Q2 2024 Allegro MicroSystems Inc Earnings Call
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Good morning, and welcome to the Allegro micro systems second quarter fiscal 2024 of our earnings conference call. At this time, all participants are in a listen only mode.
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After the speaker's presentation, there will be a question and answer session.
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Good morning, and welcome to the Allegro micro systems second quarter fiscal 'twenty 'twenty four earnings conference call. At this time all participants are in a listen only mode. After the speaker's presentation, there will be a question and answer session.
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Please be advised that today's conference is being recorded I would now like to hand, the conference over to Julie Hoover, Vice President of Investor Relations and corporate communications.
To ask a question during this session. Please press star one one on your telephone.
Thank you Amber and good morning, and thank you for joining us today to discuss <unk> second fiscal quarter of 2024 results.
What's drawing your question.
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Please be advised that today's conference is being recorded I would now like to hand, the conference over to Julie Hoover, Vice President of Investor Relations and corporate communications.
I'm joined today by <unk>, President and Chief Executive Officer, Vineet, Naga Wala, and <unk>, Chief Financial Officer, Derek <unk>.
They will provide highlights of our business review, our quarterly financial performance and share our third quarter outlook.
Thank you Amber and good morning.
And thank you for joining us today to discuss <unk> second fiscal quarter of 2024 results.
We'll follow our prepared remarks with a Q&A session.
Our earnings release and prepared remarks include certain non-GAAP financial measures.
I'm joined today by <unk>, President and Chief Executive Officer, Vineet, Naga Wala and.
The non-GAAP financial measures that are discussed today are not intended to replace or be a substitute for our GAAP financial results.
And I like Rose Chief Financial Officer, Derek Jones Julio.
They will provide highlights of our business review, our quarterly financial performance and share our third quarter outlook.
A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures are included in our earnings release, which is available on the Investor Relations page of our website at Www Dot Allegro micro dot com.
We will follow our prepared remarks with a Q&A session.
Our earnings release and prepared remarks include certain non-GAAP financial measures.
The non-GAAP financial measures that are discussed today are not intended to replace or be a substitute for our GAAP financial results.
This call is also being webcast and a replay will be available in the events and presentations section of our IR page shortly.
A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP financial measures are included in our earnings release, which is available on the Investor Relations page of our website at Www Dot Allegro micro dot com.
During the course of this conference call, we will make projections or other forward looking statements regarding future events or future financial performance of the company we.
We wish to caution that such statements are based on current expectations and assumptions as of todays date and as a result are subject to risks and uncertainties that could cause actual results or events to differ materially from projections.
This call is also being webcast and a replay will be available in the events and presentations section of our IR page shortly.
During the course of this conference call, we will make projections or other forward looking statements regarding future events or future financial performance of the company.
Important factors that can affect our business, including factors that could cause actual results to differ from our forward. Looking statements are described in detail in our earnings release for the second quarter of fiscal 2024 and in our most recent periodic filings with the Securities and Exchange Commission or.
We wish to caution that such statements are based on current expectations and assumptions as of todays date and as a result are subject to risks and uncertainties that could cause actual results or events to differ materially from projections.
Our estimates or other forward looking statements may change and the company assumes no obligation to update forward looking statements to reflect actual results changes to a shop assumptions or other events that may occur except as required by law.
Important factors that can affect our business, including factors that could cause actual results to differ from our forward. Looking statements are described in detail in our earnings release for the second quarter of fiscal 2024 and in our most recent periodic filings with the Securities and Exchange Commission or.
It is now my pleasure to turn the call over to <unk>, President and CEO Vinny Narco wallet Vineet.
Our estimates or other forward looking statements may change and the company assumes no obligation to update forward looking statements to reflect actual results changes to a shop assumptions or other events that may occur except as required by law.
Thank you Julian and good morning, and thank you for joining our second quarter fiscal year 2024 conference call.
I am pleased to report that we continued our strong performance in fiscal Q2.
We delivered sales of $276 million up 16% year over year, driven by continued strength in automotive and non-GAAP earnings per share established a new record at 40.
It is now my pleasure to turn the call over to <unk>, President and CEO Vinny <unk> wallet Vineet.
Thank you Julian and good morning, and thank you for joining our second quarter fiscal year 2024 conference call.
Up 29% year over year.
I am pleased to report that we continued our strong performance in fiscal Q2.
We continue to execute our strategy of growing our business in E mobility, and selected industrial markets, including clean energy and automation.
We delivered sales of $276 million up 16.
Sales in these strategic growth areas with $154 million or 56% of total sales up 37% year over year as we continued to gain share and outpace the competition.
Percent year over year, driven by continued strength in automotive and non-GAAP earnings per share and established a new record at 40 up.
Up 29% year over year.
We continue to execute our strategy of growing our business in E mobility, and selected industrial markets, including clean energy and automation.
Automotive revenues in Q2 grew 31% year over year within that segment E mobility, which is the electrification of vehicles and increasing adoption of Adas features continues to fuel <unk> growth.
Sales in these strategic growth areas with $154 million or 56% of total sales up 37% year over year as we continued to gain share and outpace the competition.
