Ladies and gentlemen, thank you for standing by and welcome to the ON Semiconductor second quarter 2015 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number 1 on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. I'll now turn the call over to Parag Agarwal, Vice President, Investor Relations and Corporate Development. Please go ahead.
Thank you, Laurie. Good morning, and thank you for joining ON Semiconductor Corporation second quarter 2015 quarterly results conference call. I'm joined today by Keith Jackson, our President and CEO, and Bernard Gutmann, our CFO. This call is being webcast on the investor section of our website at www.onsemi.com. A replay will be available on our website approximately one hour following this live broadcast and will continue to be available for approximately 30 days following this conference call, along with our earnings release for the second quarter of 2015. The script for today's call is posted on our website. Additional information related to our end markets, business segments, geographies, channels, and share count is also posted on our website. Our earnings release and this presentation includes certain non-GAAP financial measures.
The consolidation of these non-GAAP financial measures to the most directly comparable measures under GAAP are in our earnings release, which is posted separately on our website in the investors section. During the course of this conference call, we'll make projections or other forward-looking statements regarding future events or future financial performance of the company. The words believe, estimate, project, anticipate, intent, may, expect, will, plan, should, or similar expressions are intended to identify forward-looking statements. We wish to caution that such statements are subject to risks and uncertainties that could cause actual events or results to differ materially. Important factors which can affect our business, including factors that could cause actual results to differ from our forward-looking statements, are described in our Forms 10-K, Form 10-Qs, and other filings with the Securities and Exchange Commission. Additional factors are described in our earnings release for the second quarter of 2015.
Our estimates may change, and company assumes no obligation to update forward-looking statements to reflect actual results, change assumptions or other factors, except as required by the law. During the third quarter, we'll be attending the Citi Technology Conference in New York City on September 10th and Deutsche Bank Technology Conference in Las Vegas on September 17th. Now, let me turn it over to Bernard Gutmann, who will provide an overview of the second quarter 2015 results. Bernard?
Thank you, Parag, and thank you everyone for joining us today. Let me start by providing an update on overall business results. Although the second quarter started with strong booking trends, we noticed a deceleration in orders towards the end of the second quarter. We believe that global macroeconomic uncertainties were the primary drivers of slowdown in the order trends as customers exercised increased caution related to their inventory levels. Despite an overhang of current macroeconomic uncertainties, the fundamentals of our business remain strong, and we continue to make progress towards achieving our financial target model. Despite lower than expected revenue, we were able to deliver strong earnings performance, driven largely by strong execution and sharp focus on managing costs. Now, let me provide you an update of our second quarter 2015 results.
ON Semiconductor today announced that total revenue for the second quarter of 2015 was approximately $880.5 million, an increase of approximately 1% as compared to the first quarter of 2015. GAAP net income for the second quarter was $0.12 per diluted share. Excluding the impact of amortization of intangibles and restructuring and other special items, non-GAAP net income for the second quarter was $0.22 per diluted share. GAAP and non-GAAP gross margins for the second quarter were 34.6% as compared to 34.5% for the first quarter of 2015. The 10 basis points of sequential improvement was largely driven by slightly higher revenue. Lower factory utilizations negatively impacted margins. We lowered the utilization of our factories in the second quarter to reduce inventory levels in reaction to increasing level of macroeconomic uncertainty.
Average selling prices for the second quarter decreased by a little less than 1.5% as compared to the first quarter. Excluding the impact of currency, average selling prices declined by approximately 0.5%. GAAP operating margin for the second quarter of 2015 was approximately 7.7% as compared to approximately 7.9% in the first quarter. Our non-GAAP operating margin for the second quarter was 12.3%, up approximately 80 basis points as compared to the first quarter of 2015. Lower operating expenses and slightly higher gross margin were the key drivers for sequential increase in the non-GAAP operating margin for the second quarter. GAAP operating expenses for the second quarter were approximately $237 million, as compared to approximately $232 million for the first quarter of 2015. Non-GAAP operating expenses for the second quarter were approximately $196 million, down approximately $4.6 million as compared to the first quarter of 2015.
