Good day, and thank you for standing by. Welcome to the ON Semi First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there'll be a question-and-answer session. Please be advised today's conference is being recorded. I would now like to hand the conference over to your speaker today, Parag Agarwal, please go ahead.

Thank you, Kevin. Good morning, and thank you for joining ON Semi’s first quarter 2023 quarterly results conference call. I'm joined today by Hassane El-Khoury, our President and CEO; and Thad Trent, our CFO. This call is being webcast on the Investor Relations section of our website at www.onsemi.com. A replay of this webcast, along with our 2023 first quarter earnings release, will be available on our website approximately one hour following this conference call, and the recorded webcast will be available for approximately 30 days following this conference call. Additional information is posted on the Investor Relations section of our website. Our earnings release and this presentation include certain non-GAAP financial measures. Reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures and the GAAP financial measures are included in our earnings release, which is posted separately on our website in the Investor Relations section. During the course of this conference call, we will make projections or other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution that such statements are subject to risks and uncertainties that could cause actual results or events to differ materially from projections. Important factors that can affect our business, including factors that could cause actual results to differ from our forward-looking statements, are described in our most recent Form 10-Qs and other filings with the Securities and Exchange Commission and in our earnings release for the first quarter of 2023. Our estimates or other forward-looking statements may change, and the company assumes no obligation to update forward-looking statements to reflect actual results, changed assumptions, or other events that may occur, except as required by law. Now let me turn it over to Hassane. Hassane?

Thank you, Parag. Good morning and thank you all for joining us today. As we continue our transformation, I'm pleased to report another quarter where we've exceeded expectations with revenue of $1.96 billion and a non-GAAP gross margin of 46.8%, both above the midpoint of our guidance. The current market environment did not deter us from our goals; we have teams around the world who are committed to operational excellence and I am proud of the results they have achieved in this first quarter. Over the last two years, we centered our transformation around the structural changes that would enable us to better navigate the uncertainty in the semiconductor industry. We streamlined our product portfolio, reduced price-to-value discrepancies, doubled down on silicon carbide, and improved the overall operations of the company. We have incredible talent in the company and we have been all hands on deck to solve some of the world's toughest engineering problems to accelerate the ramp of this next generation technology. Thanks to our team's relentless efforts, we are seeing greater than anticipated silicon carbide results ahead of our internal plan for manufacturing output at every stage of the process from bulk to die to modules. In Q1 alone, these results allowed us to shift nearly double our Q4 revenue and more than half of our 2022 full-year revenue. We are on track to grow our revenue to $1 billion in 2023 and that's approximately 5 times the revenue of 2022, setting ourselves up for leadership in the silicon carbide market with the majority of the substrate sourced internally. Demand for electric vehicles, Advanced Driver Assistance Systems (ADAS), and energy infrastructure remained healthy amid a broad-based macroeconomic slowdown. While our automotive revenue increased 38% year-over-year, it was flat quarter-over-quarter. We are still supply constrained across several automotive technologies, while in some other technologies we are cautiously monitoring inventory digestion. In Q2, we expect to see quarter-over-quarter growth in our automotive revenue. In Q1, we shifted our mix to energy infrastructure where there is high demand and high growth. Our industrial revenue, in turn, increased 1% sequentially, instead of the decline we had anticipated. Driven by the need for alternative energy sources and accelerated by global geopolitical issues, the installation of energy storage systems is increasing along with our content that includes silicon carbide and silicon power solutions. Pricing across our business is stable and we don't anticipate any changes in the pricing environment. A significant part of our business is secured by long-term supply agreements and pricing in these agreements is fixed for multiple years. Also, as part of our business transformation, we have walked away from price-sensitive businesses in non-strategic areas to drive predictable financial results. In Q1, automotive and industrial accounted for 79% of our total revenue, as compared to 65% in the quarter a year ago. When we started our transformation, we targeted 75% of our business to be automotive and industrial by 2025 and we have achieved our desired end result two years earlier. We also improved