應用材料 (AMAT) 2015 Q1 法說會逐字稿

Welcome to the Applied Materials earnings conference call.

(Operator Instructions)

As reminder, this conference is being recorded. I would now like to turn the conference over to Michael Sullivan, Vice President of Investor Relations. Please go ahead, sir.

Thank you, Dustin. Today will discuss the results for our first quarter which ended on January 25. Joining me our Gary Dickerson, our President and CEO, and Bob Halliday, our Chief Financial Officer.

Before we begin, let me remind you that today's call contains forward-looking statements, including statements about Applied's performance, products, strategies, opportunities, announced business combination with Tokyo Electron and business and industry outlook. These statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed or implied, and they should be interpreted it in that light. Information concerning these risk factors is contained in our most recent Form 10-K and 8-K filings with the SEC. Forward-looking statements speak as of February 11, 2015, and we assume no obligation to update them.

Today's call also includes non-GAAP adjusted financial measures. Reconciliations to GAAP measures are contained in today's earnings press release and in our reconciliation slides, which are available on the Investor page of our website at AppliedMaterials.com.

Now, I'd like to turn the call over to Gary Dickerson.

Thanks, Mike. Good afternoon.

Let me start by providing an assessment of our overall progress. First, our long-term strategy. We are driving profitable growth by enabling major technology inflections, using our precision materials engineering leadership to gain share and grow faster than the markets we serve.

Major transitions in semiconductor and display technology create great opportunities for Applied. We are making meaningful progress towards our long-term strategic goals, and this will be accelerated by our upcoming merger.

In the midterm, we have been focused on those opportunities that move the needle for customers and for Applied. We have strengthened our R&D and field teams while increasing investment in product development. We have also created a pipeline of new, differentiated products that accelerate Applied's growth when customers move new technology into high-volume production. We are managing the effect on margins as we ramp these new projects.

In the short term, the forecasted levels of investment by our customers provide a solid foundation for the year ahead. While there are challenges inherent in our spending mix and some uncertainties about timing, we remain firmly on our trajectory of profitable growth.

At the same time, we are completing our preparations to merge with Tokyo Electron. The Applied and Tokyo Electron teams are very excited about the strategic opportunity this merger creates and share a strong commitment to work together to achieve our performance goals for the new company.

We believe we are making progress with regulators around the world on a coordinated proposal that would allow us to move forward with our business combination. We are working to secure the remaining approvals and complete the merger as soon as possible. During this phase, we have been advised not to provide details or answer questions about ongoing discussions.

Turning to our market outlook, industry growth is fueled by evolving trends in mobility, connectivity, video, and wearable devices. This is accelerating innovations in mobile processors, solid-state storage and interactive displays.

Our customers are focused on winning share in these inflections, and this is resulting in a period of sustained investment by semiconductor customers. We believe wafer fab equipment spending for calendar 2014 was approximately 15% higher than the previous year. As we look ahead, we maintain our view that the market could grow another 5% or more in 2015.

In foundry, we expected investment to be maintained at the same healthy levels seen in 2014, with the potential to be slightly higher than last year. Our current view is that spending for advanced nodes will be heavily biased toward the second half of the year. While we see some timing uncertainty with the ramp of this complex technology, the FinFET inflection is highly beneficial for Applied, expanding the opportunity for our leadership products in Epi, metal deposition, implants, anneals, and CMP.

In memory, supply remains tight with a healthy pricing environment and robust investment. In the past quarter, we booked our highest orders from memory customers in over seven years. This includes our highest quarterly DRAM orders since 2010. DRAM bit growth for 2015 is expected to be around 30%, with mobile DRAM standing out as the most significant driver.

While technology conversions are currently providing a large portion of the needed supply, increasing device complexity and additional process steps work required at the smaller nodes are reducing effective factory outputs. In addition, mobile DRAM devices are typically larger than PC DRAM, and the combination of these factors is leading to new capacity additions this year.

The market for NAND memory is also expanding. Leading smartphone makers have doubled the average bits per box over the past 12 months. This, added to growth in solid-state drives, is supporting NAND bit growth in the range of 40%.

Although we believe the majority of NAND investments will still be focused on advanced planer capacity, we see 3D NAND spending for the year at approximately twice the 2014 level with more customers starting to move to this technology. The industry's transition to 3D NAND has been slower than forecast. However, it remains a positive inflection for Applied, expanding our served available market by 35% to 50%.

The outlook for display also remains very healthy. Average TV sizes are growing faster than historic rates, and we are seeing a surge in unit sales, fueled by consumer spending on new 4K and OLED models. Demand for bigger, higher resolution, low-power screens for mobile applications is also a key factor behind display growth.

