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Thomson Reuters StreetEvents Event Transcript
E D I T E D V E R S I O N

Q1 2019 Micron Technology Inc Earnings Call
DECEMBER 18, 2018 / 9:30PM GMT

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Corporate Participants
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* David A. Zinsner
Micron Technology, Inc. - Senior VP & CFO
* Sanjay Mehrotra
Micron Technology, Inc. - CEO, President & Director
* Farhan Ahmad
Micron Technology, Inc. - Senior Director of IR

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Conference Call Participiants
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* Mark C. Newman
Sanford C. Bernstein & Co., LLC., Research Division - Senior Research Analyst
* Aaron Christopher Rakers
Wells Fargo Securities, LLC, Research Division - MD of IT Hardware & Networking Equipment and Senior Analyst
* Romit Jitendra Shah
Nomura Securities Co. Ltd., Research Division - MD & Senior Analyst of Semiconductors
* Timothy Michael Arcuri
UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment
* Christopher James Muse
Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst
* John William Pitzer
Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head

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Presentation
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Operator [1]
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Good afternoon. My name is Brian, I'll be your conference facilitator today. At this time, I would like to welcome everyone to Micron's First Quarter 2019 Financial Release Conference Call. (Operator Instructions) It is now my pleasure to turn the floor over to your host, Farhan Ahmad, Head of Investor Relations. You may begin your conference.

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Farhan Ahmad, Micron Technology, Inc. - Senior Director of IR [2]
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Thank you, and welcome to Micron Technology First Fiscal Quarter 2019 Financial Conference Call. On the call with me today are Sanjay Mehrotra, President and CEO; and Dave Zinsner, Chief Financial Officer. Today's call will be approximately 60 minutes in length. This call, including audio and slides, is also being webcast from our Investor Relations website at investors.micron.com. In addition, our website contains the earnings press release filed a short while ago.
Today's discussion of financial results will be presented on a non-GAAP financial basis, unless otherwise specified. A reconciliation of GAAP to non-GAAP financial measures can be found on our website, along with the convertible debt and capped call dilution table. As a reminder, the prepared remarks from this call and webcast replay will be available on our website later today. We encourage you to monitor our website at Micron.com throughout the quarter for the most current information on the company, including information on various financial conferences that will -- we will be attending. We can also -- you can also follow us on Twitter @MicronTech.
As a reminder, the matters we will be discussing today include forward-looking statements. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from statements made today. We refer you to the documents we filed with the SEC, specifically, our most recent Form 10-K and Form 10-Q, for a discussion of risks that may affect our future results. Although, we believe that the expectations reflected in the forward-looking statements are reasonable, we can't -- cannot guarantee future results, levels of activity, performance or achievements. We are under no duty to update any of the forward-looking statements after today's date to conform these statements to actual results. I'll now turn the call over to Sanjay.

