Good afternoon, welcome to Diodes Incorporated's first quarter 2018 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. If anyone needs assistance at any time during the conference call, please press the star key followed by the zero on your touch-tone phone. As a reminder, this conference call is being recorded today, Tuesday, May 8th, 2018. I would now like to turn the call over to Leanne Sievers of Shelton Group Investor Relations. Leanne, please go ahead.
Good afternoon, welcome to Diodes' first quarter 2018 financial results conference call. I'm Leanne Sievers, president of Shelton Group, Diodes' investor relations firm. Joining us today are Diodes President and CEO, Dr. Keh-Shew Lu, Chief Financial Officer Rick White, Vice President of Worldwide Sales and Marketing Emily Yang, and Director of Investor Relations Laura Mehrl. Before I turn the call over to Dr. Lu, I'd like to remind our listeners that the results announced today are preliminary as they are subject to the company finalizing its closing procedures and customary quarterly review by the company's independent registered public accounting firm. As such, these results are subject to revision until the company files its Form 10-Q for its first quarter 2018. In addition, management's prepared remarks contain forward-looking statements which are subject to risks and uncertainties, and management may make additional forward-looking statements in response to your questions.
The company claims the protection of the safe harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from those discussed today and therefore, we refer you to a more detailed discussion of the risks and uncertainties in the company's filings with the Securities and Exchange Commission, including Forms 10-K and 10-Q. Any projections as to the company's future performance represent management's estimates as of today, May 8th, 2018. Diodes assumes no obligation to update these projections in the future as market conditions may or may not change. The company's press release and management statements during this conference call will include discussions of certain measures in financial information in GAAP and non-GAAP terms. Included in the company's press release are definitions and reconciliations of GAAP to non-GAAP items which provide additional details.
Throughout the company's press release and management statements during this conference call, we refer to net income attributable to common stockholders as GAAP net income. For those of you unable to listen to the entire call at this time, a recording will be available via webcast for 60 days in the investor relations section of Diodes' website at www.diodes.com. Now, I'll turn the call over to Diodes President and CEO, Dr. Keh-Shew Lu. Dr. Lu, please go ahead.
Thank you, Leanne. Welcome, everyone, and thank you for joining us today. First quarter revenue was at the high end of the guidance, primarily driven by strong growth in the consumer, automotive, and industrial markets, complemented by revenue in Europe reaching record levels. In fact, our automotive end market reached 9% of the revenue in the quarter as we continue to benefit from our successful customer and content expansion efforts. Since implementing our automotive strategy in 2013, we have achieved a compound annual growth rate of 27% in this business, reflecting our expanded customer base, increasing pipeline of design wins, and the growing content across multiple applications. The quarter was also highlighted by gross profit dollars reaching a record, growing 33% year-over-year, twice the rate of our revenue growth, and contributing to an almost 3.5 times increase in non-GAAP earnings per share over the same time period.
Additionally, EBITDA in the first quarter reached a record $54.2 million, or 20% of revenue. The operating leverage in our business model positions Diodes to deliver increasing profit and cash flow in the coming quarters as revenue continues to increase at a faster rate than operating expense and approach our target model of 22% of revenue. Looking to the second quarter, we expect to extend our growth momentum with continued strength across our target geographies and end markets, which we anticipate will result in the achievement of new quarterly records for both revenue and gross profit. With that, let me now turn the call over to Rick to discuss our first quarter financial results and our second quarter guidance in more detail.
Thanks, Dr. Lu, and good afternoon, everyone. Revenue for first quarter 2018 was $274.5 million, an increase of 16.2% from the $236.3 million in the first quarter 2017, and an increase of 2.3% from the $268.4 million in the fourth quarter 2017. Revenue increased in the quarter with Europe achieving record revenue, mainly due to strength in the automotive and industrial end markets. Gross profit for the first quarter 2018 was a record $98.6 million, or 35.9% of revenue, compared to $73.9 million, or 31.3% of revenue in the first quarter 2017, and $96.4 million, or 35.9% of revenue in the fourth quarter 2017. The 460 basis point year-over-year increase in gross profit margin was primarily due to favorable product mix, increased contribution from Pericom products, as well as improved capacity utilization.
