Good day, ladies and gentlemen, and welcome to the Q2 2015 Marvell Technology Group Ltd. earnings conference call. My name is Whitley, and I'll be your operator for today. At this time, all participants are in listen only mode. Later, we will conduct a question and answer session. If at any time you require operator assistance, please press star followed by zero, and we will be happy to assist you. As a reminder, this call is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Sukhi Nagesh, Vice President of Finance. Please proceed, sir.
Thank you, Whitley, and good afternoon, everyone. Welcome to Marvell Technology Group's second quarter fiscal 2015 earnings call. With me on the call today are Sehat Sutardja, Marvell's Chairman and CEO, and Mike Rashkin, Marvell's CFO. We will all be available during the Q&A portion of the call today. If you have not obtained a copy of our current press release, it can be found at our company website under the investor relations section at marvell.com. We have also posted a slide deck summarizing our quarterly results in the IR section of our website for investors. Additionally, this call is being recorded and will be available for replay from our website. Please be reminded that today's discussion will include forward-looking statements that involve risks and uncertainties that could cause our results to differ materially from management's current expectations.
The risks and uncertainties include our expectations about our overall business, our R&D investment, our product and market strategy, statements about design wins, and market acceptance of our products, statements about general trends in the end markets we serve, including future growth opportunities, statements about market share, and statements regarding our financial outlook for the third quarter of fiscal 2015. To fully understand the risks and uncertainties that may cause results to differ from our expectations and outlook, please refer to today's earnings press release, our latest quarterly report on Form 10-Q and subsequent SEC filings for a detailed description of our business and associated risks. Please be reminded that all of our statements are made as of today, and Marvell undertakes no obligation to revise or update publicly any forward-looking statements.
During our call today, we will make reference to certain non-GAAP financial measures, which exclude the effect of stock-based compensation, amortization of intangible assets, acquisition-related costs, restructuring costs, litigation settlements, and certain one-time expenses and benefits that are driven primarily by the discrete events that management does not consider to be directly related to our core operating performance. Pursuant to Regulation G, we have provided reconciliations of the non-GAAP financial measures to the most directly comparable GAAP measures in our second quarter earnings press release, which has been furnished to the SEC on Form 8-K and is available on our website in the investor relations section. With that, I would now like to turn the call over to Sehat.
All right. Thanks, Sukhi, and good afternoon, everyone. Today, we reported second quarter revenue of approximately $962 million, slightly higher from the prior quarter and in line with our guidance range. Revenues in the quarter were driven by better-than-expected demand from our storage and networking customers, offset by softer 3G mobile business. We delivered the following non-GAAP results for Q2: gross margin of approximately 50.6%, operating margin of 17%, and earnings per share of $0.34. We also paid approximately $31 million in dividends during the quarter. I would like to provide a brief update on each of our end markets. In storage, revenues came in higher than expected, driven by strength in both HDDs and SSDs. For Q2, revenues from our storage end market increased 6% sequentially. Starting with HDDs, our business grew sequentially as we continued to gain share.
This growth was despite a flat industry TAM and as we continued to improve our 60-plus% share of our total HDD market. Our 500 gigabyte per platter solutions continued to gain momentum, and we believe this technology could continue to strong growth for the foreseeable future. In the enterprise drive space, we continue to see steady share gains, with units doubling in Q2 compared to the same time last year. For reference, our share of the largest HDD manufacturer's enterprise business is just over 50% and growing. We are continuing to accelerate our investment in next-generation HDD technologies. We believe this will allow us to further increase our share and solidify our leadership position in the market over the next few years. In SSDs, we had another record quarter driven by double-digit sequential growth in both volumes and sales.
We continue to be the top SSD controller supplier in the market. During the quarter, we announced several new products that expanded our industry-leading SSD offerings. These included our fifth-generation SATA product with a new LDPC technology that supports 3D NAND as well as 15-nanometer 2D NAND. We also introduced a low-cost but higher performance PCIe-based SSD solution with a similar price point to our previous generation SATA solution. We introduced a very high-end enterprise PCIe product for the data center and high-end client markets, with which we already have multiple customer engagements. We expect mass production of these products starting in calendar 2015. Our business remains on track to grow strongly in fiscal 2015 on the strength of our existing product lines.
For Q3, we expect our storage end market to be flat to up modestly, driven by stable HDD fundamentals and continued strength in SSD. Turning next to networking. Q2 results grew 6% compared to the prior quarter. We saw strong double-digit sequential growth from our Ethernet product lines across enterprise, data center, and service provider, with the latter also providing growth in our PON product line. We saw solid growth in our North American customer base, especially in IP networking for enterprise and data center solutions. We also saw continued growth in our Arm-based embedded networking SoC products. Design win momentum continued this quarter with new programs that cover low-end tech solutions to high-end modular platforms in enterprise and service provider markets. Our networking business remains steady, and we believe we are well-positioned for growth going forward.