our demand visibility across all markets with commitments from our customers, new and existing in the form of long-term supply agreements. These long-term supply agreements also help reduce our exposure to the volatility in the consumer and computing markets. Volkswagen, as an example, signed a three-year agreement for more than 100 current production devices, giving them the required supply chain sustainability with a major semiconductor partner; our committed revenue through long-term supply agreements increased again in Q1 by $1 billion. We are supporting our customers today while working closely with them on next generation designs for their intelligent power and sensing needs. In addition to the long-term supply agreement we announced last quarter, we were recently honored with the 2022 Supplier of the Year Award from Hyundai Motor Group, which recognized ON Semi as a trusted provider for key technology in its ecosystem, offering supply chain resilience and manufacturing sustainability. Customers also recognize us as a strategic partner that provides high value through the entire design cycle, which gives them a competitive edge over their peers. In March, we launched our new Elite Power Simulation tool to bring complex power electronics applications to market faster through system-level simulations, saving design engineers from expensive, time-consuming hardware fabrication and testing in the early stages of development. This tool will also allow us to get a broader customer reach through our distribution network with a low-touch model to design in our products. Global automotive original equipment manufacturers (OEMs) are choosing to partner with ON Semi for the superior performance of our end-to-end silicon carbide solutions. Just last week, we announced a long-term supply agreement with ZEEKR, a leading all-electric vehicle manufacturer in China, who has selected ON Semi's third generation 1,200 volt EliteSiC MOSFET to increase the electric powertrain efficiency and extend the range of its expanding portfolio of high-performance electric vehicles. These EliteSiC power devices deliver improved power and thermal efficiency, which reduces the size and weight of the traction inverters to deliver improved performance resulting in extended driving range and faster charging speeds. BMW Group has also selected ON Semi's EliteSiC to support range extension for their next generation electric vehicles. They secured a long-term supply agreement with us to equip their future electric drivetrains with our silicon carbide technology to increase efficiency and system-level performance. We also continue to invest in silicon power and as automotive OEMs move to Zonal Architecture, we deliver intelligent power solutions that meet all voltage range requirements from 12 volts to 48 volts and beyond. Through these strategic partnerships, we are enabling our customer sustainability efforts while also working on our own. We committed to the science-based targets initiative and pledged to set near-term science-based emission reduction targets in line with SBTI criteria in our decarbonization journey to achieve net-zero emissions by 2040. Our Q1 revenue for intelligent sensing increased 26% year-over-year. We introduced our new Hyperlux Family of image sensors to support the transition to eight megapixel devices where ASPs can be up to 2.5 times that of one or two megapixel image sensors. Our traction for image sensors in automotive has proliferated into industrial automation and smart retail applications. Our newest eight megapixel image sensor achieved stunning 4K video quality with optimized near-infrared response necessary for industrial applications with harsh lighting conditions such as security and surveillance, body cameras, doorbell cameras, and robotics. The shift out of lower value commodity applications, coupled with capacity expansion in differentiated products and packages, reduced the supply to demand gap and is driving margin expansion and revenue growth in our focused markets. Automotive and Industrial now account for more than 95% of our intelligent sensing business. Beyond image sensing, our intelligent sensing penetration is expanding with other sensing solutions in our portfolio. We shipped our 1 billionth inductive position sensor IC to Hela, one of the largest automotive suppliers, who uses our technology in their drive-by-wire systems such as accelerator pedal sensing, steering, torque sensors, and as well as actuators for pressure boosts and turbos. We also lead the market in automotive ultrasonic sensors with more than 20 sensors in one of the latest EV models from leading European OEMs. In Q1, our intelligent power and intelligent sensing revenue accounted for 69% of our total revenue, as compared to 64% in the quarter a year ago. As we get ready for the next chapters in our journey, we are applying what we know: operational excellence in controlling what we can and executing to our commitments. We have positioned ourselves to lead in our focused markets with superior technology to offer our customers and we have the agility to pivot and adapt to change as required by the business and market environment. And more importantly, we have the team to execute. Now, I will turn the call over to Thad to provide additional details on our financials and guidance. Thad?

