AXT Inc (AXTI) 2010 Q1 法說會逐字稿

Good afternoon, everyone, and welcome to AXT's first quarter 2010 financial conference call. Leading the call today is Dr. Morris Young, Chief Executive Officer, and Raymond Low, Chief Financial Officer. My name is Jessica and I will be your coordinator today.

Today's call is being recorded. I would now like to turn the call over to Leslie Green, Investor Relations for AXT.

Thank you, Jessica, and good afternoon, everyone. 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 provide projections or make other forward-looking statements regarding, among other things, the future financial performance of the company and our ability to control costs and improve efficiency, increase orders in succeeding quarters, improve our competitive position as the market improves, as well as other conditions and trends.

We wish to caution you that such statements deal with future events and are based on management's current expectations and are subject to risks and uncertainties that could cause actual events and results to differ materially. These uncertainties and risks include, but are not limited to, overall conditions in the market in which the Company competes, the global financial conditions, market acceptance and demand for the Company's products, and the impact of delays by our customers on the timing of sales products.

In addition to the factors that may be 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 through April 28th, 2011.

Also before we begin I want to note that shortly following the close of market today we issued a press release reporting financial results for the first quarter of 2010. This press release can be accessed from the investor relations section of AXT's website at AXT.com.

I will now turn the call over to Raymond Low for a review of our first quarter results. Raymond?

Thank you, Leslie. Revenue for the first quarter of 2010 was $18.6 million compared with $17.8 million in the fourth quarter of 2009. Gallium arsenide substrate revenue was $13.4 million for the first quarter of 2010 compared with $12.6 million in the fourth quarter of 2009.

Indium phosphide substrate revenue was $875,000 for the first quarter of 2010, a substantial increase over $513,000 reported in the prior quarter due to stronger demand from optical communications applications. Germanium substrate revenue was $1.64 million for the first quarter of 2010 compared with $1.85 million in the fourth quarter of 2009.

Sales of raw materials, primarily 99.99% pure gallium, were $2.6 million in the first quarter of 2010 compared with $2.8 million in the fourth quarter of 2009. In the first quarter of 2010, revenue from North America was 24.3%, Asia-Pacific was 55.5% and Europe was 20.2% of total revenue.

Only one customer generated more than 10% of our revenue during the first quarter, while the top five customers generated 39.6% of our first quarter revenue.

Gross margin was 36.1% of revenue for the first quarter of 2010. By comparison, gross margin in the fourth quarter of 2009 was 33.9%. Selling, general and administrative expenses were $3.4 million for the first quarter of 2010 compared with $2.6 million in the fourth quarter of 2009.

In the first quarter, our SG&A expenses returned to a more normal level following an unusually low fourth quarter. Going forward, we expect SG&A to remain in the range of $3.3 million to $3.4 million.

Research and development costs were $451,000 for the first quarter of 2010 compared with $394,000 for the fourth quarter of 2009. Total stock compensation expense was $114,000 for the first quarter of 2010, of which $10,000 was including costs of revenues, $97,000 in SG&A and $7,000 in R&D.

Income from operations for the first quarter of 2010 was $2.7 million compared with income from operations of $3.1 million in the prior quarter. Net interest and other income for the first quarter of 2010 was $94,000, which included $120,000 gain on investment notes that matured and an unrealized foreign exchange loss of $68,000 compared with net interests and other expense of $92,000 in the fourth quarter of 2009, which included an unrealized foreign exchange loss of $140,000.

Net income in the first quarter of 2010 was $2.6 million or $0.08 per diluted share. By comparison, in the fourth quarter of 2009 we reported net income of $2.8 million or $0.09 per diluted share.

Let's now look at our cash and the balance sheet. Cash and cash equivalents with maturity of less than three months, short-term investments and other investments in high-grade debt securities with maturities of less than two years were $39.3 million at March 31st, 2010, compared with $35.4 million at December 31st, 2009.