GAAP operating expenses for the first quarter 2018 were $71.7 million, or 26.1% of revenue, and $64.7 million, or 23.6% of revenue on a non-GAAP basis, which excludes $4.8 million of amortization of acquisition-related intangible asset expenses, $2.6 million of expenses related to officer retirement, and a $300,000 credit related to the KFAB restructuring. This compares to GAAP operating expenses in the first quarter 2017 of $64.6 million, or 27.3% of revenue, and non-GAAP expenses of $57.3 million, or 24.2% of revenue. GAAP operating expenses in the fourth quarter 2017 were $72.9 million, or 27.2% of revenue, and $64.3 million, or 24% of revenue on a non-GAAP basis. Looking specifically at selling, general, and administrative expenses for the first quarter, SG&A was approximately $47.2 million, or 17.2% of revenue. On a non-GAAP basis, excluding the officer retirement expenses, SG&A in the first quarter was approximately $44.6 million, or 16.2%.
This compares to $39.7 million or 16.8% of revenue in the first quarter 2017, and $44.7 million or 16.7% of revenue for the fourth quarter 2017. Investment in R&D for the first quarter was approximately $20.2 million, or 7.4% of revenue. This compares to $18 million, or 7.6% of revenue in the first quarter of 2017, and $19.7 million or 7.3% of revenue in the fourth quarter 2017. Combined, SG&A plus R&D for the first quarter 2018 was $67.4 million, or 24.5% of revenue. On a non-GAAP basis, it was $64.8 million or 23.6% of revenue, compared to $57.7 million or 24.4% of revenue in the first quarter 2017, and $64.4 million or 24% of revenue in the fourth quarter 2017. Total other expenses amounted to approximately $600,000 for the quarter, including a $3 million foreign currency loss, a $2.8 million interest expense.
These losses were partially offset by other income of $5.2 million, which included an insurance reimbursement of approximately $3 million for business interruption due to the KFAB shutdown. Income before taxes and non-controlling interest in the first quarter 2018 amounted to $26.3 million, compared to $2.1 million in last year's first quarter, and $20.8 million in the fourth quarter of 2017. Turning to income taxes, our effective income tax rate for the first quarter 2018 was approximately 29.6%. GAAP net income for the first quarter 2018 was $18.5 million, or $0.37 per diluted share, compared to GAAP net income of $1.2 million, or $0.02 per diluted share in the first quarter of 2017, and a net loss of $30.7 million, or $0.62 per share in the fourth quarter 2017, which included the impact of the Tax Reform Act.
The share count used to compute GAAP diluted EPS for the first quarter 2018 was 50.6 million shares. First quarter 2018 non-GAAP adjusted net income was $24.2 million, or $0.48 per diluted share, which excluded net of tax $3.9 million of non-cash acquisition-related intangible asset amortization costs, and $2 million of officer retirement expenses. This compares to non-GAAP adjusted net income of $7 million, or $0.14 per diluted share in the first quarter of 2017, and $21.6 million or $0.42 per diluted share in the fourth quarter 2017. We have included in our earnings release a reconciliation of GAAP net income to non-GAAP adjusted net income, which provides additional details. Included in the first quarter 2018, GAAP net income and non-GAAP adjusted net income was approximately $5 million net of tax of non-cash share-based compensation expense.
Excluding share-based compensation expense, both GAAP diluted EPS and non-GAAP adjusted diluted EPS would have increased by an additional $0.10 per diluted share in the first quarter 2018, $0.05 in the first quarter 2017, and $0.06 in the fourth quarter 2017. EBITDA, which represents earnings before net interest expense, income tax, depreciation, and amortization, was a record $54.2 million or 19.7% of revenue in the first quarter 2018. Compared to $28.6 million, or 12.1% of revenue in the first quarter 2017, and $47 million, or 17.5% of revenue in the fourth quarter 2017. Cash flow generated from operations was $54 million for the first quarter of 2018. Free cash flow was $22.3 million for the first quarter, which included $31.6 million of CapEx. Net cash flow was a negative $21.3 million, including the paydown of approximately $46.5 million of long-term debt. Turning to the balance sheet.
