CMC Materials, Inc. (CCMP) 2006 Q1 法說會逐字稿

Good morning, my name is Candace and I will be your conference facilitator today. At this time, I would like to welcome everyone to the first quarter earnings for Cabot Microelectronics conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. [OPERATOR INSTRUCTIONS] Ms. Barbara Ven Horst, Director of Investor Relations, you may begin your conference.

Thank you, Candace. Good morning, everyone, and thank you so much for joining us this morning. As Candace said, I'm Barbara Ven Horst, Director of Investor Relations for Cabot Microelectronics Corporation. With me today are Bill Noglows, Chairman and CEO, and Bill Johnson, Chief Financial Officer.

This morning we reported results for our first quarter of fiscal 2006, which ended December 31, 2005. A copy of our press release is available in the Investor Relations section of our website, cabotcmp.com or by calling our Investor Relations office at 630-499-2600. Today's conference call is being recorded and will be available for three weeks on our website. The script of this morning's formal comments will also be available there.

Please remember that our discussion today may include forward-looking statements that involve a number of risks, uncertainties and other factors that could cause actual results to differ materially from these forward-looking statements. These risk factors are discussed in our SEC filings, including our report filed on Form10-K for the fiscal year ended December 30, 2005. We assume no obligation to update any of this forward-looking information.

And with that, I'll turn the call over to Bill Noglows.

Thanks, Barbara. Good morning, everybody. [Inaudible - audio dropped off] new growth and profitability this quarter, especially given the adverse financial impact of expensing stock options which we began this quarter under FAS 123-R. Our revenue this quarter grew sequentially by 10.3%. This was the second consecutive quarter in which the Company's revenue grew by more than 10%.

In addition, we achieved record sales volume this quarter, selling more gallons of CMP slurries than in any other quarter in our history. It appears that our customers continue to run at high-capacity utilization and industry experts forecast continued strength for the next couple of quarters. Visibility is more limited beyond that timeframe but we are cautiously optimistic about the remainder of the fiscal year.

This morning I want to offer my thoughts on two industry trends and their impact on the CMP industry and our business. The first trend is one which we have discussed in past calls; the fragmentation of CMP technology as occuring as a result of introduction of new materials, diverging integration schemes and highly specific customer process designs. This shift away from one CMP slurry fits all in a given application at a specific node became apparent with 90-nanometer technology, and we expect this trend to accelerate as feature sizes continue to shrink.

This was a major topic at SEMI's annual Strategic Material Conference a few weeks ago. One expert observed that in moving from 130 to 90 nanometer technology, three or four new materials were introduced in the semiconductor manufacturing process. As the industry transitions from 90 to 65 nanometers, up to a dozen new materials are being produced. And in the future transition from 65 to 45 nanometers, up to 30 new materials may be introduced. At each transition, CMP technology has, and we believe will continue, to become more fragmented.

In fact, complexity within the CMP process is increasing even faster than new materials are being introduced. Here is why. First, smaller line lists introduce new physical constraints and greater complexity. As dimensions get smaller and smaller, the microstructure of the conductors, insulators and barriers and the spacing and interfaces between them have a grater influence on the thermal and electrical properties of the chip. In addition, many of the new materials being used interact with each other and these interactions must be understood and controlled. Finally, advanced CMP solutions can become so sensitive that subtle yet meaningful differences in process integration schemes from one customer to another can require still more customization. All of these factors contribute to the explosive increase in complexity requiring a wide range of ever more sophisticated and specialized CMP solutions.

In addition to the demands of increasing complexity, this industry also deals with relatively long product development times. We devote a year to a year and a half to fully develop a new CMP slurry project platform and the supply chain to produce it commercially, and then another six months to a year for our customer to qualify it. I might add that our development cycle may be longer than that of some of our competitors. We spend whatever time we feel necessary to analyze and test our products so they are robust and reliable and can be produced at high volume before they are sent to a customer. We have learned the importance of this validation over many years of experience in providing CMP solutions to our customers. The intersection of these two realities, complexity and customization with long lead times, is making the CMP industry much more challenging, and the cost, technical skills, and capabilities required to meet and exceed our customer needs are large and growing.

