1385 units. Q3 test revenue is expected to grow from Q2 at high single digits and given its higher operating leverage impact on gross margin should be higher and we are therefore estimating a few percent pick up in gross margin, test gross margin. And same as assembly we are increasing CapEx in Q3 to support the ramp up in second half. Page 9, looking at test revenue break down, 76%was our final test and 4%was of engineering test, while wafer sort accounted for 20% of total. Page 10, material operation; in Q2 our material revenue actually went up more than assembly revenue growth at about 19% growth which is due to higher growth in direct sales. Consequently growth margin went up from 18.3% a quarter ago to 20.7%. As we are holding our flip-chip capacity of 1 million units per month in Chung Li and standard PBGA substrate capacity of 15 million units per month, no CapEx for additional capacity was spent in the quarter. Q3 revenue should continue to grow at around 20% as we further expand direct sale to the end customers. Gross margins therefore should improve to around 24% to 25% level. Incremental addition to current PBGA capacity is planned for Q3 requiring small amount of CapEx in the quarter. Page 11 of balance sheet, our cash and cash equivalents stay flat at NT$26.7 billion, interest bearing debt decreased from NT$42 billion to NT$39 billion even lonely payment made in the quarter. With the above, leverage ratio dropped from 0.19 to 0.16. Current ratio dropped to 1.54 or 1.72 a quarter ago due to NT$7.3 billion increase in other current liabilities which is the amount that we are putting in reserve for upcoming cash dividend payout. As we expect strong cash flow momentum continue in to Q3 and Q4, we will continue to use internal cash flow to pay down our debt. Page 12, I think looking at CapEx and our EBITDA. Q2 CapEx was U.S. $69 million of which U.S. $49 million was for assembly and U.S. $20 million for test and only 200K for material. At this point we are still budgeting our full year CapEx at U.S. $350 million to U.S. $400 million level. Page 13; our customer break down. You can see from the chart our top five customers accounted for 27% and top ten customers accounted for of 44% of sales. At this point, no customer accounted for over 10% of our revenue. Page 14, looking at market segment exposure, in the quarter, in terms of segment performance all three sectors performed relatively stable with minor changes. Communication continues to account for the biggest portion of our revenue taking 45% and in Q3 we expect all three sectors to have similar pace of growth and therefore not much change from Q2 exposure distribution. Finally let me give guidance for our Q3. Searching from our customer forecast in 2007 we continued to expect sequential growth on a per lead basis and specifically for Q3 we expect our top line grow at around 15%. And with that extended revenue we expect our gross margin to improve to around 29% level in Q3. As I mentioned earlier on, our full year CapEx is still being budgeted around U.S. $350 million to U.S. $400 million and we are expecting Q3 CapEx to be higher than what we have spent in Q2. We will continue to focus on margin expansion rather than revenue growth as such improving operation efficiency and cost structure, controlling CapEx spending, and ramping of our DRAM China and mature operation will be the key focused areas. Now, with that I will like to open the floor for questions, thank you. Question And Answer

Thank you sir. [Operator Instructions]. Our first question is coming from David Woo [ph]. Please go ahead.

Yes, good evening. Can you talk a little bit about two things; number one, you mentioned about pricing being still down a bit given how high finding utilization rate will be for Q3, do you think pricing will be more stable than it was in Q2 and what kind of lead times are your customers giving you these days or are you quoting to your customers?.

Lead times in terms of --

The... if the customers... I will say, how about your delivery lead times, are you extending lead times or are the lead times staying stable and what are those lead times.

The lead time is quite stable at this point. Although going into Q3 because of the volume ramp up being able to extend it somewhat and in terms of --

Pricing, Q3 relative to Q2.

Right. In terms of pricing, I think we will continue to have a stable pricing environment going into Q3, except there is a bit more of a pressure on the DRAM packaging or tests. So, all in all, I think we have come through a very difficult period in holding on to our prices particularly in Q1 of this year. So, I think we've managed that very well. In Q2 managing the price to have only about 1% to 2% in the quarter, and going to Q3 and even into Q4 we continue to see a very stable pricing environment. If there is any pressing pressure, it didn't come or it's not likely to come from a competition or more from the regular pricing negotiation with our customers directly.

Oh, I see. Do you have any visibility at this point from the customer standpoint into Q4?

We do have six months more in forecast from our customers. So, we do have some feel of Q4 as well.

Would Q4 be sequentially stronger, I assume Q4 will be up but I was wondering whether the strength would be as high as Q3?

No, I think Q4 typically the pace of the growth will start to come down a bit. At this point we will continue to see fairly healthy sequential growth in Q4 as well.

Thank you very much.

Thank you sir, does this conclude your questions.