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [3]
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Thank you, Farhan. Good afternoon, everyone. In the first quarter, we demonstrated solid execution, further improved our balance sheet and began executing on our $10 billion share buyback program. We delivered strong profitability despite revenue headwinds from the inventory adjustments at several customers, and industry-wide CPU shortages. Our results also reflect our success in further diversifying our business as evidenced by record sales in our mobile, automotive and industrial businesses in the quarter. As we enter calendar 2019, we are seeing weakening demand from our customers. As a result, we are taking decisive actions, including a meaningful reduction in our fiscal 2019 CapEx plan, in both DRAM and NAND that will materially reduce our supply bit growth. I'll provide more details on these items later in the call after first reviewing the highlights of the quarter. I'll start with our execution progress. We are focused on improving our cost structure and increasing the mix of high-value solutions in our portfolio, both of which provide immediate benefits, and strengthen Micron's ability to drive long term profitable growth. Our cost reductions in DRAM and NAND have meaningfully outpaced the industry over the last 3 years. Our progress on advanced technology gives us confidence that we will deliver healthy year-over-year cost declines in DRAM and NAND in fiscal 2019, even after taking into account the supply and CapEx changes, which I referenced earlier.
In the first quarter, we achieved crossover of 1X nanometer DRAM shipments, and started revenue shipments of 1Y nanometer products. Our 1Y year ramp is ahead of schedule, and we remain on track for meaningful production by the fiscal third quarter. We're also making excellent progress on our 1Z technology, which leverages our leadership in advanced materials and cost effective lithography techniques. In NAND, we continue to lead with our QLC product offerings, and have introduced both consumer QLC and VME SSDs and enterprise QLC SATA SSDs.
In the first quarter, we started shipping 96-layer NAND products. Yields on 96-layer are ahead of plan. We remain focused on increasing the mix of high-value solutions in our portfolio, and investing in differentiated products for our customers. In DRAM, we introduced our 1Y nanometer 12-gigabit low-power DRAM, which offers the highest density available for the mobile market. We are seeing strong demand for this product as the market continues to move toward higher densities.
In NAND, high-value solutions now represent over 50% of our NAND bits, which is an important milestone for us. The improving mix of high-value solutions increases our gross profit opportunity and provides better margin stability. The strength of our high-value solutions this quarter, which was driven by managed NAND products, helped us maintain overall NAND gross margins above 45%, despite industry oversupply. We strengthened our number 1 share position in SATA enterprise SSDs, gaining about 3 percentage points of market share sequentially, according to industry reports. In addition to the QLC consumer and VME SSD, mentioned earlier, we also introduced the industry's first one terabyte TLC and VME automotive SSD in the first quarter. We are working to further expand our NVMe [4] product portfolio, and plan to introduce SSDs targeting client, enterprise and cloud markets through the course of calendar 2019.
Looking ahead, we expect the SSD market opportunity will continue to shift from SATA to NVMe. Fiscal 2019 will be a year of transition for our SSD portfolio, and we expect our SSD share gains to resume in fiscal 2020. In the meantime, the growth of our high-value NAND solutions in fiscal 2019 will be driven by our mobile managed NAND products, where we believe we have significant opportunity to increase share. In the first quarter, we shipped multiple high-capacity, high-performance UFS solutions, nearly tripling our bit shipments quarter-over-quarter.
We continue to make good progress in developing high-value solutions using our 3D XPoint technology and plan to introduce differentiated products towards the end of calendar 2019, as previously discussed. Our conviction in the opportunities ahead is reflected in our October announcement that we intend to exercise our option to acquire Intel's interest in the IMFT Facility in Lehi, Utah, early in calendar 2019.
Now turning to end markets. I will start first with mobile, where we set records for revenue, gross margins and operating margins in the first fiscal quarter. In addition to strong seasonal sales, we benefited from major product wins with several customers, which is driving our managed NAND share gains. We are seeing strong demand elasticity in this market, and within our MCP portfolio, our average NAND density was up over 25% sequentially, and over 150% year-on-year. Content growth also continues to do well in mobile DRAM, with more than 25% growth in density per unit shipped on a year-on-year basis. We expect content growth to continue in mobile devices, driven by broader use of artificial intelligence, and the increasing number of cameras in the average smartphone. These elements will become pervasive, while the industry readies for 5G implementation. In data center markets, we saw reduced revenue coming off a record-setting fiscal fourth quarter, due primarily to inventory adjustments at our customers. We expect this headwind will persist for a couple of quarters. We are seeing some cloud customers go through a digestion period following very strong growth over the last 2 years.