Next, moving to mobile and wireless. Our revenue in this end market came in softer than expected and declined approximately 9% sequentially. Although our 4G LTE and wireless connectivity businesses continued to perform well, we saw weaker than expected 3G demand from one of our major Asian smartphone OEMs, which led to most of the downside. However, on a year-over-year basis, our mobile and wireless business still increased over 65%. Specifically, in mobile, we continue to see growth across our customer base in 4G LTE and saw double-digit sequential unit growth in Q2. During the quarter, we expanded our customer list from Tier 1 OEMs to now include Tier 2 OEMs. We expect new smartphone launches with our LTE solution in the coming quarters and are confident about holding a strong market position in China.
We're also seeing good expansion of our 4G LTE products outside of China with a leading OEM already launching our LTE solution in the European market. In addition, Samsung recently launched the new Galaxy Mini 4G LTE smartphone and a multi-mode mobile hotspot, both powered by our LTE solutions. Samsung has also selected our quad-core SoC to power their new seven-inch Galaxy tablet. In summary, for mobile, we are well-positioned in 4G LTE to meet any competitive challenges. In wireless connectivity. Q2 performance was slightly better than expectations, with double-digit growth both on a year-over-year and quarter-on-quarter. For our 1x1 MIMO solutions, we saw strength in gaming market for both console and portable devices, as well as continued growth in our 4G smartphone platform.
For our 2x2 solutions, customers continued to adopt our combo solutions in set-top boxes, tablets, and Chromebooks, and we expect to see more products launching later this year. In the 4x4 devices, we are seeing stronger traction as the access point and gateway market move towards the higher end. The IoT market, which is a part of our wireless connectivity business. We have already introduced, as you know, a Zigbee solution in the past. We recently enhanced our family of wireless microcontroller SoC with Wi-Fi and Bluetooth. These SoC targets a broad spectrum of IoT for wearable and smartphone products, for which we are currently seeing strong customer interest. We are seeing strong design traction in the lighting, appliances, and home automation markets. We expect volume ramps of these devices later this year. We're also thrilled to be supporting Apple's new HomeKit accessory protocol.
HomeKit enables home electronics manufacturers to easily add the ability for their customers to securely pair and control devices throughout the home, including integration with Siri. We expect HomeKit-enabled products to be launched later this year. For Q3, we expect our mobile and wireless end market to grow modestly on a sequential basis. Similar to Q2, we expect continued strength in 4G LTE and connectivity to be partially offset by ongoing challenges in 3G at a major Asian customer. Moving to audio business. Although revenue in Q2 declined seasonally, on a year-over-year basis, sales increased over 50%, mainly due to shipments of Google Chromecast, which has now launched in 18 countries. Additionally, we continue to gain traction at new service providers with our ARMADA 1500 family of set-top box SoCs.
In summary, excluding 3G weakness, most of our end markets in Q2 came in better than expected with storage, networking, and connectivity delivering higher revenues. Looking ahead, we expect to see growth in Q3. Our 4G mobile design fraction remains solid, with many new customers just starting to ramp into production. We also have new products coming up that will further enhance our competitiveness. Our connectivity business remains strong due to demand from enterprise gaming and high attach rates to our mobile business. Our storage business is also healthy, driven by market share gains in HDDs and strong growth in SSDs. Finally, our networking business remains stable. With that, I would like now to turn the call over to Mike to go over our second quarter financial results and the third quarter outlook.
Thank you, Sehat, and good afternoon, everyone. Moving to our financials, as Sehat mentioned, we reported record revenues of $962 million for the second quarter, which was slightly higher than the prior quarter and an increase of 19% year-over-year. The in-line revenues were driven by better than expected growth in storage and network and offset by a larger than anticipated decline in 3G mobile. In storage, our overall revenue grew 6% sequentially and represented approximately 46% of total sales. Q2 sales in this area were better than expected, and we saw growth in both our HDD and SSD businesses. In networking, our revenue grew 6% sequentially and represented approximately 19% of total sales. Networking sales in Q2 were better than expected and driven by strong growth in our Ethernet product lines and continued adoption of our embedded SoC solutions.
Our mobile and wireless end market came in softer than anticipated, declining 9% sequentially and represented 30% of overall sales. Although sales of 4G LTE and wireless connectivity products increased during the quarter, 3G shipments declined more than expected, mainly due to weakness at one of our major Asian-based OEMs. Moving next to margins and expenses, our non-GAAP gross margin for the second quarter was approximately 50.6%, which was above the midpoint of our guidance range and improved 180 basis points sequentially. The main reason for this was a more favorable product mix during the quarter. Non-GAAP operating expenses came in at $323 million, at the low end of our guidance range, due to excellent expense controls by our business units. This resulted in a non-GAAP operating margin of 17% for the quarter, improving 260 basis points sequentially, which was better than our expectations.
Net interest and other income was about $12 million, mostly due to an investment gain that occurred in Q2. We recognized a tax benefit of approximately $6 million in the quarter, due in part to the expiration of the statute of limitations in certain foreign jurisdictions. This resulted in non-GAAP net income for the second quarter of $181 million or $0.34 per diluted share. This was approximately $0.06 higher than the midpoint of our guidance. The shares used to compute diluted non-GAAP EPS during the second quarter were 533 million. Cash flow from operations for the second quarter was $157 million, and free cash flow for the second quarter was $137 million, or approximately 14% of revenue. Now, summarizing Q2 results on a GAAP basis, we generated GAAP net income of $139 million or $0.27 per diluted share.
