Good day and welcome to the MoSys Second Quarter 2015 Financial Results Conference Call. At this time, all participants are in a listen-only mode. At the conclusion of today's conference call, instructions will be given for the question-and-answer session. [Operator Instructions] As a reminder, this conference call is being recorded today, Wednesday, July 22, 2015. I would now like to turn the call over to Beverly Twing of Shelton Group Investor Relations. Beverly, please go ahead.

Thank you, Karen. Good afternoon, everyone. Joining me on today's call are Len Perham, MoSys' President and Chief Executive Officer; and Jim Sullivan, Chief Financial Officer. Before we begin today's discussion, I would like to remind everyone this conference call will contain forward-looking statements based on certain assumptions and expectations of future events that are subject to risks and uncertainties. Such statements are made in reliance upon the Safe Harbor provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which include, but are not limited to, benefits and performance expected from use of the Company's ICs and embedded memory and interface technologies, expectations concerning the Company's execution and results, product development, achievement of IC design wins, timing of shipments of the Company's ICs, predictions concerning the growth of the Company's business and future markets, and business prospects, strategies, objectives, expectations, or beliefs. Forward-looking statements made during this call are subject to the risks and uncertainties that could cause actual results to differ materially from those projected. Additional information concerning factors that could cause actual results to differ materially from any forward-looking statements made during this call are contained in the Company's most recent report on Form 10-K filed with the Securities and Exchange Commission, in particular in the section titled 'Risk Factors', and in other reports that the Company files from time to time with the Securities and Exchange Commission. MoSys undertakes no obligation to publicly update any forward-looking statement for any reason except as required by law, even as new information becomes available or other events occur in the future. Thank you for your attention. I will now turn the call over to Mr. Len Perham, Chief Executive Officer of MoSys. Please go ahead, Len.

Thank you, Bev. Good afternoon, everyone, and thank you for joining us. On today's call, I'm going to review second quarter activities including our success winning new designs, our robust sales funnel, and our product development activities. That said, Jim will discuss our financial results, and following those remarks, we'll open the call for your questions. We continued to execute reasonably well across all facets of the business in the second quarter of 2015. Quarter two design win activity not only expanded our customer base but also increased MoSys' market footprint across multiple geographic regions, and our goal of doubling design wins year-over-year remains well within reach. The first six months have been quite satisfying in terms of design wins. Shipments and IC revenue more than doubled sequentially and the backlog was up significantly. Though we are very gratified to see both shipments and backlog moving up into the right, we have not yet hit numbers significant enough for Jim and I to say that we are past the inflection point. This is very encouraging, very encouraging indeed, but not yet totally satisfying. We made reasonable advances on our new product development for both the Bandwidth Engine and the LineSpeed product families during the second quarter as well. Now let me provide a bit of color on our design wins. We expanded our design win count in quarter two although we did not achieve double-digit design wins as in each of the previous two quarters. Quarter two wins do represent increased traction across a variety of applications ranging from Data Center Edge appliances to routers and switches. Some notable highlights of our quarter two wins might include; we brought onboard three new Bandwidth Engine customers, all BE2 by the way; we secured additional wins with our existing Tier 1 customer…

Thank you, Len, and good afternoon everyone. During the course of my comments, I'll make several references to non-GAAP numbers. Unless otherwise indicated, each reference will be to an amount that excludes stock-based compensation expense and intangible asset amortization. These non-GAAP financial measures and a reconciliation of the differences between them and comparable GAAP measures are presented in our press release and related current report on Form 8-K, which was filed with the Securities and Exchange Commission today and can be found at the Investor Relations section of our Web-site. Now let’s review our second quarter financial results. Total revenue was $1 million, compared with $0.8 million in the first quarter of 2015 and $1.8 million in the second quarter of 2014. Product revenue from the sale of our integrated circuits was $0.5 million in the second quarter of 2015, compared with $0.2 million in the previous quarter and $1 million in the year ago period. Royalty and other revenue for the second quarter of 2015 was $0.5 million, compared with $0.6 million in the previous quarter and $0.8 million in the year ago period. Royalty and other revenues primarily comprised of royalties received from semiconductor customers whose products include our IP. GAAP gross margin was 43% in the quarter compared with 69% last quarter and 42% in the year ago quarter. Gross margin declined sequentially primarily due to increased shipments of our integrated circuits. In terms of our operating expenses for the second quarter, total operating expenses on a GAAP basis were $7.3 million, compared with $8.5 million in the previous quarter and $7.9 million in the second quarter of 2014. Total operating expenses included $0.8 million for amortization of intangible assets and stock-based compensation expense. Research and development expenses were $5.8 million, as compared with $6.9 million in…