We believe we are still in the early innings of cloud growth and long-term end customer demand trends remain strong in this market. Our engagement with our customers continues to be deep, and now includes collaboration on our 3D XPoint product roadmap. Higher density DRAM products are seeing stronger demand across the data center market. Revenue from our high-density 64 gigabyte DRAM modules grew more than 50% quarter-over-quarter. We are focused on the upcoming industry transition from 8 to 16 gigabit DRAM, and expect to start sampling our new 16 gigabit DRAM by our fiscal third quarter. In graphics, we started volume ramp of our high-performance GDDR6 memory, and are working closely with our key customers in this segment. Higher-than-normal inventories in gaming cards and the fall off in crypto-related demand created revenue headwinds, which we expect to continue for a couple more quarters.
Looking ahead, we see broadening interest in high-performance graphics memory for AI enablement in segments like data center and automotive. Our product leadership in GDDR6 is already creating new opportunities in these segments.
Turning to markets requiring our long life cycle products. In the fiscal first quarter, we had record revenue in auto and industrial markets, with a sequential expansion in gross margins. Strength in automotive continues to be driven by increasing demand for in-vehicle infotainment and advanced driver assistance systems. As a result, we see strong demand for our latest generation of automotive products. In November, we announced a collaboration with BMW to define and validate next generation automotive solutions. This is another proof point of Micron's leadership in automotive, and the growing criticality of memory and storage to leading-edge automotive applications.
Turning to our DRAM industry outlook. As I've mentioned previously, DRAM demand weakened through the course of our fiscal first quarter. Since the start of this fiscal second quarter, the weakening demand trend has continued, and our near-term visibility is limited. Due to a lengthy period of rising DRAM prices, we believe some of our customers had decided to carry higher-than-normal inventory levels, and as DRAM supply caught up with demand, these customers are bringing down their inventory levels. Smartphone unit demand is also continuing to weaken, particularly, at a high-end in what is seasonally slow quarter for mobile.
Lastly, we are continuing to see the impact of CPU shortages. While our customers' end market demand in segments like industrial, cloud, enterprise and client compute is healthy, this inventory adjustment period will contribute to weaker demand conditions in DRAM that will likely persist through the first half of calendar 2019. We now expect DRAM bit demand growth for the industry in calendar 2019 at approximately 16%, compared with our prior expectation of approximately 20%. Even after factoring in the recent CapEx cuts publicly announced across the industry, DRAM supply growth is tracking above our view of demand growth in calendar 2019. Given this supply-demand dynamic, we are taking decisive actions to lower our DRAM bit output growth to approximately 15% for calendar 2019, versus our prior plan of around 20% bit growth. These actions include a significant reduction to our capital expenditures in fiscal year 2019. Based on our current demand estimates, our DRAM bit shipments for the fiscal second quarter will decline sequentially, but more importantly, are likely to be flat to down on a year-over-year basis as well, consistent with a weak quarter for the memory industry and significantly below the long-term demand growth rate. This shows that inventory adjustments by our customers are well underway. Barring weaker macroeconomic conditions, we expect our DRAM bit demand to grow sequentially in our fiscal third quarter.
Looking beyond fiscal Q3, as we enter the second half of calendar 2019, we expect a healthier demand environment alongside an improved industry supply picture, which should contribute to improved financial performance.
In NAND, while the inventory levels at customers are in better shape, NAND suppliers appear to have elevated levels of inventory. The transition from planar to 3D NAND in the industry and successful ramp of 64-layer across the NAND manufacturers has resulted in oversupply in the market over the last several quarters. We currently expect calendar 2019 NAND industry bit demand growth to be approximately 35%, with ongoing impacts due to client compute CPU shortages, and weaker high-end smartphone unit demand. Even after taking into account recently publicly announced NAND CapEx reductions for calendar 2019, our assessment is that the NAND industry supply growth will exceed industry demand growth in the coming calendar year. We are, therefore, lowering our 2019 planned NAND bit growth, and further reducing our fiscal 2019 NAND CapEx. We now expect our calendar 2019 NAND supply bit growth to be meaningfully reduced from prior expectations, and expect our bit shipment growth to be in line with the industry demand at approximately 35%. We also expect NAND demand to accelerate in the second half of the calendar year, as demand elasticity kicks in for the mobile, enterprise and client markets. Given our attractive cost structure on leading-edge NAND and DRAM, in this market environment, we will manage pricing and carry inventory as necessary to optimize our profitability. We are taking decisive action on the supply side to manage our business in a prudent fashion, with an eye towards delivering a robust return on our investments. Our actions will significantly reduce our fiscal 2019 CapEx and allow us to continue delivering strong profitability and healthy free cash flow, while investing in our strategic priorities as we position Micron to capitalize on the exciting growth opportunities for the company.
I'll now turn it over to Dave to provide financial details of our fiscal first quarter and guidance for the second quarter.