Sales into E mobility applications increased by 60% year over year to 50% of Q2 automotive sales, establishing a new milestone and up from 41% in Q2 of 2023.
Automotive revenues in Q2 grew 31% year over year within that segment <unk> mobility, which is the electrification of vehicles and increasing adoption of Adas features continues to fuel <unk> growth.
Okay.
Last quarter, we highlighted macro concerns related to China, a sentiment echoed by many of the semiconductor space as well as other industries.
Sales into E mobility applications increased by 60% year over year to 50% of Q2 automotive sales, establishing a new milestone and up from 41% in Q2 of 2023.
September I traveled to China with several members of my executive team, where we met with our customers channel partners suppliers and teams to obtain a comprehensive view of the market dynamics on the ground.
Last quarter, we highlighted macro concerns related to China, a sentiment that was echoed by many of the semiconductor space as well as other industries.
While there are clearly challenges in the broader Chinese economy, we came away even more excited about the opportunities for allegro, specifically related to E mobility and clean energy.
September I traveled to China with several members of my executive team, where we met with our customers channel partners suppliers and teams to obtain a comprehensive view of the market dynamics on the ground.
The enthusiasm and respect from our customers and our partners for our Lakers longstanding heritage in automotive as well, that's what our track record of delivering innovative high quality products continues to position us as a partner of choice for Chinese Oems, who are increasingly capturing the world's imagination and targeting a more global.
While there are clearly challenges in the broader Chinese economy, we came away even more excited about the opportunities for allegro, specifically related to E mobility and clean energy.
Yes.
The enthusiasm and respect from our customers and our partners for the Lakers longstanding heritage in automotive as well, that's what our track record of delivering innovative high quality products continues to position us as the partner of choice for Chinese Oems who are increasing.
As a proof point, we saw continued strong second quarter design win activity and shipments in China, which increased both sequentially and year over year.
With local incentives for Evs extended into 2027 and.
And increasing consumer enthusiasm for Evs, we have solidified plans for localizing key aspects of our supply chain, which will help us better support our customers in an increasingly competitive landscape.
And targeting a more global presence.
As a proof point, we saw continued strong second quarter design win activity and shipments in China, which increased both sequentially and year over year.
We were also pleased to celebrate the opening of our new Shanghai office fluctuating a commitment to our customers and our growing local team in this strategically important region.
With local incentives for Evs extended until 2027 and.
And increasing consumer enthusiasm for Evs, we have solidified plans for localizing key aspects of our supply chain, which will help us better support our customers in an increasingly competitive landscape.
Looking to the future we continue to see strong design wins in our strategic growth areas, including E mobility clean energy and automation.
We were also pleased to celebrate the opening of our new Shanghai office fluctuating a commitment to our customers and our growing local team in this strategically important region.
E mobility alone represented approximately two thirds of second quarter design wins.
This design win momentum and a significant content opportunity associated with those design wins continues to drive our above market performance and support future growth.
Looking to the future we continue to see strong design wins in our strategic growth areas, including E mobility clean energy and automation.
The Great example is the BMW selection of Allegro at the sole current sensor IC supplier for traction in voter systems used across the company's entire fleet of battery electric vehicles.
E mobility alone represented approximately two thirds of second quarter design wins.
This design win momentum and a significant content opportunity associated with those design wins continues to drive our above market performance and supports future growth.
<unk> current sensor integrated circuits deliver market, leading accuracy, enabling precise motor control, leading to a superior driving experience and extended driving range by minimizing power losses.
A great example is the BMW selection of Allegro at the sole current sensor IC supplier for traction in voter systems used across the company's entire fleet of battery electric vehicles.
Additionally, our current sensors built in over current detection and self diagnostics enabled BMW to meet the highest level a level of safety and reliability, while reducing the number of components used in the traction motor.
<unk> current sensor integrated circuits deliver market, leading accuracy, enabling precise motor control, leading to a superior driving experience and extended driving range by minimizing power losses.
There has been some discussion lately about slowing momentum for evs, and whether hybrid set a better option.
Additionally, our current sensors built in over current detection and self diagnostics enabled BMW to meet the highest level a level of safety and reliability, while reducing the number of components used in the traction in water.
The transition to fully electric vehicles is a significant one and major technology transformations, usually don't happen in a straight line or without bumps in the road.
<unk> are still projected to grow strong double digit over the foreseeable future as it remains the best way to meet emissions requirements.
The rest with some discussion lately about slowing momentum for evs and whether hybrids at a better option.
And I wanted to emphasize that electronic content and full hybrid vehicles is significantly higher than that in ice vehicles and similar to that in bvs, So allegra wins, no matter, which platforms Oems invest in and grow.
The transition to fully electric vehicles is a significant one and major technology transformations, usually don't happen in a straight line or without bumps in the road.
<unk> are still projected to grow strong double digit over the foreseeable future as it remains the best way to meet emissions requirements.
This reinforces our confidence in the long term target growth model, we said at analyst day in March of 2023.