Accounts receivables, net of reserves were $15.3 million at March 31st, 2010, compared with $15.4 million at December 31st, 2009. Days sales outstanding were 73 days for the first quarter compared with 79 days for the fourth quarter of 2009. Net inventory was $28.1 million at March 31st, 2010, compared with $27.7 million at December 31st, 2009.

Depreciation and amortization in the first quarter was $752,000 and capital expenditures were $192,000. As of March 31st, 2010, the Company, including our consolidated joint ventures, had 1,133 total employees, of whom 908 work in production.

This concludes our results for the first quarter. I will now turn the call over to Morris. Morris?

Thank you, Raymond. It was another very good quarter for AXT. We've continued to experience solid demand for our products across all of our primary markets, driven by significant and extended market trends such as the rapid expansion of wireless devices, the increasing momentum in the adoption of [LED] technology and the growing interest in solar energy.

Further, our own execution has been strong throughout our engineering, manufacturing, sales and administration functions. We have had tremendous success in continuing to develop our valuable, long-term customer relationships as well as penetrating new customers and new opportunities to drive our growth and diversify our base.

In addition, our efforts to restructure and refocus our organization over the last nine months are resulting in tangible benefits in our efficiency, productivity and profitability, creating a solid foundation for our success in quarters to come.

Our semi-insulating gallium arsenide substrate business for wireless applications was very active in the first quarter. Demand continues to be strong, driven by the growing popularity of these sophisticated wireless devices. For example, Gartner recently reported that it expects smartphone sales to reach near 500 million units a year by 2012 -- more than triple the smartphone unit sales in 2008. In addition, each of these phones require heavier content of gallium arsenide substrate per unit than previous generations of wireless handsets as a result of the ever-increasing functionality and feature requirements.

The semi-insulating gallium arsenide market is also benefiting from the strong demand for other wireless devices such as netbooks, tablet computers such as the iPad and personal entertainment devices such as the iTouch e-readers. As such, we expect to see healthy growth in our 6-inch revenue in Q2. While the industry is not yet experiencing capacity shortage in the 6-inch substrate, we believe that continued strong demand will put pressure on customers to secure additional capacity to support their growth.

This is likely to result in market share gains for AXT. We are already seeing this happening in 4-inch substrate with some capacity constraint contributing to an increase in our revenue of more than 30% in the first quarter over the prior quarter. We believe that there is a lack of interest among other substrate suppliers to scale capacity of 4-inch wafers because the number of customers have chosen to migrate to a 6-inch line. But we believe that there will be many customers who will remain at 4-inch, and we are fully committed to the long-term support of these customers. We have the capacity and flexibility to scale business cost-effectively to meet increasing customer demand, demonstrating a significant advantage of our channel-based manufacturing facility.

Turning to semiconducting gallium arsenide for LED applications, the market continues to be very robust. We're experiencing strong demand from our traditional markets such as automotive, display and consumer electronics. In addition, as we discussed last quarter we began to explore opportunities to participate in the high-volume market as well. This billion-dollar market is geared today towards novelty products and therefore more margin constraint. However, in the future we believe this market will provide the entry into the general illumination applications as these applications will need lower-cost LED devices in order to gain critical mass.

Thanks to our continued healthy demand for our higher margin products as well as our own success in maintaining a lower cost structure, we expect to begin participating in the high-volume market and still maintain an appropriate growth margin for our business. Once again, our unique lower-cost manufacturing capability in China gives us the option to explore these incremental market opportunities.

Turning to indium phosphide substrate, it has been quite a while since we have focused on the growth potential of this area of our business as the primary application for this substrate is fiber optics, a market that has been down for quite some time. Over the last several years, our indium phosphide substrate business has provided modest but steady and profitable revenue for AXT. However, we are beginning to see renewed demand for the substrate as the fiber to the home is starting to gain momentum worldwide.