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David A. Zinsner, Micron Technology, Inc. - Senior VP & CFO [4]
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Thanks, Sanjay. Micron delivered strong results in our fiscal first quarter, including double-digit year-over-year growth in revenue, gross profits, and earnings per share. While our near-term outlook has become more challenging, the actions taken to improve our cost structure and increase our mix of high-value solutions, will ensure that our profitability profile remains strong. Moreover, Micron's financial position remains healthy, with an improved net cash position and with total liquidity reaching our target levels.
Total fiscal first quarter revenue was $7.9 billion, up 16% from the prior year, and down 6% from the record fiscal fourth quarter. Revenue was adversely impacted by inventory adjustments at key customers in the cloud, graphics and enterprise markets. Offsetting these headwinds, we delivered record revenue in the mobile, industrial and automotive markets. DRAM represented 68% of total company revenue in the fiscal first quarter. DRAM revenue increased 18% year-over-year and declined 9% from the prior quarter.
On a blended basis, DRAM ASPs declined high single digits percent compared to the prior quarter, while shipment quantities were relatively flat. Trade NAND revenue represented 28% of total company revenue in the fiscal first quarter. Trade NAND revenue increased 17% year-over-year and declined 2% quarter-over-quarter. Our overall NAND ASP declined in the low- to mid-teens percent, and shipment quantities increased in the low to mid-teens percent, compared to the prior quarter.
Now turning to our revenue trends by business unit. Revenue for the Compute and Networking Business Unit was $3.6 billion, up 12% year-on-year and down 17% quarter-on-quarter. The sequential decline was driven by the impact of inventory adjustments at some of our customers in the graphics, enterprise and cloud markets. The Mobile Business Unit delivered a strong quarter, with record revenue of $2.2 billion, revenue increased 62% year-over-year and 17% from the prior quarter. Revenue growth was driven by the continued strength of our low-power DRAM offerings, and share gains in our mobile managed NAND business with several leading handset customers.
Embedded Business Unit revenue of $933 million was up 12% year-on-year, and up 1% quarter-on-quarter. The automotive and industrial business -- businesses had record revenue, driven by strong sales of our DRAM and NOR products.
And finally, turning to the Storage Business Unit, or SBU, fiscal first quarter revenue was $1.1 billion, down 17% year-on-year and 8% quarter-on-quarter. The sequential decline in revenue was driven by weaker pricing and the ongoing transition from SATA to NVMe SSDs. The impact of this transition will continue through calendar 2019. Our strategy to move bits from SBU components to high-value solutions in mobile is also contributing to a decline in revenue for SBU.
The consolidated gross margin for the fiscal first quarter was 59%, up 360 basis points from the prior year, and down approximately 230 basis points from the prior quarter. This includes a 120 basis point impact from 3D XPoint underutilization costs.
During the last few months, we successfully leveraged our global supply chain to mitigate the impact of the China trade tariffs to less than 50 basis points to our consolidated fiscal first quarter gross margin. We expect to be able to mitigate approximately 90% of the impact from tariffs starting in January 2019. We believe that Micron will not be directly impacted by any expansion of trade tariffs to additional product categories.
Operating expenses were $783 million, slightly above our guidance, mainly due to higher-than-expected prequalification expenses associated with new product introductions.
Looking forward, as our joint development work with Intel comes to a conclusion around the end of this fiscal year, the R&D cost-sharing between the companies will naturally reduce and come to an end. In the fiscal first quarter, Intel's share of joint R&D expenses was approximately $30 million. We expect that our R&D expenses will continue to increase in the coming quarters, due to the combination of these declining R&D contributions from Intel, as well as increased investments in future technologies and high-value solutions across our portfolio. We continue to drive strong profitability in the fiscal first quarter, with operating income of $3.9 billion, representing 49% of revenue. This margin is up 3 percentage points year-over-year and down 3 percentage points from the fiscal fourth quarter.
As previously mentioned, the improvements that Micron has made over the prior several years have resulted in structurally higher margins. The tax rate for the fiscal first quarter was 10%, and we expect our fiscal year 2019 tax rate to be around 11%. Non-GAAP earnings per share in the fiscal first quarter totaled $2.97, up from $2.45 in the year ago quarter and down from $3.53 in the prior quarter. We commenced our capital return program in the fiscal first quarter with the repurchase of $1.8 billion of common stock, representing a reduction of approximately 42 million shares or about 3.5% of shares outstanding. We expect to remain active with our stock buybacks in the fiscal second quarter, as we continue to make progress on our $10 billion repurchase program by returning at least 50% of our ongoing free cash flows to shareholders.
Turning to cash flows and capital spending. In the fiscal first quarter, we generated $4.8 billion in cash from operations, representing 61% of revenue. Capital spending, net of third-party contributions, was $2.5 billion, up from $2.1 billion in the prior quarter. In the fiscal first quarter, our free cash flow was approximately $2.3 billion, up about $600 million from the year ago quarter, and down approximately $750 million from the prior quarter. We deployed approximately 80% of the quarter's free cash flow towards our share repurchase program. Even with the substantial outlay for share repurchases, we ended the fiscal quarter in a record net cash position of $3.1 billion, with approximately $7.2 billion in cash, marketable investments and restricted cash, and $4.1 billion in debt. While we largely completed our deleveraging activities in fiscal year 2018, we further reduced our debt balance in the quarter by approximately $500 million through the settlement of outstanding convertible note redemptions of $160 million and other scheduled payments.
Overall, our solid balance sheet, strong cash flow, and robust liquidity put us in an excellent position to execute on our capital returns program.
Prior to issuing our fiscal second quarter guidance, I'd like to provide some context for our outlook. Due to the weaker demand environment, we expect fiscal second quarter sequential bit shipments to be down meaningfully for both NAND and DRAM. Given the weaker near-term outlook, we are lowering our CapEx plans to a range of $9 billion to $9.5 billion for fiscal 2019. At the midpoint, this represents a $1.25 billion reduction from our prior guidance, and our front-end equipment CapEx is now down year-on-year. We'll continue to remain flexible with capital spending to respond to market conditions.
With that in mind, our non-GAAP guidance for the fiscal second quarter is as follows: we expect revenue to be in the range of $5.7 billion to $6.3 billion; and gross margins to be in the range of 50% to 53%; operating expenses are expected to be $800 million, plus or minus $25 million. As we execute on longer-term growth investments, we're actively managing OpEx by implementing expense controls across the company, including tighter controls on headcount, holiday work schedule slowdowns and reductions in discretionary spending. Based on a share count of approximately 1.15 billion fully diluted shares, we expect EPS to be $1.75, plus or minus $0.10.
In closing, Micron continues to deliver solid financial results on a stronger performance foundation. We are making progress on all of our key initiatives, including our high-value solutions product portfolio, our cost profile, capital return program, and financial structure, with a record net cash position, and $9.7 billion of liquidity at the end of the fiscal first quarter. While near-term market conditions are challenging, we are taking appropriate steps to manage production and spending, in order to deliver healthy profitability and cash flows. There is no doubt Micron remains in the strongest financial position in the company's history, as we transition to next-generation technologies and products.
I'll now turn the call over to Sanjay for some concluding remarks.