Yes.

Thank you.

Our next question is coming from David Duley, [Merriman Curhan Ford]. Please go ahead.

Yes, good morning and good afternoon. A couple of questions from me, could you talk a little bit more about, you mentioned more direct sales in your materials business, I was wondering if you could highlight that a little bit and talk a little bit more about that? Another just housekeeping question, could you address why the utilization rates of the 12-inch bump lines are so low? And then final question from me or I might come back for a follow up, why would the assembly grow higher than the test growth in the quarter?

Okay. In terms of direct sales of material, right now in quarter two we are looking at NT$609 million direct sales to the customers which is the sales that does not go through our assembly operations. We are selling the material directly to the end customers and that represents roughly 30% of the overall material revenues that we have. And in terms of 12-inch bumping I think the, right now most of the... more of the demand is really for the so called PS BGA which is the smaller sized BGA's, our CS, we will have CSP's that requires the 6-inch and 8-inch bumping rather than 12-inch. So right now we are running at full capacity for that and but for 12-inch for the flip-chip it is less of a demand there. On the bumping we are expecting to expand that capacity during the first half of next year timeframe to meet the growing demand. What was the last question you have I am sorry.

Yes, the last question was why was the assembly growth in the quarter higher than the growth in the test business?

I think that most of the growth in Q2 as well as in to Q3 were from some of the customers that normally don't do test outsourcing, more for assembly and there are cases as well that we believe the pricing for the test service that has been out for is too low and that we would not be willing to take on that business. And so in the second as well as third quarter we will continue to see the assembly revenue taking up more percentage of the overall revenue.

Okay, I noticed on your customer listing at least two new customers that showed up there, that I haven't seen previously. Maybe they were there a while ago but I noticed Zoran and Powerchip, could you talk a little bit about those two customers and why they're in the top 10 this time?

Okay, Zoran is a business that we are running out of our newly acquired China operations JBT [ph]. So the volume ramp up there has been quite substantial and has become one of our top 10 customers. And in the case of Powerchip it is really the effort from the JV that we have with Powerchip to set up the DRAM operations and that operation has been running very smoothly actually we started from basically zero to right now. In July we are shipping about 22 million units and that part of the business will continue to grow in the second half. By year end on a monthly basis we are expecting to ship around 35 million units. So Powerchip has become a fairly important customer of ours. And right now we are seeing the dealing part of the business represents about 3.5% of our overall revenues and the ratio should continue to grow into Q3 and Q4.

Where does that show up on those little pie charts that you show as far as the in markets?

That will be under PC.

Okay, great. Thank you.

Thank you.

Thank you sir. Our next question is coming from Mr. Frank Wang, [Morgan Stanley]. Thank you.

Hi, good evening. Can you talk about the efforts you are doing in the flip-chip CSP area and how do you expect that business to trend going forward?

I think, one of the key area will be flip-chip or handsets that we are expecting the volumes to start to... we are seeing customer migrating from the existing package to flip-chip type of packages. But I think the real volume would... we will start to see some real volume probably in the later part of Q4.

How big of a revenue contribution would you expect for [indiscernible] ramping maybe later part of Q4 or what will you perceive of that going forward?

I think it will arrange from 12% to 15% of our revenue in Q4.

Okay, thank you very much.

Thank you sir. Our next question is coming from Chitra Gopal, [Nomura International]. Please go ahead.

Hi, just wanted to understand the assembly margins in the third quarter as you said you are running at 26% gross margin for assembly which is back to the levels that you saw mid of last year so that's good. But I was trying to understand what are the levers for this and what is the target that you can see yourself hitting in the near future and is it coming mainly from your... is GAPT your main drive in terms of margin expansion or where do you see these margins going?

Well, I think in terms of driver for overall margin improvement it can come from few areas; one, is of-course we will continue to ramp up our material operations and the more that we supply ourselves, the more margin that we get to keep and that will improve the overall margin for us. And also on the material operations itself, as we continue to enlarge the scale as well as improving on yield, that will help the material margin itself and that will have a direct contribution to our overall margin as well. And also going in to China which is a new operation that we acquired, beginning of this year, it is still going through some sort of a learning curve as we move out management in to the operations. And at this point the margin is still somewhat below the group's average and we do see a lot of potential for improvement going forward as we extend the scale as well as streamlining the operations there further. And also on the DRAM business, we're actually seeing above good average margin and we're confident that throughout the year the margin in that operation will continue to actually outperform the group overall. So, we are seeing margin improvement from all three segments of our business.

Okay. And just to follow-up on that, you said that the sales... you can increase the sales efficiency ratio for substrates and when I look at it right now, its about 54% which is probably one of the highest ratios that you've ever had. So, I was wondering where do you see the listed number and then I have a follow-up?