The difference between our GAAP and non-GAAP results during the second quarter was mainly due to stock-based compensation of $35 million, $4 million related to amortization and write-off of intangible assets, $2 million of indemnity guarantee costs associated with ongoing litigation, and $1 million due to restructuring and legal settlement costs. Now, turning to the balance sheet. Cash, cash equivalents, and short-term investments as of the end of the second quarter was approximately $2.3 billion, an increase of 7% from the previous quarter. We also paid dividends of $31 million in the quarter or equivalent to $0.06 per share. Net inventory at the end of the second quarter was approximately $394 million, an increase of about $43 million from the previous quarter, in order to meet demand for our products in the coming quarters. Days of inventory increased approximately seven days to 71.
Moving next to our outlook for the third quarter of fiscal 2015, we currently project revenues to be in the range of $960 million-$1 billion. At the midpoint, this would equate to a roughly 2% sequential growth. We expect our storage and networking businesses to be flat to up modestly, while our mobile and wireless business is expected to grow slightly. Within our mobile and wireless business, we expect continued growth in 4G and connectivity to be partially offset by a decline in 3G. We currently project non-GAAP gross margin of 50% ± 100 basis points and currently anticipate non-GAAP operating expenses to be approximately $330 million ± $10 million. We anticipate R&D expenses of approximately $270 million and SG&A expenses of approximately $60 million.
At the midpoint of our projected guidance, this should translate to a non-GAAP operating margin of approximately 16% ± 100 basis points. The combination of interest and other income should net out to approximately $1 million, and we expect tax expense to be approximately $6 million. We currently expect the diluted share count to be approximately 535 million shares. In total, we currently project non-GAAP EPS to be $0.29 per diluted share, ± a couple of pennies. On the balance sheet, we currently expect to generate $150 million in free cash flow during the quarter. We anticipate our cash balance to be about $2.4 billion, excluding any M&A activity, share buyback, or other one-time items. We currently expect our GAAP EPS to be lower than our non-GAAP EPS by about $0.08 per share.
With that, I would like to turn the call over to the operator to begin the Q&A portion of our call. Operator?
Ladies and gentlemen, if you'd like to ask a question, please press star followed by one on your phone. As a reminder, we ask that you limit your questions to one and one follow-up. Our first question comes from the line of Craig Ellis with B. Riley. Please proceed.
I had to follow up on some of the points made about the mobile business on the 3G and the 4G. Mike, can you or Sehat, can you give us the mix of 3G versus 4G? How should we expect the mix of that business to change as we look out over the back half of calendar 2014 and through calendar 2015?
Well, we don't provide the mix of those products, as time goes on, we expect the 4G to exceed the 3G, with the 3G really on a downward ramp.
Yeah. Craig, this is Sukhi. 3G was still, if you remember, in Q1, we said 3G was a predominant part of our business in Q1 and 4G was a small part. That was still the case in Q2 as well. As you know, I think it's pretty clear out there that there's one Asian OEM that's had some issues, and we didn't escape that in Q2.
Thanks for the help there. The follow-up question is on gross margin. It looks like the mix of business is unchanged quarter-to-quarter, but the gross margin midpoint is down sequentially. What accounts for the decrease in gross margin when mix is flattish?
Well, there's always pluses and minuses every quarter, Craig Ellis. We are going to see growth in our mobile business in Q3. I think we've mentioned this in the past, that from a mix standpoint, mobile and wireless generally commands lower than corporate average margin. That would be a contributor to the lower margin, really.
Thanks, guys.
Your next question comes from the line of Harlan Sur with J.P. Morgan. Please proceed.
Hey, guys. Thanks for taking my question. Good to see the continued 4G growth in your Q3 guide. MediaTek is ramping its 32-bit and 64-bit multi-core 4G solutions into China Mobile this quarter, and there's been a lot of concern that your market share is going to drop significantly. Sehat, any way to help give us confidence that you're still capturing a high level of 4G design wins that will ramp beyond just the third quarter, and that you'll continue to build scale in 4G smartphones? Maybe, I don't know, quantify the number of 4G handset design wins you have in the pipeline that you've yet to ramp, or some sort of confidence that you can continue to grow your 4G business in Q4 and into the first half of next year. Anything you can provide would be appreciated.
Sure. Talking about 64-bit, we also introduced 64-bit 4G solutions last quarter. Those will be ramping up sometime this year as well. There's nothing unique about MediaTek, okay, building 64-bit. We have 32-bit solutions. We have 64-bit solutions. The area that, okay, we haven't played in the past was on the ultra-low-cost side, that in the future, we'll be addressing as well. Those are the designs are in the pipeline, and they will be going to production sometime next year. If you're talking about where the volumes are going to grow, I do believe that as 4G LTE price goes down, I mean, no. Well, as the market, we in the market means us and our competition, are starting to address the ultra-low-cost side to replace the 3G, we believe the market for 4G LTE is going to explode.