The second industry trend I want to discuss is the customer's expectation of ever higher levels of predictability in CMP solutions even as the technology becomes more complex. Once customers introduce a new technology into high volume manufacturing, their need for consistency and predictability surpasses all others. Suppliers must develop and deliver solutions that perform exactly the same, time and time again, over the life cycle of the technology. In our specific case, this means we must continue to deliver millions of gallons of CMP slurries around the world that are increasing complex, yet perform consistently, day-to-day, batch-to-batch. We believe the ability to manage this paradox will ultimately determine who will be successful in our industry.

To win new business, a supplier may race through the product development and produce a sample meets near-term needs in the development phase of a new technology. However, without rigorous testing for manufacturablity and supply chain insurance, that product is very likely to fail as the process is being readied for production or later, when production is a high volume. This causes expensive disruptions and extreme customer dissatisfaction.

We think managing this paradox falls right in our sweet spot. And we believe we have a number of capabilities that uniquely position us for continued success in the CMP industry. First, we have a robust product portfolio and product development pipeline for all major application areas. Second, we have a substantial technology infrastructure. Our team of scientists, engineers, chemists, and technicians is broad and deep and we have laboratories and clean rooms with polishing and metrology equipment that can replicate our customer's activities as we develop next generation CMP solutions, which make our development process more productive and efficient. We don't think there's another company that can match our capability and capacity to bring this level of intellectual capability and facilities to the development process and the market. Finally, our manufacturing and supply chain infrastructure is robust, operating on three continents with a proven track record of delivering high-performance products on time and on spec.

Although the CMP industry is relatively young, it has already gone through significant change, and we think the trends I have discussed this morning will change it even more. We welcome these changes because we think our capabilities and our continued execution of our strategies uniquely positions us to meet our customer's requirements and expectations in the years to come.

Now I'll turn the floor over to Bill Johnson to review our financial results and our progress on some key initiatives and then we will open the call for your questions.

Thanks, Bill. Our revenue for the first quarter of fiscal 2006 was $81.5 million, up 10.3% from $73.9 million last quarter, and up 21.5% from $67.1 million in the same period last year. All of our CMP slurry product applications, except data storage, recorded sequential revenue increases.

Revenue from our slurries for copper polishing applications, including barrier, increased by 8.4% sequentially, and was up by 12.7% compared with the year-ago quarter. Copper slurries represented 20% of our total revenue for the quarter.

Combined revenue from our tungsten and dielectric CMP slurries was up 11% sequentially and up 26.8% year-over-year. Revenue from slurries for our Data Storage business decreased by 4% sequentially.

We saw sequential revenue growth in all geographic regions; Asia-Pacific, the U.S. and Europe. Our average selling price for the quarter decreased by 1.1% compared with last quarter, as effects of selected price reductions and the impact of the weaker Japanese yen versus the U.S. dollar more than offset the benefits of a higher priced product mix.

Gross profit this quarter represented 47.2% of revenue, up from 46.9% last quarter and down from 50.1% in the year-ago quarter. Gross profit as a percentage of revenue increased this quarter, largely due to benefits of higher utilization of manufacturing capacity on the higher level of sales this quarter and lower fixed manufacturing costs in certain areas. These were partially offset by higher variable costs of goods sold, including cost of resolving a product quality issue identified with the dielectric product.

Now I'll turn to operating expenses, which include research and development, selling and marketing, and general and administrative costs. Operating expenses of $25.1 million increased by $1.1 million sequentially from $24 million last quarter, and were $5.7 million higher than $19.4 million in the same quarter last year. The sequential increase was primarily because we began to record stock option expense this quarter as required by accounting rules, rather than merely disclosing it in the footnotes to our financial statements, as we have done in the past.

Total stock option expense was $2.4 million, of which $2.2 million was classified in operating expenses. This is consistent with our forecast pre-tax stock option expense for fiscal 2006 of approximately $10 million. These non-cash costs were partially offset by lower expenses in several areas, including clean room materials and laboratory supplies for our research and development activities.

Operating income represented 16.4% of revenue this quarter, up from 14.3% last quarter and down from 21.2% in the year-ago quarter. Net income for the quarter was $9.6 million, up 16% from $8.3 million last quarter, despite the inclusion of this quarter of stock option expense. Net income in the same quarter last year was $9.8 million.

