NXP Semiconductors N.V. (NASDAQ:NXPI) Q3 2024 Earnings Conference Call November 5, 2024 8:00 AM ET

Company Participants

Jeff Palmer - SVP, IR
Kurt Sievers - Executive Director, President, and CEO
Bill Betz - EVP and CFO

Conference Call Participants

Ross Seymore - Deutsche Bank
Christopher Caso - Wolfe Research
Vivek Arya - Bank of America
Christopher Muse - Cantor Fitzgerald
Stacy Rasgon - Sanford C. Bernstein
Francois-Xavier Bouvignies - UBS
Joshua Buchalter - TD Cowen
Toshiya Hari - Goldman Sachs
William Stein - Truist Securities
Christopher Danely - Citigroup Inc.

Jeff Palmer

Hello everyone. This is Jeff Palmer from NXP. Thank you and welcome to NXP Semiconductors Third Quarter Earnings Call. With me on the call today is Kurt Sievers, NXP's President and CEO; and Bill Betz, our CFO. The call today is being recorded and will be available for replay from our corporate website.

Today's call will include forward-looking statements that involve risks and uncertainties that could cause NXP's results to differ materially from management's current expectations. These risks and uncertainties include, but are not limited to, statements regarding the macroeconomic impact on the specific end markets in which we operate, the sale of new and existing products, and our expectations for the financial results for the fourth quarter of 2024. NXP undertakes no obligation to revise or update publicly any forward-looking statements. For a full disclosure on forward-looking statements, please refer to our press release. Additionally, we will refer to certain non-GAAP financial measures which are driven primarily by discrete events that management does not consider to be directly related to NXP's underlying core operating performance.

Pursuant to Regulation G, NXP has provided reconciliations of the non-GAAP financial measures to the most directly comparable GAAP measures in our third quarter 2024 earnings press release, which will be furnished to the SEC on Form 8-K and available on NXP's website in the Investor Relations section at nxp.com. Now I'd like to turn the call over to Kurt.

Kurt Sievers

Thank you, Jeff and good morning, everyone. We appreciate you joining our call this morning. Beginning with quarter three, NXP delivered quarterly revenue of $3.25 billion in line with our overall guidance of down 5% year-on-year and up 4% sequentially. While we experienced some strengths against our expectations in the communication infrastructure, mobile, and automotive end markets, we were confronted with increasing macro-related weakness in the industrial and IoT markets. At the total company level, sequential growth was led by China. Non-GAAP operating margin in quarter three was 35.5%, 50 basis points above the year-ago period and 40 basis points above the midpoint of our guidance. Year-on-year operating profit performance was due to a combination of lower revenue and gross-profit, partially offset by favorable operating expenses.

Now let me turn to the specific trends in our focus end markets. In automotive, revenue was 1.83 billion down 3% versus the year-ago period and in line with our guidance range. The inventory digestion at our main Tier 1 customers continues to occur with further pressure coming from slowing European and North American car OEM end demand. At the same time, we experienced healthy growth in the China and Asia-Pacific automotive end markets.

Turning to Industrial & IoT, revenue was $563 million, down 7% versus the year-ago period and below our guidance range. During the quarter, we experienced weaker than expected trends globally. In Mobile, revenue was $407 million, up 8% versus the year-ago period and at the high end of our guidance range, in what is normally a seasonally strong period. In Communication, infrastructure, and other, revenue was $451 million, down 19% year-on-year and above the high end of our guidance as several RFID programs ramped stronger than originally anticipated. From a Channel perspective, distribution inventory was 1.9 months up from the 1.7 months in quarter two, following our attempts to stage dedicated mass market product in the channel. While, at the same time, sell through to distribution service customers in the European and American markets was somewhat slower.

Now, let me turn to our expectations for quarter four 2024. We are guiding quarter four revenue to 3.1 billion, down about 9% versus the fourth quarter of 2023, and down about 5% sequentially. Relative to our earlier expectations, we are taking a more conservative stance for quarter four, hence, we will also aim to hold channel inventory approximately flat sequentially at 1.9 months or about eight weeks. This is because we began to see increasing weakness in the Industrial and IoT market already during quarter three, as well as an unexpected contraction in manufacturing PMI below 50 across all regions except China. Furthermore, we find ourselves exposed to a broad slowdown of European and North American automotive OEM outlooks for 2024, only partially compensated by the aforementioned strength in China automotive. This leads to more stringent inventory reductions at our Tier 1 customers below the natural end demand.

So at the midpoint, we anticipate the following trends in our business during quarter four. Automotive is anticipated to be down in the high single-digit percent range versus quarter three, 2023. Excuse me, versus quarter four 2023 and down in the mid-single-digit percent range versus quarter three 2024. Industrial and IoT is expected to be down by 20% versus quarter four 2023, and down in the mid-single-digit percent range sequentially. Mobile is expected to be down in the low single-digit percent range both versus quarter four of 2023 and sequentially. And finally, communication, infrastructure, and other is expected to be down in the mid-single-digit percent range both versus quarter four 2023 and sequentially.