We exited the second quarter of 2015 with cash equivalents and short-term investments of approximately $577.9 million, an increase of approximately $148.5 million from the first quarter of 2015. Operating cash flow for the second quarter was approximately $102 million, as compared to approximately $84 million in the first quarter. We spent approximately $75.5 million of cash for the purchase of capital equipment. A meaningful part of the CapEx was deployed for expanding our backend capacity to support increasing demand in our automotive business. During the second quarter, we used approximately $427.5 million for the repayments of long-term debt and capital leases, $56.9 million for our hedge and warrant transaction on a net basis, and issued debt of approximately $749.4 million. We used approximately $131 million to repurchase approximately 10.4 million shares of our common stock at an average price of $12.59.
At the end of the second quarter, approximately $748 million remained of the total authorized amount of $1 billion under the current stock repurchase program, which was announced on December 1st, 2014. At the current pace, we are tracking significantly ahead of the ratable repurchases on our stock repurchase program. We remain on track to generate annual free cash flow of $400 million in the near to mid-term. We define free cash flow as cash flow from operations less capital expenditures. We're cognizant of the recent moderation in macroeconomic conditions. However, at this time, we see no evidence to suggest any meaningful deterioration in global macroeconomic conditions. At the end of the second quarter of 2015, ON Semiconductor days of inventory on hand were 118 days, down approximately one day from the prior quarter.
As noted earlier, we reduced utilization in the second quarter in face of a slowing demand environment. In the second quarter of 2015, distribution inventory decreased by approximately $15 million quarter-over-quarter, and distributor resales increased by approximately 1% quarter-over-quarter. In terms of days, distributor inventory was down moderately quarter-over-quarter at slightly less than 10 weeks. For the second quarter of 2015, our lead times were approximately flat as compared to the first quarter. Our global factory utilization for the second quarter was in the high 70% range as compared to the mid 80% range in the first quarter. As I had indicated earlier, we lowered factory utilization in the second quarter in response to macroeconomic uncertainties. Now, let me provide you an update on performance of our business units, starting with Image Sensor Group, or ISG.
Revenue for our Image Sensor Group was approximately $173 million, as compared to approximately $171 million for the first quarter. Aptina was nicely accretive to our non-GAAP EPS, and we remain on track to generate $0.08 of non-GAAP EPS accretion from Aptina in the current year. Revenue for our Standard Products Group for the second quarter of 2015 was approximately $308 million, up approximately 2% quarter-over-quarter. Revenue for our Application Products Group was approximately $264 million, approximately flat as compared to the first quarter. Revenue for the second quarter of 2015 for the System Solutions Group was approximately $136 million, up approximately 2% quarter-over-quarter. SSG has now been accretive to our non-GAAP EPS for four consecutive quarters. I would like to turn the call over to Keith Jackson for additional comments on the business environment. Keith?
Thanks, Bernard. Let me start with comments on the business trends in the second quarter. The quarter started with strong bookings. Bookings continued to accelerate through the first half of the quarter. Towards the end of the quarter, we noted a significant slowdown in bookings. From a revenue perspective, we saw pronounced weakness in Europe and Japan. There were certain signs of macroeconomic softness in China as well. Our strong gains in the China smartphone and industrial markets helped us offset much of the weakness. Current trends suggest that the bookings have troughed. We have recently seen stabilization in the booking trends. Despite the overhang of prevailing macroeconomic uncertainties, we are able to deliver strong results in the second quarter, driven largely by strong execution and our sharp focus on managing costs.
Although the current macro environment is not ideal, we believe that we are well-positioned to outgrow the semiconductor industry. We have an attractive product portfolio and a world-class manufacturing and operational organization, which enable our industry-leading cost structure. We continue to leverage these assets to generate revenue growth and strong cash flow. Customer interest in our product offerings for the automotive, industrial, and smartphone end markets remain strong. We continue to increase our presence at key strategic accounts, and our revenue footprint with leading global OEMs is expanding. Based on our design win pipeline and investment in secular growth areas such as ADAS and wireless charging, and increasing exposure to industrial, automotive, and smartphone markets, we remain well-positioned to deliver strong results going forward. We are seeing increased momentum in wireless charging with high level of interest from customers across multiple end markets.