In TV and mobile supply is tight and our customers are investing in new capacity and advance technology. This quarter our display business delivered its highest revenue in the past three years.

As we have said before, major inflections like FinFET, 3D NAND and the new displays represent unprecedented technology advances that are enabled by materials innovation. We are still in the early stages of these inflections. As they play out over the next several years, they create great long-term growth opportunities for Applied.

To fully capitalize on these transitions, we have aligned our structure and talent around key areas of value creation. We will continue to aggressively manage our product portfolio so we can quickly shift resources to areas that are truly enabling for customers and generate the best returns for us.

We are starting to see the impact of these changes. In 2013, we won 1.4 points of share in wafer fab equipment while delivering innovative and enabling new products to customers. In 2014, we consolidated our new product positions and strengthened our product pipeline. We believe we gained share or held share in almost all our businesses. Based on our current view of customer spending, we expect to grow our overall wafer fab equipment share again in 2015.

We are making our largest gains in areas where the market is growing rapidly, including CVD and etch. This past calendar year, we estimate that we won at least 3 points of share in CVD and 5 points of share in conductor etch. Etch is a business where we continue to build momentum. We have been focusing on key technology inflections in market segments where we believe we have sustainable technology differentiation.

New wins in memory combined with our traction in foundry helped us deliver our highest etch quarterly revenues and orders since 2007. Our latest generation etch system has one of the fastest adoption rates of any new Applied product in recent years. We shipped three times as many chambers in the first quarter than we did in the prior quarter. We expect to double shipment volumes again in Q2.

We also see great opportunities to grow our service business. We are bringing together capabilities from across the Company to develop expanded service offerings that help customers ramp complex new device technologies faster and at lower costs.

At both leading and trailing nodes, wafer starts and fab utilization, are at very high levels. We are winning new service contracts from a broad base of customers and growing faster than the market. Over the past two quarters, our service business booked its highest orders for any six-month period in our history.

In summary, while there are risks related to the timing of customer investments, our current view is it that 2015 will be a year of solid growth market growth driven by robust memory spending in the first half and foundries ramping FinFET production in the second half. Applied Materials has a strong platform to gain share, driven by tremendous customer pull for our enabling precision materials engineering products and services.

Across the organization, we remain highly focused on improving execution. We are driving alignment, speed, and scale as we prepare to merge with Tokyo Electron and hit the ground running as we become one company.

Let me now hand the call over to Bob, who will provide further details on our performance and outlook.

Thanks, Gary. Gary gave us an update on the market environment and the status of technology inflections. I'll begin by translating how we expect those patterns to play out in our business during the current fiscal year.

First, you'll notice that memory spending is particularly strong in the first half of our year. In Q1 our memory orders topped foundry and logic orders for the first time in five years. We could see a similar mix in Q2.

Next you will notice that while our foundry customers are intensely focused on ramping FinFETs, the order pattern is shipping up to be back-half loaded, also for the first time in years. We expect this mix to put more revenue and margin in our fiscal second half.

Gary indicated that calendar 2015, WFE could be up by 5% or more. The greatest swing factor in our model is how much of the expected foundry spending is captured by the end of our fiscal year in October. From where we sit today, we expect a very strong fiscal second half.

The higher mix of memory and etch resulted in gross margins being below our expectations for the quarter. Specifically, etch grew 90% sequentially, higher than our previous goal of 60%. Gary spoke about our focus on portfolio management.

Let me discuss some of the results we're seeing in our efforts to generate profitable growth across our businesses. In AGS, we've strengthened the linkages to SSG and operations, invested in higher value offerings and focused on delivering long-term service contracts that can help customers with uptime, yields, and cost. After two years of declining sales, AGS posted 9% growth in FY14. AGS delivered near record orders n Q1 and is on track for continued revenue growth and margin expansion.

Our display business was the first one to fully deploy our product development engine best practices and received internal funding to capture share in CVD, PVD, and new products based on large area precision materials engineering. In Q1, the display group posted a second sequential quarter with operating margins above 25%.

Display also had strong momentum with new Gen-6 PVD products for advanced mobile displays and new CVD encapsulation systems for OLEDs. In SSG, the increased investments we made beginning in the second half of 2012 are starting to pay off by giving us memory share gains during a period of renewed memory investment.

In calendar 2014, memory spending drove the growth of the etch and CVD markets at a higher rate than overall WFE. We believe Applied's etch and CVD businesses grew more than 50% combined in calendar 2014, which is 1.5 times the rate of the etch and CVD markets and over 2 times the rate of our largest competitor in these areas.

