AXT Inc (AXTI) 2004 Q3 法說會逐字稿

Good day and welcome to AXT's third quarter 2004 conference call. With us today is Don Tatzin, Interim Chief Executive Officer and Wilson Cheung, Chief Financial Officer. [Operator Instructions]. At this time, I would like to introduce, Don Tatzin.

Hello and welcome to AXT's third quarter 2004 conference call. I would like to thank you for taking the time to be with us this afternoon. I'm Don Tatzin, Interim Chief Executive Officer of AXT.

With me today is Wilson Cheung, our Chief Financial Officer. Wilson will give you a detailed financial view of the third quarter and following that I will comment on the quarter and current market conditions. Wilson will close our prepared comments with financial guidance and we will open up the call for questions and answers. Wilson.

Thank you, Don. Before we begin I would like to remind you that during the course of this conference call, including comments made in response to your questions, we will make projections or other forward-looking statements regarding among other things, the future financial performance of the company, the possible final outcome of our intellectual property settlement with Sumitomo Electric Industries, possible improvement in our competitive position, future substrate and materials prices, the results of our joint ventures, improvement in our production processes, product quality and yields, future customer orders as well as market conditions and trends.

We wish to caution you that such statements deal with future events and so are subject to risk and uncertainties and that actual results or events may differ materially.

In addition to the factors that maybe discussed in this call, we refer you to the company's periodic reports filed with the Securities and Exchange Commission and available online by link from our website for additional information on risk factors that could cause actual results to differ materially from our current expectations. This conference call will be available on our website at AXT.com.

Now onto the results for the quarter. Revenue during the third quarter of 2004 was 8.5 million compared with 9.5 million in the second quarter of 2004. Total gallium arsenide substrate revenue was 7 million for the third quarter of 2004 compared with 7.5 million in the second quarter of 2004. Indium phosphide substrate revenue was 214,000 for the third quarter of 2004 compared with 533,000 in the second quarter of 2004.

Raw material sales were 1.2 million for the third quarter of 2004 compared with 1.5 million in the second quarter of 2004.

In the third quarter of 2004, North America revenue was 22%, Asia Pacific was 57.8% and Europe was 20.2% of total revenue. Two customers comprised 22.2 of our total revenue during the third quarter of 2004 and one customer comprised to 10.1% of our total revenue for the nine months ended September 30, 2004.

Gross margin was negative 26.2% of revenue for the third quarter of 2004 compared with 8.7% for the second quarter of 2004. The decrease in gross margin was attributable to a charge of approximately 1.4 million in connection with the intellectual property settlement with Sumitomo Electrical Industries and a 2.1 million inventory evaluation charge due to excess and obsolete inventory, which Don will discuss further. In terms of gross margin percentage, the 1.4 million and 2.1 million accounted for 15.7% and 24.6% of our gross margin respectively.

Selling, general and administrative expenses were 2.5 million for the third quarter of 2004 compared with 3.2 million for the second quarter of 2004. The decrease was primarily due to lower legal and professional fees. Research and development costs were 397,000 for the third quarter of 2004 compared with 350,000 for the second quarter of 2004. As a percentage of revenue, R&D was 4.7% in the third quarter compared with 3.7% in the second quarter of 2004.

During the third quarter we closed down our remaining US manufacturing facility and incurred an additional restructuring charge of 158,000. We also incurred an impairment charge of 210,000 for one of our investments and at the same time recorded a one-time gain of 237,000 in other income due to the forfeiture of proportion of a prepaid deposit for future purchases of products from us. Accordingly, other income was 380,000 in the third quarter of 2004 compared with other expense of 113,000 in the second quarter of 2004.

Interest expense for the third quarter of 2004 was 60,000 compared with 58,000 in the second quarter of 2004. Loss from continuing operations for the third quarter of 2004 was 5.2 million compared with a loss of 4.1 million for the second quarter of 2004.