In summary, our guidance for the fourth quarter reflects broader macro weakness in Europe and North America, only partially compensated by strength in China. The cyclical rebound, which we had anticipated for the second half of 2024 has not materialized. The soft and uncertain demand environment appears to be causing the Tier 1 customers to take a very cautious stance on their inventory positions. These trends are consistent with the multiple profit warnings issued by major Western automotive OEMs as well as the contracting global manufacturing PMI trends, which are weighing on demand in the Industrial and IoT market.

The net impact to NXP are lower-than-expected, order trends from our direct customers and distribution partners. Notwithstanding this more challenging short-term demand environment, we are very confident we have deployed a long-term winning strategy focusing our investments to succeed in the fastest-growing secular end markets of automotive and industrial IoT. In the short term, we will maniacally focus on managing what is in our control while making the right decisions for the long-term health of the business. This will enable NXP to drive resilient profitability and earnings even in an uncertain demand environment. And now I would like to pass the call to Bill for a review of our financial performance. Bill?

Bill Betz

Thank you, Kurt and good morning to everyone on today's call. As Kurt has already covered the drivers of the revenue during Q3 and provided our revenue outlook for Q4, I will move to the financial highlights. Overall, our Q3 financial performance was good. Revenue was in line, non-GAAP gross margin was near the low end of our guidance more than offset by favorable operating expenses resulting in better operating profit.

Turning to Q3 specifics, total revenue was $3.25 billion, down 5% year-on-year. We generated $1.89 billion in non-GAAP gross profit and reported a non-GAAP gross margin of 58.2%, down 30 basis points year-on-year and 30 basis points below the midpoint of our guidance range due to product mix. Total non-GAAP operating expenses were $738 million or 22.7% of revenue, down $65 million year-on-year, although this was $22 million below the midpoint of our guidance due to lower variable compensation, project spend, and payroll.

From a total operating profit perspective, non-GAAP operating profit was $1.15 billion; and non-GAAP operating margin was 35.5%, up 50 basis points year-on-year and 40 basis points above the midpoint of our guidance. Non-GAAP interest expenses was $70 million, with taxes for ongoing operations of $182 million or a 16.8% non-GAAP effective tax rate. Non-controlling interest was $11 million and stock-based compensation, which is not included in our non-GAAP earnings, was $115 million. Taken together, we delivered non-GAAP earnings per share of $3.45, slightly ahead of our midpoint guidance of $3.42.

Now I would like to turn to the changes in our cash and debt. Our total debt at the end of Q3 was $10.18 billion with our cash balance of $3.15 billion, down $111 million sequentially due to the cumulative effect of capital returns, internal CAPEX, investments in previously announced equity accounted foundry joint ventures, and cash generation during the quarter. The resulting net debt was $7.03 billion, and we exited the quarter with a trailing 12-month adjusted EBITDA of $5.24 billion. Our ratio of net debt to trailing 12-month adjusted EBITDA at the end of Q3 was at 1.3 times and our 12-month adjusted EBITDA interest coverage ratio was 22.9 times.

During Q3, we paid $259 million in cash dividends and repurchased $305 million of our shares. Taken together, we returned $564 million to our shareholders, representing 95% of non-GAAP free cash flow. In addition, on August 29th, the NXP Board of Directors authorized an increase of our existing capacity to purchase an additional $2 billion of buybacks with a total balance of $2.64 billion at the end of Q3. Furthermore, since the end of Q3 and through Friday, November 1st, we repurchased an additional $117 million of our shares under an established 10b5-1 program.

Turning to working capital metrics, days of inventory was 149 days, an increase of one day sequentially, while distribution channel inventory was 1.9 months or approximately eight weeks. Days receivable were 30 days, up three days sequentially; and days payable were 60 days, a decrease of four days versus the prior quarter. Taken together, our cash conversion cycle was 119 days, an increase of eight days versus the prior quarter. Cash flow from operations was $779 million and net CAPEX was $186 million or 6% of revenue, resulting in non-GAAP free cash flow of $593 million or 18% of revenue.

Turning to our expectations for the fourth quarter, as Kurt mentioned, we anticipate Q4 revenue to be $3.1 billion plus or minus about $100 million. At the midpoint, this is down 9% year-on-year and down 5% sequentially. We expect non-GAAP gross margin to be about 57.5%, plus or minus 50 basis points. Furthermore, our guidance assumes flat channel inventory at about eight weeks exiting Q4, this reflects our continued discipline of proactively managing our distribution channel, especially during uncertain demand environments.

Operating expenses are expected to be $725 million, plus or minus $10 million. Taken together, we see non-GAAP operating margin to be 34.1% at the midpoint. We estimate non-GAAP financial expenses to be $77 million with the non-GAAP tax rate to be 16.8% of profit before tax at the midpoint, non-controlling interest and other will be $9 million. Our guidance assumes a $2 million loss from our equity accounted boundary joint ventures, we suggest for modeling purposes, you use an average share count of 257 million shares. Taken together at the midpoint, this implies a non-GAAP earnings per share of $3.13. We expect stock-based compensation, which is not included in our non-GAAP guidance to be $118 million.

Turning to uses of cash. We expect capital expenditures to be around 5% of revenue. We also will make a $400 million capacity access fee and a $120 million equity investment into BSMC as well as a $52 million equity investment into ESMC, which are our two equity accounted foundry joint ventures, which are under construction.