Our latest etch platform is generating traction in foundry as well as memory. We're the task force in place to drive our etch gross margins to higher levels as we mature our new chamber technology and increase our scale.

In foundry, our investment in advanced deposition techniques is enabling strong adoption of CVD cobalt for interconnects and new Epi steps in emerging nodes. In logic, we have nearly doubled the number of D2R wins in the past two years, which is a good leading indicator of share gains in next-generation transistors.

Finally, over the last two years, we have tripled our corporate technology group's finding of disruptive new products and markets for our longer-term growth. In short, we are seeing strong early returns from our growth initiatives within SSG, display, and AGS that will allow us to grow revenues and profitability, particularly as our customers ramp new nodes into higher volumes.

Next I'll summarize our first-quarter results as compared to the prior quarter. Orders of $2.3 billion were up 1% sequentially with increases in SSG and EES offsetting decreases in AGS and display. Although AGS orders were down from our Q4 record, they were the second highest ever and up 16% from Q1 of 2014.

Net sales of $2.4 billion were near the high end of our expectations. Non-GAAP gross margin was 42.3%. Non-GAAP operating expenses of $552 million were near the low end of guidance. As reminder, many of our groups had a holiday shutdown during the quarter.

Non-GAAP EPS of $0.27 was at the midpoint of our guidance. Operating cash flow of $60 million, reflecting high revenue from display tools that were previously secured with cash in advance. In Q1, we also had annual incentive compensation and withholding tax payments. Absent the timing of these items, operating cash flow remains strong.

Now, I'll comment on our segment results as compared to the prior quarter. SSG orders of $1.4 billion were up 7% with increases in memory, offsetting decreases in foundry and logic. SSG net sales of $1.4 billion were slightly above the midpoint of our expectations. SSG non-GAAP operating margin decreased slightly to 24.2%.

AGS orders of $690 million were down 8% and remained at near record levels. AGS net sales of $583 million were in line with our expectations, and AGS a non-GAAP operating margin increased by 1.7 points to 26.4%, reflecting favorable product mix.

Display orders declined to $107 million, and we expect the booking pattern to remain lumpy. Display net sales of $275 million were up 45% as customers began to ramp the new TV capacity booked over the last 6 to 9 months. Display non-GAAP operating margin was 26.5%.

EES orders grew slightly to $50 million and net sales of $55 million were below our expectations. EES both posted a small non-GAAP operating loss, and we continue to monitor the solar market closely.

Now I will provide our second-quarter business outlook. We expect our overall net sales to be flat to up a couple of points sequentially. Within this outlook, we expect SSG net sales to be up by about 4% to 8%. AGS net sales should be up by about 5% to 10%. We expect display net sales to be approximately $160 million, and EES net sales should be approximately $75 million.

Non-GAAP gross margin should be approximately flat. Non-GAAP operating expenses should be in the range of $570 million plus or minus $10 million. We expected non-GAAP earnings per share to be in the range of $0.26 to $0.30.

Now let me turn the call back over to Mike for questions.

Thank you, Bob. To help us reach as many of you as we can, please ask just one question and no more than one brief follow up. Dustin, let's please begin.

(Operator Instructions)

Tim Arcuri, Cowen and Company.

Thank you. Bob, can you give us the specific SSG order breakout by memory, foundry? Then maybe within memory, can you give us the demand?

Sure. Let me dig it out. In Q1, foundry was a little under 500, memory total was about 700, a little over, and logic and other was about 200.

Okay. Great. Then, Bob, I just wanted to ask about margins. You talked about the second half being stronger. It sounds like fiscal second-half revenue is going to be up versus fiscal first half, but the margins in the fiscal first half have been a little bit under pressure. Can you speak to why that's been the case? Will the margin pressure lift during the fiscal back half of the year? Of course, this is on a standalone basis ex the merger obviously, but will that margin pressure lift during the fiscal back half of the year? Thanks.

Yes, it should. The biggest thing that's going on is mix for us, within SSG. SSG, we're doing very well in gaining share in etch, particularly in memory. If you look at memory, I think over 50%, 52% of orders in the first couple of quarters our memory related, which is a high point for us. A lot of that drive is etch and CVD. Etch, we're shipping new tools. Our C3 chamber is doing really well, so that's dragging margin a little bit.

What we usually see is we see foundry picking up around -- a little stronger a little sooner. The mix of tools there is a little better for us on the margins, so the mix is hurting is a little bit. We had some of this in the first early part of last year, but foundry picked up a little earlier last year. It should go better in the second half, but that's was going on.

