Vicor Corp Q3 FY2022 Earnings Call

Good day, everyone, and welcome to Vicor's Earnings Results for the Third Quarter Ended September 30, 2022, hosted by James Schmidt, Chief Financial Officer. My name is Peter and I'm your event manager today. During the presentation, your lines will remain on listen-only. I would like to advise all parties that this conference is being recorded. Now, I'll hand it over to James Schmidt. Please proceed.

Thank you. Good afternoon and welcome to Vicor Corporation's earnings call for the third quarter ended September 30, 2022. I'm Jim Schmidt, Chief Financial Officer. And I am in Andover with Phil Davies, Vice President of Global Sales and Marketing; our CEO, Patrizio Vinciarelli is unable to join today's call because he is out of state attending the trial relating to IP litigation we referenced on our earnings call last quarter. After the market closed today, we issued a press release summarizing our financial results for the three-month and nine months ending September 30. This press release has been posted on the Investor Relations page of our website, www.vicorpower.com. We also filed a Form 8-K today relating to the issuance of this press release. I remind listeners, this conference call is being recorded and is the copyrighted property of Vicor Corporation. I also remind you various remarks we make during this call may constitute forward-looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Except for historical information contained in this call, the matters discussed on this call, including statements regarding current and planned products, current and potential customers, potential market opportunities, expected events and announcements and our capacity expansion, as well as management's expectations for sales growth spending and profitability are forward-looking statements involving risks and uncertainties. In light of these risks and uncertainties, we can offer no assurance that any forward-looking statement will in fact prove to be correct. Actual results may differ materially from those explicitly set forth or implied by any of our remarks today. The risks and uncertainties we face are discussed in Item 1A of our 2021 Form 10-K which we filed with the SEC on March 1, 2022. The document is available via the EDGAR system on the SEC's website. Please note the information provided during this conference call is accurate only as of today, Tuesday, October 25, 2022. Vicor undertakes no obligation to update any statements including forward-looking statements made during this call, and you should not rely upon such statements after the conclusion of this call. A replay of today's call will be available beginning at midnight tonight through November 9, 2022. The replay dial-in number is 888-286-8010 followed by the passcode 10145508. This dial-in and passcode are also set forth in today's press release. In addition, a webcast replay of today's call along with a transcript will be available shortly on the Investor Relations page of our website. I'll now turn to a review of our Q3 financial performance, after which Phil will review recent market developments, and Phil and I will take your questions. In my remarks, I will focus mostly on the sequential quarterly change for P&L and balance sheet items and refer you to our press release or our upcoming Form 10-Q for year-over-year comparisons. As stated in today's press release, Vicor recorded total revenue for the third quarter of $103.1 million, approximately a 1% sequential increase from $102.2 million in the second quarter of 2022 and a 21.4% increase from the same quarter a year ago. Advanced Products' revenue decreased 12.5% sequentially, while Brick Products' revenue increased 27.2% from the prior quarter. Advanced Products' revenue increased to 36.2% from the same quarter a year ago. Shipments to stocking distributors increased 22.5% sequentially and 27.3% year-over-year. The Brick Products' revenue increase over the prior quarter is the result of our manufacturing team's ability to adapt to changing circumstances and focus on the open Brick backlog as we have the supply to get the additional output for the quarter. The sequential decline in Advanced Products' revenue in Q3 was due in part to the issuance of approximately $6 million return material authorization or RMA in the quarter. Product covered by this RMA will be evaluated upon receipt and prior to restocking in advance of its future shipment. Exports for the third quarter were relatively flat sequentially as a percentage of total revenue at approximately 70.1% from the prior quarter's 69.2%. For Q3, Advanced Products' share of total revenue decreased to 57.4% compared to 66.2% in the second quarter of 2022 with Brick Product share correspondingly increasing to 42.6% of revenue. Turning to Q3 gross margin, we recorded a consolidated gross profit margin of 45.5%. Gross margin decreased sequentially from 45.8% in the second quarter of 2022, primarily as a net result of favorable overhead absorption offset by tariff costs, higher costs at outside vendors and incremental in-house manufacturing costs associated with ongoing vertical integration investment in advance of substantial in-house production. Tariffs continue to be a drag on gross margin at $3 million in Q3 and 