Well, it really depends on what kind of progress that we've done. Actually, if you look at our Q2 54%, as a part of the reason of that is we are increasing in the DRAM business which we supply our own substrates. And as we continue to grow that part of the business; the ratio of our self-supply ratio should continue to improve going forward. Having said that I want to mention that as well, we have been making a pretty good progress in selling materials directly to the end customers, aside from supplying our own DRAM we are also selling the substrates to some of the major DRAM houses as well, again the new inroads to better operations.

Okay and when I look at your substrate capacity, so far it has been roughly flattish and you had talked about getting that up to about 68 million units by the end of the year, but you haven't really spent much CapEx so far in substrate, so I was wondering if that's still on track?

No, we are saying that in terms of standard PBGA we are planning to grow that capacity from currently 50 million to about 60 million units by end of the year and that will require not a whole lot of CapEx because we are basically investing to release the bottleneck. So we are looking at around anywhere from $15 million to $20 million investment or CapEx to increase that capacity.

Okay, thank you.

Thank you.

Thank you. Our next question is coming from Pranab Sharma [ph]. Please go ahead.

Thank you for taking my questions. I have couple of questions. First one is, could you give a little bit of more color on China operations like what is the revenue contribution you had from China on last quarter second quarter and how you look at in second half it will contribute?

Okay. The China operations in quarter two represents about little over 6% of our overall revenue and we are expecting to continue to extend that and going to Q3 we are looking at about 7.5% coming from our China operations.

Okay. The DRAM joint venture... the DRAM business you have a joint venture with Powerchip, do you have any plan to spin off that company sometime?

I am not sure what do you mean by spinning at all.

In your separate listing... so it is a separate listing?

No, it's not listed but it's a separate company.

But do you have any plan to go for a separate listing product you need?

Well in due course we will look at the possibility of listing that separately.

Any particular financial target you will look at before you are listing that companies, say your revenue or profit has to reach particular level?

No, we don't have a fixed schedule at this point.

Okay, then could you give us a little bit of your capacity expansion target for the third and fourth quarter, basically how many more wire bonders and testers you are going to add in the third and fourth quarter this year

Lets start with... lets focus on third quarter for the time being. I think, what we have in plan is to add about 400 bonders in quarter three with the majority of this being added in our Hung Ching and Chung Li factory and the remaining in GAPT mainly China operations. In sense of testers we are looking at adding about 20 testers in the quarter.

Okay, thank you very much.

Thank you sir.

Thank you.

Our next question is coming from Szeho Ng, [BNP Paribas Peregrine]. Please go ahead.

Hi, Joseph, great quarter. One quick question, could you talk about maybe the gross margin differential between your separate out sales and that's for their internal consumption?

Well, we sell to our internal operations at market price. So the margin among the two businesses is actually similar. There is not that much of difference there.

Okay, I see. And could you talk about installed flip-chip capacity right now in terms of unit per month?

You mean the build up substrate?

Right. No, not the substrate but assembly packaging part.

I don't have that number at hand. I will need to check it up in terms of units count right?

Okay. Sure, yes. And finally could you talk about a monthly about the new trends you see in third quarter and which month of the year you think would be the peak for the year in terms of monthly revenue?

I think in quarter three it will be a step up, kind of a pattern on a monthly basis for Q3 and we are sure at this point when exactly on a monthly basis the revenue will reach its peak. It could be in September, anywhere from September to November.

I see. Okay. Thanks very much.

But looking at Q4, we continue to see a sequential growth on a quarterly basis.

I see. Okay, thanks.

Thank you.

Thank you sir. [Operator Instructions]. Our next question is coming from Roxy Wong, [Bear Stearns]. Please go ahead.

Hi, just some housekeeping questions. Regarding your operating margin, it seems the second quarter was affected by some of the bonus payments, stuffs like that, how should we model your operating expense going into the third quarter.

Well, that was a one timer which is the employee bonus and directed compensation that we need to record. Basically these expenses were incurred in the subsidiary level. According to the ROC GAAP we have to record it. So that is a one timer, so it need not to be budgeted or forecasted in to the following quarters.

So going in to the third quarter, is that an indication of how much percentage of sales?

Right now we... if we look at Q3 we are expecting the operating expense to account for anywhere from 8.5% to 9% of revenues.

Okay, thank you. And the second thing is about the tax rate. You pay a substantial amount of tax in the second quarter, how to remodel tax... effective tax rate going into the second half?

I would suggest that we take a 15% on tax. And the reason for the jump in our income tax in the second quarter was because the... we have... we need to record the tax that impose on the retained earnings, the 10% of tax on the retained earning at the subsidiary level which amounts to close to NT$300 million and that... NT dollars, so that has some impact on the overall tax in the quarter. That is a one time tax payment.