[Operator Instructions] Our first question comes from the line of Gary Mobley from Benchmark.

Thanks for fielding my question. I ask this question typically every quarter, but the issue still persists and that is negative gross margin or product revenue. I'm just hoping that you can once again clarify why you guys are still operating with a negative gross margin on the product revenue front and what it takes to get it to your optimal level?

So basically Bandwidth Engine 2 is 60% or better and I would say 60% or 65% gross margin product, and right now the volumes are very, very low, and you're just traveling in noise right now, Gary. I haven't taken the time to look at it very much Jim, but right now when you go look at our back-end, you see all kinds of R&D guys all over it, making sure everything is just exactly where we want it to be. Because the product is running so fast and is so sophisticated, we're still learning about it. There's various customers who would like it to behave one way or the other. It's internally enormously configurable. So I'm going to say that we still make lots of investments in the product from an engineering point of view. You really need to be running a consistent thousands of units per week and thousands and thousands of units a week is in the case of that product that's $100,000 per block, because it's a $100 product in rough terms. Even though I could get really excited about the negative gross margin, where we are right now is just the beginning of the ramp and not what I’d call the inflection point yet. It wouldn't be the right use of time for me to call everybody and beat them up and say, we're going to take a sharp pencil to cost yet, it's not the key thing. There's a lot of cost coming out of the backend flow where in some cases automating, in some cases [redoing] [ph] some of the backend operations, in some case reducing production burning times, just across a wide front things are happening, and frankly even though it's a pain in the neck and I appreciate that you ask me every quarter, it just isn't a high priority item with me. Jim, you may want to add something to that? It's probably high priority item with Jim.

Indeed it is. I think you covered it very well. And I think the other thing was that some changes to that backend flow and bring on new handles, et cetera, that we expected to happen in the first half of the year were delayed until the second half of the year. So we're working on bringing those up to reduce time. I think the other thing too is we probably mentioned in the past, as we also adjust test times, we have to run lot through with the new reduced testing, et cetera, and they could perhaps have lower yield which results in period costs of flow through COGS.

Okay. I noticed that your accounts receivable were up sharply at the end of the quarter. Is that a function of the late shipment in the quarter of product revenue? I also noticed your inventory was up substantially sequentially, I don't know what sort of inventory turns you were targeting there but is that indicative of $1 million plus revenue in product sales in the third quarter?

So we'll be making operations comment, then Jim is the guy who should answer, Gary. I'm going to say that our early guys ramping, every one of them has been receiving more on a weekly or monthly basis than his original request. In other words, maybe they booked some number of months, and then they call it all into the first month. So, I just reviewed this last week with a corporate vice president of a reasonably large Tier 1 outfit, and basically there's a lot of gameplay that goes on with Board stuff that is not worth talking about on this call, however we've been shipping to more than original orders having – and again, we're just not at the point yet where I feel that we're big enough to sit down and say, you’ve got to take a hard line on giving these six months a backlog to look at. And so, bottom line is, there's some efficiency, but I don't think we had any shipping late last quarter phenomenon and I think we're just shipping when we get the orders and they get pulled in and we're shipping all these as much as we can. Jim, maybe you want to comment on that?