Thanks, Hassane. As Hassane highlighted, we exceeded expectations in the first quarter, which is a testament to our employees around the globe who are committed to operational excellence. Our ability to focus, invest, and execute has provided benefits across all areas of the business and allowed us to maintain our financial targets while navigating market uncertainty. We continue to identify and extract operational efficiencies in our business groups and corporate functions while identifying gross margin expansion opportunities. I'll start by diving into our results for the first quarter. Total revenue was $1.96 billion, above the midpoint of our guidance driven by strength in silicon carbide and energy infrastructure. In Q1, our silicon carbide manufacturing output was ahead of our internal plans, and we nearly doubled our Q4 revenue, increasing our confidence in our path to the $1 billion year. Our automotive business now accounts for 50% of total revenue, and at $986 million in Q1, it was flat sequentially, offset by a recovery in industrial revenue. Industrial revenue grew by 1% quarter-over-quarter, surpassing our original projections. We anticipate another stellar year for our Energy Infrastructure business with projected 50% growth over 2022 at accretive gross margins. Revenue for the Power Solutions Group (PSG) was $1 billion, an increase of 3% year-over-year, and we saw sequential gross margin expansion as our silicon carbide ramp exceeded expectations on both revenue and margins. Revenue for the Advanced Solutions Group (ASG) was $593 million, a decrease of 14% year-over-year, and revenue for the Intelligent Sensing Group (ISG) was up an impressive 32% year-over-year to a record of $354 million. ISG's impressive turnaround continues as Q1 was also their 11th quarter of gross margin expansion with record gross margin exceeding 50%. As a corporation, our consolidated gross margin held up nicely. GAAP and non-GAAP gross margin for the first quarter was 46.8%, above the midpoint of our guidance, driven by higher than anticipated industrial revenue and improved manufacturing performance for silicon carbide output. We also exited an additional $47 million of revenue in the quarter at an average gross margin in the mid-40% range, bringing the total revenue to date to $341 million of non-core business exits. Our non-GAAP gross margin declined by 160 basis points quarter-over-quarter as expected with the ramp up of silicon carbide and EFK headwinds and lower factory utilization of 71% as we continue to slow wafer starts. Q1 was our first quarter of operations since acquiring our 300-millimeter fab in East Fishkill. The current operating cost is much higher than we had anticipated, so the dilutive impact is greater than we previously expected. However, based on our current outlook, we are confident we can realign the cost structure of the fab and drive efficiencies to recover by early 2024. As demonstrated in Q1, we expect to maintain our gross margin trajectory for 2023. Our financial strategy remains unchanged, as does our capital allocation strategy. In Q1, we returned more than 100% of our free cash flow to our shareholders with share repurchases of $104 million. This was the first repurchase from our new authorization, which allows us to repurchase up to $3 billion through 2025. Additionally, we issued $1.5 billion in convertible notes in Q1 with the proceeds used to repay our term loan. This was essentially leverage neutral and highly accretive as we swapped out a portion of our variable rate debt approaching 7% with a fixed rate convert with a coupon of 50 basis points. We also entered a call spread transaction increasing the effective strike price to $156.78 per share, providing significant dilution protection. Now let me give you some additional numbers for your models. GAAP operating expenses for the first quarter were $352.6 million, as compared to $314.1 million in the first quarter of 2022. Non-GAAP operating expenses were $286 million, as compared to $302.8 million in the quarter a year ago. Non-GAAP operating expenses were below our guidance as we manage discretionary spending across the company given the uncertain macro environment. We also initiated structural changes to ASG to improve operational efficiency by reallocating resources to high-growth R&D initiatives while improving our product development and time to market on industry-leading proprietary products. GAAP operating margin for the quarter was 28.8% and non-GAAP operating margin was 32.2%, a decrease of 190 basis points quarter-over-quarter. Our non-GAAP tax rate was 16.3%; GAAP earnings per diluted share for the first quarter was $1.03, as compared to $1.18 in the quarter a year ago. Non-GAAP earnings per share was $1.19, above the high end of our guidance. Our GAAP diluted share count was 448.5 million shares and our non-GAAP diluted share count was 439.1 million shares. Turning to the balance sheet, cash and cash equivalents was $2.7 billion and we had $1.6 billion undrawn on our revolver. Cash from operations was $408.9 million and free cash flow was $87.4 million or $4.4 of revenue. Free cash flow was negatively impacted by timing of annual bonuses and CapEx payments. Capital expenditures during Q1 were $321.5 million, which equates to a capital intensity of 16.4% for the quarter. As we indicated previously, we are directing a significant portion of our capital expenditures toward silicon carbide and enabling our 300-millimeter capabilities at East Fishkill fab and expect our capital intensity to be in the mid to high teen percentage range for the next several quarters. Accounts receivable of $880.9 million increased by $38.6 million and Days Sales Outstanding (DSO) of 41 days increased by four days. Inventory increased by $198.1 million sequentially and days of inventory increased by 23 days to 159 days. This includes approximately 43 days of bridge inventory to support fab transitions and the impending silicon carbide ramp. We continue to proactively manage distribution inventory, decreasing inventory in the channel by $79 million sequentially and at historically low levels with weeks of inventory at 7 weeks, compared to 7.3 weeks in Q4. Total debt was $3.5 billion and net leverage is $0.25. In Q1, we accrued $41 million on balance sheet under property, plant, and equipment related to the 25% investment tax credit for investments in our U.S. factories. This will eventually flow through our income statement as lower depreciation and will receive the associated cash benefit in the future. Let me now provide you key elements of our non-GAAP guidance for the second quarter. The table detailing our GAAP and non-GAAP guidance is provided in the press release related to our first-quarter results. Our business continues to strengthen with total committed revenue under long-term supply agreements of $17.6 billion, an increase of $1 billion quarter-over-quarter. We expect to recognize approximately $5.8 billion of committed revenue from our long-term supply agreements in the next 12 months in addition to our non-cancelable, non-returnable orders. Given the macro uncertainty, we are taking a cautious stance in our guidance. We anticipate Q2 revenue will be in the range of $1.975 billion to $2.075 billion. We expect automotive and industrial to increase quarter-over-quarter with other markets flat to down as we plan further exits in our non-strategic end markets. We expect non-GAAP gross margin to be between 45.5% and 47.5%, due to lower factory utilization, EFK headwinds, and the dilutive impact of ramping silicon carbide, which remains ahead of plan. This also includes share-based compensation of $4.5 million. As we previously stated, 2023 will be a transition year for our gross margins, and we expect to maintain our trajectory as we manage these temporary headwinds. We expect non-GAAP operating expenses of $297 million to $312 million, including share-based compensation of $28.8 million. We anticipate our non-GAAP OIE to be $3 million to $5 million. We expect our non-GAAP tax rate to be in the range of 15.5% to 16.5%, and our non-GAAP diluted share count for the second quarter is expected to be approximately 440 million shares. This results in non-GAAP earnings per share to be in the range of $1.14 to $1.28. We expect capital expenditures of $420 million to $460 million, primarily in brownfield investments in silicon carbide and EFK, which are a more efficient use of capital than the greenfield alternative of building a fab from the ground up. We are very proud of our financial results through this transformation and will continue to deliver value for our shareholders. We are equally pleased with our cultural transformation. ON Semi is a very different company today. We challenge the status quo and we hold ourselves accountable to our commitments. As many of you know, we'll be holding an Analyst Day in New York on May 16, and we look forward to sharing our future plans to accelerate value for our shareholders. We hope to see you there. With that, I'd like to turn the call back over to Kevin to open the line for questions.