In closing, I would like to highlight three items. First, we will continue to return all excess cash to our owners through buybacks and dividends. We expect our Q4 capital returns to be above $700 million. Second, despite the macro headwinds, NXP will continue to navigate and operate within its long-term financial model. And lastly, we look forward to you joining our 2024 Investor Day on Thursday, November 7th at 8:30 A.M., where we will provide an update to our long-term strategic plan and financial models. I'd like to now turn it back to the operator for your questions.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions]. Our first question comes from the line of Ross Seymore of Deutsche Bank. Your line is now open.

Ross Seymore

Hi guys, thanks for taking my questions. Kurt, seems like a lot of things changed during the course of the quarter. You're not alone in highlighting weakness, and I don't think it's NXP specific. But can you just talk a little bit about the specific customer behavior changes you saw because up until now you seem to have set things up pretty conservatively throughout the year. So the guide down seems to be a little more of a surprise for you guys than the peers just given the setup appeared to be a little more favorable heading into the quarter and guide?

Kurt Sievers

Yes, thanks and good morning Ross. Indeed, we were taken by some surprise, I would say, in the -- say, in the August time frame during quarter three by a broadening weakness in the Industrial and IoT market pretty much across the board, which led to a much more cautious stance on their side, Ross, relative to also their inventory positions. And the same is now broadening when you ask for the guidance for Q4, it's clearly broadening into the automotive segment. There I would exclude China from these discussions. I think you've heard similar from our peers. China actually appears to be quite strong. Our growth was led by China in quarter three and the sequential growth. And also in quarter four, China actually will grow from a sequential perspective over quarter three across automotive and Industrial and IoT. But that weakness and that customer behavior you were asking for is really specifically strong now in the fourth quarter in the Western Automotive and Industrial segments. Their customers, and you saw all the profit warnings from the car OEMs, for example, where now the Tier 1s are aiming to further reduce their inventory. So our trends to under ship against natural end demand is becoming even tougher, Ross. That's how I would characterize the customer behavior. It almost felt like everybody from them kept up their forecast and then suddenly, August, September, they started to drop. And that is now ripping through to the Tier 1s, which are becoming even more cautious on what they want to hold from NXP in terms of inventory. You know that we have talked about this extended inventory digestion before, but that has now extended because of the end market weakness.

Ross Seymore

Thanks for that color. And I guess, looking forward, Bill switching to the gross margin side. I know that you talked about for the quarter, so just -- can you talk a little bit about utilization that's leading to the roughly 0.5 point to 1 point decline in gross margin? And how do we think about the levers for gross margin going forward at the risk of kind of front running which you're going to talk about on Thursday, what are the plus and minuses to that in a weaker environment where inventory seems to be a little bit more persistently elevated?

Bill Betz

Yes. Thank you, Ross. And quickly on our Q3, our gross margin was missed, and you can probably see that very clearly through our segment reporting, where industrial IoT revenues, where 80% of that is serviced through the distribution and carry accretive margins for us. And we also had a bit stronger mobile revenues, which are slightly dilutive to corporate margin. And so that's why we missed 30 basis points in Q3. We obviously see that trend. Curt talked about the segments where clearly, Industrial and IoT will be stepping down again. So that becomes a mix headwind going into Q4.

In addition, obviously, declining by $150 million a year also we had some fall through over our fixed costs. Related to inventory, you saw from a day’s perspective, we're kind of holding ourselves but clearly, when you see our Q report, you're going to see increased finished goods. And basically, those finished goods we were going to put in the channel, but the sell-through wasn't there, so we held them on our balance sheet. And so it will probably take us a quarter to get back to where we want to be from an inventory perspective.

Now more longer-term on the gross margins, again clearly, we're running our utilization in the low 70s. We expect to continue around them in the low 70s, probably at least for the first half of 2025. So that will flip and become a tailwind when we decide and see sequential improvements in our revenue sometime in 2025 related to it. Clearly, we have mix that's a tailwind that will come in our way into the future as we continue to ramp our new products. More importantly, we're going to talk about during Analyst Day, our real strategic structural changes that we plan to make more longer term, which obviously I said many times, that 58% is not our final destination. And please hold tight for a couple more days, and I'm going to walk you through that gross margin journey over the next three years and plus some as well related to it.

But we feel pretty good. Obviously, we have to make sure we burn off some finished goods here and going into Q4 and in Q1 and rebalance the inventory a bit. But remember, we're holding about three weeks on to our balance sheet, which is margin accretive when we do ship it into the channel. We're holding that quite tightly at about eight weeks. We believe eight weeks is probably one of the lowest compared to all our peers. And once the environment normalizes, we will bring that back up to 11 weeks. It's just a matter of when that will be when the macro improves.

Ross Seymore

Thank you.

Kurt Sievers

Thanks Ross.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Chris Caso of Wolfe Research. Your line is now open.

Christopher Caso

Yes, thank you. Good morning. I guess the first question is with regard to the channel inventory. And I know that you wanted to increase that somewhat. I guess it is right to interpret that the increase in channel inventory was just a function of the end markets being larger than you thought. And I guess, in the context of your customers taking the inventory down so low, how does that affect your view of where you want your own inventory to be as you go into next year on both a channel basis or on an internal basis?