The weighted average number of shares outstanding on a diluted basis was 24.4 million shares this quarter. This was slightly lower than in the prior quarter due to $4 million of stock purchases under our new $40 million share repurchase program that we announced last October.

Diluted earnings per share were $0.39 this quarter, up from $0.34 in the previous quarter, even with the adverse impact of approximately $0.07 of stock option expense. EPS in the first quarter of fiscal 2005 was $0.40.

Turning now to cash and balance sheet-related items, capital additions for the quarter were $3.4 million. Most of this related to investments for commercialization of new products and costs of moving our Data Storage business to Singapore. Depreciation and amortization expense was $4.8 million for the quarter.

We ended the quarter with $178.7 million in cash and short-term investments, $7.7 million higher than last quarter. Cash flow this quarter reflects a $1 million decrease in working capital as an increase in receivables driven by the higher level of sales this quarter was more than offset by reduced raw material inventories. Our cash flow also reflects the $4 million of share repurchases that I mentioned earlier.

Before I close, I'd like to update you on two key initiatives. The first is our business in the Asia-Pacific region. Because it's such an important part of our Business, we continue to build our strong presence in that region. Our new Asia Pacific technology center is operational and we have begun performing customer demos and product development activities in support of our regional customer's there.

Second, the move of our Data Storage business to Singapore is nearly complete. We're fully staffed and manufacturing capabilities are in place.

Third, we're in the midst of establishing advanced copper slurry development capability in Taiwan.

Finally, in a greatest immediate impact to our business, during our March quarter we will transition from a distributor to a direct sales model in Taiwan. Given the scale and importance of our business in Taiwan, we announced these plans last August, well ahead of the April 1 effective date, in order to allow sufficient time to plan for this important change. And since then, we have been implementing our transition plan and we expect a smooth transition. As we have discussed before, this transition will adversely impact financial results in our March quarter. During the transition period, our distributor will sell it's remaining inventory of our products to our customers and we will begin building inventory needed to serve these customers directly. We anticipate the resulting short-term interruption in our sales will reduce our March quarter revenue by approximately $11 million, and will reduce EPS by approximately $0.17. We expect these transition effects to be concentrated in our March quarter, and therefore they should not materially impact results for the June quarter.

I'd also like to update on our Engineered Surface Finishes Initiative or ESF. We believe this initiative can provide an attractive growth vehicle to complement our core CMP business while being less subject to semiconductor industry cycles. Through ESF, we intend to leverage our expertise and CMP solutions for the semiconductor industry into other high-performance polishing applications. These could include optics, optoelectronics, compound semi-conductors, health care, displays, and precision metal finishing.

Toward this end, in early October we purchased the assets of Surface Finishes company, a leader in precision machining and polishing techniques at the sub-nanometer level. We have been integrating the commercial polishing capabilities of Surface Finishes with our internal development efforts and we're excited about the visibility we're gaining into high performance polishing markets that we did not previously serve.

I'll conclude my remarks with a comment on our outlook for next quarter's revenue. As you know, we don't provide guidance on revenue, but as we look at business activity through the month-to-date in January, orders we expected to ship by the end of the month are running somewhat below the average run rate for the previous quarter. During our first fiscal quarter, we saw successive revenue increases month-by-month from October through December, with very strong sales in December. Business activity in January continues strong but somewhat below the level we saw last quarter. However, I would caution that the first four weeks of orders out of a quarter represent a limited window on quarterly results.

Now, let's open the call to questions.

[OPERATOR INSTRUCTIONS] Your first question comes from Suresh Balaraman with ThinkEquity.

Good morning, Suresh, go ahead.

Good. Thanks Barbara. A couple of questions. In terms of pricing, I'm assuming that you go through these annual contract renegotiations. Have they already been gone through -- have you gone through them in the December quarter, or do you expect some major changes in Q1? Q1 as in calendar Q1.

The second question is, the first three weeks, was there any effect of the distribution agreement marketing playing a factor in these first three weeks being somewhat lower than your average for the last quarter?

Suresh, I'm going to ask Bill Johnson to answer the second questions first, and then I will come back to your question on pricing, second.

Suresh, with respect to the transition to direct sales in Taiwan, we don't think we have seen any impact of that yet. We would expect to see that in the remainder of our second quarter, February and March.