Thank you. Our first question comes from Ross Seymore with Deutsche Bank. Your line is open.

Hi guys. Thanks for letting me ask a question. Hassane, I want to ask about the auto side of your business. Investors are getting a little more concerned just about the market given that it's one of the few that hasn't cyclically adjusted. And you guys were flat sequentially versus what you thought would be up a bit and that's all despite the silicon carbide side, upsiding. So I guess could you just talk a little bit about what you're seeing there, inventory, demand and perhaps separate the silicon carbide side from the other parts of the business when you give that answer, please?

Sure. Look, obviously for silicon carbide, it's a ramping business for us. You've seen tremendous progress in the first quarter, slightly ahead of where we thought we would be based on just the team doing a stellar job ramping the technology, that's going to keep ramping throughout the year. You can think about it as an uptick in the second half as we accelerate the exiting of the year on track for the $1 billion that we talked about, and every day we have more and more confidence in those numbers. The rest of automotive, obviously, we have some technologies that remain constrained, so demand is healthy. We remain constrained in our ability to supply to that demand. You can think about that as our silicon high voltage, silicon medium voltage, which not only goes to the EV demand but also a broader aspect of that demand. Other technologies, we're monitoring the inventory digestion. As I said in my prepared remarks, that was kind of the first quarter where we wanted to look at it. We used that opportunity to drain the distribution inventory, where you see we went from 7.3 weeks to 7 weeks, and that's a pretty big number over $70 million of a $1 drained from the inventory, because we wanted to set ourselves up for the uncertainty in the second half of the year that everybody keeps talking about. So from a demand perspective, I'm comfortable with the EV; that's a ramping business for us. The rest we're cautiously monitoring. However, as I mentioned in my prepared remarks, Q2 is an up quarter for us in Q1. So you can think about automotive as we took a breather in Q1 to test the inventory, and we're going to keep ramping for the rest of the year. Full-year, we're going to be up from last year, so that gives you kind of an idea on the overall demand as we see it outside of quarter-on-quarter fluctuation.

Perfect. Thanks for that. And I guess moving from my follow-up over to Thad on the gross margin side of things. It seems like there were quite a few moving parts, especially the East Fishkill and the silicon carbide side, but the net of it all seems to be right in line with your plan. Can you just talk a little bit about those moving parts? East Fishkill is more expensive, but silicon carbide is ahead of plan. Does that still net out to the same trajectory through the rest of the year? Just walk us through those puts and takes and maybe the utilization side as part of that as well, please?

Yes. So the utilization dropped in the quarter from about 74% to 71%. We expect, kind of, what we're seeing right now is utilization to stay in that range plus or minus for the remainder of the year. Obviously, if there's a second-half recovery, we can ramp up quickly. You nailed it on the rest of it, silicon carbide performed better than expected, EFK cost, as I said, is coming in significantly higher than we expected. You can think about these as being kind of orders of magnitude more dilutive than what we expected. The good news is we are absorbing that. As I said, we're finding additional opportunities to improve gross margin across the company, and we're able to absorb that. We believe by the time we get into 2024, we've got the cost structure of EFK back in line to where we would expect it to be. So we're really confident in the margin outlook for this year. I don't think anything changes. I think if we look at Street consensus for gross margin for 2023, even with these headwinds, we think we can execute to those expectations.

Thank you.

Our next question comes from Vivek Arya with Bank of America Securities. Your line is open.

Thanks for taking my question. Hassane, I wanted to ask about your plans for in-sourcing the material side for silicon carbide. Can you give us a progress on how that's going? I believe you said during the prepared remarks that you are targeting to be majority in-sourced? Is that a full-year comment? Is that an exiting Q4 comment? So just give us an update on where you are from an in-sourcing perspective? And let's say if you are majority in-sourced exiting the year, how does that help you on the gross margin side?

Yes, exiting the year, I want to emphasize our plan that I've discussed throughout the year, which involves establishing supply and growth at our Hudson facility to position ourselves favorably as we end the year. This is even more relevant now with the progress we've made in Hudson over the last quarter, which significantly contributed to our positive results and gross margin, as Thad mentioned. I am very pleased with our progress and the confidence we have in continuing to execute our plans. Regarding gross margin, in-sourcing is advantageous because we can see the merchant side, and there’s always margin stacking involved. Our ability to mix and achieve majority in-sourcing certainly supports margin improvement as we advance through the year. However, the primary driver of margin expansion for silicon carbide will stem from effectively utilizing the fixed costs we have established. We are on track to bring this business in line with or above the corporate margin, and we remain focused and satisfied with our progress thus far.