2.9% of revenue. Our work to reduce tariffs by reducing imports from China continues. I'll now turn to Q3 operating expenses. Total operating expense increased 5.4% from the second quarter of 2022, like last quarter and for the same reasons, this above-average sequential increase was largely due to legal fees incurred in connection with intellectual property litigation we've described previously and is disclosed in our filings. The amounts of total equity-based compensation expense for Q3 included in Cost of Goods, SG&A, and R&D was $479,000, $1,537,000, and $813,000, respectively, totaling approximately $2.8 million. For Q3, we recorded operating income of $9.5 million, representing an operating margin of 9.2%. Income taxes for Q3 were a tax provision of $842,000. Net income for the quarter totaled $8.1 million. GAAP diluted earnings per share was $0.18 based on a fully diluted share count of 44,898,000 shares. Before I review our financial position, just a brief update about COVID-19 in our workforce. As previously discussed, as a designated essential manufacturer using masks and practicing social distancing from the onset of the pandemic, we’ve continuously operated three shifts at our Andover manufacturing facility. Cases and absenteeism due to COVID-19 are now negligible, nevertheless, because much of the potential influence of the COVID-19 pandemic are associated with risks outside of our control. We cannot estimate the extent of such influence on our financial or operational performance or when such influence might occur. In particular, the zero COVID policy adopted by China has caused disruptions in parts of our supply chain and the impact and timing of the effect on our results are unpredictable. Turning to our cash flow and balance sheet. Cash, cash equivalents, and short-term investments totaled $202 million at the end of Q3. Accounts receivable net of reserves totaled $56.3 million at quarter end, with DSOs for trade receivables at 38 days. All balances are current. Inventories net of reserves increased 13.6% sequentially to $94.3 million, and with annualized turns at 2.61. Operating cash flow totaled $6.6 million for the quarter. Capital expenditures for Q3 totaled $14.4 million. We ended the quarter with a total construction in progress balance of $57 million and approximately $13.5 million scheduled to be spent through the end of the year, primarily for manufacturing equipment. I'll now address bookings and backlog. Q3 book-to-bill came in below one, and with one-year backlog decreasing sequentially by 9.4% from the second quarter of 2022. Before addressing our outlook for the fourth quarter of 2022, I'd like to comment on significant external events and developments that have occurred since our last earnings call in July. Over the course of the last three months, the macroeconomic environment has deteriorated. Many parts of the semiconductor industry have entered a downturn. The Commerce department issued new and stricter export control rules and the CHIPS and Science Act became law. While it's too soon to tell what the impact of the first three of these developments may mean for our business, they certainly represent headwinds in the near term. On the other hand, the passage of the CHIPS and Science Act could present an opportunity for Vicor, both in terms of potential funding for new investments in vertically integrated US-based manufacturing and also the possibility of leveraging its investment tax credit. As we operate in this environment, we are working to control all the factors that we can control. For example, we are taking a more conservative stance on hiring and have recently re-prioritized and reduced open personnel requisitions. We continue to work to bring our vertically integrated US-based production capacity online, while also looking for opportunities to take advantage of the investment tax credit and the CHIPS Act. Relating to equipment procured after the CHIPS Act became law and is subsequently placed into service after December. We have taken steps to rebalance our manufacturing production plan in order to make progress catching up with customer demand that we've not been able to adequately support in the past. We are continuing our company-wide work in supporting operational excellence. And we remain focused on the development of our next-generation power delivery technology, while building the business across our customer base in HPC, automotive, industrial, and aerospace and defense end markets. In all of this, we remain focused on executing our strategy which we laid out at our Annual Shareholders Meeting in June. Given our continued near-term dependence on outsourced production for certain package process steps, our outlook for the fourth quarter is approximately flat to our Q3 results, with the potential for modest sequential improvement as we increasingly leverage in-house process equipment to alleviate production constraints. With that, Phil will provide an overview of recent market developments. And then Phil and I will take your questions. I ask that you limit yourselves to one question and a related follow-up, so that we can respond to as many of you as we can in the limited time available. If you have more than one topic to address, please get back in the queue.