Yes, I would agree with that. First off on the accounts receivable, I wouldn't say that it was backend loaded late in the quarter. It's just obviously increased shipments certainly up over end of December and up over Q1, and a lot of those customers do have 60 day terms. So it takes some time to get the cash in, so just a function of higher volumes and waiting to collect the receivables. With regard to the increase in inventory both over year-end and we were up certainly over March 31, that's a function of ordering more BE2 for the increased ordering volumes and increases in our backlog. We were certainly up significantly from the 180,000 of IC revenue in Q1 to close to 550,000 in the second quarter. I can't say yet – I don't have the backlog that I'd like to say that we could break that seven-figure number in the third quarter, but there's still plenty of time left in the quarter but right now the backlog is still not enough for Q3 to hit that level.

Okay. Your royalties which I understand is not core to the ongoing business but has been declining for the past several quarters and presumably there will continue to be some royalties just given their residual nature of those licensees and those license relationships, should we model IP royalties continues to decline or perhaps have we hit sort of a steady-state right now?

I think they'll stay steady for the rest of this year, but I show them in my models declining next year and basically it's more just a function of the new calendar year. I don't have specific visibility. I know historically we tend to have done better in our Q2 revenue because one of our customers does an internal true-up, and disappointingly this year this true-up resulted in a much smaller adjustment in revenue on our side. Right now, when I look out, there's probably one licensee that I can see turning on, it's been a long time coming but I expect that product to be fairly low volume, so I don't count too much on it. But net-net, I show it kind of – staying steady this year but declining next year.

Okay. And last question for me, R&D expense was the lowest it's been I think in years at least on a quarterly basis. And so, I'm sure that's indicative of the tape out of Bandwidth Engine 3 falling out into Q3, but perhaps your other tape-outs as well were low for the quarter. Should we assume that there's going to be sort of a lot of them in the third quarter and thus a sharp increase in the R&D line?

Yes, so the R&D was down quite a bit quarter-over-quarter, and if you look at the GAAP numbers, it was down $1.1 million and probably $400,000 of that or so, close to $400,000 was stock-based comp. There was another couple of hundred, $200,000 drop-off of amortization. Then we had lower personnel and consulting costs as we reduced in -- primarily consulting positions, a couple of employees left, we didn't replace. And then just with the activity, there were lower backend costs. When I look out to next quarter, we will have the Bandwidth Engine 3 tape-out in there, so I'll see it on a non-GAAP basis up pretty significantly, over say $2 million. We'll also start to incur some backend costs that didn't happen in Q2. The cost, as I mentioned earlier in your question on margin related to bringing up some of the new backend equipment, there might be some higher depreciation as we deploy some assets where the purchases didn't happen. I think Q3, there's a potential for – I'm sorry just looking out to Q4, the potential for some LineSpeed tape-out in that quarter, so that would be up over Q2 as well. Tough to say based on, I think we'll be able to reduce some extent after BE3 tapes out, so I don't have the full visibility on Q4, but I think we're going to see expenses up in the next two quarters of the second half.

Okay, all right, thanks guys.

[Operator Instructions] Our next question comes from the line of Krishna Shankar from ROTH Capital.

Congratulations on the backlog and the design win momentum. Is most of the sequential revenue increase for the June quarter and the upcoming September quarter related to BE2 revenues or is it a mix of BE1 and BE2 revenues?

It's primarily BE2 revenue, and just sort of a rough rule, we had a certain number of wins in the first six months of 2013 and as you come down the road about 18 months you should expect to see those starting to ramp and those are starting to ramp and the first half of '13 would be two wins.

Okay. And then just given the increasing momentum, you're seeing some customers pulling orders and others sort of earlier design wins go to production, would that imply that we see kind of a step-up in Q4 revenues or is there still lack of visibility or would you expect Q4 revenues for BE2 to tick up significantly?