Kurt Sievers

So Chris, let me take the channel question and the internal inventory question will be answered by Bill in a minute. So on the channel, yes, I think you got it exactly right. We wanted to increase by a digit from 1.7 to 1.8, which we did. And by the way, let me remind you why we want to do this, we want to be sure that critical product for competitiveness in the channel is probably staged on the shelves. Since most of our competitors have higher positions there, we want to be sure we don't fall behind in terms of competitiveness. And yes, we inched another digit higher, which was then a function of the late weakness in the quarter, which I just talked about, which reduced the sell-through more than we had anticipated. That's why we indeed inched a little bit higher than we had anticipated in the plan. And Bill, maybe you'll speak about the internal inventory targets.

Bill Betz

Absolutely. Clearly, the macro environment is weaker now than 90 days ago, as Kurt explained. So I expect our inventory levels internally to remain elevated for the next couple of quarters until we obviously grow revenues again from a sequential standpoint. But again, at the same time, we are proactively reducing our foundry purchases which are more variable in nature for us and this will probably have an impact in the first quarter of 2025. Q4 obviously is limited because we placed these orders already in Q3. And again, as I talk to Ross, we're holding about three weeks of finished goods of inventory on our balance sheet. So we'll proactively manage that. And then as we replenish the channel, we will get that benefit relief with inventory coming down internally. Again, we think it's important to hold it very tightly and low at eight weeks and sometime in 2025, we'll bring this back to the 11 weeks when the macro improves. And again, I have to say majority of our inventory is long-lived supporting our auto industrial markets and had very, very low obsolescence.

Christopher Caso

Thank you. I guess as a follow-up, I'll ask a question, which I know is very difficult to answer, but you're going to get it. So I'll be the one to ask it, which is do you think that we're pretty close to the bottom now and recognize how difficult that it is given the moving targets and such. But as an example, sort of normal seasonality is down to the first quarter. I don't know if we should think about that differently given what's happened in the second half of this year. And I guess, with what your customers are planning to do with inventory, does that get -- and bring it so low, does that give you some confidence that we're kind of approaching revenue bottom levels here?

Kurt Sievers

Yes, let me try and go at it. This is a number of complex questions. So first of all, clearly, the forward-looking, there is a lot of uncertainty around this. I mean, with all the unexpected downticks from a macro perspective in automotive and industrial, which we've seen over the past say 10 weeks, I want to be really careful in making strong statements for the longer future into next year. However, what we can offer is we do believe that probably quarter one will follow a pretty normal seasonal pattern for NXP, which is a high single-digit sequential down from quarter four into quarter one. We see no reason why we should be different to normal seasonality here into quarter one.

I don't want to go that far, Chris, to call the trough because I just don't know what the macro is going to do with all the uncertainty around us. I don't think we can do this yet. I do agree with you that with our strong discipline on the channel inventory, and I had it in my prepared remarks, we keep it now flat again into quarter four. So where we start to stage a bit into the third quarter, we hold here. So we keep it flat into the fourth quarter, which keeps us at a very low level of eight weeks only. And also, indeed, with the direct customers at some point, inventory is just burned. So yes, at some point, of course, that sets us up for a good growth. I just cannot call and don't want to call when that moment is. But I would say NXP from an inventory in the customer space perspective is actually pretty well positioned.

Christopher Caso

Got it, totally fair. Thank you.

Kurt Sievers

Thanks Chris.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Vivek Arya of Bank of America Securities. Your line is now open.

Vivek Arya

Thanks for taking my question. Kurt, what's NXP's relative exposure in the China-based car versus a European premium cars, so if let's say, your China customers continue to take share, how does that content play out for NXP? And then this China trend, yes, you have mentioned it and the peers have mentioned it. How much of that is kind of pre-buying before the elections and does that kind of keep the industry exposed to in-sourcing risks on a longer-term basis?

Kurt Sievers

Yes. So hi Vivek, first on our exposure to content per vehicle in China versus premium Western. There are damn high-end cars in the mid-term in China, which have a similar set of features. So I would probably say that on the higher end cars in China, we have a very similar exposure from a content per vehicle perspective as we have in the Western world. And as we have discussed a couple of times before, since they are spinning new platforms faster, I dare to say that probably the growth of that content exposure is growing faster than in the rest of the world because they just get faster to the next innovation steps. They develop a new platform in two to three years, which gives us the opportunity to tap faster into a higher content opportunity. So over time, that is actually strengthening.

Now from anything we can see, I don't think -- and that's the second half of your question, I don't think that they are staging inventory or something because of election or other external events. It is actually the success of the Chinese industry. I mean, if you look at the global star. In the meantime, for the world it has tipped down to a forecast of minus 2% this year. So global star is going to decline by 2% this year at the same time, China is going to grow by 2%. So you see the differential that China is actually doing better, which puts it at least to our estimate in a fair light relative to how our revenue develops better in China than in the other regions.

The same holds true for this whole discussion about XEV, so electric vehicle penetration. In China, it keeps going strong. We just got the other week that data point that in September this year, 46% that was the penetration of EVs in China. So almost 50% of the vehicles in China was then already electric. So the SAR overall does well in China and the EV penetration is doing better than in the rest of the world. And that's for me, a fair reason why I do believe that the China growth, which we are experiencing is sustainable. It's really their competitiveness locally and globally against the Western players. It's almost like what is lost in the west is won in China.