Thank you, Jim. As Jim mentioned, our book-to-bill ratio came in below one in Q3, reflecting the second quarter in a row where this has occurred. At a high level, this trend is reflective of the deteriorating macroeconomic environment. However, it's important to point out that we maintain substantial backlog as we enter Q4. From an end-market perspective, and on a more positive note, the outlook for the data center market in North America at the current time is still good, as hyperscalers continue to build out their machine learning technologies and capabilities, as well as upgrading their CPU racks with the latest Intel and AMD CPUs. Managing the transitions to newer processor platforms in our customer base will require some maneuvering of our NCNR backlog in Q4 from Gen3 to Gen4 factorized power modules. I remain confident in our position in the HPC market and in the customers that we have worked hard to develop in recent years. Our factorized power solutions remain the highest performance in terms of current density, low noise, and overall power system efficiency. Our Generation-5 technology, a new FPA module, which we are now beginning to introduce to lead customers will be a game changer in cloud computing and machine learning with a significant step up in current density. Our Gen5 technology will also enable direct chip on processor solutions, which will completely eliminate board and substrate PDN losses for our advanced processor customers, while also providing a significant step up in transient performance. While multiphase buck regulators have increased their power density and represent an attractive alternative due to the multi-sourcing, it remains to be proven if these multiphase solutions can manage significantly higher PDN losses and meet the low noise and high performance required by high-power AI and network processes. Our industrial and aerospace business remained stable in Q3 and both POS and new orders within our global distributors remained strong. However, we have started to see signs of a potential slowdown in some segments of our industrial business in China and Europe, which reflect macroeconomic headwinds. Our automotive business development continued its positive trajectory with OEM and Tier-1 power system evaluations making great progress towards securing final production dates with very attractive volume opportunities at several OEMs. We have two successful OEM audits in Q3; both OEMs have approved Vicor as a supplier of power modules for their vehicles. In Q3, we also engaged with additional hyperscalers and processor OEMs regarding an OEM license that would ensure continuity of supply ahead of our upcoming campaign to enforce Vicor bus converter patents. Thank you. Jim, and I will now take your questions.

Okay. Operator, if you could go ahead and start into the questions?

Yes, sir. The first question is coming from the line of Jon Tanwanteng. Please proceed.

Hi, good afternoon. And thank you for taking my questions. My first one is, how have you seen orders trend in October so far? Has it gotten worse from what you've seen in Q3 and when do you see that kind of picking back up or is it more declines ahead as you look forward and talk to customers and think about what they're needing for '23?

The daily order rate in October is lower than it was in Q3, Jon. There is significant uncertainty regarding China and Europe, as I previously mentioned. The data center, cloud computing, and hyperscale sectors in North America remain strong, yet they have considerable backlog with Vicor, which should enable us to sustain healthy revenue shipments in the near future. The key factor in that market will be the introduction of new platforms and their success, along with developments in the China market for several processor companies. This introduces some uncertainty as well. However, North America continues to perform robustly, with ongoing investment in capital expenditures in data centers, cloud computing, and machine learning.

Got it. Thank you. My next one is, just could you give us an update on the new facility? How is it running so far and kind of what kind of utilization you are expecting out in the near future?

So, yeah, this is Jimmy. I would say that we're on track as we described it on our last call. I think we said in the range of 80% to 90% vertical integration this quarter and we're on track to do that later this quarter. We're hitting some significant milestones in terms of bringing up production equipment; it helped us in third quarter, it will help us in fourth quarter as well to really handle some of the backlog and clear some of the backlog. So I would say that that's very much on track as we've described it in the past.

Okay, great. I'll jump back in queue. Thank you.

Thank you. The next question is coming from Quinn Bolton from Needham & Company. Please proceed.

Thanks for taking my question. I guess the question around the China export controls, one of your large customers clearly saw an impact for the tighter restrictions on shipments of GPUs to the China market. I'm wondering can you quantify or give us some sense as to how that might impact your revenue or what lost revenue might be associated with those tighter export controls.

