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Cogo Group, Inc. (COGO)

Q3 2010 Earnings Conference Call

November 4, 2010 4:30 PM ET

Executives

Wanyee Ho – IR

Jeffrey Kang – Chairman and CEO

Frank Zheng – CFO

Will Davis – SVP, Business Development and Chief Marketing Officer

Analysts

Brian White – Ticonderoga

Mike Walkley – Canaccord Genuity

Amir Rozwadowski – Barclays Capital

James Faucette – Pacific Crest

Mike Driller – Heartland Capital

Wayne Brown – Private Investor

Presentation

Operator

[Operator comments]

Wanyee Ho

Thank you Craig, and good afternoon to everyone. I'm Wanyee Ho, Cogo’s Investor Relations Director, and I'd like to thank you all for joining us today to participate in Cogo's 2010 Third Quarter Earnings Conference Call.

After the market closed today, Cogo issued a press release reporting final financial results for the quarter ended September 30, 2010. This release can be accessed in the investor relations section of Cogo's website at www.cogo.com.cn and on most other financial websites.

The discussion today will be hosted by Jeffrey Kang, Chairman and CEO, who will discuss the Company’s business operations; Will Davis, our Senior Vice President of Business Development and Chief Marketing Officer, who will discuss guidance, and Frank Zheng, our CFO, who will report on the Company’s financials.

Before we begin, I'd like to remind everyone that the call today may contain forward-looking statements regarding future events and the financial performance of the Company. We wish to caution you that such statements are just predictions, and actual results may differ materially as a result of the risks and uncertainties inherent in the Company's business. We refer you to documents that the Company files periodically with the SEC, specifically the most recently filed Form 10-K, as well as the Safe Harbor statement made in today’s press release. These documents contain important risk factors that could cause actual results to differ materially from those contained in the Company's current projections. Cogo assumes no obligation to revise the forward-looking information contained in today's call.

At this time, I'd like to turn the call over to Jeffrey. Jeffrey, the floor is yours.

Jeffrey Kang

Thank you, Wanyee, and thanks to everyone for joining our earnings’ call. Our strong execution continued in the third quarter of 2010, as we broke the $100 million revenue barrier in a single quarter for the first time. Specifically, our revenue was $100.2 million, up 22% from the prior year and up 10% sequentially. We easily exceeded our guidance of $94-96 million due to continued solid bookings across all of our business segments with specific end market strength in 3G Smartphones, HDTV, fiber roll-outs, and Industrial areas such as High-Speed Railways, Automotive and Smart Meters. Our revenue in the first nine months of 2010 was up over 24% versus the same period of 2009.

I would like to extend my sincere appreciation to the employees of Cogo, who continue to drive excellent performance, as the Company grows its customer base, expands into new industries, and signs new supplier partnerships. In fact, our revenue per employee has grown 40% since the beginning of 2009. We are continually streamlining our organization to focus our efforts on the areas with the best chance of profitable growth, and our manufacture-less business model allows for a very efficient allocation of capital to respond quickly to changing market conditions.

Our Non-GAAP EPS Diluted in the third quarter was 21 cents, surpassing our guidance of 19-20 cents. Cogo posted a gross margin of 14.2%, up from the 14.1% posted last quarter, which is particularly impressive given our telecom business, which carries a gross margin below the corporate average, was our fastest growing segment sequentially.

Our gross margins are determined almost entirely by revenue mix and are not tied to indicator such as capacity utilization. Over time, we expect that our gross margins will trend upward, and we maintain our 15% gross margin target, although we would expect it to stay in the range of 14.2-14.4% over the next few quarters. The growth of our Industrials and SME revenues are two of the key drivers of our gross margins. We have seen and will continue to see more leverage on operating margins than gross margins.

Cogo continues to demonstrate solid improvement operating leverage. In the third quarter, Cogo posted Non-GAAP operating margins of 8.7%, up from 8.4% sequentially, and we expect sequential operating margins improvement in the fourth quarter. We are maintaining our 10% operating margin target and expect to make progress towards that goal as we progress through 2011.

Our goal is to achieve the delicate balance between investing in new revenue opportunities and showing operating leverage. We still focus on Cogo becoming a billion dollar-revenue business, but our growth must be within the framework of our 10% operating margin target. Make no mistake, my number one priority is to show revenue and earnings growth at Cogo, and I firmly believe we are well-positioned to do just that over the next few years. I have never been more confident than I am right now that I have the right team in place to successfully execute our strategy.

To help underscore my confidence in our execution abilities, let’s look at some of the milestones we have reached over the last six months.

1) We announced a ground-breaking deal with Intel in May;

2) In June, we added Geely, a leading domestic China player, as a key auto customer;

3) In September, we signed an agreement with Xilinx, another leading global semiconductor player;

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