Vivek Arya

Right. And for my follow-up, I think you mentioned that Q1, you expect to be seasonal, if I heard correctly, which is down high single digits. But if I were to just take the average of just your automotive business over the last seven years, including the COVID that is more down like 1%, 2% or so on an average. I understand seasonality could mean different things at different times. But what explains this large difference between what we have seen with NXP over the last six or seven years in Q1, especially in your automotive business versus what I think you are kind of alluding to for Q1 2025? Thank you.

Jeff Palmer

Vivek, I'll take that. It's Jeff here. I don't think we're going to provide a guidance by segment into Q1. As Kurt said on a previous question, we do expect total company to be seasonally down into Q1. And I think that's probably about as far ahead of our skews as we're going to get today.

Vivek Arya

Okay, thank you.

Jeff Palmer

We will take the next question operator.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Christopher Muse of Cantor. Your line is now open.

Christopher Muse

Yeah, good morning and good afternoon. Thanks for taking the question. I was hoping you could give a little more color on the industrial slowdown that you're seeing. You talked about China strong, and I'm assuming that's a little more IoT. So we would love to hear kind of what -- whether North America, Europe, kind of any changes in terms of geo and where you're seeing weakness, whether it's broad, isolated to say factory automation, I would love to hear your thoughts?

Kurt Sievers

Yes, hi CJ. Indeed, let me reconfirm the weakness in Q3, but also now specifically going to Q4 is predominantly across the board from Europe and the U.S. in industrial and IoT. So across also most sub segments. But mind you that we are not that big in Europe and the U.S. in Industrial and IoT. So we are actually a relatively small player there. I -- if you want to get a little bit of color, I would say, especially factory automation appears to be particularly weak there in the West, in Europe and the U.S. The strength in China is more in the consumer IoT part, that 40% portion of our industrial IoT segment than in the core industrial. It's not that core industrial is particularly weak in China, but if you want to have color between the two in Q4 in China, then the stronger one is the consumer IoT, which I guess is also a bit of a seasonal strength into the fourth quarter.

Christopher Muse

Thank you so much. And I guess as my follow-up, given kind of how you will manage the cycle to date, there's a perception that you're gearing into the next up cycle, maybe less than peers. So I was hoping you could speak to kind of where you think you are overall in terms of your sell-in versus sell-through end demand and if there's any kind of color around end markets to kind of give confidence that when things do recover, that you do have that gearing cyclically?

Kurt Sievers

Yes, CJ I'm happy you're asking because I fail to understand the logic why we would come back less strong than others because we have fared somewhat better so far. And I fail to understand that because the only one reason why we are declining less this year, for example, with our guidance, you will see that NXP is like 5% down this year versus most of our direct peers more double-digit down. The reason for that is that we hit the brakes earlier. It's not that we took anything away from the future. The only thing is we didn't do it in the first place. So we did a little less and a little softer in 2022 and 2023, which helped us to not have to hit the brakes so hard in 2024. But that puts us at the same starting point into any recovery. So that is our firm position here.

And I think it all comes back down to what we discussed a little earlier in this call which is the actual inventory position, which we have in the channel and Bill said it, 1.9 months or about 8 weeks currently, which is still quite a bit away from the longer-term target of 11 weeks or 2.5 months, so that we still have like, I think, $300 million or so under the belt to be shipped in, which we don't do in the current environment. Again, we stay cautious. We could do, but we don't do it because we want to do it when it makes sense, when the recovery happens.

And on the direct customer inventory, I can, of course only assume, CJ but I don't see a reason why we would be any worse or any better than typical peers. I mean that's the treatment you get from the customers. We can control that, but I don't think we should be any different to our peers. So therefore, no, I don't think there is a reason to believe we have less of a recovery ahead of us. We actually feel good about the soft landing strategy, which in fact only brought us down by 5% this year, thanks to cautious behavior the year before.

Christopher Muse

Thank you.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Stacy Rasgon of Bernstein Research. Your line is now open.

Stacy Rasgon

Hi guys, thanks for taking my questions. My first one just around the auto, like 90 days ago, you were sort of suggesting to us that auto would be stronger into the end of the year because of company-specific wins in radar and other things that were going to be ramping. So part of the incremental, because I'm a little confused, did that stuff just not ramp or did it ramp less than you thought or is it ramping later than you thought or what is it because it certainly doesn't seem to be enough to offset the other of the broader weakness that we're seeing, like what's going on with that?

Kurt Sievers

Yes, Stacy, absolutely. I can confirm we did say that half two would grow over half one, driven by two factors. One was the anticipated recovery and the other one was company-specific growth. We went very deeply into this and tried to find what happened and what didn't happen. The company-specific growth Stacy is happening. I mean it's a little softer because if they build a little less cars, then of course, you ramp also a little bit less. But the fundamental mechanisms of RADAR and S32 ramps are happening, we are actually growing quite nicely in the second half over the first half. But it is wiped away by the recovery not happening and on the contrary, of macro weakness, which is actually superseding all of that. So underneath the company-specific drivers are intact. We will show a bit more detail on Thursday in our Investor Day in Boston. But it's not strong enough to overcome the macro weakness, Stacy.