At the end of the first quarter, cash and cash equivalents, plus short-term investments totaled approximately $186.3 million. Working capital was approximately $393.9 million, and long-term debt, including the current portion, was $221.8 million. At the end of the first quarter, inventory increased by approximately $20 million from the fourth quarter 2017 to approximately $236.5 million. The increase in inventory reflects a $10.6 million increase in finished goods, a $2 million increase in work in process, and a $7.4 million increase in raw materials. The increase in finished goods inventory is to support our expectations for a continued growth in the second quarter. Inventory days were 116 in the quarter, compared to 114 days in the fourth quarter 2017. At the end of the quarter, accounts receivable was approximately $174.1 million, a decrease of $26 million from last quarter. AR days were 61, compared to 74 last quarter.
Capital expenditures on a cash basis for the first quarter were $31.6 million, or 11.5% of revenue. This above model CapEx was to put capacity in place for the expected strong revenue growth in the second quarter and second half of 2018. We expect CapEx for the full year 2018 to return to our target model of 5%-9% of revenue. Depreciation and amortization expense for the first quarter was $25.6 million. Turning to our outlook. For the second quarter 2018, we expect continued strong growth with revenue increasing to a range of $292 million-$308 million, or up 6.4%-12.2% sequentially. We expect GAAP gross margin to be 35.5% ±1%. Non-GAAP operating expenses, which are GAAP operating expenses adjusted for amortization of acquisition-related intangible assets, are expected to be approximately 22% of revenue, ±1%.
We expect interest expense to be approximately $2.5 million. Our income tax rate is expected to be 29% ±3%, and shares used to calculate diluted EPS for the second quarter are anticipated to be approximately 51.3 million. I will now turn the call over to Emily Yang.
Thank you, Rick. Good afternoon. As Dr. Lu and Rick discussed, first quarter revenue was up 2.3% sequentially and up 16.2% year-over-year. Q1 distributor POP was flat. POS was down 6.6%. Europe and North America remained strong with record high POS results. Asia POS was down due to impact of the Chinese New Year holiday shutdown on our customers. Channel inventory increased 7.8% sequentially. As evidenced by our above seasonal results, customer activity remained strong across regions with solid design activity and design wins. We continue to penetrate our key customer base with an expanded sales footprint, deeper product line, and significant cross-selling opportunities with the Pericom product lines. We set revenue record across 4 product category in the first quarter, including connectivity ASIC, interface, protection devices, and Signal Integrity.
We also continue to see strong momentum in the battery management, DPMS, switches, MOSFET, and CMOS LDOs, driven by recent design wins on new products. Going forward, we expect our expanded product portfolio, new product introductions, and design-in momentum will support continued revenue growth. Looking at the global sales in the first quarter, Asia represented 78% of the revenue, Europe 13%, and North America 9%. In terms of our end market, consumer represented 27% of the revenue, communication 24%, industrial 23%, computing 17%, and automotive 9% of the revenue. As Dr. Lu mentioned, our automotive market was a highlight in the quarter, setting a quarterly revenue record and growing 50% year-over-year.
Given its strong performance, I want to start my end market commentary with the auto market, which has been a key focus area for Diodes for the past several years, and also an area where we are seeing expanded opportunities for growth. During the quarter, we continue our penetration momentum by winning design-ins with key automotive customers worldwide. There are three application areas where Diodes is gaining significant traction. Including connected driving, which consists of ADAS, telematics, and infotainment system. Comfort, style, and safety, including lighting and brushless DC motor control, as well as powertrain, covering conventional, hybrid, and electric vehicles. Specifically in the connected driving application, Diodes offers are led by PCIe switches and redrivers, as well as signal switches, timing, and USB chargers, an area where Diodes is currently offering some of the only AEC-Q qualified parts available in the market.
For comfort, style, and safety, Diodes has a range of MOSFETs designed specifically to meet the needs of brushless DC driving. With many high and low-power motor and vehicle, covering functions such as seat adjustments, windshield wiping, fuel and water pump, as well as power steering. Also in comfort, style, and safety, we've had strong success from LED products like buck, boost, buck-boost, linear drivers, and bipolar transistors in applications such as daylight running lights, rear cluster, styling, instrument lighting, as well as the latest beam steerable LED matrix headlight technology. This segment represents a large portion of Diodes auto revenues with strong shipments, numerous design-ins, and close engagements with target customers on further opportunities for growth. In the vehicle powertrain segment, Diodes supplies into conventional internal combustion engine powertrains, as well as those for hybrid and electric vehicles.