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [5]
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Thank you, Dave. While we end calendar 2018 on the heels of unprecedented profitability and revenue for both Micron and the industry, we do believe we are entering a period of weaker market conditions. We are taking prudent actions to adapt our manufacturing plans to the changing demand environment. While we are implementing expense controls, we are also continuing to invest in our technology and cost competitiveness, as well as strengthening our portfolio of high-value solutions. Memory and storage have become essential ingredients to the value created by the data economy, and it is this added value that is driving a virtual cycle of long-term growth and innovation. We continue to believe that the memory industry is structurally stronger, with more diversified demand drivers and moderating supply growth capability. Micron is better positioned than ever before to win in this environment with our strong balance sheet and the structural improvements we have made to our operating model in the past several years. We believe 2019 will be a year of solid profitability, and I look forward to sharing our results over the quarters ahead. We will now open for questions.

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Questions and Answers
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Operator [1]
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(Operator Instructions) And our first question will come from Timothy Arcuri with UBS.

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Timothy Michael Arcuri, UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment [2]
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Thank you, Sanjay, I was wondering if you could help quantify the inventory at your big hyper scale customers? It sounds like in aggregate it's maybe 2 months. So I'm wondering if you can help with that number?

So inventory at our customers and this is -- customers in various segments of our market, some of those customers are carrying higher levels of inventory, and that inventory level varies from customer to customer, we believe. And our assessment is that inventory adjustments will take couple of quarters for it to be corrected, for it to work through the system entirely and, of course, we continue to work with our customers in the meantime, in terms of understanding their longer-term demand requirements. And, certainly, our customers are indicating optimism towards the demand requirements in the second half of the year, and especially, as inventory adjustments work through the system and as supply cuts, the effect of those come through the industry, as well as second half of the calendar year tends to be seasonally stronger, compared to the first half of the year, we do expect that by the second half of the year, we'll have an environment that will be improved, stronger, compared to the first half of the year. And just keep in mind that the long-term demand trends in our end markets of cloud, client, enterprise, graphics, all of these end markets, the trends continue to be strong, needing more memory and more storage ultimately. We're just going through an air pocket here, related to primarily inventory adjustments, as well as some seasonal, weak mobile demand, including mobile demand on the high-end smartphones that is impacting some of our near-term visibility, as well as the near-term outlook.

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Timothy Michael Arcuri, UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment [4]
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And then I guess just as a quick follow-up, Dave. So I think maybe the surprise in the guidance is that the bit shipments are down, I think you said, meaningfully for both NAND and DRAM. I'm wondering, what that means for inventories? Are you going to ship out of inventory? Or are you cutting utilization? Can you sort of walk us through that?

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David A. Zinsner, Micron Technology, Inc. - Senior VP & CFO [5]
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So we are reducing our production for both DRAM and NAND. As Sanjay indicated, from a DRAM perspective, we're bringing bit supply growth down to 15% approximately in calendar year 2019. For NAND, we're also bringing the production down meaningfully, and we did indicate that we would ship close to demand for NAND, and we think that demand is about 35%. So, obviously, there will be periods of time where we do have inventory increasing for some period of time and then, of course, it will adjust down through the years as we -- as those demand and supply numbers get more aligned. In the first quarter, we had days of inventory up to 107 days, I'm very comfortable with 107 days. This is very low cost product that we're putting on the balance sheet. There is no risk around obsolescence, it's part -- it's very likely that it will go up again next quarter. Again, I'm very comfortable with that. But I think over the long term, we'll have it more aligned with ultimately where we want it to be.

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Operator [6]
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And our next question will come from the line of John Pitzer with Crédit Suisse.

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John William Pitzer, Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head [7]
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Dave, just relative to the guidance for OpEx in February quarter of $800 million, plus or minus $25 million, does that now reflect what we should think about as a fully burdened OpEx as you kind of move away from the shared cost with Intel? And relative to the $6 billion of operational efficiency gains you talked about at the Analyst Day this past summer, how does that fit in with this OpEx guide? Because this is about $200 million more OpEx per quarter than we saw at similar revenue levels back in sort of '16, '17, and it's about $300 million above per quarter what we saw kind of in the '15 sort of correction?

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David A. Zinsner, Micron Technology, Inc. - Senior VP & CFO [8]
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Yes, good question. So we did guide $800 million for OpEx in the second quarter, plus or minus $25 million. That's probably -- that's certainly not fully burdened. We had about $30 million of benefit in the first fiscal quarter related to Intel's contribution through R&D expenses. It will be a little bit less in the second quarter, but over the course of the rest of the year, it will kind of phase down. So that certainly will elevate the OpEx in the third and fourth quarter relative to the second quarter. And also, we're not -- while we are certainly managing expenses prudently and we are taking steps in terms of reducing discretionary spending and just monitoring our head count very closely, we still are making the necessary investments on the product side and the non-technology side. This is as Sanjay mentioned, and air pocket, we don't want to in any way, impact our long term strategy for some sort of near-term event. So OpEx will likely go up a little bit. It's a fair point on the OpEx. I would say, if you look at the guidance for the second quarter or even with the revenue guidance we gave relative to what the first quarter was like, if you take the kind of midpoint of the earnings number, and the midpoint of the revenue guidance number, you'll get kind of 38% plus operating margin. So that is a really good number obviously. It's a number of, in my previous company, we were kind of aspirationally trying to get to. So it's a very good operation -- operating margin number. And I think it reflects the fact that we achieved the $6 billion of improvements that we said we would make at the Analyst Day. We still think we have more work to do in terms of driving the mix towards high-value solutions in terms of improving our cost competitiveness, both on the front-end and on the back-end side. So there is more to come, there is another $3 billion that we committed, and we feel very good about that.

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John William Pitzer, Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head [9]
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And then as my follow-up for Sanjay. Can you just walk us through the strategic puts and takes of building inventory into the February quarter, as opposed to trying to let those bits out into the marketplace and let elasticity sort of take over? Is this sort of intangible reflection of your view that this will be relatively short-lived a couple of quarters? And what would you need to see before you would think that inventory build was too risky?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [10]
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So I think our inventory, our cost structure is very good, both on DRAM as well as on the NAND side. And so we are definitely prepared that in terms of managing our overall profitability, which is absolutely our primary focus, that we'll manage pricing and manage inventory accordingly, as necessary. If inventor has to be carried over, we will carry it over, because the demand in NAND will kick in with elasticity. In DRAM, the inventory consumption with our customers will occur, supply cuts will be driving return to stronger demand environment, compared to -- in the second half, compared to first half. So we will be using inventory as a lever to ultimately manage for the best profitability of the company. And certainly, be prepared, use that inventory as necessary to also capitalize on the second half opportunities. And our focus really will also remain that in terms of our CAGR, in terms of output growth, to be aligned with the demand CAGR. And we'll, of course, from time-to-time, use inventory as a lever to manage the profitability of our business and, of course, manage our customers' requirements as well.