With 10% market share, we are putting increasing engineering and marketing emphasis on expanding our customer base further. During the first quarter, our indium phosphide revenue was the highest it has been in seven years. While the overall contribution is still modest, we believe that we will see growth in indium phosphide substrate in 2010 with more significant revenue coming in in 2011.

Turning to germanium substrates, the solar cell market continues to be very dynamic and exciting. One of our larger European customers recently awarded us a major portion of a satellite project that they're working on which will begin to contribute to our resulting second quarter. In addition, there are a number of significant programs in development worldwide, such as [Aurelian] and [Galileo] that are expected to drive continued growth in this market throughout 2010 and beyond.

On the terrestrial CPV side, the general consensus in the industry is that the terrestrial market will not begin to ramp meaningfully until 2011. This move towards the terrestrial market will drive the volume of germanium substrate demand. Solar cell manufacturers are now actively preparing to be able to support potential significant increase in volume.

As a result, we're being qualified by major solar cell providers who are interested in working with us for satellite applications as well as qualifying us for terrestrial applications. We believe that our unique VGF-based substrates are becoming recognized for their superior mechanical strength, better surface morphology and a low defect density, which is translating to better yields for our customers. Further, with only two suppliers in the industry worldwide, customers are eager to qualify both and are very pleased by our competitive price and guaranteed supply of germanium raw material. For AXT, even small gains in our shares of this market are meaningful, and we are very pleased by our progress in penetrating new customers and new opportunities.

And now turning to our joint ventures, we're pleased to see continued demand for our raw materials and believe that the market recovery is now finally reaching this area of our business. In fact, our joint venture to refine [4-9] gallium to [7-9] gallium purity is in the process of doubling capacity in anticipation of increasing orders. We're expecting a modest increase in our revenue from our joint ventures in the second quarter as a result of both stronger demand and increasing gallium prices.

Finally, before we close, I'd like to say a few words about our gross margin. Over the past nine months we have worked very hard to bring our business back to the sustainable gross margins above 30%. This achievement has been a result of a Company-wide focus on improving our efficiency and cost structure and I am very proud of the success we have so far.

As we move forward, we continue to look for further leverage in our business. Our corporate target gross margin remains at 35% and our strategy will be to utilize some of the benefit of our gross margin leverage to grow our market share in strategic areas such as high-volume LED applications and CPV solar cells.

We believe that will allow us to expand our addressable market, establishing a meaningful presence in the important emerging markets as well as broadening our penetration in those areas we currently serve.

I will now turn the call back to Raymond to discuss our forward-looking guidance. Raymond?

Thank you, Morris. As Morris mentioned, we are expecting to see continued growth in our substrate revenues in the second quarter. Therefore, we expect total revenues of between $20.7 million and $21.5 million. We are expecting net income in the second quarter of between $0.08 and $0.09 per share based on approximately 31.9 million common shares outstanding.

This concludes our prepared comments. We're now happy to answer your questions.

Thank you. (Operator instructions). Our first question will come from Richard Shannon from Northland Securities.

Oh hi, Morris and Raymond, how are you?

Good, Richard.

Hi.

Good. Congratulations on good numbers and very nice guidance. Good to see, especially on the gross margins. I guess my first set of questions here on the first quarter, I'm curious what your 6-inch gallium arsenide revenue number was for the quarter. How did that trend from the fourth quarter?

Well, the 6-inch was not very strong in the first quarter. We had some customer holding back their [pull] of our inventory because we were in negotiation with them on a long-term contract.

Okay. Is that a contract you expect to be able to announce or finalize fairly soon?

We have already finished negotiation of the contract, but we're not going to announce anything and we are not going to sign anything, but the agreement is already reached with our customers.

Okay, fair enough then. Regarding your gallium arsenide, you had talked about some nice trends in the 4-inch business. You said you're gaining some share there. I just want to make sure that you're still going to compete heavily for the 6-inch and you expected at least to be able to maintain your share there, if not push for more share going forward.