In fact, we have secured multiple design wins and opportunities for the battery management system to meet the needs of the fast-growing electric vehicle market. As a result of our automotive expansion initiative, over the past five years, we estimated that we can now address over $70 of semiconductor content per vehicle, which will contribute to driving significant revenue upside towards our long-term goal of 20% of the revenue. Turning next to industrial market, which has also contributed to our growth both sequentially and year-over-year. Diodes also continued to secure expanding design-ins for products such as LDO, LED lighting, and packet switches, as well as continued growth from our TRIAC, dimmable off-line LED product family. Our packet switch products remain the primary revenue driver from our connectivity product family and are gaining increased interest for the applications such as security systems, industrial PCs, and virtual currency mining machines.
Additionally, Diodes launched new MOSFET for motor and DC industrial applications. Also aimed at industrial motor driving are two new devices in our recently launched and increasingly popular gate drivers, ranging from 50 volt to 600 volt. Complementing the gate driver portfolio with five additional IGBT products with 600 volt and 1,200 volt rating and handling currents up to 60 amps. Now looking at consumer market, which continue to be a strong area for us, growing both sequentially and year-over-year with increased momentum for new applications like IoT, gaming, quick charging, handheld portable devices, USB chargers, smart devices, and smart audio wireless speakers. We also continue to gain strong traction for our single-chip USB Type-C controller with integrated MUX and speeds up to 10 gigabit per second that provides the right USB Type-C connectivity with low power in a very small package.
These products are suitable for applications such as IP cameras, as well as in computing applications such as [LED routing tablets] and notebooks. In the same way, our USB Type-C crossbar switch enables video applications over the USB Type-C, as it supports USB 3.1 Gen 2 for data and DisplayPort for video. We also continue to expand our footprint with our small size, low power, high-performance crystal and crystal oscillator product family acquired from Pericom. In the communications market, we continue to see strong design-in activity with our Hall sensors, USB switches, LDOs, timing, TVS, Schottky, MOSFETs, and connectivity product that are designed in multiple applications, including telecom gateways, routers, switches, set-top boxes, smartphones, wireless devices, and chargers. Lastly, in computing applications, we continue to gain increased content opportunities with our expanded portfolio of Pericom products.
We secure several design-ins for our new interface products, signal integrity, logic, LDO, and low jitter PCIe Gen 2, 3, Gen 4 crystal oscillators, clock generators, and clock buffers in the server, storage, and data center application. Additionally, we launched several new products for computing applications, including a 30-volt bidirectional MOSFET load switch for USB Power Delivery, as well as TVS products for USB 3.x, USB 3, and Thunderbolt 3 applications. Diodes also launched 80 to 100 volt trench Schottky rectifiers for notebook power supplies.
In summary, we are pleased with the growth and momentum we continue to achieve, in particular in the automotive and industrial markets. We have made excellent progress with our products and content expansion initiatives that have resulted in increased market share and a deeper sales footprint. We are well-positioned to capitalize on the continued strength in the global markets and expect to continue our strong growth in the second quarter. With that, I'm opening the floor to questions. Operator?
Thank you. Ladies and gentlemen, if you have a question at this time, please press the star and then the number 1 key on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. To prevent any background noise, we ask that you please place your line on mute once your question has been stated. Thank you. Our first question will come from Tristan Gerra with Baird. Your line is open.
Hi. Good afternoon. Question on gross margin, which typically increases sequentially in Q2, also presumably given the strength at the top line is something that should help gross margin as well. What is the reason for the midpoint of the Q2 gross margin guidance to be slightly down quarter-on-quarter? Is this possibly related to the ramp of your eight-inch capacity?