In the smartphone market, we are actively engaged with leading OEMs for models for year 2016. In ADAS, our design win pipeline continues to expand with our image sensor solutions for automotive applications. We are seeing strong benefits from combination of ON Semiconductor's strong relationship in the global automotive market and Aptina's market-leading automotive image sensor technology and software capabilities. We are seeing a very high level of interest in our ADAS offerings from automotive OEMs as ADAS adoption continues to accelerate. As Bernard indicated earlier, we are tracking significantly ahead of our $1 billion four-year share repurchase program. We remain committed to creating significant shareholder value by generating strong cash flow from our operations and returning a large part of that cash to shareholders through stock repurchase. Now I'll provide some details of the progress in our various end markets.
The automotive end market represented approximately 32% of our revenue in the second quarter and was down approximately 3% quarter-over-quarter, primarily due to broad-based inventory adjustment. As I indicated earlier, during the second quarter, we saw weakness in Japan and Europe. Recall that Europe is the largest region for our automotive-related sales. Our auto-related revenue was also impacted by a customer-related production issue, which contributed to the volatility in orders. I believe that the issue is largely behind, and we should see normal order patterns going forward. We continue to gain increasing traction with our image sensors in the automotive market. We are seeing double-digit growth in attach rates for ADAS for model year 2016 vehicles. Our design win momentum continues to accelerate, and we have secured additional design wins for ADAS and rearview cameras with leading OEMs in the Americas, Europe, and South Korea.
We are seeing higher than expected attach rate for our rearview cameras driven by consumer demand ahead of government regulations and mandates. A China-based automotive OEM began to ramp production of vehicles incorporating our image sensors for rearview camera applications. We continue to maintain our leadership in the automotive image sensor market, and we launched three new image sensors for ADAS and rearview applications. We launched a number of new products for automotive applications during the second quarter. Among these was potentially revolutionary wireless smart passive sensors for the measurement of pressure, moisture, proximity, and temperature. This sensor does not require either battery or microcontroller. We also expect to see a ramp for our new integrated power modules for our electric radiator fan applications at major global OEMs, and for our new integrated power modules and igniter modules for applications in the world's first brushless DC motor-driven power sliding door.
During the second quarter, we continued to see strong demand for image sensors, MOSFETs, SmartFETs, LED drivers, PARK-sensor interface , and power supply products. Revenue for the third quarter in the automotive end market is expected to be up quarter-over-quarter, despite weaker seasonality in the third quarter due to year-end model changeover. The communications end market, which includes both networking and wireless, represented approximately 18% of our revenue in the second quarter and was up approximately 16% quarter-over-quarter, driven by strong design win ramps at China-based smartphone OEMs. Our gains in communications in the second quarter were driven by a broad range of OEMs and products. Among the key contributors of the solid revenue growth in the second quarter were our autofocus and image stabilization solutions, battery protection FETs, EEPROMs, battery chargers, ESD protection, and power management ICs.
As I indicated earlier, interest in our wireless charging solutions remains strong. We are positioned to serve this market with integrated silicon and discrete solutions that address the power management needs of every critical power stage of a complete wireless charging solution. With our early investments and alignment with key ecosystem players, we believe that we are well positioned to benefit from the rapid adoption of wireless charging. Revenues for the third quarter in the communications end market are expected to be up quarter-over-quarter. The consumer end market represented approximately 15% of our revenue in the second quarter and was up approximately 2% quarter-over-quarter. White goods, sports action cameras, home electronics, and consumer gaming electronics led sales in the consumer segment. Adoption of our intelligent power modules in white goods applications in China remained strong.
During the second quarter, key design wins for our inverter IPM for air conditioner fan motors ramped into production. However, white good sales were dampened by softness in the China market. We are seeing strong traction for our fast focus, high-resolution image sensors in the sports action camera market. Adoption of our 3-megapixel and 2-megapixel image sensors for digital video recorders for cars in China is accelerating. Our superior image quality has enabled us to differentiate our offerings and gain share in the car DVR market. Home monitoring applications and B2B conferencing again drove demand for our 1080p image sensor solution. Revenues from our standard products for this consumer applications grew strongly quarter-on-quarter, driven by our EEPROMs, ESD protection, MOSFET, and small signal solutions. Revenue for the third quarter for our Consumer segment is expected to be up quarter-over-quarter due to normal seasonality.