And I want to emphasize that electronic content and full hybrid vehicles is significantly higher than that in ice vehicles and similar to that in bvs. So our labor wins, no matter, which platforms Oems investment and growth.
Beyond E mobility, we are seeing some near term order momentum in our automotive business primarily related to the impacts of the UAW strike as Oems and tears re benefit production plants in Q3, we still expect our automotive business to grow year over year.
This reinforces our confidence in the long term target growth model, we said at analyst day in March of 2023.
Let me now comment on the industrial markets.
In Q2 growth in industrial automation and clean energy helped offset declines of datacenter and brought industrials to deliver 6% year over year growth in industrial sales.
Beyond E mobility, we are seeing some near term auto moment in our automotive business primarily related to the impacts of the UAW strike as Oems and tears rebalance of production plants in Q3, we still expect our automotive business to grow year over year.
The continuing macro trends are starting to have an impact on overall demand, leading industrial Oems to become more cautious.
Let me now comment on the industrial markets.
Looking into the third quarter, we expect to see a sequential decline in industrial sales as Oems trimmed their production schedules and manage their inventory.
In Q2 growth in industrial automation, and clean energy helped offset declines of datacenter and broad industrial to deliver 6% year over year growth in industrial sales.
Our other market, which is less than 10% of our sales and largely serves consumer applications has seen significant declines on a year over year basis, due to slowing consumer demand and inventory correction.
The continuing macro trends are starting to have an impact on overall demand, leading industrial Oems to become more cautious.
Looking into the third quarter, we expect to see a sequential decline in industrial sales as Oems trimmed their production schedules and manage their inventory.
In response, we will continue to manage channel inventory tightly in both the industrial and consumer markets, while still maintaining our market positions.
Our other market, which is less than 10% of our sales and largely serves consumer applications has seen significant declines on a year over year basis, due to slowing consumer demand and inventory correction.
While our backlog remains robust our Q3 sales forecast reflects normal third quarter seasonality heightened macroeconomic trends.
In response, we will continue to manage channel inventory tightly in both the industrial and consumer markets, while still maintaining our market positions.
Weighted inventory levels in industrial and consumer markets and the lingering impact from the UAW strike in automotive.
Over the mid and the long term continued strong momentum in design wins, especially in our strategic focus areas of E mobility, clean energy and automation and the deepening and expanding collaboration with leading Oems like BMW reinforces our conviction in the target model of low double digit sales growth and above.
While our backlog remains robust our Q3 sales forecast reflects normal third quarter seasonality heightened macroeconomic trends.
Weighted inventory levels in industrial and consumer markets and the lingering impacts from the UAW strike in automotive.
32% operating margin.
Over the mid and the long term continued strong momentum in design wins, especially in our strategic focus areas of E mobility, clean energy and automation and a deepening and expanding collaboration with leading Oems like BMW reinforces our conviction in the target model of low double digit sales growth and above.
Finally, I'd like to take a few moments to discuss the <unk> acquisition, which we closed on Tuesday of this week.
We are delighted to welcome the crocs team to Allegro and look forward to working together to serve our customers.
<unk> IP and products complement our legacy portfolio, while accelerating our roadmap and plants or deploy TMR two highly demanding applications by several years.
32% operating margin.
Finally, I'd like to take a few moments to discuss the <unk> acquisition, which we closed on Tuesday of this week.
The legacy TMR technology is strong and Adas and Crocus will bolster our leadership in <unk> applications as well as expand the aperture and industrial and consumer applications.
We are delighted to welcome the <unk> team to Allegro and look forward to working together to serve our customers.
<unk> <unk> products complement our legacy portfolio, while accelerating our roadmap and plan to deploy TMR two highly demanding applications by several years.
<unk> industrial presence, it's complementary to the Lakers leadership positions at automotive and industrial markets and will benefit from a strong global sales engineering and supply chain footprint.
Ah Legras TMR technology is strong and Adas and Crocus will bolster our leadership in <unk> applications as well as expand the aperture in industrial and consumer applications.
Putting this altogether, we expect this business combination to strengthen <unk>, leading position in magnetic sensing with world, leading hall effect, and leading edge TMR solutions, which further enhances our long term growth.
<unk> industrial presence, it's complementary to our legacy leadership positions at automotive and industrial markets and will benefit from a strong global sales engineering and supply chain footprint.
I'll now turn the call over to Derek to review, the Q2 financial results and provide guidance for our third quarter Derek.
Putting this altogether, we expect this business combination to strengthen <unk>, leading position in magnetic sensing with world, leading hall effect, and leading edge TMR solutions, which further enhances our long term growth.
Thank you Manny and good morning, everyone.
Starting with a summary of our Q2 financial results.
Sales were $276 million gross margin was 58, 3% operating income was 31, 3%.
I'll now turn the call over to Derek to review the Q2 financial results and provide guidance for our third quarter Derrick. Thank.
And adjusted EBITDA was 37, 1% of sales.
As a result earnings were <unk> 40 per share an increase of 29% compared to Q2 of fiscal 'twenty three.
Thank you Manny and good morning, everyone.
Setting with a summary of our Q2 financial results sales were $276 million gross margin was 58, 3%.