You are right, Tristan. That's one of the reasons. The other reason is, we forecast significant growth in 2018, evidenced by we guidance second quarter, 9% growth over the first quarter. Because of that, we have been increased the capacity, I think by look at the CapEx number in 1Q, you can see we adding capacity to support the growth of this year. Therefore, the equipment is already in place. It will gradually ramp, so the depreciation will be heated right away. Therefore, the depreciation from CapEx in assembly line, plus eight-inch capacity extension, those will be increased the depreciation and introduce underloaded negative PV. Look at the gross profit, GP dollar. If you look at the midpoint, the guidance actually up about $8 million from Q2 to Q1.
The percentage might went down a little bit due to the underloaded capacity, the gross profit is actually forecast at $80 million.
Great. That's very useful. Could you then give us a quick update on 8-inch capacity ramp, and also when we should expect gross margin to rebound on the basis of the background you just gave us?
I think the 8-inch, I think we already said the focus is ramp it up to about 9,000-10,000 wafer per month by end of 4Q. Right now we look like 1Q is only total 800 wafer only. Q2 probably ramp it up gradually to probably 2,000-3,000 a month. Go to 3Q, 6,000-7,000 a month. At end of 4Q, probably 9,000-10,000 8-inch wafer per month. The CapEx is already spent. Now I think we already somewhere around 6,000 wafer capacity equipment is already installed. We probably another piece of gear later part of the year will give us the capacity up to 10,000 per month.
Great. Thank you.
Thank you. Our next question comes from Sean Harrison with Longbow Research. Your line is open.
Hi, everyone.
Hi, Sean.
Congrats on the results. The increase in channel inventory of about 8% sequentially, do you expect that will be consumed by distribution during the second quarter, or do you believe you'll need to continue to build channel inventory, or they'll build channel inventory, I guess?
No, we will consume for sure. Okay. We already look at the April month, it's already consumed some. Okay? By end of the quarter, we expect most of them will consume. Okay? The reason actually is due to the Chinese New Year. Most our customer during the Chinese New Year shut down the whole week. The POS It is reduced. Typically, our 4Q in Asia, POS is always very high. If you look at U.S. and Europe, the POS is actually record high. The whole problem, I won't say the problem, the whole inventory build is actually in Asia. Asia was due to Chinese New Year. Our customer shut down. They are not using the product, but the design in is already there, and right after Chinese New Year, they'll start to ramp. In March, the POS is already start to move.
It's really the 1Q lull is in February, and then March start to move, and April we report is quite well. The POS is quite well too.
Okay. As a follow-up, are you seeing the pricing environment where you're kind of flattish now year-over-year? Are you having any ability to see pricing go slightly higher? As a separate follow-up to Rick, when do you think you'll be in a net cash position? Could you be there by the September quarter?
Okay. Let me answer the pricing, and then let Rick answer the cash balance issue. The pricing, you know we typically put 2% a quarter declaration. That's typically our model. From the good time or when the capacity tight, we now it's less than 1%. Very hard to go to customer say, "I want to raise the price." It's very difficult, but we try to do is product mix, so that's one of key, is new product, driving the new product to replace the old product. Typically, new product, because of the performance, because the cost reduction, typically, new product give you a better margin. By doing that, it's easier to improve the GP. Instead of go to the customer say, "Now you're shortage, we want to raise the price." In our business, that is not the traditional way to do it.
We can slow down the price reduction, and therefore, now, our price reduction is less than our model. Rick?
Yeah. The issue here is that we have debt outstanding of about $222 million, and we had cash of $186 million, the difference is $45 million. The question is whether we're going to be able to pay down $45 million by the end of the year to just get to a net position. Dr. Lu would like us to do that. He's pushing, but I'm not sure we're going to be able to do that because we have to make some equity injections into our Chengdu facility, that might preclude us from doing that. I would say that by this time, the end of next year, we should be there for sure.
When you say equity injections into Chengdu, could you elaborate a bit? I'm sorry.
Yeah. We have a commitment to the Chinese government that we will invest so much money from an equity standpoint. It was one of the original things we agreed to back in five years ago-
Yes.
A couple years ago when we-
The key thing is they give us the land, and we kind of buy both the land, but they give us the money back, okay? We have some commitment is by each year, how much money we'll put in for expansion.