The industrial end market, which includes military, aerospace, and medical, represented approximately 24% of our revenue in the second quarter and was down approximately 1% quarter-over-quarter. We saw weakness in Europe, Japan, and Asia Pacific regions, excluding China. The Americas was up slightly, and China was up strongly, driven mainly by our solid gains in image sensors for security applications. Robust growth in the security market again generated strong demand for our image sensing solutions during the quarter. As expected, we saw strong volumes in China as the country began to implement a large-scale transition to 1080p security cameras, which will utilize our 2-megapixel third inch and 3-megapixel third inch sensors. We continue to see good penetration globally in the top-tier machine vision camera manufacturers for the PYTHON VGA CMOS image sensor devices, which reported a 23% sales increase compared to the first quarter.
In the medical market, we had a record quarter with strong growth from our imaging and hearing aid customers. To further the growth of our industrial end market, we acquired Axsem, a provider of low-power radio frequency RF chips. Axsem products enable wireless connectivity support advanced functionality in the Internet of Things, automatic meter reading, home automation, sensor networks, and satellite communication markets. Adding Axsem's low-power RF chips, microcontroller technologies, and system experience to our Application Products Group is another step towards expanding our presence in the high-growth industrial IoT segment. Revenue for the third quarter for our Industrial segment is expected to be down quarter-over-quarter. The computing end market represented approximately 11% of our revenue in the second quarter and was down approximately 4% compared to the first quarter. As anticipated, we have started receiving orders for Intel's Skylake platform.
Share gains on the Skylake platform, coupled with significantly higher content, should enable us to grow our computing revenue despite declines in the computing market. Revenue for the third quarter for our Computing segment is expected to be up quarter-over-quarter. Now I'd like to turn it back over to Bernard for other comments and our other forward-looking guidance. Bernard?
Thank you, Keith. Now for the third quarter of 2015 outlook. Based on product booking trends, backlog levels, and estimated turns levels, we anticipate that total ON Semiconductor revenues will be approximately $890 million-$930 million in the third quarter of 2015. Backlog levels for the third quarter of 2015 represent approximately 80%-85% of our anticipated third quarter 2015 revenues. We expect inventory at distributors to stay flat quarter-over-quarter on a dollar basis. We expect total CapEx of approximately $65 million-$75 million in the third quarter of 2015. For the third quarter of 2015, we expect GAAP and non-GAAP gross margin of approximately 34%-36%. We expect total GAAP operating expenses of approximately $232 million-$244 million. Our GAAP operating expenses include the amortization of intangibles, restructuring, asset impairments, and other charges, which are expected to be approximately $35 million-$37 million.
We expect total non-GAAP operating expenses of approximately $197 million-$207 million. The increase in operating expenses in the third quarter as compared to the second quarter is driven by annual merit increases, which become effective in the third quarter. We anticipate GAAP net interest expense and other expenses will be approximately $14 million-$16 million for the third quarter of 2015, which includes non-cash interest expense of approximately $6 million. We anticipate our non-GAAP net interest expense and other expenses will be approximately $8 million-$10 million. GAAP taxes are expected to be approximately $8 million-$12 million, and cash taxes are expected to be approximately $5 million-$8 million.
We also expect share-based compensation of approximately $13 million-$15 million in the third quarter of 2015, of which approximately $2 million is expected to be in cost of goods sold, and the remaining amount is expected to be in operating expenses. This expense is included in our non-GAAP financial measures. Our diluted share count for the third quarter of 2015 is expected to be approximately 430 million shares based on the current stock price. Further details on share count and earnings per share calculations are provided regularly in our quarterly and annual reports on Form 10-Q and Form 10-K. With that, I would like to start the Q&A session. Thank you, Lori, please open up the line for questions.
At this time, we'd like to remind everyone, if you'd like to ask a question, please press star, then the number one on your telephone keypad. Your first question comes from the line of Ross Seymore of Deutsche Bank.
Hi, guys. Congrats for solid results in a challenging time. I guess the first question is for Keith. Keith, you mentioned a couple of times about bookings stabilizing. Can you talk a little bit about what you think is driving the weakness in bookings and what gives you the confidence that a recent stabilization is something that's going to persist?
Yeah, our belief from talking with customers is that there was a lot of inventory reduction going on toward the end of the second quarter with some uncertainty as they headed into the back half of the year.