Oh, absolutely. As we said, we see -- as the contract with our customer was finished, they are pulling consignment inventory from our -- so we do expect 6-inch to grow significantly in Q2.

Okay. In terms of the overall theme of gaining market share, both in the second quarter and throughout 2010, Morris, can you talk a little bit about where you expect to see that? I guess I'm more interested in the semi-insulating side specifically. There have been questions on past calls about your trying to get into two of the larger RF or wireless component makers.

I'm kind of curious about your progress there, whether you're expecting any share gains there and also outside of those guys, where you're expecting to see it come from.

Sure. In the first quarter, as you mentioned before, we've finished negotiation with our larger customers and it was very successful. I think going forward we should have a very, very good, strong relationship with them. We are also working on other -- qualifying to other significant customers. We don't mention specific customers, but in one particular customer we have three or four different channels there, we're getting into them, including [such EPI] suppliers, and I would say we're making very good progress.

Okay, fair enough, then. Maybe a couple of quick financial questions. In terms of your guidance for the quarter, what kind of gross margins are you anticipating are baked into those earnings numbers you gave for a goal here? Is it similar to the 35% [bogey] or what should we be thinking about there?

Raymond, you want to handle that?

Yes. Richard, our target gross margin is in the 35%, so that is the corporate target.

Our margin does depend upon -- we have a very diversified product list that we offer, and sometimes it will be better and if a certain product is selling more and the other may have a lower margin.

But overall, you can see, Richard, that we are working very hard to improve our gross margin. We're gaining a lot of efficiency out of our manufacturing and I'm very pleased to see that our yields are getting better, our capacity utilization is better. So overall, we are very pleased with the trend of the gross margin.

I definitely agree. It looks very nice, congratulations to you on that. I guess I'll jump out of line. Thanks a lot.

Thank you, Richard.

Our next question will come from Dave Kang from B. Riley.

Thank you. Good afternoon and congratulations as well. The first question is on the gross margins. How much was reserve wafers?

Raymond?

Oh, sorry, Dave. Basically, this quarter it was pretty insignificant.

Oh, really?

Yes.

Okay. So is that going to be sort of a trend going forward, or is that going to be kind of all over the map?

Well, I think this is part of our business. Sometimes we contribute to the pot and we're selling from the pot, and I think it's really unfair for us to discount it whenever we're selling reserve wafers, where we're putting [it in] and nobody notices it.

So I think the gross margin is very solid. Just don't diversify -- or just don't look it over and say, "Well, where's your reserve margin on wafer sales?"

Right. And then --

Oh, go ahead. Yes, Raymond.

Sorry. I was going to tell you it was very small. This quarter it was about 0.1%, because what we sold was similar to what we contributed to the pot.

Got it, got it. Morris, regarding your comments about 6-inch expected to go up significantly in the June quarter, assuming everything else being equal from the first quarter, won't that drive gross margin higher and if so, by what amount, approximately?

We don't usually talk about individual products, and the customer-to-customer gross margin is different, too. We don't want to confuse the issue, because when the customer has a very, very large demand, usually it would help us in terms of capacity utilization, et cetera. But then maybe one customer price is simply lower than the other. But generally, I would say you should focus on the overall gross margin and it's kind of difficult for us to say, whoa, 6-inch is a better gross margin versus the other.

Right.

I know sometimes people will try to say, "Oh, 6-inch has better margins." That's not really true. We did identify one thing, though -- the LED smaller diameter, that tends to have a lower margin. But other than that, we don't usually break out individual product margins.

Got it, got it. Speaking of LEDs, did you give out the split between semiconducting versus semi-insulating? Like roughly 50% - 50%?

It's usually 40% - 60% -- 40% semiconducting, 60% semi-insulating.

Got it.

That's been the usual trend.

Okay, okay. Then with 6-inch going up, then, I guess it could be skewed towards more semi-insulating next quarter, then, meaning June quarter?

Well, I wouldn't say so, Dave. If you look at AXT's history, I think LED is very strong as well. So I think all markets look very, very promising.