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Operator [11]
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And our next question will come from C. J. Muse with Evercore.

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Christopher James Muse, Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst [12]
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I guess, first question, can you talk about what you're thinking in terms of cost down efforts both for DRAM and NAND, particularly as you move to higher-value solutions, changing mix, including 1Y, 1Z, as well as 96 layers in the '19 time frame?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [13]
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With respect to the cost structure, we continue to be in very good position, as we said, that for our fiscal year '19, we'll have healthy cost reductions, both for NAND as well as DRAM. And you're, of course, right to note that as we increase the mix of our high-value solutions, for example, over the longer term as we increase our SSD mix or increase our managed NAND solutions, those do tend to incur higher costs. But they also bring higher margins, higher profitability, higher pricing associated with them as well. So cost wise, we are in good shape.

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Christopher James Muse, Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst [14]
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That's helpful. And I guess, as a follow-up, a question for you, Dave. I think in the past you've talked about wanting to have liquidity, including gross cash and revolver, of roughly 1 year CapEx, which would basically put you on the screws here. So the question is, how to think about incremental free cash flow generation? And what percentage of that would be used for buybacks?

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David A. Zinsner, Micron Technology, Inc. - Senior VP & CFO [15]
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Yes, good question, C.J. So, we contribute -- let's start with the -- we're at about $9.7 billion of liquidity when you count the cash that we have on the balance sheet, plus the $2.5 billion revolver we have. So we're in, as you point out, very good shape relative to where our target at liquidity would be. You saw a pretty healthy return of cash to shareholders in the first quarter. About 80% of our free cash flow went to shareholders in the form of the buyback, and really, the rest went to further deleverage the balance sheet. There's not a ton of deleveraging that will go on through the rest of the year, quite honestly. And so I would expect us to be -- continue to be good buyers of the stock, so to speak, through the next 3 quarters, and contribute a high portion of our free cash flow in the form of a buyback.

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Operator [16]
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And our next question will come from Mark Newman with Bernstein.

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Mark C. Newman, Sanford C. Bernstein & Co., LLC., Research Division - Senior Research Analyst [17]
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First question really, I'd like to ask on the supply adjustments you're making, you're taking down the guidance for both DRAM and NAND production. You mentioned about some of that being inventory, but you also mentioned some of that being some reduction adjustments. It would be useful to understand a bit more about that. For example, is that reduction of utilization? Is that a no more capacity additions? Or what is that? Because some of your competitors have been pushing out some of their capacity additions. And so it would be useful to understand what Micron is doing here on the capacity adjustments to get this slightly lower bit growth that you are forecasting for calendar '19?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [18]
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So, certainly, we are taking actions, a range of actions, and we won't really get into any specifics here in terms of what actions we are taking to reduce our output. You earlier mentioned about inventory. I mean, of course, we will carry inventory as necessary to manage the profitability. But important thing to understand is that we are taking decisive actions in terms of reducing our production output, both in NAND as well as in DRAM. And that's the contributor to the $1.25 billion reduction in CapEx, compared to our prior guidance. And, of course, our intention here is to align our supply output in line with the industry demand trends. And we feel very good about the actions we have taken. In DRAM, we've pointed out that compared to our prior expectations of 20% supply bit growth in calendar 2019, we have taken actions now to reduce our output to provide a 15% supply output growth on a year-over-year basis. And in DRAM as well, we have taken actions to adjust our output so that our shipments will match with our demand that we expect to be around 35% in 2019. And I just wanted to make it very clear here -- and I just want to be very clear as we have always said, that we are not adding any new wafer capacity. We are -- the CapEx that we discussed today, the lowered CapEx that we discussed, which on a wafer equipment basis is a reduction from fiscal year '18 CapEx, is all going towards technology transitions only. And that, of course, is the best way to achieve the ROI on those investments.

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Mark C. Newman, Sanford C. Bernstein & Co., LLC., Research Division - Senior Research Analyst [19]
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So does that mean slower technology migration? Or does it perhaps mean slightly lower utilization for a temporary period?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [20]
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So, Mark, I'm not going to get into the specifics. Most important thing is, we have managed our CapEx lower, and we continue to take actions to manage our production output lower to align our supply with our demand expectations. And I think the effect of these actions will in fact, some of these actions will start showing as early as this quarter.

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Mark C. Newman, Sanford C. Bernstein & Co., LLC., Research Division - Senior Research Analyst [21]
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Thanks Sanjay and then...

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David A. Zinsner, Micron Technology, Inc. - Senior VP & CFO [22]
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And if you look at our gross margin guidance. Go ahead, sorry Mark.

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Mark C. Newman, Sanford C. Bernstein & Co., LLC., Research Division - Senior Research Analyst [23]
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All right, go ahead. You go ahead, Dave, first.

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David A. Zinsner, Micron Technology, Inc. - Senior VP & CFO [24]
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I was just going to say, if you look at our gross margin guidance, it would reflect that we have a very good cost structure for our products.