We believe now that uncertainty is of a lesser concern to them, and we're starting to see much more normal patterns as we get into Q3. I really think it was more uncertainty than any end macro drop in production rates.
Great. I guess as my follow-up, one for Bernard. I know you guided the gross margin to remain relatively flat in the third quarter, given what you're talking about in utilization, can you talk about how that flows through into the gross margin line? I guess specifically what I'm getting at, is there a lag effect that what you do in utilization now is going to impact gross margin even out into the fourth quarter?
What we see is, again, our normal bump through of 50% continues being the rule. We expect a moderately improved utilization, but not significantly. We're still in the inventory control mode. I expect that's why we went to the 34%-36% for the third quarter.
Great, is there a lag between the quarters as far as what you did in the second weighs in the third, but what you're doing in the third will, I guess, help incrementally in the fourth?
Not in a very significant way, maybe a little bit.
Okay, great. Thank you.
Our next question comes from the line of Vivek Arya of Bank of America Merrill Lynch.
Thank you for taking my question. Keith, one more on the booking trends. Could you give us some more color by whether it's end market or geography, where you have started to see the improvement and which areas remain weak? My sense is that when we look at all the headlines from China and Europe, they have not stabilized, but we are hearing a little more benign or a calmer tone from a lot of the semiconductor vendors. I'm wondering whether that's just lack of visibility, I don't know whether visual thinking is the right word, but if you could just give us some more comfort that you have the visibility and that this resumption of booking trends is more sustainable.
Sure. In my comments, certainly our order patterns reflect not only the market but our specific company positioning. We have seen a significant uptick in our European automotive and in the China backlogs in both automotive and industrial. Although I understand all of the comments on the macros not improving there, we're certainly seeing that in our order patterns picking up strongly. The rest of the geographies, again, appear to be normal order patterns for Q3, which are typically stronger than Q2.
Got it. As my follow-up, you had highlighted strength in China smartphones in Q2, I believe. Any more color on inventory levels on that market? Because some other players, MediaTek, Qorvo, et cetera, have offered some concern about some excess inventory of smartphones there. Any color would be very helpful. Thank you.
Yeah. That always differs end customer to end customer or OEM provider to OEM provider, we've got such a broad positioning there that our overall numbers picked up nicely, despite some pockets of inventory at some of the suppliers.
Okay. Thank you.
Our next question comes from the line of John Pitzer of Credit Suisse.
Yeah, good morning, guys. Thanks for letting me ask the question. Keith, I guess just a follow-up to that question, if I may. Can you help me better understand when you look at both the smartphone market and the PC market, how we should think about ON content as we move into the back half of the year, whether that be with Skylake on the PC side and/or incremental applications that you might be getting on the smartphone side? What I'm really trying to do is differentiate how dependent you are on unit demand versus content growth in those two markets specifically.
Yeah, we get a very substantial bump in content growth for Skylake. It adds overall another roughly $1.50 or so to each PC sold. It's a very big bump for us moving to Skylake off the old platforms. In addition, we think we've gained significant share there with having, we believe, something that will exceed 50% market share in all of the PC platforms with Skylake. On the handset side, we're seeing increased number of phones using our image stabilization, auto focus, and image sensor solutions, which again will add fairly significant dollars per unit sold, probably in the $0.75 or so range.
That's helpful. Then just maybe a follow-up for Bernard on the gross margin side. Bernard, just so I'm clear, no unusual sort of utilization actions in the calendar third quarter. How should I think about inventory levels exiting Q3, and would you anticipate kind of going through this soft patch at the industry level without having to do much to utilization levels internally?
On distribution, we said we're expecting our inventories to be flat. For the internal inventories, we're expecting those to be flat to slightly down, which will result in also compared to what we have done in the last several quarters, slightly less utilization, but nothing super major. Perfect. Thanks, guys.
Your next question comes from the line of Chris Caso of Susquehanna Financial.
Thank you. Good morning. For our first question, I'd like to go back to the comments on industrial. Based on your segment commentary, it does look like that's the main area of weakness as you look in the third quarter. Can you talk about that broadly? You also mentioned that it looked like the China industrial order rates had picked up. I don't know if that is having effect on Q3 revenue at this point yet.