During the third quarter we incurred a gain on discontinued operations of 225,000 as a result of the release of a portion of the escrow established upon the sale of the discontinued opto-electronic business. Net loss in the third quarter of 2004 was 5 million or $0.21 per diluted share compared with the net loss of 3.8 million or $0.17 per diluted share in the second quarter of 2004.

Let's now turn to the cash flow statement and balance sheet. Operating cash outflow generated by operating activities was 439,000 for the quarter ended September 30, 2004 compared with operating cash inflow of 1.3 million for the quarter ended June 30, 2004. A major cause of the operating cash outflow was the quicker pay-down of accounts payable than collections on accounts receivable.

The total reduction in cash and equivalents including short-term investments was 1.7 million for the quarter ended September 30, 2004 compared with the decrease of 687,000 for the quarter ended June 30, 2004. The primary driver of the reduction in cash and equivalents was our pay-down in accounts payable and accrued liabilities. Our debt to equity ratio remains relatively stable at 0.14 in the third quarter of 2004 from 0.13 in the second quarter of 2004.

On the balance sheet our combined cash and equivalents including short-term investment were 31.3 million at September 30, 2004 compared with 43.3 million at June 30, 2004. Of this amount 8.4 million is held as restricted deposits and 1.5 million is the value of shares we hold in Finisar Corporation as of September 30, 2004.

Accounts receivable net of reserves was 5.2 million at September 30, 2004 compared with 4.4 million in the prior quarter. Our day sales outstanding was 56 days for the September 30, 2004 quarter compared with 42 days for the June 30, 2004 quarter when we had better than expected collections.

Net inventory decreased 3.8 million from about 21.8 million at June 30, 2004 to 18 million at September 30, 2004. Of the 3.8 million reduction, 2.1 million relates to our charge for excess and obsolete inventory. Nevertheless, we continue to expect modest decline in net inventory during the upcoming quarters as we sell inventory products to customers.

Capital expenditure during the quarter was 560,000 and depreciation was 1.2 million. As of September 30, 2004 we had 1,013 employees of whom 859 worked in production, 73 employees worked in the U.S. and 940 worked abroad, almost exclusively in China. This concludes our review of our recent financial performance. Let me now turn the call back to Don.

Thank you, Wilson. During the third quarter we continued our successful penetration of the LAD market and our sales of raw materials again constituted approximately 15% of total revenue.

During the quarter we also addressed several of the challenges facing AXT. We concluded that certain inventory could probably not be sold within two years after its manufacturing date due to change in customer demands and decided to take a charge for it. We tentatively settled the intellectual property litigation that we were involved with Sumitomo Electric Industries in a manner that we believe will benefit us during the next several years.

We added key staff in critical areas and introduced improvement production techniques. More customers inspected and qualified our China production facility. Finally we completed the restructuring related to the shift of production to China. I believe that we have made significant strides toward establishing a platform from which we can improve performance.

Let me speak about each of these items in turn. The primary source of business during the third quarter was LAD customers. Most of these customers are in Taiwan and Southeast Asia. And during the third quarter our sales increased by approximately 30% compared with the same quarter during 2003.

The process improvements we implemented for LAD substrates in earlier periods continued to be successful and less than 0.01% of this products were returned. Several of these customers are switching their substrate requirements from two-inch diameter substrates to three and four-inch diameter substrates.

We are prepared to support them and believe that such a switch could improve our competitive position. Prices for LAD substrates remained under pressure during the quarter and we believe there will be modest declines in LAD substrate prices during the next quarter.

Our materials business revenue is 1.2 million and was comprised mostly of raw gallium and germanium dioxide. During the past six moths we have seen an upward trend in prices for gallium and the gross margins of our gallium ventures have increased correspondingly. Our other joint ventures are now pursuing sales contracts with third party customers and we look forward to the results of these efforts beginning in 2005.

Turning to inventory, Wilson mentioned that we had taken a charge for excess and obsolete inventory. Let me discuss that further. As our market has shifted to focus more on our LAD customers, we concluded that certain inventory appropriate for other customer segments would not be sold within two years of its manufacturing date, the length of the time we have historically retained finished goods inventory before writing it off. Therefore, we incurred a charge of 2.1 million during this period related to reducing the value of this inventory to our expected realizable value.