Tim, one other thing I would say is that, I think the good news is that we're getting great traction with some of our new products, including products in a etch and CVD, and some of the fastest ramp rates that we ever seen for new products. But the start-up cost there are also higher. Then, over time, we can work those back down.

Thanks Tim.

Thank you.

Krish Sankar, Bank of America Merrill Lynch.

Two of them. First, Gary or Bob, if I look at foundry spending over the last few years, it has always been front-half loaded, which makes sense given end-consumer product release in the second half. What is different this time around that foundry is actually back-half loaded?

That's a question we talk about a lot, too. I will tell you my opinion. Typically, it first half loaded and last year it was even a little earlier than previous years, in my opinion, because a leading foundry had the Apple business and they wanted to ramp very effectively, so things like our Epi tools that they took a little earlier even to make sure they were working well and they had a good ramp. This year it's not clear how many -- when the cut over to FinFET devices are, so all the customers are saying they're going to ramp FinFET, spend a lot of money, but it looks like the ramp of that is a little later. Part of that is also impacted by what is the relative rate of reuse of tools, too. It was probably a little bit earlier last and it seems a little bit later than the average this year.

Got it. All right. Then, as a follow up, on the conductor etch side, you guys mentioned significant wins last year. I'm curious, when you quantify wins, is it by revenue share or is it by unit share? Also, which specific segments, was it more on the DRAM NAND side or was it more on the foundry side? Thank you.

It was revenue dollars as measured by Dataquest. It will be in memory, we did pretty well in DRAM and NAND, and we're pretty optimistic we'll do well again in calendar 2015.

We also have traction in foundry, but as Bob said, the majority of the share gains right now are in memory. If you look at over the last couple of years, in etch and conductor etch, we talked about 5 points of conductor etch share gain this year. We had 6 points of share gain last year, in 2013, so we have really significant momentum. Certainly, memory is where we see the largest revenue now, but we also have traction outside of memory that provides an opportunity for growth going forward. The other thing is we talked about the etch and CVD revenues combined increased greater than 50% in 2014, so if you look at the growth rates of those markets in both of those areas we're significantly outgrowing the market.

Romit Shah, Nomura.

Thank you, and I appreciate your comments on the transaction. Having said that, a lot of people are stumped as to why the transaction is taking so long, and I realize that you guys are limited in what you can say, but hopeful that you can provide us with some additional color? I guess just what gives you confidence that this process isn't going to continue to drag on beyond the first half of the year? That's my first question.

I think the reason it's complicated is because we have a very complicated business, if you look at between us and Tokyo Electron, many, many different segments, many different products and so I think that's a higher degree of complexity than you normally see in this type of situation. What we said earlier was that we are making progress with regulators and we are going to close the merger as soon as we can. We really can't talk, say anything more at this point beyond that.

Okay. Thanks for that, Gary. My other comment is just on mix. You mentioned that memory is really strong here in the first half. Are you guys -- how should we think about memory in the second half? Is there concern that we may see a sharp fall off and maybe offset some of the growth that you are expecting in foundry? Thank you.

We all have our opinions and I think you have to look at the fiscal halves and the calendar halves. As you know our fiscal half is -- we end the fiscal year on October 31. My belief is that the second-half foundry is stronger than typical, as I said before. We think memory is stronger in the first half, although I think there's a little upside to the memory outlook, frankly. I don't think memory is going to fall off, if you look at pricing. I'll give you another data point. Utilization across all the fabs is running pretty darn high right now. I think that the forecast is pretty good, just timing and mix issues really.

Thanks, Romit.

Farhan Ahmad, Credit Suisse.

Thanks for taking my question. My first question is regarding the foundry investment this year. I just wanted to make sure I understand the linearity of it a little bit better. You mentioned it stronger in the second half. Just giving the timing of the end-consumer devices and the ramp associated with it, is it fair to think that the strength would be more stronger in the July quarter than the October quarter?

I'll try and take that one. Right now, we think that the July and October quarters are pretty strong. We think, right now, that they're pretty close actually. I'm looking at the data. July might be a little stronger than October, but they're pretty close.

Got it.

One other thing I would say on the foundry business is that this is a huge competitive battle for our customers. I would expect there's going to be more technology buys also than we would normally see. There's certainly the race to the first-generation FinFET, but there's also, in parallel, a tremendous pull from customers as of they drive to second-generation FinFET from a technology perspective. That's another thing that we see, a very strong pull from customers that could play out. And we're talking about second half of our fiscal year, so it could play out a little bit more in the second half of our fiscal year.