Stacy Rasgon

Got it. That's helpful. For my follow-up, I wanted to ask about gross margin. So I understand why they're coming down in Q4, I think. Now in Q1, you just suggested that revenues are probably down high single digits sequentially. It doesn't sound to me like mix is any better. Is it -- should I be thinking that the 57.5% just given those dynamics in the near term is likely not the trough, like how should we be thinking about gross margins in Q1 just given the further revenue shortfall that we're seeing and any other drivers that are leading into the beginning of the year?

Bill Betz

Yes Stacy, this is Bill. First, we're not going to guide to Q1. But for modeling purposes, I would suggest when incorporating what Kurt said about the seasonal adjustments to revenues, probably best to use a gross margin similar to those revenue levels at the past in the absence of the guide. Again, we just don't know it's not fully order booked yet. So mix will play a role, of course, but I'm just not that smart enough. But for modeling, I would just use something along those lines during the last three years of those revenues.

Stacy Rasgon

So where was that, I'd open up my model, like where were gross margins last time revenues were?

Kurt Sievers

I mean Stacy, you can probably find me on our website.

Stacy Rasgon

Alright, I will dig it up myself. But thank you guys.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Francois Bouvignies of UBS. Your line is now open.

Francois-Xavier Bouvignies

Thank you very much. My first question was on the pricing as we know we are at the end of the year where we understand you have some negotiation, especially for your auto customers. And from what you understand, of course, given the challenging environment, the pricing is -- it's like an intense conversation, I should say, from many peers that I talked about this. So I was wondering for NXP how should we think about the pricing strategy, how you think the pricing is going to play out, given this pressure maybe more than usual, especially into next year, that would be very helpful. And I have a follow up after if that's okay?

Kurt Sievers

Yes. Thanks, Francois, absolutely. Let me confirm indeed two data points here. The one is, and we talked about this through this year, we can now say with a lot of confidence that for this year, pricing will have been neutral. So we will end the year with a flat pricing over the previous calendar year 2023. And from anything we can see today relative to next year's pricing across the entire company, so that's all the segments, all the channels together, it will probably be a low single-digit ASP erosion, which is very typical, I would say. And that's also what we have anticipated. So after this whole swing, after COVID, and the supply crisis where prices were up, they went into flat this year. And we assume that for next year, but also the years after, it is reasonable to assume we are back to a low single-digit ASP erosion annually, which is very much in line, by the way, with what we have experienced in the years before the supply crisis and before COVID. And I know you hear different data points from different people, Francois, but mind you that we have a pretty differentiated portfolio. So a lot of our product is very far away from a catalog or commodity products, which gives us also in a period like now a relatively strong standing when it comes to pricing.

Francois-Xavier Bouvignies

That's very clear, thank you Kurt. And maybe a follow-up. It's a bit kind of a medium term, but still it impacts the short term, given these challenges on the cycle, you have this China uncertainty with local players probably going after pricing. Even if you have a sticky and strong differentiation, as you described, Kurt, it's fair to assume maybe that the pricing environment and the oversupply that will take a bit longer to feel how NXP tends to play in that role. I mean, the trade-off between market share and gross margin, for example, would you consider like to exit some product as soon as you see something that doesn't play your way or cost saving program as well, given the very long down cycle, is it something that you consider as well potentially just strategy?

Kurt Sievers

Absolutely. I mean, one side of this equation you all will learn more on Thursday this week when we will provide the new financial model with our new gross margin forecast, which obviously is a function or a consequence of that. But let me give you some color on the pricing. So we will not try and build on price, Francois. Generally, I would say, the way how Bill and I and the management team, how we are running the company is if we have to compete on price only, then we are in the wrong product category. So there is always a gray zone in between. Of course, we have to stay -- try and stay competitive. But if it really comes to a point that the only way, the only leverage we have to win would be price, then we would eventually exit that. And you have examples. I mean we did this with powertrain microcontrollers in automotive, for example. There are over a number of years after we had acquired Freescale, we have actually exited some of these sub-segments and they have been heavily picked up by some of our peers. So yes, we are doing that or the banking cup business years ago. There was a similar thing where in the end, we don't try to compete on price.

Now there is, of course, more to it, Francois because it is also our cost competitiveness. We work maniacally on bringing our own cost down. And the more recent moves with the BSMC joint venture, for example, in Singapore and a few other moves we have are actually helping us to come at the same time to a competitive cost base. So I mean, price is also a function of the cost which we can achieve and also there, we work very hard. But still, ultimately, no, we are not the company which would sacrifice gross margin for short-term market share. That's not the philosophy how we run the company.

Francois-Xavier Bouvignies

That’s what I thought. Thank you Kurt.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Josh Buchalter of TD Cowen. Your line is now open.

Joshua Buchalter

Hey guys, thanks for taking my question. I'm sorry for harping on gross margin, but it's the one that’s in my inbox the most last night and this morning. I guess if we zoom out, I mean, your gross margins have been remarkably stable for like 10, 11 quarters and now are starting to see some leverage with revenue. Like can you, I guess, maybe walk through why now and it sounds like it's all maybe fixed cost coverage and utilization rates, and there's nothing going on with pricing, but the mix by end market isn't really changing anything within mix of products that we should be aware of or any other factors beyond, again, fixed cost coverage and purchase agreements that are really driving the sequential decline in gross margins in both the fourth quarter and I guess, what you're implying for the March quarter, which is another leg down? Thank you.