It has to do with expansion. As we've talked about previously, we're continuing to slowly expand the capacity in Chengdu, and this helps fund that capacity expansion.
Perfect. Thank you.
Okay.
Thank you. As a reminder, ladies and gentlemen, if you have a question at this time, please press star and then one on your telephone keypad. Again, that is star one for questions. Our next question will come from Edgar Roesch with Sidoti. Your line is open.
Yeah. Hi. Nice quarter. Congrats.
Thank you, Ed.
I had one follow-up on capacity and the CapEx, sort of the pacing in 2018. Would you think that you can stay ahead of demands with the additions you're making, or would you expect maybe you're going to get on the allocation with any products in the second quarter? Do you have any thoughts on that?
Well, I hate to say it, but currently we still have some of the product under allocation. Okay. We'll continue that situation. We do foresee the markets tight since last year, and we are putting the request to put in the CapEx, okay? It just start to come in by date of 1Q, and we install that, and then we're going to start to ramp in 2Q. That's just enough to support The expansion for this year, and we will still see the capacity is quite tight on certain package.
Okay.
I'll also say that if you look at the first quarter, we did about $31.5 million worth of CapEx on a cash basis. That's higher than our model. As I mentioned in my speech, it's to front-load this for the capacity expansion. During the year, we think we'll go back to the 5%-9% model that we've had on a yearly basis. To answer your question, it's going to be more front-loaded than it is back-loaded.
Yeah. Our model, we still want to keep our CapEx expenditure at our model, which is 5%-9%. Now, in 1Q, we are more than 10%, it just front-loaded, because typically our ramp is in second quarter and third quarters. Okay? By the third or fourth quarter is too late to put in the CapEx to support this year.
That's right.
Okay. Thank you for that. Then on the packaging side, just kind of on a broader level, you've had so much success in the automotive side. Are you finding that your packaging is as big of a differentiator, and leads to the product wins in that end market as much as it has historically for Diodes?
Well, yes. Packaging is one of the key technology we have in our third automotive. By look at, since I installed that strategy back to 2013, we are now in CAGR at the 20% for the last five years. It tell you our strategy is working, and from the product, from the packaging, from the things we have been doing, it is successful. We're going to continue the similar effort to continue grow quickly in automotive. I think this year, we are target at 9%, and we're going to achieve better than 9%, and then move to 10% probably next year.
Yeah. Just to add a little bit that beyond the packaging, I think performance and features are also very important. This is also a direction we continue to invest in technology and working closely with the customer to really find the perfect solution for their application.
Okay. Thank you. One quick one, I don't know, I was looking through my notes, but the purchase accounting adjustment that you're including in the Q2 guidance, Rick, is for Pericom and other acquisitions. Is that a fairly typical adjustment, or did something trigger that particular adjustment? Thank you.
No. That's an adjustment we've made every quarter for many quarters.
Okay. All right. Thank you.
Yeah.
Thank you. We have a follow-up question from Tristan Gerra with Baird. Your line is open.
Hi again. Could you mention the percentage of your product portfolio that has lead times exceeding 12 weeks and give us a range of how far lead times are stretching, and also how does that compare with a quarter ago?
Well, actually, product vary. The lead time vary based on the product. For example, most of the Pericom product other than crystal. Oscillators
oscillators. Most of the Pericom product, because the wafer fab coming from foundry and packaging from subcon, the lead time is low compared with Diodes product. Diodes product typically on wafer fab, the number of masks is way less than Pericom product. Start from like a diode Schottky at the four, five layers to MOSFET, probably eight, nine layers, Pericom product, 20-something layers. The lead time on the wafer fab makes significant difference. Packaging is not that much different except they are outside, and the Diodes product is we do it out internally, therefore, we can shorten the lead time a little bit. Majority, the lead time really coming from foundry wafer, because number of layers significant difference between the discrete and the Pericom product.
Right. I think in general, supply is still very constrained, we really do not see a significant change from our overall lead time situation point of view.
Great. Thank you very much.
Thank you. I'm showing no further questions at this time. I would now like to turn the call back to Dr. Keh-Shew Lu for closing remarks.
Thank you for your participation on today's call. Operator, you may now disconnect.
Thank you. Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone have a great day.