Got it. Then, one question on the market share. You mentioned that AMAT gained in share and WFE, actually, this year, but when I look at your revenues they're up 12% year on year just for the calendar year. I'm using the Jan ending of revenues for the last 12 months. They're up 12% year on year and you mentioned that WFE was up 50%, so I just wanted to understand if WFE is up 50% and your revenues are up 12%, then how are you gaining share?

Let me see if I can help that one. I think on the calendar -- so we gained share in 2013, and that's in the Dataquest data. I think we were about 1.4 or whatever what it was, and on WFE. I think we held share in calendar 2014 on WFE. I don't think we gained. I think we gained or held share in every single product group in which we competed, but some of our large share product groups didn't outgrow the WFE. So in WFE, I think were flat. Across all the product groups, we gained or held, except one we lost.

Atif Malik, Citi.

Hi. Thanks for taking my questions.

Yes, let me, just on the last question, one final put. We also had a strong November/December, so that will help you understand it, too.

Bob, if I look at your outlook for SSG, up 4% to 8%, it's pretty much in line with your peers given your mix is a little bit more foundry centric, but for the non-semi markets are, like you said, a bit lumpy. Can you provide a bit more color on what's happening in the display market near term? Is it seasonality? Then on the EES, is that being impacted by oil prices being lower? Then I have a follow up.

So the first question was the foundry spending mix? Is that what you asked, Atif?

No. What's going on with the non-semi markets in display and EES?

Oh, okay.

If you could provide a bit more color?

Sure, non-semi -- I'll do solar first. On solar, we are managing that pretty darn well. In the market, the end-use market for solar panels and solar cells is pretty good, but there still is in overhang of excess capacity out there that's being ate up. It's sort of a neutral market. It's treading water, and so it's just quarter-to-quarter variations on small numbers.

In the display market, our position's been very strong in display. We've gained share. We've come out with new products, execution's been very good. That market is made up of two primary customer types, display equipment we sell for TVs and display equipment we sell for smaller-form factors like cell phones and pads, iPad type things. If you look at it, this year looks like bookings will be a little bit more swinging towards the smaller form factors. So what we're doing is the build out of the TVs, which are helping revenues. And we got really good bookings last year, if you remember. That was shipping those. This year we think the bookings on TVs will be a little less, but the smaller-form factors have been greater. That's the transition that's going on there.

Okay. Then you had $60 million in adjustments in your backlog on FX, can you talk about the headwinds from here on FX and your exposure?

Yes. That's a good question. As you know, the yen is down significantly and the euro has softened up. The yen is the bigger impact for us. Now, as a practical matter, the way we sell, most of our costs are in dollar denominated and our revenues are fundamentally dollar denominated. Now, when we priced in Japan, we are somewhat competitive to Japanese competitors, but we largely price in dollars and translate that into yen, and largely hedge the impact so we can somewhat defer the impact. I'd say that the yen, to Applied alone, is not a big impact. It's a little bit more impactful to Tokyo Electron who bills in yen.

Harlan Sur, JPMorgan.

Good afternoon. Thanks for taking my question. I know you talked about a stronger second half driven by foundry and continued memory and within that a strong July quarter. So just to clarify, you guys are seeing foundry and memory being strong contributors in July? If foundry is indeed starting to become stronger in July, is it more than just one customer? Is a little bit more broad-based than that?

We see that foundry is picking up in the second half. The mix of spending by half, foundry is more heavily weighted to the calendar second half and our fiscal second half, memory is more weighted to the calendar first half and to our fiscal first half. So that's the mix. If you ask me, I think there's a little bit of upside to what we think on memory the second half, particularly DRAM. In terms of absolute dollars, I think because the mix is heavier in memory, the first half the dollars are probably a little bigger in the first half. Then the other wild card is 3D NAND could be an opportunity later in the year.

Got it. Okay. Thanks for that. You typically have a step up in OpEx in Q2 as you just guided to. How should we expect that to trend in Q3 and Q4, especially as the team continues to invest heavily on growth opportunities?

Last quarter I talked about our spending is up a little bit this year. I thought we might even get up a closer to $570 million, $575 million. We are trying to manage that tightly. We have the benefit of a shutdown this quarter. We guided to $570 million plus or minus $10 million in Q2. Q3, I think, and Q4, we're in the same range up a few million, in the $570s million is my guess.

Weston Twigg, Pacific Crest.