Sales to our automotive customers were $206 million.
Operating income was 31, 3%.
Or 75% of our Q2 sales an increase of 9% sequentially and 31% year over year.
And adjusted EBITDA was 37, 1% of sales.
As a result earnings were <unk> 40 per share an increase of 29% compared to Q2 of fiscal 'twenty three.
All automotive sales categories grew sequentially and year over year.
E mobility sales increased by 13% sequentially and 60% year over year.
Sales to our automotive customers were $206 million.
Now representing 50% of second quarter sales auto sales up from 41% a year ago.
We're 75% of our Q2 sales an increase of 9% sequentially and 31% year over year.
Industrial sales were $51 million declining 25% sequentially with the largest percentage declines in data center and broad based industrial.
All automotive sales categories grew sequentially and year over year.
E mobility sales increased by 13% sequentially and 60% year over year.
This largely reflects the tie.
Clinton and press pound when finished.
The decreasing 1% sequentially and 25% year over year.
Sales of our power products were $100 million <expletive>.
Declining, 4% sequentially, but increasing 2% year over year.
Sales by geography were well balanced with 25% of our sales in China.
21% in the Americas, 20% and the rest of Asia, and 17% each in Europe, and Asia and Japan.
Highlights in the quarter were 14% sequential growth in Japan, a 12% sequential growth in China.
Now turning to Q2 profitability.
Gross margin was 58, 3% compared to 57, 8% in Q1 and.
And above our guidance range of <unk>, 56% to 57% largely due to favorable product mix and foreign exchange.
Operating expenses were $74 million or 27% of sales.
Declining by approximately $1 million sequentially and from 28% of sales a year ago.
Second quarter R&D expenses were 14% of sales.
And SG&A was 13% of sales.
Operating margin was 31.3% of sales compared to 38% in Q1, and 27, 9% a year ago.
Operating margin dollars increased by 30% year over year on a comparable sales increase of 16% demonstrating.
And the continued strong operating leverage.
The effective tax rate for the quarter was 11, 4%.
Slightly lower than expected due to the geographical mix of income.
The second quarter diluted share count was $195 1 million shares and net income was $78 million or <unk> 40 per diluted share.
Moving to the balance sheet and cash flow.
We ended Q2 with cash of $378 million cash.
Cash flow from operations in the quarter was $47 million and free cash flow was $16 million.
From a working capital perspective, DSO was 39 days.
Down slightly from Q1 and days in inventory were 136 days compared to 132 in Q1 on slightly lower inventory balances.
Capital expenditures in the second quarter was $31 million.
As we continue to build out our backend operations in the Philippines.
Before we move to Q3 guidance I'll make a few additional comments about the <unk> acquisition.
As <unk> mentioned, we're excited to have closed the crocus acquisition two days ago on October 31.
Since announcing this transaction in August our teams have been planning for integration, which is now well underway.
We are ready to begin selling <unk> products through our sales channels and expect to begin to realize cost synergies beginning in calendar 'twenty four as integration progresses.
We also expect to utilize <unk> has significant tax net operating losses within the first year of close.
By repatriating IP from France to the U S.
This will allow us to efficiently integrate <unk> into our operations.
Leverage our U S tax rate and obtained many of the same benefits typically associated with an asset transaction.
In connection with the closing of Crocus, we executed a $250 million term loan.
At Sulphur, plus 275 basis points.
And pro forma after closing, we we have approximately $200 million in cash and our net leverage is well below one turn.
In addition, I'm pleased to report that Moody's upgraded <unk> credit rating to be <unk> three.
Now with that backdrop, I'll turn to our Q3 outlook.
Including two months of Crocus, we expect third quarter sales to be in the range of $250 million to $260 million.
Our guidance contemplates a return to normal third quarter seasonality.
The lingering impacts from the UAW strike and careful channel inventory management.
Our long term model, including low double digit sales growth is still intact and in fiscal 'twenty. Four we expect our strategic focus areas of auto and industrial to outgrow the underlying markets.
We expect the gross margin in Q3 to be approximately 54% reflecting.
Reflecting the projected product and channel mix as well as the initial impact of progress.
Operating expenses are expected to decline by 4% sequentially and are anticipated to be approximately 28% of sales.
We continue to make investments in R&D and sales and our strategic focus areas as we work towards our target operating model.
We are also taking prudent actions to manage expenses and working capital as we navigate near term macroeconomic uncertainties.
We expect our non-GAAP tax rate to be approximately 12, 5% and our diluted.
Share count to be approximately $196 5 million shares.
As a result, we expect non-GAAP EPS to be between 27% and 31 per share.
In Q3, we expect the crocus impact to be $5 million in sales.
$3 5 million of interest expense.
<unk> <unk> dilutive to EPS for the two months that brokers is included in our results.
Going forward brokers will be integrated into our magnetic sensor business.
Now I'll hand, the call back to have an eight for some concluding remarks.
Thank you Derek.
We believe our core growth engines and target financial model remain intact, we remain focused on executing a strategy that leverages the intersection of our industrial leading technology with the mega trends of electrification and automation in the automotive and industrial markets.