We are expecting a slight amount of softness in Q3 for industrial overall. The biggest slowdowns were Europe and Japan in those industrial marketplaces. We had what we believe to be a softer macro industrial market in China, that was offset by the security camera increases that we saw for our image sensor business. In general, I would say industrial is one of the areas where there's some inventory correction, a little bit of slowdown on a macro basis. It is pretty much global, but it is not significant, we're expecting just slight softness similar to what we saw in Q2.
Right. That security camera business, that would be something specific to you, not just the market.
Correct. That would be a very specific thing where we've gotten some great design wins for the next generation image sensors.
Great. Okay. As a follow-up, could you talk a little bit about where you expect Q4 seasonality to be right now? I know it's been moving around for you now with different end market content. Particularly given the softness that you've seen now, does that have any effect on what you think normal seasonal pattern should be for Q4?
It's too early to tell on Q4. Typically, our Q4s are very similar to our Q3s, and at this stage, I don't have significant data that would indicate a major change.
Great. Thank you.
Our next question comes from the line of Craig Ellis of B. Riley & Company.
Thanks for taking the question, guys. Keith, it sounds like you're expecting, from an end market standpoint, four of your five end markets to be up in the third quarter. Can you just give us a sense for what you're seeing in terms of the relative performance of those end markets versus each other?
Okay. In the automotive piece, we should see a return to some good growth. Again, it's really a platform-dependent, new product content story there for us. There is the model year changeover, which normally causes a little bit of a slowdown as they close factories for a couple of weeks. In this case, we think our new product share gains will more than offset that going into Q3. In the PC area, it's really all about the Skylake platform. As I talked about earlier, the dollar content increase is significant, and even without any unit increases, we should see some nice content gains in Q3. In the communication sector, it really is cellphone content again, not that we're looking for significant increases in the number of cellphones built. What did I mention? Industrial we said was down. I won't go through that one again.
Consumer. Consumer, we do see the normal kind of Well, I won't say normal. We do see an uptick in Q3, albeit at a slightly more muted rate than normal in consumer as they get ready for the buys in the fourth quarter.
Within communications, when do you expect wireless charging to generate material revenues for the company?
I think we indicated that we're really seeing significant number of models coming on in the 2016 builds.
Okay.
There's going to be some this year, but it's going to be mostly next year.
The follow-up is for Bernard. The company acknowledged that you're tracking ahead of what would be a linear pacing on the buyback. You've done, I think it's around $290 million to date in the program. Given the guidance for the third quarter, is there any reason you wouldn't buy back as intensively as you have in the first half of the year when we look at the third quarter and use of the program?
We are opportunistically looking at opportunities.
Thanks, guys.
Yep.
Your next question comes from the line of Christopher Rolland of FBR Capital Markets.
Hi, guys. You guys mentioned better image sensor trends in China. I think you guys pointed to auto DVR and backup. Can you dig in a little bit more there? Is this a regulatory thing driving the uptick or just consumer trends over there? Also, if you could sort of remind us or update us as to the global regulatory backdrop and where we are there, either for backup cameras or DVR. Thanks.
Yeah. It is really consumer driven in China completely, particularly the DVR piece. That is actually not going to be mandated at all. It's just the rear cameras that are being mandated globally. There are different adoption dates for government requirements around the world, but they start anywhere from 2016-2018, depending on countries.
Okay, great. SSG, nice to see it accretive for four quarters now. Can you give us a few more details there? Is there anything that can get us back to $150 million a quarter, that kind of a run rate? Is there anything that you see either positively or negatively in the outlook for SSG?
Yeah, I don't have any negatives. On the positive side, we've been talking about a lot of the wins they have in automotive and industrial. Those give us much better margins for that business, and we think much more stable growth. We're really looking at next year as being a significant year for growth in SSG. Again, it's driven by all the design wins we've had the last two years in industrial and automotive.
Great. That's great news. Thanks, guys.
Your next question comes from the line of Ian Ing of MKM Partners.
Yes, thank you for taking my question. Image sensors, you talked about strength in surveillance in automotive, but where are you in terms of turning more selective in the commodity types of markets like handsets and consumer? Is that something that still has to play out?
Actually, we're there. We're participating, the majority of everything in the handset piece, which is the most commoditized, is at the 13-megapixel rates, where we can still get some differentiation. In the more consumer pieces that you might see in the homes, also again, we've got a set of higher-resolution products there, and the lower-resolution products are tailing off.