Sure. The situation primarily involves our legacy business and some of our older chip products. It's related to new companies being added as the commerce department conducts more investigations into the types of businesses these customers are engaged with. This affects our older products rather than our Advanced Products. We began to notice some impacts at the start of Q4, along with a general market weakness due to zero COVID policies and factories still not fully recovering to their previous state from a few years ago. So, this is mainly an issue with our legacy business, Quinn.

Phil, one of your large customers mentioned that they would potentially face a $400 million impact on their GPUs. I'm surprised to hear you characterize this as primarily a legacy issue. Can you shed more light on how this significant hit to one of your larger customers, in terms of GPU shipments, doesn’t affect your Advanced Products?

I think that in terms of increased bookings for those Advanced Products, that's where it would hit. But again like I said, we've got extensive backlog in place with them and they've got really big positions in North America and Europe with different types of data center customers. So that's what we're relying on for the next couple of quarters. And then I think things will change as the new platform start to roll out.

Great. And then my follow-up is just, lots of questions this year about competition for multi-phase and I think it's pretty clear, your next-generation product from a lead GPU customer is starting off with multi-phase. But I guess, can you give us any updated thoughts on your position both on current generation GPUs, as well as next-generation GPUs? Do you feel like multi-phase is gaining share? Do you think you're holding share again this is both for current-generation as well as next-generation GPUs?

I am confident in our position with the factorized power technology; it provides a very clean solution. As we have mentioned previously, our power modules have significantly fewer components, making them easier for board layout and resulting in much lower noise due to the performance of the parts, along with better thermal management in the design. Therefore, I believe Vicor technology will compete effectively, although it remains unclear whether multi-phase will achieve the necessary performance levels. We will continue to advance our development, and I am excited about the Gen5 technology, which will further enhance our competitive edge.

Thanks. I'll go back in queue.

Thank you. The next question is from an online participant. Please unmute yourself, state your name and company.

Yeah. Hello.

Hello.

Yeah. Am I on?

Yes. You're on.

Okay. This is Alan Hicks from Ainsley Capital Management. I wasn't able to pre-register. So did I hear you say you got a licensing deal?

We are offering. We've stepped up basically our interaction with potential hyperscalers and processor companies that we've now obviously have confirmation about use of alternate bus converters. And so we are offering them to take an OEM license before the action begins in restricting importation of those products into the United States. So we are in conversation with a number of them at the moment to take a license and that will progress through the next three, four months.

Okay. So you're getting closer to a licensing deal?

We already have one licensing deal in place, and I expect others to occur as we move forward.

Okay. I had a question about the tariffs you've been paying. When do you believe you will determine that all of those tariffs are coming from China? Last quarter, it was $0.07, which totals $3 million, and there was $2 million in the previous quarter. When do you expect to overcome these high tariffs?

Thank you for that question; it's a great one. We are not as satisfied as we would like to be with our progress in reducing our production operations. Moving some operations out of China has proven to be challenging. In one instance, we had to relocate a semiconductor process step from a shutdown operation in the US to China, and it is expected to eventually move to South Korea. However, we are gaining some momentum in that area. Additionally, we are making progress on what is called duty drawback, where we apply to customs and border patrol to recover some of the tariffs we have previously paid. I am optimistic that we will see improved results on that front moving forward. We have noticed some reduction in freight costs, which is a positive sign for our financial performance. Nevertheless, we still have work to do regarding tariffs, and our team at Vicor is diligently addressing this issue.

Okay. And then for my last question, your legal costs increased by $4 million from Q1. Can you provide an update on that and when you expect to move past those legal costs?

So as I mentioned in the prepared remarks, the increase in legal costs is primarily due to significant ramp-up and legal expenses associated with the ongoing trial. I believe these costs will decrease as the trial progresses. However, we will incur additional legal expenses as we resume our activities related to the ITC matter involving our intellectual property. Overall, I anticipate a net reduction in legal costs in the upcoming quarters, but it is unlikely that they will return to the lower levels seen about a year or a year and a half ago.

Okay. Thank you very much.

Thank you. The next question is coming from the line of John Dillon from D&B Capital. Please proceed.