Got it. And can you just talk about the industry capacity? I think you kind of touched upon this -- the 4-inch versus 6-inch. Exactly who is that -- I'm talking about the big three of Skyworks, RFMD, Triquent. Who is at 4-inch versus who is at 6-inch? Can you just give us some color on that, and the capacity situation, what they are running at?

Well, actually, I think that the 4-inch line was to be -- a lot of major RF device makers are migrating to 6-inch. I think that was my comment, and then that's why certain substrate suppliers, they think they want to migrate into 6-inch so they get out of the 4-inch. That's why we see our 4-inch demand grew very significantly.

But as far as who is using 4-inch and 6-inch, well, I think it's difficult for us to comment at this point. I think, Dave, you can probably find that out --

Okay, no problem.

-- through the customer themselves.

Got it, got it. Okay, I think that was it. Thank you.

Thank you, David.

(Operator instructions). We'll now go to Amy Norflus from Pilot.

Hi, guys, great quarter. Can you expand a little bit on the LED market and who you're going to be selling to and expand a little bit on that for us, please?

The LED market is very robust. We're seeing that the LED market is very strong. But specifically, we were talking about the increasing importance of the large market, which we said potentially is going to lead to the general illumination. Right now, we are only just touching the surface of it. We're just getting our toes in there in preparation for the future growth to come.

Perfect.

So although we were emphasizing that we're getting into the very large market as we speak now, but as far as percentage of our business is concerned, at this point it's very small. So our general LED market is actually fairly robust, but that comes from the traditional automotive, the general illumination, general display as well as consumer electronics.

We'll now take a follow-up question from Richard Shannon from Northland Securities.

Hi, guys, a couple of quick follow-ups. Morris, you mentioned negotiations with your customers starting this year. Kind of curious what kind of pricing trends you're seeing in those negotiations relative to previous years. Is it getting better or worse, or how would you describe it?

Well, I would say the negotiation was a mutually successful negotiation. We're happy to see that our customer committed to be a long-term customer of ours and good partner in developing our business going forward. But generally, we don't talk about pricing trends. I would say the trend is going down, let's put it this way.

Is the downward trend better or worse than what you've seen in past years?

I think it's about the same.

Okay. All right, just want to make sure there. Second question on your raw materials business -- in terms of both your first quarter results and second quarter outlook, what's the general pricing trend for those products? Are they moving upwards or they've been kind of flat, as they've been the last couple quarters?

Well, it has been flat, definitely, for the last few quarters, but we're starting to see it start to firm. But in raw material it's not [un]similar to substrate market, that the large consumption such as making substrates, we buy tons of this thing. Then we've got a preferential pricing treatment.

But if you were buying 100 kilos or 500 kilos, our joint venture are seeing the price is starting to trend up.

Okay. My last two-part question, I want to get your latest update on your expectations with CapEx for the year, and also any thoughts, either qualitatively or quantitatively, on any capacity additions you made already this year, and what others you may make the rest of the year.

The CapEx, we are definitely looking to increase the CapEx. Originally we have a $7 million CapEx budget, but we are increasing our capacity fairly aggressively to the second half of the year, and we are also looking to build a new building in Beijing facility to expand our 2011 capacity quite significantly.

Okay. Does that mean we should continue to model for $7 million or has that got some upward flex to it, then?

No, it's going to be upwards. But we have not reached a final budget yet. But it's going to be upwards, it's going to be way up.

Way up, okay. Very helpful. Thank you very much once again.

Thank you, Richard.

It appears there are no further questions at this time.

(Operator instructions).

It appears there are no further questions, so I will turn the conference back over to our presenters for any additional or closing remarks.

Thank you. Thank you for participating in our conference call. As always, feel free to contact me, Raymond or Leslie Green directly if you would like to meet with us. We look forward to speaking with you in the near future.

This concludes today's presentation. Thank you for your participation.