Bill Betz

Sure. Hey, Josh. Well thanks. Yes, I mean it's really just a function of the revenue levels over a fixed cost structure. Obviously, mix plays a role -- played a role in Q3 a bit and playing another role of some sort of it along with the lower revenues into Q4. And really, the step down going into Q1, it will be the total revenue level, to be honest with you. There's not really anything else fundamentally different. It's just that, okay, now you have to rebalance the inventory a bit and so maybe you don't build as much goods and you have to adjust foundry and so forth. So I know I will walk the team through the gross margin journey this upcoming Thursday. And again, I would say we've been quite resilient here compared to many of our peers because of that fluctuation of the revenues clearly have an impact to the gross margins and how they service their customers or stage inventory. So we feel pretty good of where we are. And again, it will be mostly a function of revenue over the near term. And then once we see the macro improve, we are very excited about some of the levers that Kurt just talked about more longer term to actually bring the gross margin above our high end of our current model today.

Joshua Buchalter

Got it, thank you. I appreciate the color there. For a follow-up, Kurt, I think you mentioned in your prepared remarks, there's a lot of volatility and changes going on at OEMs, in particular in the West. I was wondering if you can maybe speak to your confidence and ignoring the inventory changes, have there been changes in the assumptions on content at those customers and in particular, I think the 5-nanometer 32 MPE was supposed to ramp in sort of the 2026 time frame, is that still on progress and I guess, how are you seeing engagements for your content on the software-defined vehicle side? Thank you.

Kurt Sievers

Yes. Thanks, Josh. No change. We are actually very confident here and my leader for the auto business, Jens will speak in much greater detail on Thursday about the traction of the STV. But you will also see in the numbers that our STV S32 growth accelerated segment has outperformed our targets in spite of all the turmoil over the past three years. So we will show the numbers on Thursday. So that has great traction today. And we anticipate we'll continue to have great traction, and that’s absolutely, of course, includes the S32N, which is the 5 nanometer vehicle computer and a lot of other products. What does happen, however, is we do see a continued non-competitiveness of the Western OEMs versus Chinese OEMs. So I dare to say that from anything we can judge here, the pendulum swings more in favor of the Chinese car companies. That doesn't mean that the content per vehicle in Europe or the U.S. comes down but maybe the number of cars that they are building is coming down. So that's not a content question, it's more a unit production question, which is going probably in favor of China, which means next to our efforts to win with STV concepts across the board we want to particularly be sure that we keep winning also in China because that is where probably the bigger opportunity is going forward.

Joshua Buchalter

Thank you. See you Thursday.

Operator

Thank you. One moment for our next question. Our next question comes from the line of Toshiya Hari of Goldman Sachs. Your line is now open.

Toshiya Hari

Hi, good morning. Thank you so much for taking the questions. I have two quick ones on automotive. Just wanted to clarify, Kurt, the incremental weakness you're seeing in auto, is that at this point purely due to weakening end demand or are your Tier 1s bringing down their inventory levels as we speak as well, I think last quarter, you gave a range of something like 2 to 12 weeks in terms of how they're managing their inventory, have you seen any changes to how they think about optimal inventory levels?

Kurt Sievers

It is unfortunately indeed both, Toshiya. So they bring down the expected unit numbers, which they will produce. And I said earlier that the SAR for this year is now at minus 2%. In Europe, by the way, at minus 5% year-over-year. But because of that, the 2 to 12 weeks, Toshiya also become a lower number, that's the whole issue. So with the OEMs telling the Tier 1s that they need less parts, they forecast also a lower inventory target. So we get a double whammy. We suffered directly from the lower production numbers but we also suffer from the overlaid lower inventory in absolute dollar terms, which is a function of that. So I would say the 2 to 12 weeks still stands but against the lower revenue number. And that's why -- and there is also an emotional element like towards year-end when they have a poor outlook. They, of course, have no interest whatsoever to end the year on the too high inventory. So they rather go lower than higher. So yes, it is both. The one is overlaid the other, which, of course, on the other side of all of this is the starting point for a better recovery. But again, I don't want to go to the point when that recovery is but in the end, it means once it grows, it grows even stronger. That's what we have the last three cycles out of that same situation.

Toshiya Hari

Yes, that makes a lot of sense. Thank you. And then as my follow-up, you've seen a mix shift in favor of hybrids at the expense of EVs, maybe not at the expense of EVs, but EV adoption has kind of stalled over the past several quarters. I think the industry consensus view is that over the long run, EVs do grow pretty materially. But as you talk to your partners and customers into 2025 and maybe early part of 2026, do you have a view on how hybrids perform or EVs perform relative to one another and more importantly, what are the implications from a content perspective for you guys at NXP? Thank you.