We did great pride in our core value to innovate with purpose with a goal of delivering the greatest value to our customers.
And we remain as bullish as ever and excited about the journey ahead.
I want to thank our teams around the globe for delivering great results in Q2 and for their continued hard work and dedication to serve our customers.
Now I'll turn the call back to Julian for the Q&A session Julie.
This concludes management's prepared remarks before we open the call for your questions.
I will share our third fiscal quarter conference lineup with you.
We are attending UBS Global Technology Conference on November 27, and 28 at the Phoenician in Scottsdale, Arizona.
Wells Fargo's seventh annual TMT summit on November 29 at the terrain resort in Rancho Palos Verdes, California.
And Barclays TMT Conference on December 7th at the Palace Hotel in San Francisco, California.
We will now open the call for your questions.
Mandar Please review Q&A instructions.
Thank you at this time, we will conduct the question and answer session. As a reminder to ask a question you will need to press star one one on your telephone and wait.
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Please standby as we compile the Q&A roster.
Our first question comes from Gary Mobley of Wells Fargo. Please go ahead.
Hey, guys. Thanks for taking my question I wanted to start out my questions by focusing on the two largest global automotive markets the U S and China.
Last quarter, you called out some bookings weakness in China.
And we've seen some reacceleration.
Light vehicle build rates. So maybe you can just speak to the bookings trends that youre seeing in China.
And I would've thought that the UAW strike would not be tremendously material or.
Overall global light vehicle production, but maybe if you can just call out or size the impact as you see it here as we go through the third quarter.
Yes, Hi, Jerry this is Ben Thanks for the question So you're right last quarter, we had expressed some concerns about.
Trends in China, and I think we were pleased to see that the bookings returned.
Quite strongly for our China business and certainly our visit to the region's spending a week on the ground with customers and partners.
For us that the EMA.
Mobility trend continues to be really strong and vital.
Within China.
Customer base.
And I think we're seeing.
Resumption in a continued acceleration of the order rate.
The UAW part.
It's difficult to quantify but I will tell you that we are seeing order movement between quarters.
<unk>.
We've said this before we are.
Several steps steps removed at times from the.
Oems in terms of the supply chain or the value chain.
So we don't always get.
A direct correlation between our platform and our product.
But it is clear to us that there has been some order movement between quarters.
As the tiers and the Oems to rebalance their production schedules as a result of the strike and are managing the various inventory positions as well.
Hey, Gary This is Derek we saw a demarcation.
Auto sales were up 9% in Q2, and we saw a demarcation between sales out of the strike started in September with the big three automakers in Q3. So while it has been settled now at this point Theres still some lingering effects. So it's not material, but it does have an impact on Q3, the other things that impact Q3 of it return to some normal seasonality, which has been about 4%.
5% prior to the supply chain crisis for the last few years.
Thanks, and as my follow up I wanted to ask about distribution inventory what was the mix for the second quarter sales and I would assume since point of sale was up and sell into the distribution channel was down 8% as you called out.
Inventory decreased in the distribution channel and maybe you could just speak to where it's at today measured in weeks relative to where your normal ranges.
Yes, so we've talked in the past about our target range as being about 10% to 12 weeks and I would say that we're kind of at the higher end of that range right now Gary and we've been there now for this quarter and what we've seen is the inventories in the channel have stabilized. The good news is Pos was up higher than our sell in to the channel and we will.
To watch that very closely and the split in Q2 was about 50 50, so 50% Oems 50% distribution, we expect that split in Q3 to be higher OEM and a little bit lower distributions. We continue to manage that and that's part of the reason why the gross margin guide and Q2 is coming down that's about 100 basis points as I've talked about in the past we're selling into the channel.
Because of the volumes has a significantly higher gross margin. So we'll continue to manage that very very closely in the short term to make sure that we're not over shipping into the channel.
Thanks, guys.
One moment for our next question.
Our next question comes from Blayne Curtis of Barclays. Please go ahead.
Hey, good morning, guys. Thanks for taking my question I wanted to ask on the inventory and industrial I mean, you went through a cycle and the other consumer bucket and there was a period, where you were kind of slip in the backlog.
Curious what your perspective is in industrial how much inventory is there and kind of how how long this correction might take.
So I'll start with some numbers up lane I'll turn it over to <unk>, but when you look at industrial we continued to shift from backlog really in Q4 and Q1. So our industrial sales were actually up 17% in Q1 compared to Q4 in Q4 had 14 weeks. So it was really up in the low 20, so coming down 25% in Q2 part of that is the timing of when asked.
<unk> shipments were scheduled to ship. So that's part of it but there is inventory in the channel as I just talked about we continue to watch that closely we certainly expect sales to distribution and industrial to be muted again in Q3 and be down again in Q3 as part of our guidance and we'll watch that closely until we think that.
We're not over shipping to demand.
Yes Blayne.
I would add is when you think about the end markets within our industrial business.
This brought industrial which again is a highly fragmented set of different applications, but one of the big markets as solar as we supply our set of Ics for a variety of applications that make up the solar ecosystem.