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [25]
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And the reduction of these output that we are talking about, our cost structure will remain in very good shape, even with that. And in fact, in terms of cost, on a year-over-year basis, we actually, our cost reductions we believe both in DRAM and NAND, will be above the industry. Cost reductions remain above the industry, yes.

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Mark C. Newman, Sanford C. Bernstein & Co., LLC., Research Division - Senior Research Analyst [26]
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My follow-up question is on the demand. You talked about this a little bit of an inventory correction amongst customers, some of your competitors have talked a bit about that as well. But you seem to be reasonably confident that demand is going to come back second half of calendar '19, which also suggests that the inventory should have been burnt up by then. The customer's inventory should have been used up mostly by then. It would just be helpful, do you have any data points to explain how you get that confidence that demand will come back? Is it perhaps on the NAND side more about demand elasticity? Is it on the DRAM side? Anything about the kind of magnitude of the inventory level the customers have today to give us some kind of sense that -- confidence that, that would've been used up within a couple of quarters, for example? That'll be great, that would be very helpful.

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [27]
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So first of all, I think we should realize that the end market demand trends, by and large, really remain quite healthy and our customers also are absolutely continuing to show to us the optimism around the long-term demand trends. And as we noted in my remarks, that in our fiscal second quarter, the bits for DRAM, let me first talk about DRAM here, the bits for DRAM will be down on a year-over-year basis, and this needs to be compared with the long-term DRAM demand CAGR of 20%, high teens to 20% range. So, when in FQ2, on a year-over-year basis, you reduction and you contrast it with the long-term demand trends of 20% kind of demand growth, then it tells you that during fiscal second quarter, a lot of the inventory adjustments will certainly be occurring. And that's why we say that it will take couple of quarters for inventory adjustments to occur. So again, the point about year-over-year reduction in our DRAM shipments is an important point in understanding that the inventory adjustment by our customers is well underway. And all of this, while the end market demand drivers of cloud, as you see from all the data, is absolutely continuing to be healthy, the end market demand driver in terms of average capacity increases of flash and smartphones, as well as DRAM content and smartphones driven by AI and machine learning, continues to be on the upward trend. And of course, applications like automotive and industrial IoT, with more AI and more machine learning, all of these are continuing to drive the demand trends toward a need for more storage and more memory. And we laid out some of these opportunities at our Investor Day, and all of those opportunities very much stay intact, and at the end market level, continue to be vibrant. So, I think these couple of points that the November quarter itself was, in terms of overall shipment, was below seasonal, as well as the first quarter, on a year-over-year basis, really showing reduction, points to inventory adjustments are well underway. And, of course, you have to look at this in the backdrop that the output in the industry is coming down as well. We have announced our decisive actions here today, and we have provided the outlook in terms of our output growth in calendar year '19, both for NAND as well as DRAM. So these -- and then, as I said before, that second half of the year tends to be a seasonally stronger part in terms of demand compared to the first half. So these all are definitely pointing to our confidence, and built up on inputs from our customers in terms of second half of the year being stronger than the first half of the year in terms of -- in demand trends and the industry fundamentals as well. And let me just point out one more thing here, that when you look at industry, I mean, compared to the past cycles, really the CapEx cuts are happening at much, much earlier level in the cycle. And really, in terms of happening even at much higher levels of profitability than ever in the past. So all this, overall, I believe, bodes well for the long term fundamentals of the industry as well as, certainly, for Micron.

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Operator [28]
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And our next question will come from the line of Aaron Rakers with Wells Fargo.

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Aaron Christopher Rakers, Wells Fargo Securities, LLC, Research Division - MD of IT Hardware & Networking Equipment and Senior Analyst [29]
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I was wondering if I could build on that last comment, you've talked a lot about your own plans in terms of curtailing your capacity expansion this year. But given that you are in off quarter, off calendar quarter, I'm just curious of how you will characterize maybe the competitive landscape, maybe what you've seen change over the last month and a half or so, relative to some of your competitors in the context of both DRAM and NAND? And I have a follow-up.

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [30]
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I think in that regard, you know as much as I do, and over the course of last couple of months, there have been a reduction that have been discussed in the industry, the reductions that you have heard about, that manufacturers have talked about, but also, several analysts have indicated those as well. And of course, the near-term outlook has also, as we said, continued to weaken through the course of our FQ1 time frame and even since our FQ2 has started, those demand weakening trends have continued as well. So I think that this is the information that is out there, is what we're using, but we can only talk about ourselves and we can -- we certainly have taken here decisive actions in terms of managing our output growth in line with our demand expectations.