Thank you. Then, Bernard, could you talk a little bit more about the puts and takes on the September quarter OpEx guidance? I know you're talking about merit increases, but any benefits to the Aptina integration, some synergies there, perhaps? Or do you have some temporary cost controls from Q2 rolling off in September? Thanks.
Yes. We will continue with our normal belt-tightening that we have in times where revenues are not as strong. We do expect to see some improvement due to the finalization of the integration of Aptina. We will also be looking at, based on business results, a potential tailoring of variable comp. That offsets partially the merit increases that are focal point beginning of July.
Okay, thank you.
Your next question comes from the line of Steve Smigie of Raymond James.
Great. Thanks a lot, guys. Keith, I was hoping to follow up a little bit more on the industrial. Industrial is typically pretty seasonally soft in the third quarter for many companies. Just curious if it's at all possible to parse the difference between maybe just normal seasonality for your soft or your comments for industrial to be down versus sort of macro.
I think, again, the macro is we're not seeing that much different. We do have a little bit of upside over normal macro due to the security camera upgrades to the 1080p that I talked about earlier. Otherwise, there's really not that much that we're seeing significantly different than macro.
Okay. Then, just on the consumer business, particularly around some of the white goods going into China, again, it's not normally that great of a time of year going to Q3 for that anyway. I think it's probably more seasonally stronger earlier in the year. From that softness that you saw, has that picked up a little bit, or would you not even expect that just given the seasonality here?
Yeah, we would expect kind of flatishness. Q2 was kind of under normal growth rates for the white goods, and Q3 is kind of flatish.
Okay, great. Thank you.
Your next question comes from the line of Kevin Cassidy of Stifel.
Thanks for taking my question. Just some clarification on, I think you said it was your new automotive application is a rearview mirror, not just the backup camera. Is that correct?
Actually, I don't know that it was new. It's expanded. We've been doing rearview cameras and including the surround view kinds of things for some time. We're really just seeing a pickup in the attach rates.
Oh, okay. It's not the actual rearview mirror. It's just expanded.
In some cases, our customers are putting them in the rearview mirrors.
Okay. All right. You say it's ahead of regulations. Do you think that it'll go through safety regulations? I guess I'm not understanding how the process works. A consumer can demand it.
I mean, they've been appearing on cars. In fact, there is no country requiring rearview backup cameras in the world yet they're on all kinds of cars. That is a consumer-driven feature that they find value in, so the car makers provide that as a differentiating factor ahead of regulations.
Okay, great. Just one follow-up, too, on the security cameras in China. Those are mainly commercial cameras?
Those are mainly commercial, correct.
Okay. Thank you.
Our next question comes from the line of Vijay Rakesh of Mizuho.
Hi, thanks, guys. Just on your automotive side again, as you look at your pipeline there and all the regulatory tailwinds, I know you had said automotive is 32% gets to 33% of revenues by 2016, 2017. Do you see that being substantially higher now as you go through the year and you see this pipeline here?
We do see increases in that as you go through the full years of 2015 and 2016, approaching probably by the end of 2016, something in the mid-30s%.
Got it. On the, just looking at the OpEx and the buybacks here, any target on your share count as you look towards the end of the year? How do you see OpEx going out? Should it be flat? Do you think we can get it down to the $190 million kind of range?
That's it.
For the fourth quarter or OpEx, we expect those to be fairly flat sequentially. Share count, obviously, it's a function of what the market will be out there, and so I don't want to speculate on what the number is going to be.
Thanks.
Your next question comes from the line of Rajvindra Gill of Needham & Company.
Hi, this is Joshua Buchalter on behalf of Raji. Thanks for taking my question. You talked about their content gains on Skylake. Could you maybe talk about the cadence and timing of a ramp and how we should be looking at that? Thank you.
Certainly. Those conversions have already started largely in the channel motherboard and desktop areas. As we go through the quarter, you'll see the notebook builds pick up toward the end of the third quarter. Again, we're seeing take-ups. I can't give you exact percentages, but very clearly all of our customers are building Skylake at this point.
Okay. We should expect some contribution in the third quarter and then I guess more in the fourth quarter?
That's correct.