This market is going to be so big that it is clear that the competition is going to be fierce, but we're not concerned about that. Every time we enter a big market opportunity, there are bound to be a lot of companies going to get into this business. The good thing is a lot of companies are also going out of this business. Only just three of us are going to be left in the LTE space. Not being late this time around in the LTE set us up in a much, much better position in the customer base. All we have to do is make sure that we deliver the lower-cost solutions to address the 3G replacement that's going to happen sometime next year.
Okay, thanks for that.
Harlan, just to that point, Sehat mentioned this in the prepared commentary, right? We are expanding our customer base from tier 1 OEMs to now include tier 2 OEMs as well. You can't do that without, obviously, you need to have design wins to do that, right?
Yeah.
We already have.
Okay, great. Then my follow-up question is, when the stock was last at these levels, the team was aggressive in its buyback program. I think the last time around, you were probably using 100% of your quarterly free cash flow to buy the stock, here in the $12, $13 range. Can you guys just give us an update on when you think you will finalize some of the remaining issues with the CMU appeals process and be in a position to start to aggressively buy back your stock again?
Good question, Harlan. I think we've talked about this in the past as well. We mentioned, our capital allocation strategy has not changed. It continues to be the same. We will be opportunistic in our share purchases. Just to put that in question, in perspective, we've spent a significant portion, as you've said, we've spent a significant portion of our free cash flow in the last three years in share repurchases, right? Close to $3 billion in share repurchases. This is significantly better than pretty much most of our competitors out there. We are also paying a pretty healthy dividend to our shareholders. The management of the company board continues to evaluate the business needs every quarter, about the capital structure and capital returns.
We are using our cash, I think we've mentioned this to you as well, for appropriate investments and to drive future growth, as well as return capital to our shareholders in the form of buybacks and dividends. In the near term, however, I think as we mentioned in the past, we are waiting for further clarity in the ongoing litigation before we can proceed forward.
Any visibility in terms of timing on when you're going to be able to resolve some of these remaining issues?
We're just waiting.
Okay. All right.
Yeah. The other thing, we've just recently updated our website and FAQ. I urge everybody to take a look at that. That just happened today. Obviously we've filed our appeal on the CMU case. There's a bunch of new information that's probably good for you to take a look at.
Okay. Thank you.
Your next question comes from the line of Quinn Bolton with Needham & Company. Please proceed.
Hi guys. Just wanted to come back to the mobile and wireless business. Obviously, you talked about one OEM in the 3G business that's gone through some market share issues. Can you talk about whether there's any real active 3G design going on right now, or is most of the design work you're seeing on the LTE side of the business?
Yeah. Most of the activities are 4G LTE. Pretty much, if you talk to the OEMs in Asia, they all are working and they're all seeing that the demand is in the 4G space. I think this year could be a transition year from 3G to 4G, and next year will be when the ultra-low-cost LTE is finally available in the market. Nobody will talk about 3G any longer next year. As a result, we don't spend too much time on trying to get new design wins on the 3G side.
Great. Thanks for that clarification. Just a follow-up question. You talked about the ultra-low-cost LTE. Do you have any sense on how the margin profiles of those solutions will compare to your current 3G business?
Obviously, the LTE is going to be better than the 3G, especially when you're talking about the 3G is almost at its end of life. I don't see any concern on that side.
Quinn, are you referring to the low-cost LTE?
I was just wondering if you do a one-for-one replacement of a 3G design today for an ultra-low cost next year, is that margin accretive?
Obviously, the ultra-low cost is going to be slightly lower margin than the higher end. That's always going to be the case, the volume is going to be so much bigger. You also need to put it into perspective that in the 3G, we have a lot more competition today than in the 4G. 4G, we're talking about only just today, the three suppliers. With three suppliers versus more than, like six, seven suppliers in the 3G, the margin profile is going to be significantly better, in the LTE space.
Great. Thank you.
Your next question comes from the line of Doug Freedman with RBC Capital Markets. Please proceed.
Great. Thanks, guys, for taking my questions. Congratulations on the strong results. If I could dig into a little bit, maybe if you could highlight for us what is causing revenue growth to be maybe a little bit less than you would normally see in this quarter. Is it literally all related to the 3G softness that you're seeing, or are there other things occurring in the storage or networking businesses?
For Q3, Doug, it's predominantly, I would say, the 3G business that's offsetting growth elsewhere. Plus, remember, if you talk about Q2, right? I mean, Q2, obviously, we had initially expected our storage business and network business to be flat. They came in better than expected, right? 6% growth for each of those end markets for us. Our Q2 has the month of July in it as well. For us to I know where you're going with. You're going with storage guys have been guiding their end market to be up a lot more. Should that be up for us as well? We expect it, on a two-quarter basis, it's probably even out for us. The main difference really for us is the 3G going down.
Okay. If I could focus in a little bit on the baseband efforts the company's pursuing. Your competitors have offered up a number of units they expect to ship this year. Would you like to counter that with the number of units you think you can ship either this year or next? If you could maybe give us a better understanding of the amount of your R&D or OpEx that is going towards your baseband efforts.