The solar business is pretty pretty.
Muted at this point and so when we take a step back and take a look at the inventory positions at our distributors that serve the industrial market. So data center is another one.
And we say the inventory positions are well within the comfortable range, maybe at some places that are a little bit higher.
The Pos very carefully to make sure that we are not creating or exacerbating the inventory problem and so that's why we are intentionally managing our shipments into those industrial distributors.
But I would say that the end markets of data center and solar in particular are the ones that that are muted and I think it's anybody's guess as to how long it's going to take for those markets to recover and come back, but it's probably going to be a couple of quarters at least.
Thanks, and then the $5 million from the <unk> acquisition is that being recorded in the industrial bucket.
Largely will be in the industrial bucket playing yes.
Okay. Thanks, guys.
Thank you one moment for our next question.
Our next question comes from Blake Friedman of Bank of America. Your line is open.
Alright, Thanks for taking my question wanted to touch on gross margin again I know you gave some brief comments, but last time you were around this $250 million revenue level gross margins were still able to hold around 58% and so just in the 54% guidance for December just was hoping you can quantify more of the puts and takes into that.
Hi, Blake this is Derek yes, I mean, our gross margins have only touched 58% twice once this quarter and once two quarters ago. In this quarter here in Q2, we had a really positive product mix magnetic sensing and in particular some products within that we also had some positive foreign exchange would have talked about in the past as kind of a near term gross margins being in that 50%.
6% range and when I look at Q3.
I exclude the initial impacts of crocus the base business gross margins are about 55% and that includes a headwind of around 100 basis points from the decline in channel inventory. So as channel inventories start to normalize the base business goes back to around 56% and product mix can have about 100 basis points plus or minus.
Impact on that gross margin. So we're still working towards a structurally improving our cost structures and working towards our target model of 58% on the <unk> business. Their variable contribution margins are quite acceptable to us right now, but there are business that needs to scale and as we start getting some of the cost synergies and bring in some of our supply.
The change in some of our logistics, we expect to get their gross margins overall to our target model as well over time.
Great very helpful. And then also just maybe within your December guidance as well just specifically in terms of your auto outlook. I know you mentioned that should grow year on year, but is there any way you can kind of talk about the buckets in terms of E mobility and non E mobility as you kind of look into the next quarter that'd be great. Thanks.
Yeah. Blake this is bill I'll add to that so we continue to be very pleased with our momentum in E mobility, and we expect E mobility to stay strong.
As we look to.
The next quarter sequentially.
We are seeing.
Some other movement in our ice shipments.
Our our product set.
So we expect that to be down, but as we said before on a year over year basis, we're still expecting overall order to have good growth.
Helpful. Thank you.
Thanks.
One moment for our next question.
Our next question comes from Joshua Buchalter at TD Cowen. Please go ahead.
Hey, guys. Good morning, Thanks for taking my question I wanted to follow up on that second one from Blake.
And the outlook for at least should grow year over year, I mean, I have to model a pretty sharp sequential decline do you get anywhere close to.
Flat year over year.
It sounds like really the only headwind that you've explicitly called out was the order movement related to the UAW strike.
I guess can you help any more details you can give us on the.
Auto segment from a sequential basis are there any other pockets of weakness that you think you are sort of under shipping demand right now. Thank you.
One thing I will clarify Joshua year over year, we expect auto to well outgrow the market so auto for the overall year fiscal 'twenty versus.
<unk> 23 were well outgrow the market.
Okay.
Sorry go ahead, yes go ahead Joe.
I was going to follow up on that.
Your confidence.
After under shipping in the third quarter on the auto basis, you should return to sequential growth could you remind us like what.
Seasonal is because it's so benzo atypical for the last several quarters.
Yes, Josh we're not saying it will return to sequential growth and actually we haven't commented on Q4, we're saying that Q3 auto is going to be down probably mid single digits in Q3 E mobility will remain robust the shop.
<unk> decline in Q3 is going to be industrial and other as we've talked about for the fiscal year, though we expect auto to be well above market growth rates and well above our target operating model of 7% to 10% above auto production growth.
Okay got it yes.
And then Josh within that obviously E mobility is what is really driving.
Overall growth for us in auto and as I said in my prepared remarks, we're really agnostic in terms of the content between full hybrids and evs.
So the content is very similar for US right now and so we are agnostic and actually supporting both platforms and growth in both platforms for our customers.
<unk>.
Correlated to that pure ice vehicles would see some decline and I think that's pretty well understood broadly by third party estimates as well and.
And our safety comfort and convenience business is really agnostic to the powertrain so that continues to.
B.
Really stable and starting to see a little bit of content lift.
More electrified content.
Okay got it thank you for all the color there.
For my follow up.
You called out I understand you are not perfect visibility into the channel and it sounds like things are stabilizing from a channel perspective in industrial.
But as you think about your on books inventories are still running higher than they have in the past are you comfortable with where things are now is there more work to do on for your on books perspective that.
For the next couple of quarters and you'd be curious, how you're thinking about that thank you.