Got it. And for my follow-up, Hassane, I think you mentioned that, so specific to autos, that you took the opportunities in Q1 to drain some of the inventory. How are you seeing the overall pricing environment as you look Q2 through Q4 versus what you thought earlier? Are there any changes? There's a lot of macro across currents, but how is that impacting your automotive outlook, Q2 through Q4, especially on the pricing side? Are there any changes one way or another?

Absolutely no changes. It’s actually very predictable, and that's really the benefit that we've been talking about with the long-term supply agreements that have us really aligned with our customers on pricing and volume through the duration of the long-term supply agreements. So no conversations about pricing. The focus has always remained on supply, and that's holding up not just through the year, but through the extent of the long-term supply agreements we have with the customers. So very, very stable and no pressure on that. And by the way, it's not just automotive. The pricing is holding up across all markets where we have long-term supply agreements, and because, as you know, we've been focusing on products that provide value. It's not a pricing conversation; it’s about what the products bring to the customer. The things that would have pricing pressures, in Thad, talked about how we have been focusing on exiting that business to the point where it's above the business we exited that had a lower gross margin, and we are still steadfast on exiting it because that is where the margin pressure will come in and the pricing pressure. We're not going to play in these markets, and we are getting ahead of it and exiting those businesses.

Excellent. Thank you, Hassane.

Our next question comes from Chris Danely with Citi. Your line is open.

Thanks, guys. I didn't know I went from a Jewish to Italian overnight. Anyway, can you just give us a little update and some color on the shortages and the lead time situation? I guess for Hassane, our shortages pretty much exclusively in the automotive business, or are they elsewhere? And then is there any point in time this year where you think the shortages will go away?

Yes, look, so for me, I always refer to shortages as technologies, because they're across all markets where we provide them. High voltage silicon is, of course, a constrained technology for us. We ramped capacity, yet the demand is much higher than even our increased capacity. And for that business, for example, it goes into automotive and it goes into industrial specifically in our alternative energy. And as Thad said, that's ramping very nicely this year after a very stellar ‘22 ramp that we talked about last year. So that is technology that is constrained. We have some intelligent power technologies that are constrained. Think about it as mixed signal analog where demand in automotive and demand in industrial both have been increasing ahead of the capacity we've added. So those are technologies agnostic of markets. We remain constrained, not because of just capacity, but demand keeps accelerating because of the markets we are participating in. As far as the second half of the year, that really depends on what your view is for the second half of the year. Based on our outlook, that technology will still remain constrained there, while in other areas, not in these specific technologies, we're seeing some flattening in our lead times, and therefore we can see some of that easing. But the second half is really going to depend on what the demand does, and based on our outlook, we're going to remain constrained.

Yes. And on the lead time, lead times are relatively stable running, kind of, in that 41 to 43 week timeframe. Quarter-on-quarter, I think down a week to two weeks, but I would call it pretty much across the board, lead times are stable.

Okay. Great. And then for my follow-up, just I guess one for Thad. So as the CapEx is ramping, Thad, can you just talk about maybe over the next three to five years how that's going to impact depreciation and gross margin? Can this all be offset by the efficiencies, or what will be the, I guess, the gross margin headwind from all those CapEx a little farther down the road?

Yes, well. I would start out by saying we're making significant investments in silicon carbide and EFK as I've mentioned. Now as you think about our capital expansion and expansion in just capacity is to support the long-term supply agreements that we have, right? So this is not a situation where we're building capacity hoping that we can fill it. So we're very comfortable that with our margin projections that we can absorb that additional depreciation. I would tell you in general, I wouldn't call it significant, but what you would see is offsetting revenue and gross margin to offset that depreciation.

Perfect. Thanks guys.

Our next question comes from Toshiya Hari with Goldman Sachs. Your line is open.

Hi, good morning. Thanks so much for taking the question. I had a follow-up question on gross margins as well, Thad. Just curious on how we should be thinking about the timing of headwinds from both the silicon carbide ramp and the EFK ramp peaking? Is that sort of a second-half ’23 dynamic or should we expect the headwinds to stay relatively elevated in the early part of ‘24? And also, the benefits from your fab light strategy, I think you've sized it at $160 million and reduced costs over time once we expect those benefits to kick in?

Yes. Starting with the $160 million impact, we anticipate seeing that as we complete the fabs. We believe the benefits will begin to materialize in 2024 and 2025, as it typically takes at least three years to close a fab. Most of the benefits should be evident in those years. Regarding the challenges from silicon carbide and EFK, we have already felt the effects of EFK in the first quarter, and we expect that impact to remain consistent throughout the year. We anticipate that by early 2024, we can bring that back in line, and it won't be the unexpected headwind it has been. On the silicon carbide front, it is progressing ahead of our expectations, which is encouraging. Although there is still a headwind, we believe it will peak around the third quarter. By 2024, we expect those margins to be at the corporate average, suggesting that this challenge will be behind us. EFK will continue to be a slight drag in 2024 and 2025 as we work through the foundry business for global foundries, but we are confident that we can realign the cost structure this year.