It would be my humble opinion that Q3 and Q4 revenues will be up and backlog will be up, I just can't tell how steeply. So the one thing I can't say is whether I'll be satisfied that the backlog is adequate to say we've got through this inflection point but it seems to me that across the reasonable customer front now, a number of people are behaving in a way that I'm familiar with, so I think we're moving up into the right a little bit, I just can't tell how steeply yet, I need to see it at least a quarter or two more, Krishna.

Okay. And then on the additional BE2 design win you had with the existing top-tier OEM, can you give us some color on that, is that within sort of a different product line or another socket within a platform, can you give us something for what the new design win with existing OEM is, and then also the two new Data Center and Edge customers?

Actually I think that the new design win with that Tier 1 guy which may be either the sixth, seventh or eighth board that he's put us on now is I believe it's an Edge router I think. It's not on the edge of the data center nor in the data center. And being there it's an 820. That would imply that they are off-loading something onto it, maybe statistics or something that it's very good at and taking some load off probably their FPGA that's been used as a network processor or the packet processing engine if you will. And then as far as the edge of the data center is concerned, various security appliances and threat prevention appliances if you will that sit on the edge of the data center seeing the traffic come through, need to do very, very high-speed access and do very, very deep packet inspection, and again it's something that can be offloaded from a CPU or an NPU or an FPGA or an ASIC and to a Bandwidth Engine and done very, very efficiently. So it was another of those players and it was a very gratifying win because it gives us a couple of the key players in that space now.

Great. And then my final question on LineSpeed, you talked about getting a design win with a [military] [ph] or aerospace customer, is that a product that you already have or will this take an iteration of a product that you have, or is it something that you'll ship for revenues with an existing LineSpeed product?

I think it's a product that we already have and I think it's not necessarily a high-volume win. We believe that some of it falls to high-speed processing that military guys struggle with. Our products are ideally suited to help him deal with and so a quarter or so ago we started chatting with them and we found considerable interest. We hope to build – point to more of those wins in the next couple of quarters.

Okay. And, Jim, the $2 million incremental, is that incremental to the R&D run rate in Q2 because of the tape-out or is that the total, I mean can you just elaborate a little bit on the additional expense in Q3?

That is the incremental of the Bandwidth Engine 3 tape-out, the tape-out of the first wafers would be in the $2 million plus range.

Okay, thank you.

Thank you and that concludes our question-and-answer session for today. I would like to turn the conference back over to Mr. Perham for any closing comments.

So thank you very much guys, ladies and gentlemen for tuning in and listening to us today. Certainly comments on this quarter, certainly it's taken us longer than we anticipated to get here. In the hi-tech business, if it takes longer it costs more. However to those who've asked me this question in the past, we're seeing an expanding number of applications that is served well by BE2. I think BE2 is going to do better than a lot of folks even inside of our Company anticipated, and I thought for a long time it would serve a very valuable purpose when performance levels get to the point where they needed it. So if we look at the expanding number of applications served by BE2 and if we look at the amount of activity in our sales funnel right now, there's an encouraging amount of interest in what I'm going to call our embryonic LineSpeed family. We have a lot of really great elements and to some degree we're our own worst enemy and we're trying to get them all out at the same time and we have to prioritize ourselves and get a bit more organized about how we get them into the sales catalog. This beginning ramp of revenue that's now been a couple of three quarters in a row and this growth in backlog for a couple of three quarters in a row is very, very encouraging. We need to see it jump up to much bigger numbers and then I'm going to tell you that I'm convinced that we're now going to be concerned of what's the slope of the expansion as opposed to are we really seeing the expansion and having our customers move into production. All of this taken as a whole is encouraging. We're on a path that's familiar and it's what we would have said, it's taken longer and it's cost a bit more, nothing good about that. We're committed to driving some shareholder value for you guys over the next 24 months and we certainly appreciate your patience very, very much and thank you for calling in and listening to Jim and I give you an update on your Company. Thank you very, very much.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program and you may now disconnect. Everyone have a good day.