Yes, Josh this is Derek so the odd books inventories the absolute dollar amount came down about $1 million from Q1. The days went up a little bit on the sales ticking down about 1% so.
I think we're still comfortable with those levels because the majority of that inventory is in wafer and actually in die Bank now. So the good news is we've been able to put in place more probe or has it moved that inventory to die probe die bank, which means it's good guy in that last quite some time, but we are continuing to manage those inventory levels to make sure that were aligning wafer receipts with projected dimmed.
<unk> and certainly managing finished goods inventories and we're also managing working capital very tightly in Capex as you might imagine here.
In the near term.
Got it thank you.
Good morning.
As a reminder, please press star one one on your telephone to ask a question.
Our.
Question.
Comes from Christopher Caso.
At Wolfe research.
Chris Your line is open.
Yes. Thank you good morning, I guess the first question is regarding.
The backlog and visibility going forward, obviously lead times.
I've been long product has been short.
As things get a little bit more normal.
How does that affect your visibility in the backlog as we look into the December quarter and does that have any implications for the March quarter.
What do you consider to be kind of normal seasonal behavior for the March quarter, and what sort of visibility do you have for that now.
Hey, Chris This is Ben.
So I want to start answering that question by saying that.
The visibility that we really get his first based on our design wins, so our design wins and the customer forecast that comes with those design wins is really what we used for our call. It our mid to long term planning purposes.
That sets the table for our R&D investments our capital investments are factored binding and so on.
And then in the near term.
That forecast gets turned into orders, which then become part of the backlog and Youre right that lead times have come back more into the normal range.
The backlog has moderated to what we would call the normal range typically its two quarters was what we would consider normal we're back within that range. So we have good visibility for the next couple of quarters.
And the forecast continues to.
Evolve based on the design wins, so hopefully that gives you a sense for how we think about visibility in how we think about the next.
A couple of quarters.
Got it.
If I could ask a follow up on on the <unk> acquisition, if you could speak to the rationale for that because obviously you guys are already doing internal work on on TMR sensors.
What was the decision to go out and buy as opposed to.
Continue that development internally.
Yes, Chris Great question, and really appreciate the opportunity to come back to this topic, because it's really important.
As I said in my prepared remarks, Allegro has traditionally been really strong and developing TMR for aaas on mortgage and auto.
And.
When we looked at the Crocus technology and how that has evolved in the last couple of years, we've found that to be a really good fit for <unk> applications. As these applications started to become more demanding in terms of accuracy and robustness over temperature or life and so we felt.
At some level, yes, its a buy build versus buy decision, but by bringing <unk> into the portfolio. We have accelerated our roadmap by several years and we can now bring this TMR technology today.
With a little bit of work from our engineers make it automotive grade and bring it to our automotive customers pretty much instantaneously and thats. The work thats going to happen over the next few days and weeks, where our sales team along with the <unk> team is going to go to all of the automotive customers and I'll remind you that croakers today doesn't really have any automotive business largely industrial and.
So we're going to bring this technology to our automotive customers in several of our more demanding industrial customers.
And we'll be able to really grow this.
Grow TMR within the overall space and certainly within the local portfolio. So we're really excited about the prospect of bringing a much more comprehensive magnetic sensing portfolio to our customers and we believe that this will help us differentiate even further in the applications, we serve as well as open up new applications for us to go after.
If I could just follow up quickly on that too and given the need for qualification of the auto customers and the need to bring those up to automotive grade can you give us a sense of what the qualification time would be and when we'd start to see an impact that those auto customers.
Yes, it's a great question. So order calls typically are long cycle right. It takes at least a year to get order core if you're starting from scratch. The good news is that the <unk> team is already in process of qualifying their technology at several key Oems, we cannot come in and help accelerate that and so we believe.
That.
We will be able to see some impact from automotive customers much sooner than what a traditional cold cycle.
Four.
That's helpful. Thank you.
Thanks for the question Chris.
One moment for our next question.
Our next question comes from Quinn Bolton Needham <unk> Company. Please go ahead.
Hey, guys just a.
I guess trying to think about the puts and takes around the auto outlook, you're guiding it down.
In December some of that seasonality some of it's the UAW strike, but all of those things feel like they're.
Shorter term in nature, and so I guess I'm struggling to think why you wouldn't return to kind of normal seasonality or strength again.
In March I mean are you guys seeing a broader slowdown in auto.
That's.
Calculated into into the current outlook or.
I guess why wouldn't you returned to normal seasonality in March.
Hi, Quinn this has been a so so.
We're not explicitly guiding for next quarter.
Having said that we are not seeing a slowdown overall in auto right. So.
While back we had talked about.
Auto production is still being muted coming off of the supply chain crisis, and still needing to get to somewhere in the range of 90 million units globally in order to achieve overall balance in the industry and I think we're still.
The industry is still on the way there.
Weather and we can debate what the mix is going to be and as I said in my prepared remarks, we've become very agnostic to the mix between hybrid and bvs. That's largely the two primary flavors that we believe the Oems are really working on.
No.
We've also said.
Earlier today that we see continued strength in E mobility.
And it's really some near term movement around orders between quarters.