Yeah. What was the first question about the units?
The total number MediaTek has offered up that they expect to ship a certain number of units this year. I was wondering how you still feel about how many units you think you can ship and what that is in terms of the market size, maybe.
We haven't divided the units yet. Okay. We never talk about units in this business. We're still, obviously, a relatively new company. We also have to be careful about talking about our units. In terms of our investment in the baseband, we are actually quite leading in the LTE space. We already sampled Release 10 devices that have been sampled late last year. We have to have prototypes in the next-generation devices in the pipeline. In terms of the amount of efforts to do this, actually, it's not in the baseband side. Most of the efforts, they require a lot of investment is in the supporting the application side. Those things are the ones that we've been working, even starting from the 3G time frame. Now, it's our solutions are being more mature.
Actually, this is helping our customers to be able to ramp up production on our 4G solutions sooner, I mean, at a faster rate than it used to be when we first entered the 3G space. As I said earlier, okay, the volumes in If we look at in the 3G space, we are a tiny player in the past. If we look at the positive side, next year when the volume moves from 3G to 4G, we're talking about getting market share away from our competitions in their 3G volumes. If anything, it's okay, for the industry to move to 4G, it's going to be better for us than if the industry stays with 3G. My expectation next year about volumes, unit-wise, without putting the numbers, is going to be bigger than this year on the 4G.
My last question is one that I think I've asked in the past. The question really is in your storage business. Has SSD revenue gotten to be the size that it's large enough that you can separate it for us or highlight for us what % of your storage business it is?
Well, it is getting bigger for sure, Doug, we have not disclosed that. We don't intend to disclose that at this point.
I also mentioned in the past that we will not disclose that, especially in this business, it's not just HDDs, you have SSDs, then down the road, there will be SSDs for smartphones, which has nothing to do with SSDs for PCs or enterprises. Not to mention, Sukhi, about hybrid HDDs and it's too complicated, and some of these devices actually meant to be the same device, just retargeted from one market versus the other market. We'd rather not split the numbers.
For competitive reasons there too, Doug.
All right. Thank you, guys.
Thanks, Doug.
Your next question comes from the line of Hans Mosesmann with Raymond James. Please proceed.
Thank you. A couple of questions. On the storage side and specific to the PC side of that business, it seems that you're guiding to a flattish TAM in the current quarter. What is going on there, and can you provide some clarity in terms of PC refresh on the enterprise side of things that was ongoing earlier this year? Thanks.
Yeah. Hans, I think we mentioned, if you look at it on a two-quarter basis, Q2 plus Q3, it probably evens out for us, right? I mean, Q2 HDD TAM was flat. We grew our business. Right? I mean, our storage business overall grew 6% in the quarter, and we've guided our storage business to be flat to up modestly. Right? It could come in better than flat. I think on a two-quarter basis, just because we are off back calendar month, you should be looking at it that way, and it probably evens out, and it's relatively in line to the market.
Can you provide any kind of qualitative data on the enterprise or commercial PC refresh that we saw earlier in the year?
On the enterprise side, as Sehat mentioned, we continue to do very good trends. We see very good trends at our one North American customer. Our share continues to creep up steadily. It's grown over 50% on a year-over-year basis. We feel pretty good about that business continuing to grow throughout this year.
Yeah. Well, maybe I give a little bit qualitative feedbacks. If you look at this in the PC space and the enterprise, in the business users, even the consumer sides, I think the market tends to be, I think maybe a little bit, maybe somewhat conservative at this point, because of what they've seen in the last couple of years of PCs, PC markets not growing or even going down slightly. I believe the market may change, maybe improving, in the next few quarters. Again, this is just my gut feeling is. Maybe part of the reason is, the Intel shipping new these 14 nanometer processors, which depending how they price, okay. If they price the new 14 nanometer FinFET processors correctly, the market may grow. Okay. The PC market may see a replacement cycle, okay, in the next few quarters.
Again, I don't know how to predict that. Okay. I'm just making a statement if the suppliers, the key suppliers in the market are eager to drive the market for replacement cycle, I think this market will move. In the meantime, we have to be just as conservative as our customers, in terms of projecting the units in HDDs. If the numbers goes up, they need to supply the parts to our customers.
Great. Thank you very much.
Your next question comes from the line of Sanjay Chhatwal with Nomura. Please proceed.
Hey, Sehat. A question on LTE market. Could you give us some more color on the demand for LTE chipsets in the second half of this year? Your chipset competitor in China, they're indicating a very strong demand. I was just wondering, if you could provide any color that you are seeing from your customers. If not the unit shipment color, I was just wondering if like you used to do that with TD-SCDMA, if you could provide your market share for this year in TD-LTE.