Kurt Sievers

Yes, so we don't have that much of a differential between hybrids and EVs because as you know, we don't have power discretes, which are much more sensitive to the difference between hybrids and full EVs. Our main thrust in the electrification space is the battery management systems and they don't differ that much from a dollar content perspective between the two. So therefore we don't have a sharp eye on the specific mix change between hybrid and full EV. At the same time, I just want to slightly maybe adjust what you said, the overall XEV, it has slowed absolutely, but it is still going to be a 14% growth this year. So in units, XEVs worldwide this year will grow by 14% over the year before, while the total SAR is declining by 2%. So I mean, that is still a very, very strong growth and it will be 37% of the total vehicle production this year. So 37% of all vehicles produced on the planet this year are actually XEVs. So it is moderated from a pace perspective relative to what it was forecasted to be but it is still growing very sharply, and that continues to help us. And yes, the other half of your question, yes, we do continue that over the longer term, we do continue to believe it will grow. We think something like a 75% global XEV penetration by 2030. That's kind of the data point which we have ahead of us.

Toshiya Hari

Appreciate that, thank you.

Operator

Thank you. One moment for our next question. Our next question comes from the line of William Stein of Truist Security. Your line is now open.

William Stein

Great. I'm just going to ask one, if I can. The weaker-than-expected results in Industrial and IoT and yet the strength in China, I'm a little bit confused because I always recall this segment to be very China and very China distribution focused. So maybe you can correct my understanding, is it -- am I correct, but what's outside of China is very, very weak or is my recollection of the mix of this in terms of geo and channel maybe stale? Thank you.

Kurt Sievers

It has a majority in China, that is very true. So you don't miscall it. The U.S. and Europe is very weak. And what we did say is that about 80% of the whole Industrial and IoT business is going through the distribution channel. So maybe you mix this with the China exposure. Not all of that 80% is in China, but 80% of the total segment is going through the channel. And since we keep up our channel discipline and don't over ship there, we basically are really fully exposed to the end demand because we are down to our eight weeks, and we keep it flat there. So therefore, the strength in China cannot overcompensate the weakness in Europe and the U.S. Yet China as a whole, as I said before, will grow into Q4 in both the industrial and the auto segment. But the rest is just falling so much that it can’t hold up.

William Stein

Thank you.

Jeff Palmer

Hey Marvin, we'll take one last question here today, please.

Operator

Thank you. One moment for our next question. And our last question comes from the line of Chris Danely of Citi. Your line is now open.

Christopher Danely

Hey gang, thanks for squeezing me in. Just two quick ones. So guys, can you just give us a sense of how much of your auto business is China? And then I'm sure you were at the Paris Auto Show as well, it seemed like there were dozens of China sort of EV companies and start-ups. If China gains a bunch of share in the EV market, what's the impact to NXP, is it good, is it bad, is it indifferent, how would that be?

Kurt Sievers

So Chris, we don't break down the geo by segment. But since auto is like 56% or 58% of NXP and we -- and you find in the Q, the total breakdown by geo of NXP, where China is between 35% and I think now even 37% with the strength in China. I mean, just assume that auto is probably not that far from the corporate average. And that means, indeed, Chris, yes with China getting stronger, and I can only echo what you say there is a whole entry later and great lineup of EVs coming out of China which at some point will find their way worldwide. That is to the extent we can see it today, a good thing for NXP because they are faster, they get faster innovation out, which means our newer products are coming into production much quicker than with Western OEMs. And if we keep up the pace, and we put everything in motion to do that, this continues to be a positive for NXP.

Christopher Danely

Great. Thanks, Kurt. I got to figure out a way to get that into my note on Enchilada. Chinese Enchilada VVs. And then just real quick, a follow-up for Bill. So Bill, your inventory days are basically in the $145 million to $150 million range for this year. Longer term, what's the goal there, are we going to keep it at $150 million while this weakness passes and then where are we looking at like longer term there?

Bill Betz

Yes, sure. Over the next couple of quarters, I think we'll be at this level until we decide to replenish the channel. And so that's about three weeks' worth. So that would naturally come down and pull down our internal inventory when we decide to go replenish. More longer-term, we will be updating this on Thursday on what we think is the required inventory target to service our customer needs. So please be patient with me and wait two more days and you'll get the whole complete model of everything of both the P&L and our working capital and CAPEX and so forth. So just please be patient with me there.

Christopher Danely

Will do, thanks guys.

Jeff Palmer

Thanks Chris.

Operator

Thank you. This concludes the question-and-answer session. I would now like to turn it back to Kurt Sievers, President and CEO, for closing remarks.

Kurt Sievers

Yes. Thanks, operator. Yes, we had to report today that we were taken by some surprise in the third quarter of an enhanced weakness in the automotive and industrial and U.S. and European markets, which is totally beyond our control. So what we do, we clearly maniacally try to control and will control what is in our power. And I hope the guide and the early signs which we show for next year, give you a feel for that. That does not take away anything from staying course on our soft landing strategy which should set us up very well for the recovery whenever it happens. We are not in a position to make a judgment on that. But when it happens, we should be set up very well with the low inventory in the channel and the low inventory at our direct customers.

Now at the same time, I hope to see many of you in our Investor and Analyst Day this week, Thursday in Boston where we will speak about our long-term strategy and give you the long-awaited update on our long-term financial model. Can't wait to see you all. Thank you very much for your attention this morning. Thank you.

Operator

Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.