Plus the seasonality that is that is calculated into our Q3 guidance here.
Yes, I mean it.
It sounds like you guys agree that the strike and seasonality or kind of shorter term events and so it doesn't sound like you see anything longer term that that's causing you to become more cautious on the outlook here just given the.
December quarter guidance Youre not commented beyond but we should be reading into.
These comments that this is an extended slowdown.
That's correct. So so I think our comments right now or just limited to Q3, but we don't see any.
The broader slowdown in automotive obviously, it's a very dynamic market right now, but at this point, we don't see any reason to believe there is a slowdown in auto.
The credit for Kate.
<unk>, that's absolutely true, but industrial and other does have a different dynamic right where this is historically, it's taken a couple of quarters of inventory digestion in the channels, where those products are sold in those two markets.
Understood.
Eric just kind of try to parse the gross margin it sounds like the channel mix.
Oems, which is about 100 basis points. It sounds like Crocus is is about 100 basis points I guess in the near term if I just run the math it looks like Crocus comes in with effectively zero gross profit to kind of impact overall corporate margins by 100 basis points, how should we be thinking about.
The gross margin trajectory.
Over the balance of this year and then into fiscal 'twenty five do you think it sort of stays in this 54% to 55% range given sort of the drag on crocus.
Or do you think that you can kind of get back to that more of that that 56% level.
I guess I would call more youre sort of.
Near term target for gross margins.
Yes. So the first this first quarter. The initial impacts of crocus include some kind of sort of startup cost. If you will quit and the gross margins are above zero subset of rounding with those numbers, but at.
The core of the base business in Q3 is about 55% and that includes the headwind from the channel inventory management to that brings it to 56% if we kind of normalize the channel business on a go forward basis. We also expect to start to get some synergies on the cost side as we move back into operations for Crocus on some of the other things to our.
Wires and our back end facility in the Philippines in 2024, so in the medium term that 56% gross margin is what we expect and then we're continuing to work towards our target operating model.
Cruising improving our gross margins by 50 to 100 basis points and getting a 58%.
The other thing I had mentioned in Q3 is it's the initial quarter of brokers from Opex rate in Opex is still down 4% would've been down 10% without crocus and will continue to bring them into our organization and part of our magnetic sensing business as we integrate that.
Understood. Thank you.
One moment for our next question.
Okay.
Our next question comes from Vijay Rakesh.
Mr. <unk>. Please go ahead.
The Jay Rakesh. Your line is open. Please go ahead.
One moment for our next question.
Our next question comes from Natalia.
At Jefferies. Please go ahead.
Hi, Thank you for taking my question.
On the BMW announcement, you guys highlighted that into full force kind of win for you and I was just curious like is this the normal approach for some of those E. Mobility design wins you guys have seen and also have you seen any shift between kind of the sole source and dual source approach coming on <unk> are you seeing kind of incrementally.
We are.
Using one model sourcing versus the other.
Yeah. This is <unk>. Thanks for the question.
The short answer is it depends on the OEM I would say that yes, there is certainly.
Efforts on the part of some Oems to make sure that they have.
At least a dual source for some of the key components.
That is also.
Our case, where we have redundant sources of manufacturing. So we are able to bring supply chain resiliency to bear and so when we present to our Oems is the most comprehensive portfolio of products, especially when it comes to magnetic sensing and some of the power applications we serve.
And then we talk about the supply chain resiliency thats in built into our supply chain with multiple sources for wafers multiple.
Packaging and assembly and test locations and so that allows us to.
Get to a sole source position I would tell you that the conflict the complexity of designing the ex EV powertrains and systems as well as the demanding nature of some of these applications, where we certainly presented the best option that can meet those needs across across life it across.
Wide range of operating conditions.
Lenses to be sold sourced in most of these cases.
That's very helpful. Thank you and as a follow up.
Would you mind speaking a little bit more into the data center dynamics. It sounds like over the last few quarters you guys have highlighted somewhat the weakness there or has there been any structural kind of change to what's probably the demand.
Are you seeing any sort of near term or mid term tailwind that Mike.
That dynamic.
Yes.
It's a really good question. So first of all data center is a very small part of our business, it's less than 5% of our total sales.
In the near term, we don't really see any change in the data center dynamic we are in constant communication with our data Center partners.
Here's and distributors and they are not indicating any.
Sense of a change of direction, nor the market started to recover.
The positive if I can call out one is that we continue to have new design wins with our data center customers. So we've in the past talked about the shift towards 48 volt architecture.
That results in new new platforms, new product requirements and for us New design wins.
And as the industry moves to three phase <unk>, a three phase motors.
There is more content for us and we are seeing design win activity associated with that but for the next couple of quarters, we don't really see any any potential recovery in the data center space.
Thank you.
One moment for our next question.
Our next question comes from Vijay Rakesh Mizuho. Please go ahead Jay.
The Jay Rakesh. Your line is now open.
One moment for our next question.
At this time I am showing no further questions in the queue I would now like to hand, it back to you.
So julien for closing remarks.
Thank you Amanda we appreciate you taking the time to join US. This morning. This concludes this mornings conference call.
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