That's helpful. Thank you. And then as my follow-up, one for Hassane, a little longer term. I think at your previous Analyst Day, you had guided revenue growth for the overall company in kind of the 7% to 9% range. I think that was a 2025 model, and I think you have pretty good visibility given the LTSA pipeline, is the 7% to 9% range still the right range in your view as you think about the overall company over the several years? Or do you think with silicon carbide and some of the other opportunities that you've secured, you could potentially outgrow that? Thank you.

Well, I would say, must be present to win. I'll see you at our Analyst Day on May 16 for that one.

Our next question comes from Harsh Kumar with Piper. Your line is open.

Yes. Hey, guys. First of all, congratulations on a very successful transition so far, Hassane, Thad, and the team, and then also the near-term results in a choppy environment. So first question I had is we had a peer of yours in another perhaps segment in the auto business that had poor results out of China, or at least they blamed China, EV slowdown. I was curious, given your position in China, if you could comment on what you're seeing in the EV market, and then I've got a follow-up.

Yes, look, I mean, we all see the EV market in China. But the difference for us is China for us is a ramping market. And that's really going to be contributing to our ramp throughout the year. So even if the demand calls on the top demand is a little choppy out of China, for us, it's incrementally favorable, and we're going to continue to ramp there, so we don't see it. We're kind of disconnected from it given that for us, it's a ramp. It's not a mature market yet, and that puts us in a very good position.

Thanks, Hassane. I have a question for Thad. You mentioned the timing of the challenges with silicon carbide and the Fishkill scale. Could you provide some specifics on the impact you're seeing? Can you give us a numerical estimate? Additionally, I believe Hassane or Thad indicated that by the third quarter, your silicon carbide business would achieve a corporate margin. Are we looking at gross margins in the 40s, high 40s, or aiming for the 50s as a stable figure for the silicon carbide business?

Yes. Harsh, we indicated that once we fully ramp up silicon carbide at scale, the margins would meet or exceed the corporate average. We anticipate headwinds peaking in Q3, expecting to have them behind us by 2024. Historically, we've estimated that silicon carbide presents a headwind of 100 to 200 basis points. Currently, we are performing better than anticipated, suggesting we're not at the higher end of that range but rather somewhere in between. We are confident in our outlook based on our performance and believe we can maintain execution effectively. Regarding EFK, we felt its full impact in Q1 but managed to absorb it and compensate through gross margin expansion in other areas. Historically, we've indicated this impact would be 40 to 70 basis points, but it is now significantly higher—more than double our expectations. We believe we can manage this throughout the year without changing our margin trajectory, and we are comfortable with the Street consensus on gross margins for the year. This reflects our confidence in navigating these challenges.

Thanks, fellas.

Yes.

Next question comes from Raji Gill with Needham. Your line is open.

Yes, thank you and congratulations as well on great results in a tough environment. Just a quick question on the automotive market, you mentioned, Hassane, a modest inventory digestion in the end market and then you're also kind of reducing distribution inventory. Can you talk a little bit about the overall demand picture for automotive? I know it's hard to separate the significant ramp that you're seeing in electric vehicles and in turn silicon carbide. But just curious if there's a softness in the demand market, if there's a shift away from high-end to mid-range, any kind of color on the automotive market will be appreciated?

Yes, look. We don't see a big disconnect in demand. It was, like I said, it was a momentary thing where we used this opportunity to kind of reposition the inventory that we have externally, and we'll get back to growth in the second quarter and through the year, giving us an increase in our automotive revenue year-over-year. So that really doesn't change the outlook. But what we take a look at, if you think about it, it's a stable environment; we're going to be growing in automotive. If I really don't see any areas that cause us pause or a change in our outlook. So we remain confident with that.

All right. Very good. And from my follow-up on the long-term supply agreements, you talked, Thad about $17.6 billion that was up $1 billion quarter-over-quarter. Was that all primarily related to silicon carbide incremental designs or other drivers? And just along those lines, you saw kind of significant growth in energy infrastructure, you're talking about it up 50% year-over-year. Can you describe what are some of the tailwinds in that market? Thank you.

Yes, we are continuing to increase our long-term supply agreements, adding another $1 billion this quarter, bringing the total to $17.6 billion. This expansion covers a wide range of products, including both silicon carbide and non-silicon carbide. Our focus remains on assuring customers of a reliable supply, and they are committing to our portfolio for several years. On average, these long-term agreements last four to five years. As Hassane mentioned, pricing remains stable, which enhances our business predictability, and we are pleased with our ongoing customer engagement. Clients are either expanding their agreements by including more part numbers or extending their existing terms. Additionally, new customers who previously had no agreements are now approaching us to establish long-term supply agreements. We anticipate this trend to persist.

And then on the alternative energy, the tailwind is going to be market-driven. We had a stellar year in ‘22 from ’21, and that's compounding now what we're going to see in ‘23 from ‘22 and that's all market-driven. And that's primarily the big components here are silicon power and silicon carbide. But again, as Thad mentioned, we have a penetration with the whole bill of material. And if you recall, most of that market for us is under long-term supply agreements. We have long-term supply agreements with eight of the top 10 energy vendors in the world, and they're ramping given the demand, and we're ramping with them given our content.