Hi. I had a couple questions, and this is probably beating a dead horse. Just on the foundry demand, I'm really just trying to reconcile what I heard from TSMC, which is that they raised CapEx by around 24%, and Samsung, which said the foundry CapEx would be up year over year. With your view that foundry spending should be flat or maybe up in 2015, and is there a way to reconcile that? Are you hearing -- I assume you have good visibility into this, but are you hearing maybe something a little bit different than maybe what the companies are indicating? Then I have a follow up.

I think GlobalFoundries probably down year on year, is my guess. UMC is up a little bit or flat. Then the other issue -- I think the other thing is the calendar fiscal, we're a little bit conservative because our fiscal year ends in October, so it could be slipping to November/December, too, which makes us a little worried. Overall, we're seeing it's up a little bit, overall foundry.

Okay. Good. Then just on the other side, back to the currency question. It seems like you should get maybe a little bit of gross margin uplifted from some of your foreign production, but yet you are modeling gross margin flattish. I'm wondering why you're not getting a little bit of uplifted maybe from the foreign exchange or currency discrepancy?

Oh, in terms of our costs? You mean like -- ?

More in manufacturing and selling unit dollars.

We don't do heavy manufacturing overseas. Most of what our product cost is, is materials. The vast majority of our material cost is dollar denominated, so we haven't got a lot of benefit there. We're trying to get some more benefit, but the vast majority of our product cost is dollars.

Patrick Ho, Stifel Nicholas.

Gary, maybe just first from an industry perspective, given some of the uncertainty and the timing of this foundry FinFET ramp, do you believe it's weighted more towards the uncertainty in terms of the customer allocation of the capacity to the foundries, or the yield challenges that the industry is facing right now?

Patrick, that's a very good question. Certainly this is a major competitive battle for our customers, and everybody is focused on, as I said before, not just first-generation but also second-generation FinFET. For us, when we -- I think one of the other callers, maybe it was Wes. I talked about announcements from customers, TSMC and Samsung, being pretty bullish on CapEx. I think for us the uncertainty, as you said, is around allocation. Where are those dollars going to go? They're going to go to one of those different companies. There's still some uncertainty around that.

I think that for all of these companies, this is a huge bet. This is the biggest change in terms of the transistor technology that we've seen in a very, very long time, so all of these companies are extremely focused. They are investing a lot also in technology so they can shorten their cycle between first generation and second generation.

All of that it's very good to us because, as we've said before, our total available market increases a significant amount and we're very leveraged around the transistor, our businesses like Epi and PVD are extremely strong, implants, a number of different areas. So for us, we are in a very good position no matter who that business goes to because that TAM for us is so much larger. But when we talk about the uncertainty, it's really what I just discussed.

Great. That's helpful. Maybe for Bob, just following up on some of the uncertainty with the foundry ramp. How are you managing the supply chain as well as the inventory given the uncertainties out there? How are you going to, with the pulls and pushes on the levers on that front?

That's a good question, Patrick. We actually think our demand on the supply chain's going to be pretty high for two reasons. One, our sales of spare parts look pretty strong, as you can see, in our AGS business. With fab utilization running pretty high, we think the spare parts, as we ship a lot of, will be pretty high, so we'll buy those from suppliers.

The second thing is, if we get this steep ramp in the second half, we'll get a lot of pull. Our overall demand on suppliers is going to be pretty high. Some of those tools and inventory we have brought in now to mitigate the risk of the ramp, so you see our inventories up a little bit.

Then the third thing we're going to take a look at is, we're spending a lot of time hand holding, working closely with suppliers to make sure that ramp goes okay.

Mahesh, Sanganeria, RBC Capital Markets.

Hi. This is Xiao Yaun on for Mahesh. Thanks for taking my questions. First, I think you mentioned WFE up 5% or more this year, this is relatively lower than some of the peers are commenting and it certainly lower that I think people are thinking about up 5% to 10% range, so are you guys seeing anything differently than your peers? Then, do you think -- in the long-term model you guys are thinking about $37 billion being a WFE in 2017? Do think in this year or next we may see maybe one or two quarter WFE run rate and may reach that level?

I think we're pretty close on the WFE, we're around the $34 billion number. I think everybody else is pretty close to that.

I think what we said was 5% or more. I think Lam was 0% to 13%, if I remember correctly, and so were really in the same range.

Okay. Then another comment you made in the prepared remark is that 3D NAND spending will be about twice of 2014 level. Some of your customers, in their earnings, indicate that they are planning to reuse some tools for 3D NAND development. I'm just wondering can you talk about your assumptions on your 3D NAND spending for 2015?

Yes, that's a good question. 3D NAND is really, for us, really major opportunity from a growth perspective. It is very focused on etch and deposition and not so much on litho, so the feature sizes are actually increasing as they go from planar to 3D NAND but there is a lot of spending on etch and deposition systems. The process is very different than the planar NAND. It is true that there is reuse, but for us in our business, there is a huge opportunity for TAM growth.