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Aaron Christopher Rakers, Wells Fargo Securities, LLC, Research Division - MD of IT Hardware & Networking Equipment and Senior Analyst [31]
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Okay. And then as a quick follow-up, just thinking about your product portfolio, particularly around the enterprise SSD market, I'm curious, it sounds like possibly you're seeing maybe even a quicker ramp towards NVMe than what you previously have seen. I mean, is there a way to kind of quantify how much of maybe the enterprise SSD market is kind of moving away from you until you get your products into the market in the latter part of this calendar year -- or calendar year '19?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [32]
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Certainly, as we have been speaking for a while, the transition from SATA to NVMe is taking place at a fast pace in enterprise, as well as in cloud applications. And we have been focused on developing our own products. And that's why we have said that in calendar year -- our fiscal year 2019, as we bring out our new NVMe products to the market, our 2019 calendar year ends up being more a year of transition for us. But there is no question that the market certainly is moving from SATA to NVMe applications across-the-board. And we have just introduced some of our early NVMe products for consumer SSDs, and I talked about how we have introduced NVMe product for automotive applications as well. And during the course of calendar 2019, we'll first be bringing out client NVMe products to the market, and then later in the year, we'll bring enterprise and cloud NVMe SSDs. And that's why we look at calendar year 2020 will be the one time frame when we start gaining share again in our SSDs -- SSD market.

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Operator [33]
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And our next question will come from the line of Romit Shah with Nomura.

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Romit Jitendra Shah, Nomura Securities Co. Ltd., Research Division - MD & Senior Analyst of Semiconductors [34]
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Sanjay, I heard you indicate that you expect above average cost declines, but I guess my question is, aren't the actions that you've announced today probably more of a hit to cost per bit in 2020 versus 2019? How do we think about that?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [35]
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I think what we have shown you today is that we are able to take decisive actions and we are able to take them fast. I mean, just remember that FQ4 was a record year for the company. And FQ1 is when we first saw signs of inventory adjustment. During the course of FQ1, we have been able to react in terms of cutting down our CapEx, as well as manage our output growth. So point is, we can react fast to the changes that are needed in the marketplace, and we remain, this is something we review very, very closely on an ongoing basis, very focused on making sure that we are maximizing the long-term profitability and long-term growth opportunity for Micron. So this is something that in terms of cost, we feel very good about our position for 2019 and beyond -- going beyond that. We of course continue to make very good progress on our technology nodes. As I discussed with you, our technology on 1Z is progressing well. We feel good about that roadmap and continue to make good progress on our NAND roadmap as well. And that will all position us well for 2019 as well as for 2020 time frame. And I just want to point out that our focus also is on shifting our portfolio to high-value solutions, and those will also strengthen our profitability profile.

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Romit Jitendra Shah, Nomura Securities Co. Ltd., Research Division - MD & Senior Analyst of Semiconductors [36]
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I guess as my follow-up, on CapEx, I mean, you are cutting your forecast for the year, but CapEx is still up on a year-on-year basis. I'm curious, if this downturn ends up being longer than any of us sort of anticipate, is there leverage to reduce CapEx even further from current levels?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [37]
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So, I will just touch on CapEx, on your previous question on cost, I also wanted to point out that on the cost side, we are making tremendous progress on the back-end assembly and test cost reductions, as well as managing, transforming our supply chain operations, which will give us significant cost benefits as well. So, all in all, 2019 and beyond feel very good about our technology roadmap, manufacturing roadmap capability, as well as overall cost capabilities. In terms of, on the CapEx side, just keep in mind that we have said that with the adjustments that we just have made, over wafer equipment CapEx actually is coming down in fiscal year '19 versus fiscal year '18. And as we've discussed before, Micron over the last few years, have significantly underinvested in clean room shell CapEx in the facilities and the buildings that are needed to really implement ongoing future technology transitions and a big part of our CapEx, as we have shared with you the past, actually is going towards buildings and facilities, clean room that will be needed for future technology transitions as well. All of that CapEx does not contribute to bit growth. And similarly, we a have significant increase in our CapEx in fiscal year '19 over fiscal year '18 on back-end test and assembly operations as well. And that is, again, intended to reduce costs, and not -- it doesn't go towards any bit growth. And we have flexibility, as we have shown already, in terms of managing CapEx. We'll continue to look at this carefully. And if any factors require us to change our CapEx outlook again, we will absolutely address it in a timely and prudent fashion. We always continue to evaluate market environment, as well as our own status of technology, transitions, production requirements, and we are making real-time adjustments as needed.

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Romit Jitendra Shah, Nomura Securities Co. Ltd., Research Division - MD & Senior Analyst of Semiconductors [38]
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I mean, it seems like the actions you guys are taking are very prudent, but I -- the part that's confusing for me is, if you're slowing your process migration, then there should be some impact to cost per bit. And I'm just, I guess I'm just not quite, I just don't quite understand what that impact is?

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Sanjay Mehrotra, Micron Technology, Inc. - CEO, President & Director [39]
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Again, in terms of cost per bit, there are a lot of details that have to be looked at. We're not going to get into all of those details here. Key message here is that we are bringing our production output in line with our demand expectations. Second, we feel very good about our technology position and our cost position, and we'll continue to do very well in this regard. Cost position, of course, includes wafer level, die cost position, but also includes the benefits of assembly and test cost improvements that we are making; and third, is we absolutely stay focused on our high-value solutions strategy, and we're executing well in this area. We talked about how in mobile, even in a market environment of significant NAND oversupply, we actually have delivered strong gains in our mobile high-value solutions portfolio as well.

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Operator [40]
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Ladies and gentlemen, this concludes our question-and-answer session for today. Thank you for your participation in today's conference. This does conclude the program and we may all disconnect. Everybody, have a wonderful day.

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