Hi everyone, I appreciate you taking my call. Phil, I have a question. In our last discussion, we touched on the bubble chart, specifically regarding the GPU customer bubble you mentioned during your annual meeting. At that time, you anticipated that revenue from their current product would last longer than you initially expected before the new 5-nanometer product would come into play. You also mentioned expecting a relatively smooth transition in terms of revenue. Is that still accurate?

We continue to see the initial big program we are involved in carry on into next year and even into the fourth quarter. While it won't occur at the same pace as in the first and second quarters, it will still be present. The next generation program will begin to ramp up soon. The A100 project remains very successful and continues to perform strongly.

Okay. So you're still on all the A100s and you expect to be on the H100s coming up here?

Yeah.

I'm curious about your next generation vertical lateral and you've mentioned some new design wins. Can you provide more details on that and when we might see some of those enter production?

Sure. Let's start with lateral vertical. I expect to see production for lateral vertical next year with a couple of processor companies. The pure vertical for the cluster computing market should begin in the first quarter, with a follow-on customer likely in the third or fourth quarter of next year. By that time, we should have Gen5 technology entering the market, which will be a game changer due to a significant increase in current density and a reduction in packaging size. This allows for enhanced vertical power delivery. We are currently in discussions with companies to partner with them in a way that attaches the current multipliers directly to their processor silicon. This would completely eliminate the power delivery network resistance and losses associated with substrates and circuit boards, effectively creating an ideal power delivery network by connecting it directly to the silicon. Gen5 will facilitate this, and we anticipate it will be available later next year and into 2024.

Sounds excellent. I'll get back in the queue. I have some other questions. Thank you very much.

Next question is coming from Jon Tanwanteng from CJS Securities. Please proceed.

Thanks for the follow-up. I just wanted to confirm that you expect to be in the H100 at some point in the future?

Yes.

Okay, great. That's great news. I was wondering also about the $6 million in RMA product that you mentioned earlier in the call. What was that all about? And where does that show in your results?

Yes, there was a request to return material and from Vicor's perspective, our quality team has confirmed that it has been fully qualified to industry standard tests and is suitable for use. We collaborate with the customer on these issues, and we have agreed to take the product back. This is not a product that is currently in production; rather, it is a product that we anticipate receiving back vacuum sealed so that we can restock and resell it.

So that was about a request to return material that, from Vicor's perspective, our quality team, and this is where I'm not an expert, but what I can do is comment on what they've told me. It's been fully qualified to industry standard test and is fit for use. We work with the customer as these issues arise, and we've agreed to take the product back. It's not a product that is in production; it's a product that we expect to get back vacuum sealed and to be able to restock it and resell it.

Sometimes customers have more extreme conditions than we anticipate, and they have certain expectations as well. It's part of our partnership; we collaborate with them to deliver the product. If their application demands greater durability to function in tougher environments, we will assist them in that. In this situation, we also have other customers for this product. As Jim mentioned, it will be put on hold until it has been thoroughly tested and assessed, and we anticipate beginning to shift it out early next year.

As you transition your production in-house at the new facility, what are your margin expectations moving forward? Will you continue to experience some pressure as you ramp up? Additionally, will there be more relief in Q4 as you shift away from the previous situation?

Yes. So like, it's our practice to not give specific guidance on gross margin. But what I will say is that we've modeled this fairly - extent but not fairly, quite extensively. And the entire transition internally will be accretive. So as we move more and more of our operation out of this outside operation that we've been using and come internal, we will be generating incremental gross margin and that's before we even get to a point where we're running substantially more volume. So the entire model is based on driving margin by virtue of the volume increasing over time. But bringing in-house will be savings right away. So we're not going to give specific guidance, Jon. But we're mapping this out to the financial model we've talked about on many occasions, long-term model at 65% gross margin.

Understood. Thank you for the color.

Thank you. The next question is coming from the line of Richard Shannon from Craig-Hallum. Please proceed.

Great. Thanks for taking my questions, guys. So on the last earnings call Patrizio made a comment about next-generation solutions that were approaching availability but not haven't booked those orders yet. Can you talk about those next-gen solutions, have they gotten to availability, and if you've got any bookings on them yet?