Tom Diffely, D.A. Davidson.

Thank you. Just a longer-term question here. Curious what you think the current spending patterns are in China and if you expect them to go up materially over the next couple years? Then, what you're percentage of that market is on a relative basis?

Thanks for the question. We don't really see a significant change in the CapEx spending in China. Actually, our position there is very, very strong. The leading foundry in China, we have a great relationship. Our share there is very high. In general, foundry is an area where we have high share of all customers, but in China, we have a very, very good position, very good relationship. If that spending would ramp, that would be a good thing for us, but we really don't see a big change their in the next year or two.

Okay. Then maybe switching gears to the display business, if the manufacturers were to switch to OLED TVs, does that materially impact the equipment market size?

OLED is -- basically, if you look at the number of deposition steps and the number of steps that we participate in, if you compare amorphous silicon to OLED, it is about 2x the total available market opportunity for us. Certainly, OLED ramping would be very good for our display business. Overall, there was a question earlier on display. That group has really done an incredible job. They are gaining share in the market. When we look at our model for the Company, display really is pretty much on model versus what we had discussed a couple of years ago. Growing share, really focused on how we help customers make these technology transitions from amorphous silicon to LTPS, metal oxide. OLED, really is the best opportunity for us when of that technology ramps.

Edwin Mok, Needham.

Hi, thanks for taking my questions. Just quickly follow up on the gross margin? I think you guys guided for flattish this quarter. And I noticed you have three strong DRAM order. DRAM is a very concentrated space now. Does those big orders have affect on gross margin for this quarter? Also does the timing of the Chinese new year maybe have affect on timing of shipment, which impact gross margin?

Sure. The biggest single swing for us within the SSG business is what tool types we ship. Etch is -- we're gaining share in etch, particularly in memory. We're getting more D2R positions, making progress in foundry and places like that. We get a lot of sales in etch, high-aspect ratio etch and also all types of etch steps and deposition steps in NAND and DRAM. It's that tool that's different for us in memory versus foundry. Foundry, we tend to be very high share, strong positions in tools like Epi, PVD, implant, things like that. It's a tool mix between the two that is the biggest driver.

Okay. That's helpful. Then on your commentary about etch plus CVD growing by 50% this last year. I think someone asked you about what happened to the other business, and you mentioned that you held share but some of the market may have shrink a little bit. I'm trying to dive a little in to that. Is it just because of type of spending that caused that? Some of those other product market has shrunk or is it something else going on or is it just customer investing in other areas? Can you give us any color on that?

We held overall WFE share. We gained etch CVD. We lost some in wafer defect and inspection, frankly. That will come out in a month or two, so we'll share that with you. Then, some of the others, we held share or gained share, but the TAMs did not grow as fast as etch and CVD, so we're gaining share in etch CVD, holding very high share in some other strong markets. A couple of the other markets -- did not grow quite as facts as some other strong markets, so it's a mix within the businesses as much as anything.

One of the things relative to the overall market. The overall wafer inspection business actually grew less than we had thought it would in 2014 and slower than the overall market growth, so that was a negative. Optical wafer inspection, as Bob said, we lost some share due to the customer mix in 2014. E-beam, where we have technology leadership, we actually gained share in e-beam review, about 15 points of share, we think, in e-beam review. We gained share in CD metrology, and we think that e-beam inspection is also an opportunity for us. So in 2015, what we think is that the mix will be more favorable for us. Really the area that is growing the fastest in e-beam technology, we have very, very strong position with some new products and we look at that as a growth opportunity for us in 2015.

Sidney Ho, Deutsche Bank.

Thanks for taking my question. You and your competitors in the past have talked about, I guess, over the next few years FinFET and 3D NAND are the bigger incremental opportunities than more like than DRAM and advanced packaging, yet most of the upside in recent quarters has been coming from DRAM. Do you think this is just a timing issue because FinFET and 3D NAND is being pushed out, or do you think the capital intensity for DRAM is higher than you previously thought?

I think DRAM is certainly up, and we talked about what the drivers are for the DRAM business. But the timing for 3D NAND is later than what some people had expected. I think everyone is seeing very strong pull for 3D NAND. There is compelling pull from customers around the performance of 3D NAND technology. When you look bit scaling over the longer term, that is the direction for every single one of our customers. This a huge focus there. Although it's later than what we had expected, we see the second half of this year the switch over to 3D NAND being more significant.