During our last conference call I provided an update regarding our intellectual property litigation in interference proceedings. We have been involved in these matters with Sumitomo Electric Industries, our primary competitor in both Japan and the United States.

I'm pleased to report that we have reached a tentative settlement regarding these proceedings worldwide. We will make a payment to Sumitomo, which is reflected in the charge of approximately 1.4 million during the third quarter. We will also make ongoing royalty payments from products sold in Japan.

Under this agreement there will be no restriction on AXT sales and products in Japan or elsewhere. The litigation in Japan and interference proceedings in the US will be dropped by both parties against the other and we will enter into a worldwide four-year cross-licensing agreement with Sumitomo for all intellectual property used by either company related to compound semiconductor substrates.

The agreement remains subject to approval by the boards of both companies and we expect that it will be completed by the end of the fourth quarter. Our agreement will enable us to focus our resources on developing our own intellectual property, improving product quality and improving our yields.

In turning to our production staff and process, during the third quarter we strengthened our process engineering and quality staff in China. This will enable us to provide higher and more consistent product quality and to improve our yields. Two customers inspected our China facilities during the third quarter and each qualified our facility.

Visits by additional customers have been scheduled and will be completed during the fourth quarter. Customers that evaluated our China facilities are now moving on to qualify the products made in China and those evaluations are proceeding well. We anticipate that the orders, which will results from these qualifications are more likely to fall into 2005 than into the fourth quarter.

We also made progress in adapting production process improvements made for our smaller diameter products to our larger diameter substrates, which are used primarily to make devices for wireless handsets. We anticipate this work will be completed during late 2004 or early 2005 and that we will then be able to pursue the large diameter substrate market more successfully thereafter.

In conclusion, our long-term business strategy remains focused on leveraging our competency in VGF technology in creating joint ventures in China related to our core substrate business. We believe there are opportunities to grow our business profitably using each competency and are putting plans in place to do so.

Last week a purported securities class action lawsuit was filed in the United States District Court for the Northern District of California naming the company and its CEO China operations as defendants. The complaint alleges that the company's announced - financial results during the period from February 6, 2001 to April 27, 2004 were false and misleading.

No specific amount of damage is claimed. The company believes that there are meritorious defenses against this lawsuit and intends to vigorously defend it. However, due to the inherent uncertainty of litigation we cannot accurately predict the outcome of the litigation. We do not expect the litigation to affect our ongoing business or our ability to serve customers.

Looking towards the fourth quarter, we are seeing some softness in orders for LAD substrates due to seasonal fluctuations in demand. Therefore, we expect that revenue during the fourth quarter will be lower than during the third quarter. In addition, those customers who are completing their reviews and re-qualifications will not be ready to make substantial orders during the fourth quarter.

Even though revenue will decline, we anticipate that gross margins will rebound as the unusual event of the third quarter are behind us and we will enjoy most of the benefits available from closing production in the US.

We are continually improving our production processes, reducing our cost by making the decision to close US production and are making AXT a stronger organization that is looking to the future. I look forward to reporting to you regarding our progress. Wilson will now provide guidance for the fourth quarter. Wilson.

Thank you Don. For Q4 2004, we expect revenue to be between 7.5 and 8 million and gross margin to be between 9 and 11%. Sales, general and administrative expenses is expected to be approximately 2.9 million and R&D approximately 360,000. We project that our loss from operations will be between 2.4 and 2.6 million.

Net loss from continuing operations is expected to be between 2.5 and 2.7 million or between $0.11 and $0.13 per diluted share. We project that capital expenditures in Q4 will approximate 500,000. We have sufficient cash reserves and funding capacity to meet our anticipated capital requirements for the next 12 months. This concludes our prepared comments. We are now happy to answer your questions.

[Operator Instructions]. And we will take a moment for any questions to register. At this point we have no questions.

Thank you for participating in our conference call. We look forward to speaking with you again soon.