So I think if I remember rightly, he wasn't talking about the Gen5 stuff, just yet. He was talking still about Gen4, and some of the vertical power delivery products that we've developed for cluster computing companies. And two-stacked chips, and three-stacked chips. I think that's what he was referring to. We should start seeing revenues, as I mentioned on those products in Q1, bookings in Q1 as well for other customers. So we've got about, I think it's three accounts right now, that should book business in the early part of next year for some of those multi-stack chips on the Gen4 technology.

Okay, fair enough. And also wanted to follow up on one of your comments from the earlier questions, Phil regarding multi-phase and whether the jury is still out there. Is this a comment regarding kind of the long-term or are you talking about like leading-edge products available from leading accelerated companies next year? Maybe you can delineate that comment a little bit more, please?

Certainly. The Palo MOSFET technology is showing improvements in current density, but there are still fundamental voltage issues in a multiphase system that requires many phases to support the high current processes in AI and network backplanes. There is considerable work needed to achieve a controller that meets the current accuracy and low noise requirements of the system. Additionally, there are thermal challenges with the power distribution network, which complicates things. Although having multiple sources seems appealing, the reality is that different controllers from various companies often require different layouts and considerations. Whether it's 12, 16, or 20 phases, this approach often does not constitute a true multi-sourcing strategy. Moreover, there are significant challenges involved in creating a multiphase solution that can deliver 1000 amps in a compact, accelerated card. Comprehensive development work remains to be done to prepare this for mainstream use, and this challenge is not limited to GPU customers; it also applies to ASICs and network processors, as there are numerous applications facing similar hurdles.

Okay, great. And one last question for me, I'll jump out of line here. Just about the guidance for the quarter and kind of the broader commentary and the macro. Maybe you can tell us just generally speaking, how you're expecting the trends in the fourth quarter between Advanced and Brick Products? And to what degree are you seeing the macro affecting either?

Well, I think that as Phil said, the order rate is depressed going into the quarter. But to get to your first part of the question Richard, our expectations of Advanced Products revenue will rebound this quarter. And Brick may be down sequentially. So there will be kind of a mix shift there. But as we said, I'm looking for approximately flat to Q3. And as we get more and more activity internal and can rely more on ourselves to produce the product, we might have some modest upside this quarter.

Okay. Fair enough. That's all for me, guys. Thank you.

Thank you. The next question hasn't recorded the name. So you're in the line, please unmute yourself and state your name and company. Thank you.

Yes, this is me. This is Don McKenna, D.B McKenna. Hello?

Hi.

Okay. Yeah, I wanted to ask, during the year we've had additions from Wellington Group also from Thrive Financial and of course, Capital Group has continued to add to their positions, where they last I saw the last few quarters, they're 630, they were over 3.5 million shares that they owned. And I know they held demand, and they're small-cap fund right through the end of September. I've got to think that they have more access to you for information than we're getting on this quarterly conference call. And I'd like to suggest that, especially in this upcoming blackout period, I'll call it over the next four months before we talk again, that perhaps you schedule a meeting at the new facility like you did, probably 25 years ago when you brought in a lot of the area financial people to have a general discussion beyond what's just happens at the end of the quarter. So that was my request anyway.

I appreciate that and thank you for your input. On May 18, we had a fairly limited audience for a ribbon cutting event. We are focused on hosting more of these types of events. Over the last six months, we have concentrated on getting this operation up and running while keeping the factory team engaged. Your feedback is very valuable, and we thank you for it.

Have you maintained your position with all these major institutional investors?

I believe we have strong interest from many investors in the Vicor story, which I find compelling.

Yeah. I particularly like the Capital Group taking a long-term approach. That's why I was wondering if they hung through all the way. Thank you. I'll get back in line.

Thank you.

John Grabber from Lagunitas. Please proceed.

Yes. A question about the $6 million return. If there was a negative $6 million in the quarter, why can't you achieve a positive quarter? If you were flat, you would be $6 million higher. Why is the quarter so weak considering the backlog?