Okay. Thank you. Looking at the auto end market, you mentioned there was one large customer with an issue. Could you maybe characterize how automotive would've looked had that issue not developed? Thank you.
Yeah, actually it would've been flat, maybe slightly up, but pretty much flat had that issue not occurred.
Okay, thanks. Congratulations on the solid progress.
Thanks.
Your next question comes from the line of Tristan Gerra of Baird.
Okay, good morning. Just to follow up on your PC business. Given that your Q1 PC revenue was above seasonality, how much of the share gain in PCs related to Skylake is already realized from a market share standpoint?
The answer is none, because there were no Skylake builds made prior to July.
The over shipping in Q1 was related to something else? Any feedback?
It was just all share gain in the previous platforms.
Okay, great. The facial recognition feature in Windows 10, any sense of the adoption rate that you could see from a hardware standpoint in the notebooks in the second half and potential participation there?
Certainly, we've got some participation there. I think it's a little too early to call specific numbers. There was many of the consumer platforms that had that facial recognition, like in the Xbox, previous to that. I guess it's too early for me to tell.
Okay. Thank you.
Your next question comes from the line of Gabriela Borges of Goldman Sachs.
Great. Thanks so much for letting me ask a question. Maybe just one housekeeping one to start. Could you help us understand how much revenue contribution there is from the AXSEM deal or whether this is more of a longer-term revenue synergy opportunity?
That's really more a longer-term revenue synergy. It gives us a gigahertz radio that we want to couple low power capabilities, that we want to couple with our IoT. Approximately $4 million a year in revenue run rates.
That's helpful. Thank you. Just as a follow-up on the back-end capacity increases in automotive, maybe just give us an update broadly on how utilization is tracking on the back end, and then the longer-term visibility that you have into automotive, what the growth rates could look like that you could grow into over time. Thank you.
From our perspective, the average growth rates we're giving, I cannot differentiate those by market sector. As we mentioned, we took our utilization down in the second quarter to pull back on inventory. We're taking them up slightly in Q3 with a flattish inventory in mind. Kind of high 70s to low 80s transition.
That's fair to say that's the number on the back end as well as the front end?
That number is back end as well as front end. We try and balance that as best we can.
Understood. Thanks very much.
Once again, if you'd like to ask a question, please press star then the number 1 on your telephone keypad. Your next question comes from the line of Craig Hettenbach of Morgan Stanley.
Yes, thanks for the update on the Aptina accretion. Can you just talk about specifically to some of the gross margin initiatives you have to kind of step up those gross margins, how that's playing out and the type of visibility you have for Aptina gross margins going out into next year?
Okay. I'll start on that one. There's really a couple of big things there. One, we've done some insourcing of part of that manufacturing. As we ramp that, as it goes through this year, you should see increasing contribution from that in the several hundred basis point direction as you get into 2016. The second is relative to mix and where we target those sales. We have been indeed curtailing our presence in some of the low margin consumer areas, as you've heard me talk about, we've been getting significant traction and growth in the automotive sector that has much better margins. Lastly, there is some consolidation work that's going on from a cost perspective. Again, it continues throughout this year that's got maybe another 100 basis points attached. Just on a natural basis, you should see some very good accretion in those gross margins.
Got it. Just to follow up on the environment, if I think about just some of the customer inventory reductions at quarter end for ON and some of your peers as well. It felt like inventory was on the lean side, and yet customers were reducing again. Just curious to get your take, is there a certain threshold that you think or bare minimum level of inventory that you think customers can bump up against? Would love to get your thoughts there. Thanks.
Yeah, it's been very interesting. We've had lean inventories for over a year now. We're less than 10 weeks in the distribution channel, which traditionally would be very lean. My take on it is they're doing it because they can right now, they can because there's no major drivers for a swift increase in markets. As long as you're bumping around with a relatively modest global growth around 3% or so, I think the current levels are actually fairly stable, but they certainly don't have a lot of room to go down.
Got it. Thank you.
At this time, there are no further questions. I'll now return the call to Parag Agarwal for any additional or closing remarks.
Thank you for joining the call today. We look forward to seeing you at various conferences. Thank you and goodbye.
Thank you for participating in the ON Semiconductor Second Quarter 2015 earnings conference call. You may now disconnect.