FinFET is also a great opportunity. It is at the number one competitive battleground for all of the foundry customers, and we certainly see that all the customers will move to that technology. We look at that being more heavily weighted to the second half of this year and into 2016.

Okay. Then my follow-up question is, given the slower ramp of a FinFET, how would you characterize the industry investment and capacity of 28 nanometers and 20 nanometers relative to what you think let's say six months ago?

We think this year's heavily weighted towards FinFET versus 28. In terms of 20, some of the tool sets are the same for 20 and FinFET, so it's a little hard to make a clear delineation of that, but we think it's mostly FinFET 16 and 14 nanometer ramping, but some of the tools you could use between 20 and 16 or 14. We think this year is heavily weighted towards FinFET. The issue is I think it's a little later in the year than last year. Last year was a little earlier than normal. This year is a little later than normal, I'd say.

28 nanometer was the majority of the spending in 2014. If you look at 2015 spending, what we're projecting, it's by far very heavily weighted to 14 and 16 nanometer technology.

Srini Sundar, Summit [Hambrent].

Hi. My first question is what gives you any confidence that the merger will go through? And based on the prior approvals, what really main points that you had to win to get the approval? Assume that I've not got the memo that you're not talking the merger.

(laughter) Thanks for the question. As we said before, we really can't give you any more color than what we had discussed before. What we have said is that we are making progress with regulators. We believe that this is the right strategy for our companies to come together. We think it's a great strategic opportunity. All of the people involved are very excited, but unfortunately we really can't say anything more than that.

Sure. No problem. Second thing is on the -- what are the basic differences between the first-generation FinFET to second-generation FinFET and how would you guys be advantaged by going to the next generation of FinFET?

The FinFET technology is really very heavily weighted. If you look at the Epi for instance, the number of Epi steps continue to grow, and that's just a tremendous opportunity for us. NVP steps also are -- that's a great TAM for us in FinFET. We're also seeing, actually, a next generation FinFET technologies, more opportunities in areas like implant. The customers are very focused on trying to drive down the cost of multiple patterning, but the number of steps are certainly increasing. We have some technologies we talked about, selective material removal, being an area that we see very high growth. That's another area that we believe is going to be big focus for our customers, certainly as they go to second-generation FinFET. Our strength is really around the transistor and that's what FinFET is all about and so that leverages many areas where we have technology leadership.

Thanks, Srini. Dustin, I think we have time for about one more question.

Mehdi Hosseini, HIG International.

Thanks for letting me ask a question. Gary, I want to better understand your assumption toward 3D NAND? When I talk to your customers, they all argue that when 3D NAND is scaled and commercialized, the CapEx per bid is actually going to go down because the density per wafer is going to go up dramatically. How can I reconcile your growth expectation with what your customers are saying, especially when we think about CapEx per wafer compared to bits of NAND manufacturer per wafer? I have a follow up.

Okay. Thanks for the question. As I said earlier, when you look at -- I think we've shown also in investor days and there's been at least two customers that have publicly talked about CapEx spending and the breakdown of CapEx spending for planar versus 3D NAND. The big change is that for the litho area, the CapEx spending is going to be lower. The etch deposition and even Epi, for us, we're seeing growth in 3D NAND. The shift in the CapEx spending is going to be very significant in planar to 3D NAND, but the areas I just talked about are areas where we have very good position as customers are ramping these new technologies. We see a very strong pull as they go to the first- and second-generation FinFET technologies.

I think related to that is its the tool mix. It's more etch and deposition versus litho. The second thing is because of that and you have a different tool set, the level of reuse is less. So if you look from a reuse model, which they've been pursuing pretty effectively to basically a pseudo-greenfield model with a different device type, the tool mix is more favorable for ourselves and other etch and deposition companies.

Got it. Then one to follow up, based on the funding information. It seems like the merger agreement is going to expire March 24, and given how FX is favoring Tokyo Electron, wouldn't they be more enticed to maybe change the details of that agreement because the exchange rate is going to their favor?

We really can't, unfortunately, as I've talked about before. I think both companies strongly believe in the strategy. I think if anything, as we've worked together, we are more -- there's even a stronger belief that this combination will create value for customers and be just really a great opportunity. The working relationships are tremendous. As I said before, we're making progress. We can't, unfortunately, give any more color on the merger.

Thanks, Mehdi, for your question. We would like to thank, everyone, for joining us at this afternoon. A replay of this call will be available on our website beginning at 5 PM Pacific time today. Thank you for your continued interest in Applied Materials.

Ladies and gentlemen, this concludes today's conference call. We thank you for your participation. You may all disconnect.