Well, I think, like I said John, we will get a rebound in Advanced Products, we're counting on that. One of the reasons we're really a bit challenged with respect to being confident in some of these statements is that there is still a significant process at least step or two that's outside of our control which is going to be the case through the end of this quarter. So we really are a bit guarded making any kind of more bullish prediction because of that. I think as we get into next year, the early part of next year, we're going to have some of the final pieces come together. And I think as Patrizio said on the last call, it's not an expectation that Vicor is going to be 100% vertically integrated. It will approach that level, but there is always going to be parts of this that are done outside. However, as we get into next year, the key pieces will be inside Vicor. And until that happens, we just have to be careful about our expectations setting.

Okay. And then the last questionnaire asked a question that we really weren't answered. Do you plan on having an analyst meeting or be more open this quarter to the analysts and the investors than you were last quarter where you were total silent? None of the analysts talk to you Jim or so which was very strange. So what's the policy going forward?

I think we will gear up to have an Investor Day. But like I said, our focus has been on execution. Generally, the view is, let the results do the talking in the short term. But we know we have to be open to the idea of an Investor Day and we're going to put that on the docket at some point in next year. I think I'll feel better about that when the factory is up and running.

Thank you.

The next question is coming from John Dillon, D&B Capital.

Hi, guys. First of all, I would just want to second what Don and John just requested. There is so much misinformation going around about Vicor. And I try to respond to a lot of this, but there's only so much I could do, would be so much better if it came directly from the company. Jim, I have a question for you, with the vertical integration getting to the 80% or 90% level, will that have a positive effect on turns and that will that positively affect your cash flow?

One of the metrics reported weekly by our manufacturing team is inventory turns, and we are seeing incremental improvements in the factory. This will ultimately influence the level of inventory we need to maintain, which in turn will impact future cash flow. In the short term, we are still reliant on an outside operation. Currently, we have steel beams being installed at 400 Federal Street for various parts of the plating operations, so this is an ongoing process. It's important to understand that our manufacturing team is assembling the factory while also collaborating with the outsourced supplier, making for a complex situation. However, their scorecards will reflect metrics such as work in progress, inventory turns, and cycle time.

I would imagine that's going to be fairly substantial because I would imagine you're sending your product out to a third party, having them play it, having them send it back. That will also have time and money to the things. So I would imagine, your cash flow is going to be affected pretty positively. Is that a fair statement?

I think it's reasonable to expect improvement over time. However, I can't specify how soon that will happen, as we still have several months to get the factory fully operational and qualified. I would just ask everyone to be patient as we work towards achieving the operational excellence we desire for this factory in the upcoming months.

Got you. I completely understand and I appreciate that. So with the current economic slowdown and the China situation, can you still ship as much as you can build or some of your orders getting pushed out to the extent your supply is exceeding your demand?

No, we still got significant overdue even on advanced products and legacy products. So the guys are working hard to get that completed. I think it's going to take a couple of quarters before we get totally caught up with all the legacy stuff and all of the Advanced Products stuff. So there's still a lot of work to do. Like Jim said, the guys are focusing also on the same guys to do that and also bringing up the new factory. So there's plenty of business here to ship in the short term.

That's great. All looks good. Thanks, guys. I'll maybe get back in the queue maybe not. But I appreciate the update. Thank you.

Thank you.

Next question is coming from an unregistered participant. You're in the line, please unmute yourself and state your name and company. Thank you.

Hi, this is Doug Combat from Promus capital. I believe I've been put on the line. Is that correct?

Yes. Hi, Doug.

Hey, guys. I don't want to sound like a broken record, I've been in the queue for about 30 minutes, 100% endorse with the other guys are saying. During the quarter, there's just a lot of negativity, there's a lot of misunderstood information, one of your main competitors, that's been called just a production machine as far as efficiency and they're producing the lower end competition for you. These guys are like doing touchdown dances, they're beating their chest that they're taking business from you. And as an investor of a publicly traded company, and again I don't want to sound like broken record. It would be great to hear from you more than four times a year and maybe two fireside chats. Now having said that, a specific question, last quarter you guys talked about your backlog and a lot of those orders being non-cancelable, I forgot the exact term, I don't have it in front of me. Is that still the case? I mean how ironclad is, are the backlog orders that so that 'were non-cancelable' economic conditions get tough, stuff can be cancellable, even if it's documented.