Thank you very much.

Our next question comes from Matt Ramsay with TD Cowen. Your line is open.

Thank you very much, everyone. Good morning. Hassane, I wanted to ask about the significant focus on the silicon carbide space regarding substrates. You mentioned several times about increasing capital expenditures and other initiatives related to brownfield fabs to support the business while you ramp up the GTAT substrates. Could you provide some insights on how the non-substrate aspects of your supply chain are performing for silicon carbide? Additionally, how does this position you cost-wise compared to others developing greenfield facilities? Thank you.

Yes. So look, as I mentioned, we've been increasing capacity. We started in 2022 in preparation for the ‘23 ramp and really the ‘24 ramp in this case where a lot of the focus, like you said, has been on substrate because that's the first thing we have to ramp. But with increased capacity in our wafering and internal EPI, that gives us a very big cost advantage versus getting turnkey externally. And then following that is the increase in our fab capacity, which also gives us a much better cost structure because the fab we are ramping is an existing power fab; that's where we do really most of our IGBTs. And having a power fab at scale gives us that edge, one from a cost and two from the speed at which we can scale. So think about it this way: increasing capacity in an existing fab that already does power is way cheaper and way less risk than a brownfield and a power fab and silicon carbide. That has always given us the confidence in our ramp and has always given us the confidence in the slope of the ramp, which really exceeds everyone else out there. We're on track to achieving it. All of these give us, one, the cost; two, the risk mitigation; and three, the confidence in our outlook.

Thanks, Hassane. As a follow-up, I wanted to ask about the points both of you mentioned this morning regarding some areas where you are monitoring inventory cautiously. Given the company's growth and results, which are impressive, I would appreciate any information on where you are observing these inventory pockets. Are they being cleared up or worsening? Any insights you could provide would be helpful. Thanks, everyone.

Yes, when I refer to pockets, I'm reiterating my earlier comments about technology. We are still facing constraints in technologies across all markets, especially in consumer and compute areas where we are carefully monitoring distribution inventory. This is why we've been proactive in reducing the dollars in the channel this quarter. While the weeks in the channel decreased by 0.3 weeks, the dollars fell by nearly $80 million, which is a significant drop we have been managing. We've been addressing this issue consistently, even when supply has been limited. Inventory is a major focus for us, both internally and externally. Until we gain more confidence about what the second half of the year will bring, we will remain cautiously optimistic and limit our shipments unless we see strong confidence in point-of-sale activity. We do not want inventory lingering, whether at our distribution sites or our customers. This approach prepares us for a robust recovery whenever demand begins to increase.

Thanks, Hassane.

Our next question comes from Christopher Rolland with Susquehanna. Your line is open.

Hey, guys. Thanks for the question. I'm going to talk about image sensors. You did talk about supply constraints across several auto tech. I just wanted to check the update of that. And then it seems like some of the drivers there or the move to 8 megapixel was wondering, kind of, what your competitive position is there, what percent of revenue might be at 8% versus 1% or 2% overall? Thanks so much.

Our competitive advantage in image sensors is primarily based on technology. We've discussed various technologies, including near infrared capabilities that improve performance in different lighting situations, applicable in both industrial and automotive sectors. For instance, our high dynamic range technologies perform well in bright sunlight as well as in the dark of night. These technological advantages are valued by our customers, and we are committed to providing these solutions. We've launched a new generation of 8-megapixel sensors for both automotive and industrial applications. While our current volume is small, we anticipate a shift in product mix as we increase production. The improvements in average selling prices should lead to better margins as we look ahead. Both Thad and I have consistently stated that our new products meet or exceed our performance models of 48% to 50%, and as these products gain a larger share of our revenue, we expect to see margin expansion. This is a forward-looking statement that reinforces our confidence in our margin growth trajectory, highlighting that our targets are milestones rather than final destinations.

Excellent. And just maybe following up there and then a quick one. So you mentioned the supply constraints across several auto tech technologies. I think you mentioned some, but just wanted kind of that more comprehensive list. And then lastly, M&A, you have a ton on your plate organically, but are you still considering inorganic and how do you see that market?

Yes, look, so across the board, obviously, I think I'll comment on image sensors; image sensors is a foundry business for us. We're seeing some easing in the foundry, so we get a little bit more capacity allocated to us. And I mentioned in my prepared remarks, we used this opportunity to really bridge that supply-to-demand gap that we've had in the last couple of years, and we're making progress into catching up. We're not caught up yet, but we're making progress, so that remains constrained obviously. On high power silicon, think about it as IGBT or silicon carbide really. We've always said we're sold out on silicon carbide, so improvements that we have contribute to our achieving our numbers. IGBT, as I mentioned, remains constrained because of strength and not just the automotive market but also in the industrial. A lot of our energy storage systems are silicon and silicon carbide, but a lot of it remains still today on silicon. So that adds some of that constraint, so you can see it's really across the board, not specifically on markets, but it's driven by megatrend growth that we are participating in. As far as M&A, look, you're right; our focus is on execution. We have a lot going on, a lot of it is great work that creates a ton of value for our shareholders. So execution is key and execution is our focal point. But we never look away from M&A; we're always looking because those are opportunities that we will participate in. But as we sit here today, I can't tell you there is something we are missing in order to achieve our organic plans of value creation. So we'll be opportunistic, we'll always drive and participate in the M&A landscape, but there's nothing I would say we have to have, which is the best place to be because we can be very disciplined in our approach to M&A.