Yeah. Talking about the units, as we said earlier, in Q2, unit shipments going up. We already said in Q3, unit shipments also get to go up. The shipments on LTE, we expect to continue to go up. As we said earlier, part of the reason that we have softness in our mobile business, because of the softness in the 3G side, has nothing to do with the 4G. Despite the MediaTek going into the business in the 4G, it's just only making this business even more attractive, okay, for us. As the supply chains sees the MediaTek came to the market, they know that this market is going to be ripe for high volume production. As long as we continue to deliver our new products on time to serve the different price points of this market. We believe that we'll continue to grow our business.
Next year, as I said earlier, when our ultra-low cost is ready, our volumes can only go up significantly.
Another question is FinFET next year a necessary element in your roadmap, to be successful? Your other competitor in this space, they have indicated some FinFET-based roadmap for next year. I was just wondering, what is your strategy to deal with that?
Yeah. Talking about FinFET. Yeah, we've been working on FinFET for, I don't know, like a year, a year and a half now. The challenge right now in FinFET is the cost structure, it does not make sense for ultra-low cost segment yet, or even for the medium cost segment. FinFET will be important for the very, very high-end market, where you need performance, where cost is not an issue. Yeah, we're working on that, we're not going to use FinFET for the lowest cost product, to the market first. Okay. It'll be bad for gross margin if we do that.
Thanks.
Thank you, Sanjay.
Your next question comes from the line of Ian Ing with MKM Partners. Please proceed.
Yes. Thanks for taking my question. For 4G, what sort of milestones should we look for at this point outside of China? You talked about an OEM launching in Europe. Your modems are certified at some U.S. carriers. Should we look for some other milestones to see some progress there?
The significant milestone, obviously, will be when our ultra-low cost goes into production, because those are the ones that are going to replace the 3G. As I say, because our 3G business is tiny compared to the rest of the world, the ultra-low-cost 4G is going to be an important milestone for us, as those are the ones that are going to allow us to get a much bigger percentage of the cell phone market.
It'll largely be China OEM selling into the rest of the world. That's the overseas model, you think?
I think by this time we all are going to agree that most of the phones are going to be manufactured in China and Korea. I think nobody's going to argue against that. Yeah, whether the market is for the U.S. or for Europe, it's going to be built in China or Korea.
Okay, great. Then as my follow-up, R&D expenditures, 28% of sales. That's a bit high versus peers, but understandably, a lot of things are in investment mode. Do you have a sense of which businesses are likely to move out of investment mode into harvest mode shortly? I think some parts of storage are already in harvest mode at this point.
Okay. I'll only address the storage. Even storage, we are not playing the harvest mode. There's still a lot of things that need to be invented to allow our customers to move to terabytes per drive at low cost. We can build terabyte drives now, but it's talking about two and a half inch. The price doesn't make sense for the end users. Building investment in hybrid, there's a lot of investment to do. How to build the proper hybrid for the hard drive. Then continued investment of building more advanced SSDs to allow TLCs to be just as reliable as MLC in the past. A lot of investments still yet to be done in the next several years. I think the harvest mode for that probably will be five years from now at the earliest.
A lot of times people make a mistake thinking that there's nothing left to be invented. That's when then they made a mistake, and we'll be happy when they make that mistake.
Having said that, Sehat, I think we do agree that it's important to control our R&D expenses. You'll notice that our overall OpEx for this past quarter has gone down below our guidance by $7 million. We are very active in controlling our operating expenses, and part of that is to direct our R&D expenses into those areas where it's most productive, and to reduce it in those areas where it's not so productive.
Yeah.
We're going to continue to invest, but we're going to continue to invest into those areas where it's going to be most fruitful.
Okay. I agree with that. Also, I want to add another thing. Part of it, even when we continue to invest, we can also do better investment, do better allocations of R&D investment, meaning like, for example, doing less duplications. As a big company, so it's okay. In the past, we have some duplication efforts in certain areas. If we can have those areas, we are working on this. As we able to improve the synergy in the different businesses, we could continue to invest in R&D, but without increasing the R&D dollar.
Right. We intend to increase our investment but reduce our expenditure.
Okay, thanks, Sehat. Thanks, Mike.
Your next question comes from the line of Joseph Moore with Morgan Stanley. Please proceed.
Great. Thank you. I wonder if you could talk about the SSD market competitively, now that the LSI SandForce business has gone to Seagate, who's probably not going to pursue aggressive merchant market wins. How do you see the competitive landscape in the merchant market there? We hear about Phison and others kind of coming into the market. How competitive do you think that's likely to be in a year or so?
Yeah. SSD is an area. Out of all the companies in this business investing in SSD, we are the oldest one. We have the one that have been working on the longest, more than 7 years by this time. That's on top of the things that we leverage from the HDD. A lot of technology we developed HDD for more than 10 years ago are being ported, even when we started this business 7 years ago. A lot of new inventions continue. We continue to invest heavily in this area, so we have a lot of new inventions coming. The reason we want this business is because we have better performance, which translates also a better yield, better quality, which translates into lower cost to the end products.
A lot of our competitors that tried to get into this business a few years back did not treat this business properly. They don't invest the right amount of investment to compete properly to win this business. I'm confident, I feel good about that. We have extremely strong IP portfolio. We have tons of patents in this area. We are very confident that we will be able to protect this business for the long run.