You always have to manage some of that. However, we have secured firm non-cancelable purchase orders with a solid understanding of the end market demands from the various customers contributing to that non-cancelable backlog. I understand your concerns, but I'm confident in our backlog position.

Okay. I have just one follow-up. What I said at the beginning and what others mentioned, and perhaps it’s not solely about communicating with investors, but you all participate in these calls every three months to discuss your technology. I strongly believe in the technology; that's why I'm an investor in my fund. However, I think it's important for you to provide more education, whether for investors or the wider market. I receive your emails when you launch a new product and I read them, though some of it might be beyond my understanding from a technology standpoint. I consider myself fairly knowledgeable. Looking ahead, as you aim to grow significantly, there should be more education efforts. I understand the ownership structure and that Patrizio holds a substantial stake in the company. Perhaps the ultimate goal is a smooth transition to an acquisition, but I’m not soliciting a comment on that. I’m just suggesting that some of us would appreciate a clearer path moving forward.

Yeah, understood. I mean, I know the company is talking about, we all do. I said bad stuff on Volta five years ago, they said bad stuff on A100 and they say bad stuff on H100 when it comes to NVIDIA just them. And then there are other comments that are made around all the other processor and hyperscaler guys. I mean they just constantly do it. Not much we can do about that because we can't talk about specific customers without their approval. So it puts us in a bit of a tough spot when there is lot of comments going around like you said. But we're just here executing, doing our job and we are confident in our technology. And to your point of explaining it better and doing more education around it, we can certainly do that. And Jim puts together that Investor Day, we'll spend some time on that.

Okay. Thank you very much. Appreciate it.

Next question is coming from the line of Quinn Bolton. Please proceed.

Large GPU customers and it's July quarter took a $122 million warranty charge due to the failure of a third party component in its data center products. And I'm wondering if you guys could go on record whether Vicor was any way involved in that recall or unfortunately net recall or warranty? And whether that might be related to the $6 million RMA you disclosed this quarter.

I think we can't talk about any specific customer and I don't know that we can relate what we're doing with that Quinn. I think we should say that there has been a $6 billion RMA we agreed to, to take the product back. Our quality team believes it's fit for use, it's fully qualified. There is a question about the root cause of some of the analysis that's gone on. But I would say that there is a case here where we have made incremental improvements in the product along the way, and it's been in production for months now. So I guess that's as much as we can say about it.

Yeah, I mean we wouldn't restock it and ship it to other customers if there was something wrong with the product. But like I said before, you work with customers, we work within the aerospace, and defense or in industrial applications as well, where you come across something that needs a little bit more capability even though you qualify to industry standards and all sorts of specifications, and the customers also test and qualify the product too, right? So, you deal with these things and you have a long-term partnership with these customers. So we work with them to constantly improve our products, we're always doing that anyway. So that's something that's just normal course of business. So we're going to put that back on the shelves. We're going to retest it first and then we're going to ship it, it's a good product.

I guess it sounds like you're obviously in close dialog with the customer around that $6 million. Do you think that there has been any long-term impairment in a relationship or do you think the fact that you've agreed to take back this product and hopefully ship different product to that customer that there is no long-term effect on the customer relationship?

Well, again like I said, we know very much all of our customers' processes and hyperscalers from the guys that we've been shipping to for many, many years. We know our PPM, so the quality levels out in the field, they range from, in some cases zero, perfect quality to 5 or 6 PPM. Once in a while, you'll get an issue where you've got to work with the customer in partnership to figure out what the challenges are. Sometimes it's their end customers that are doing things that they shouldn't be doing. But you work with them in partnership to build something that's more robust than the spec originally called for. And you get that work done and they are obviously working closely with us to get that done. So I don't see any problems with customer relationships. We work hard to build them and they are in good shape.

Got it. Thank you.

Sorry for the interruption. There are two questions in the line. Are you going to take it?

I think we're ready to wrap up, Operator.

Certainly. Everyone, that concludes your conference call today. You may now disconnect. Thank you for joining and enjoy your rest of the day.