Great update. Thanks, Hassane.

Our next question comes from Gary Mobley with Wells Fargo. Your line is open.

Hey, guys. Thanks for taking my question and sneaking me in here. I know Harsh asked about the China EV market, but I wanted to ask more broadly about China indigenous demand. Where do you see that demand profile set today and maybe give us a sense of China did just demand as a percentage of your sale currently versus and where it's been in the past in terms of thinking about the optionality upside there?

In China, particularly in our non-strategic markets, we've seen a decline, which is expected since this market is not a focus for us. We're in the process of exiting these areas, driven by the market conditions in China. This aligns with our strategy and is something we anticipated, so it's no surprise. We've aimed to protect our margins through these exits, and we are beginning to see the results as planned. Regarding the electric vehicle sector, despite some recent shifts in the EV market in China, we actually see it as a positive contributor since we are gaining momentum in that space. As we look ahead, even with the current outlook, we expect this segment to positively impact our revenue growth. Overall, there are no surprises or changes to our outlook or execution as we continue through this year.

Got it. As my follow-up, I want to ask about the supply of silicon carbide materials to support your $1 billion of revenue. I appreciate the fact that you'll be majority internally sourced for substrates exiting the year, but I presume that you'll probably purchase somewhere close to $200 million in merchant supply this year. Maybe if you can give us an update in terms of some of the constraints that you might be seeing there from your more traditional suppliers and how you may be broadening your supplier list there?

Yes. Look, I'm not worried about the merchant supply. Obviously, our percent of internal is going to be incrementally going up throughout the year. We're going to be majority internal. But as far as derisking, we've done a very good job of having multiple sources that we are able to pull on. All sources, not internal, are qualified. And we're getting what we need. So therefore, think about it as a very good and already in the playbook risk mitigation strategy while we continue to execute greatly on our internal substrate.

Yes. I would like to emphasize that while the market is challenging, we have been building inventory in silicon carbide to prepare for this ramp. As we increase our use of internally supplied substrates, it will assist us further.

Thanks, again.

Our next question comes from William Stein with Truist Securities. Your line is open.

Thank you. Hassane, at the silicon carbide event you hosted about a year ago, you discussed the trend in supply and demand for silicon carbide, suggesting it would likely remain in a shortage for many years. Recently, Tesla surprised many with an announcement about reducing their silicon carbide usage significantly in their next-gen vehicle, the Robotaxi. Although it's just one customer and they represent a small share of global auto production, it's still an important data point. How does that affect your perspective on the long-term supply and demand for silicon carbide, considering not just the next year but also the next five years and beyond?

Yes, look, actually, the announcement doesn't change my outlook. It actually, I would say, confirms it because if you think about it, this is a new platform and a much broader platform as far as volume. And therefore, it's incrementally beneficial as far as demand is in the market; that's just on silicon carbide. The other thing is when you start thinking, and I don't want to talk about customers specifically, but more and more, you can start thinking about silicon and silicon carbide, so IGBT plus SiC. This is a business that I've been talking about for really a couple of years. And you've heard me talk about how it's always a customer choice and our ability to supply both is incrementally beneficial for us. Therefore, when you start seeing silicon carbide, even with lower penetration of silicon carbide on a platform is still a net incremental silicon carbide in mass market vehicles. And that actually supports the concept that I've talked about that we are going to be constrained over the next few years.

That's super helpful. One other, if I can? Perhaps, Thad, you talked about the product revenue and margin of the exits you did during the quarter. Can you remind us how much is left of that? What sort of duration you expect for the exits to last? And should we continue to expect sort of this mid-40s gross margin level on the exits going forward? Thank you.

We expect around $400 million in exits for the year. In the first quarter, we fell short of our expectations, reaching only $47 million. We had anticipated a higher figure for this quarter, but we still believe we will achieve the overall exit target throughout the year. Looking ahead to Q2, we estimate about $85 million in exits, with the remainder occurring in the second half of the year. Therefore, we anticipate an increase in exits during that latter half. The gross margin currently stands in the mid-40% range, although we will experience some losses. This is due to the fact that we are not willing to lower our prices, which is why we're losing these exits. Over time, we believe that these gross margins will drop to a low level that we are not prepared to accept. So, for the year, we are still projecting about $400 million in exits, with gross margins in the mid-40% range.

Thank you.

Ladies and gentlemen, this does conclude the Q&A portion of today's conference. I'd like to turn the call back over to Hassane El-Khoury, President and CEO, for any closing remarks.

Thank you again for joining our call. As Thad mentioned, we look forward to seeing many of you at our Analyst Day. Our future is bright, and we look forward to sharing with all of you what's next for ON Semi. Thank you.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect. And have a wonderful day.