Great. Thank you very much. A quarter ago, you had mentioned that the $100 million target on the TD-LTE side from China Mobile was probably the upper end of the range that you would look at for the year. Do you have any update on that, how big the TD-LTE market will be in 2014?
I did say that. I did say that the $100 million was on the high end, I still believe it's still on the high end, nobody knows what's going to happen in December of this year. Based on the rate that they're running, I think maybe a little bit higher than our early projections, but okay.
The jury's still out.
Yeah, the jury is still out, yeah. The beauty is, it doesn't matter. I think it doesn't matter whether it's $100 million this year or not. For sure, next year it's going to be more than $100 million.
Okay. Thank you very much.
That's the beauty.
Thank you, Joe.
Your next question comes from the line of Kevin Cassidy with Stifel. Please proceed.
Thanks for taking my question. Your networking business was up 6% quarter-over-quarter. Can you break it down a little more? How much of that was Ethernet and what's split within Ethernet? Do you see more demand at 10 gigabit, and do you see it moving towards 40?
Yeah. Our networking business is comprised mostly of enterprise customers, Kevin. I think we mentioned that in the past. We saw very nice, very broad-based growth in Q2. We saw some double-digit growth in our Ethernet PHY businesses. We saw some pretty good double-digit growth in our switch business as well. These were both for the data center as well as the service provider markets. Some of the things that you know before, you may have an idea, the Prestera switching line, the Alaska PHY lines, all did pretty well. Our ARMADA SoC devices did really well. The one thing, our own NPU business was a little softer in the quarter, mainly because we saw a significantly stronger Q1. We expect that to rebound nicely this quarter.
Okay, great. Maybe just a housekeeping question. The tax rate going forward seems to be fluctuating quite a bit in the last couple of quarters. What should we expect?
Well, the tax rate is affected by releases of accruals based on reserves that were set up because of liabilities in foreign countries. When those statutes of limitations on those liabilities expire, it provides a reversal of the reserve. Going forward, we believe the rate is going to be less than 5% for the year, subject to these kinds of fluctuations that occur because of accounting reasons.
Okay, great. Thank you.
Your next question comes from the line of Steven Chin with UBS. Please proceed.
Hi. Thanks for taking my questions. The first one is, I want to drill down a little bit more on the ARMADA SoC business. Sehat, you mentioned earlier some of the activity on, I guess, engagements with maybe carriers or telcos. I was wondering if you could talk a little bit more about the growth opportunity there, and whether you see further growth from Chromecast, or if it's ARMADA in TVs or some of these set-top boxes. If you could talk a little bit about whether they're an IPTV type of design or if it's more of an OTT, over-the-top video type of a delivery paradigm there.
Right. There will be a lot of— Obviously, as the first to enter the, I mean the only ones in the Chromecast market. We believe there will be significant opportunities to continue to invest in building more advanced Chromecast devices to address better new generation codecs, H.265, VP9s. You can think about the Chromecast as a device like a set-top box, like a micro set-top box. Set-top box inside a dongle. The difference between that versus the real set-top box, the real set-top box will have more memories, a little bit more features. As a result, it's also natural for us to address. That's why when we say that we have several design wins on the ARMADA 1500 set-top box SoCs. This is just actually the same family of products, just one more optimized for the dongle, the other one more optimized for the set-top box.
A set-top box is a new business for us, but as we prove ourself to serve this market, we believe in the long run, we could grow this business as well.
Okay, that's helpful. My follow-up is on the SSD business. I just wanted to drill down a little bit on the latest fifth-generation SATA SoCs that you mentioned that support 15 nanometer and also 3D NAND. Was wondering what kind of timeframe you're looking at or expecting for the ramp-up of SSDs that use these fifth-generation SoCs, and also what the ASP would be, or at least directionally, is that a big boost up in the ASP for that future generation?
Yeah, the production targeted, we said we introduced the three new products last quarter. Those are the productions targeted for sometime early next year. Then we're not stopping still. We're also building newer devices. Some of them could simply be a stripped-down device, let's say, for the lower-end market. Some of them will be a newer generation, even more advanced solutions. As we build more advanced solutions, the price obviously will go up, but as we also build lower price markets, let's say, for new generations for either the ultrabook that require much lower cost solution, those price will be designed obviously to be lower cost. The volume will be much higher. Those are not cannibalizing the existing market. Those will be just addressing new markets opportunity. We feel good.
This is a business that we invested properly many years earlier, before anybody thought it was important to invest in this area.
Okay, great. Thank you.
Your next question comes from the line of Ross Seymore with Deutsche Bank. Please proceed.
Hi, guys. Thanks for letting me ask a question. Just wondered when you think that 3G headwind is going to be done, and what influence, if any, it might have on the typical seasonality that customer puts into place that affects your January quarter?
That's a good question, Ross. We will continue to see some headwinds this quarter on the 3G side. That's the reason for what we guided to. As far as Q4, it's a little too early for us to comment on that. We recognize there is seasonality with that customer in Q4. As we mentioned in the past, we are also looking at pretty solid design traction elsewhere in other customers for 4G. It's a little tough for us to make that call at this point.