If this is the case then, the second half if we model 15, then also it is pretty substantial. I mean it's probably the highest that we have seen, I mean, compared to the past few years?

Yes, because the government has imposed the minimum tax of 10% and the there will be some tax credits. There will be not as much as tax credits as before. So, on a conservative front we are actually looking at about 15... actually the range can be from 12% to 15% but we are taking a more conservative approach on that.

Okay. Thank you.

Thank you.

Thank you sir. We have a follow-up question from Chitra Gopal. Please go ahead.

Hi, this is Chitra from Nomura again. In the Taiwan meeting you did mention that you would be... because of the change in liquidation [ph] starting '08, there would be about 10% to 15% dilution in terms of net profit owing to the employee bonuses. I was wondering could you elaborate on that, are you considering paying out 100% in terms of cash like spur or how are you thinking on that currently?

Well, I think it doesn't... whatever we decided to do, I think the most important thing is that we need to remain competitive in this area. So, there could be a combination of cash and stocks pay-outs. But net, net we want to manage it to the level that it will create no more than 15% dilution to the overall net profit of ours.

Okay. And just coming back to what you had said last time, that your CapEx budgeted for Power ASE is about 100 million and GAPT is about 40 million, is that still on track?

Can you give me that number again?

100 million for Power ASE and about 40 million for GAPT, if I remember it right.

Let me take a look at it. Hold on a second. In terms of Power ASE we are first we are... first time we are above $50 million and that too in CapEx. And I think in the second half the CapEx will be smaller and we are looking at overall $70 million to $75 million of Power ASE.

Okay.

And for GAPT, we are actually looking at about $100 million.

$100 million, so that is higher than what was originally planned. And just wondering, how do you see GAPT in terms of your 2008 plans, you are obviously among... GAPT is pretty large in terms of scale to you guys now, how do you see further investment in that in terms of 2008?

How fast we want to grow it.

Yes, what kind of CapEx or what your customer is telling you?

We want to grow it as fast as we can I guess. But overall I think... in terms of CapEx I would expect that for next year the CapEx level will be higher than what we will be spending.

Of course. I am just trying to get sense that, okay if in terms of margins assuming you move your lead frame business from Taiwan towards GAPT, what is the apple-to-apple comparison, what are the margins in lead frame in China as opposed to Taiwan?

No, I want to clarify on this. We are now moving all of the lead frame business over to China. We are saying that our main focus in China going forward will put a lot of resource on lead frame based packages which is we believe is more suitable for China operations. At least the ongoing lead frame business that we have in other sites we will maintain at the respected price without creating any disturbances for our customers. In terms of margins, I think within a couple of quarters we should be able to expand the margin there to the group's average levels and going forward as we continue to expand the operation there as we reach a better economy of scale the margins on the growth level should have further room for improvements and also on the operating level, because of the low overheads, that is required in China, we believe on the operating level it should have quite a bit of a lead against the group overall.

Okay, okay, I understand. May I have one more follow up question if I may? Just wondering on the wireless recovery, I think last time you had talked about wireless coming back to you and it does look to be growing in the third quarter, among the various segments CDMA, GSM, and Bluetooth, how do you see things looking out in the third quarter and ahead?

For the third quarter as I mentioned, all three sectors will have very similar growth. But I do want to emphasize that in the wireless and also in the communications lot we do have... we have made a pretty good progress in terms of getting market share from our competitors in some of the more important customers in that area. And we are seeing not just only the overall growth of that sector but we are also seeing volume increase from our market share gain as well.

Okay. That's very helpful. Thank you very much and again good job on the margin improvements.

Thank you.

Thank you ma'am. [Operator Instructions]. There appears to be no further questions. At this point of time, I would like to hand the call over to Mr. Joseph Tung for any closing remarks. Thank you.

Alright. Let me sum up. I think we had a very good quarter in Q2. We have reached our target for our top line growth and exceeded our target for unit margins. We expect Q3 and even second half of 2007 continue to have revenue growth as well as margin expansion. We certainly haven't reached our peak yet and we believe there are lots of areas that we can make further improvements to further expand our margins and eventually to our return. And we are... we want to stay very disciplined in terms of making our CapEx investments going forward, depending on the market conditions so that we can maintain our pricing which we believe actually in second half will continue to have a stable pricing environment, and then good discipline thus provide a very good platform for us to continue to grow our business with a healthy return. With that thank you very much for attending our conference call today and I will see you next quarter. Thank you.

Thank you and that concludes today's conference call. All lines may disconnect now and good day to you all. Thank you.