Got you. The 4G side is my second question. I think, Sehat, in your prepared comments, you said that the 4G units were up double digits sequentially. Was there anything we're supposed to imply on the ASPs from that statement in that you didn't mention revenues also being up sequentially? Am I overcomplicating things?
Well, it's always a very competitive market. I don't think you should read anything more into it. Our 4G business, we grew our units. From an ASP side, it is a very competitive market. It will remain so for the rest of this year.
Well, competitive business, I think we prefer not to talk about pricing. Our customers are very sophisticated in these areas. They always going to say, "So-and-so is going to have a lower price than yours." They want to see who's blinking first. It's not a good idea for us to talk about pricing. It's only been negative. The result will be negative. It's better for us to talk about units at this point.
Okay, thank you.
Your next question comes from the line of Mark Delaney with Goldman Sachs. Please proceed.
Thank you very much for taking the question. The Chinese government has been more focused on growing its own domestic semiconductor industry. I'm wondering have you seen any impact on Marvell, or if you expect to see any impact on your business going forward?
Well, if you look at our 4G LTEs, our designs, we're shipping all the products that we're shipping is all done in China. If anything, this should be positive for us, being we have the vast majority of our resources for this business in China.
Thank you for that. For a follow-up question, I realize you guys have the CMU lawsuit appeal as an overhang, and that's creating some uncertainty around the potential cash balance. If for a hypothetical, or for argument's sake, we put that aside for a minute, can you just talk about what sort of minimum cash balance you think you need to keep on the balance sheet?
I think we've mentioned this in the past, Mark. We've said roughly three-quarters or so of operating expenses is what we would like to keep on our balance sheet. Obviously, we have excess of that, and given the circumstances that we have right now, we're just being a little more cautious.
I also mentioned many years ago, I got this question. I said that While it is true that we don't need much cash to run the business under normal circumstances, in the past, when we need money, to borrow money, we are always at a hostage by the bankers. It's better for us to have more money in hand, so that, okay, when we need to do something, we have the money to draw on. I would rather be on the safe side to have more money than to have not enough.
It's not like we haven't returned cash to the shareholders.
Yes. On top of that, right?
So.
Yes. We're not holding cash. We're rethinking more cash than we have money in the bank.
Right. Thank you, Mark. We'll take one last question, please.
Our final question comes from the line of John Pitzer with Credit Suisse. Please proceed.
Guys. Thanks for letting me sneak in a question. First question on the inventory build. I know you talked about it in the prepared comments and that you talked about building ahead of demand. Given the revenue growth forecast for the current quarter, I am curious if you can give me a little bit more color on why inventory is growing so much faster than revenues, and do you have a target for inventory at the end of the current quarter?
It is a good question, John. We do have a target for the end of the quarter. Our inventory should drop sequentially at the end of this quarter. One of the reasons we did build inventory was for certain products that given the tight capacity that we are seeing at the foundry side for the next few quarters, we have decided to build a little bit of inventory for certain key products. That being said, we are pretty confident that we should see our inventory trend move down.
Perfect. Guys. As my follow-up, quickly back to the LTE market. Sehat, I am curious, given the level of investment in the business, are you guys now at a revenue level for LTE where that business is making money? You said in your prepared comments that you thought profitability in TD-LTE would be higher than 3G. I am going to question why you believe that. The devil's advocate question is sort of, that was a similar dynamic or view from 2G to 3G that did not really hold up as the 3G market matured. Why should we think profitability in LTE will be structurally better than 3G? Thanks.
Sure. If you are talking about the 2G to 3G. The 2G to 3G transition for the first five or six years of transition, the 3G market was so much more profitable business than the 2G. The 3G being so competitive was only happening in the last year or so. In 4G situation is better than the transition from 2G to 3G. From 2G to 3G, there were like a dozen players in the market, like give or take. Now the dust is settling, we really only have three players in the 4G LTE space. With the three players in the market, I think, yes, okay, the markets will still be competitive. That is true. I think it is a different scale of the people have to be more rationalized in terms of pricing so we all can make the right investments for the future.
I'm not concerned about that this market being competitive. It's more important that with this 2 billion units market opportunity down the road when everything moves to the 4G LTE, do we have the right new technology? I mean, the keyword is do we have the new technology that will allow us to deliver products that will be low cost, yet at the same time to be high performance? While it's still too early to talk about it, we are working on developing new technology to enable the kind of price point that people expect to see in the handsets. When we are ready to disclose the result, you can see what I'm talking about. Okay. It's too early for us to talk about it.
Some of this technology are so bleeding edge that even we are not so sure whether the result is going to be how. It's pretty challenging to build this, to build ultra-low-cost stuff, but high performance at the same time. Only times can tell when we're finally able to deliver such a product.
Thanks, Sehat. That's helpful.
That concludes our Q&A. Now I will turn the call back over to Mr. Sukhi for closing remarks.
Thank you. I would like to thank everyone for their time today and the continued interest in Marvell. We look forward to speaking with you in the coming months. Thank you and goodbye.
Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.