Suresh, I think on the first question around pricing, in previous quarters we've talked about the long-term supply arrangements -- or agreements that we have signed with some significant customers in the Asia-Pacific region of sale. We wouldn't anticipate any significant or material contractual price negotiations in the coming quarter.

Thanks, Suresh. Next question, please.

Thank you.

Your next question comes from Jay Harris with Goldsmith and Harris.

Good morning, gentlemen. Congratulations on a great quarter. The -- the expenses that you mentioned on the dielectric problem, can you quantify that for us? And can you-- can you estimate when things will return to normal?

Hi, Jay, this is Bill Noglows. Sorry there's two Bills here. The problem that we encountered is not unusual. We have had these kinds of problems before. In some cases, what happens to us is a customer is using an existing product and introduces either a new material or changes their process in a way where they become far more discerning on the quality of the slurry and the performance of a slurry and we have to go back and re-engineer a solution. In this case, we had a very subtle change in one of our key raw materials that snuck past all of our metrology and analytical testing and it got to the customer and we responded very quickly to contain that material, find the root cause and engineer solutions to address the root cause. I'd ask to Bill to quantify -- I think you asked me to quantify the outcome of that. I'll ask Bill to give you the detail on that one.

I would tell you that, in our industry -- some of my formal comments I made at the start -- I think as this technology evolves and continues to become more and more complex, the challenges it places on the CMP industry will continue to grow. And we will-- we would hope not to see these kind of problems, but I can't guarantee they won't occur again in the future.

Jay, it's Bill Johnson. With respect to the financial impact, we think this had an adverse effect on our gross margin this quarter of approximately 1%. And I think we may have seen a little impact in the prior quarter but much smaller.

Is it going to carry forward into the March quarter at all?

I think we feel like we are adequately and appropriate reserved for this now, based on the cost we incorporated in our first quarter.

Okay. Thank you.

Thank you, Jay. Next question, please.

Your next question comes from Robert Maire with Needham & Company.

Good morning, Robert. Go ahead, please.

Yes, the issue that you had with the slurry, could you tell us a little bit -- could you give us a little bit more detail as to how long the problem lasted before it was resolved? And what the resolution was? And what things are being done in terms of tightening up, perhaps quality or metrology, whatever -- ? As you say, these things are only getting more complex -- maybe if you could give us a little bit more detail?

Well, I'll give you as much detail as we're prepared to give without disclosing any competitive information that we think is proprietary to our slurries and to our Company. Again, we had a -- what I would describe as a very subtle change in one of our key raw materials, a change that none of our analytical tools could see or could discern before the slurry was shipped to our customers. Most, if not all cases, our customer's analytical tools and metrology did not see the problem until it got to the wafer. Our typical response in a situation like this is just to completely refill the supply chain with new material that is tested and retested. In many cases, we bring in additional testing and analytical horsepower just to make certain that what we ship is going to meet the customer's expectations and requirements.

As far as solutions, we quickly respond to a situation like this where we build an A Team or a Swat Team and we try to identify root cause and when we identify root cause, we put in engineering solutions to intrinsically eliminate the problem, and do all we can to make sure that it won't occur again.

What sort of concessions, monetary or otherwise, did you have to give the customer to make up for this?

Other than replacing inventory and doing what we do as a good supplier, none.

Okay. And in terms of their competitive positioning there, has there been any change in the customer in terms of looking at other competing products or -- or are they happy with the response? Was this a month-long thing, a two-week long thing? A two month thing?

Let's say it was a little longer than a month and shorter than three months. Let me be clear, this was an excursion or a problem that was calling our ILD or dielectric polishing product line, which tends to be the oldest and perhaps most competitive of all CMP products in the world today. We would hope that we don't lose any business as a result of this problem, but I can't guarantee that. We did all we could do and we have gotten, in many cases, some very satisfactory comments back from our customers about how we executed and how we performed in this situation. I want to say it again, this is not the first time this has happened in our business, and hopefully it will be the last. But we do what we do in every case. When we have a problem with the customer, we respond in a way like it's our problem, and that's where we are.

Okay. Thank you.

Thanks, Robert.

Thank you, Robert. Next question, please.

Your next question comes from Dmitry Silversteyn with Longbow Research.

Thanks, Dmitry. Go ahead.

Good morning, Barbara. If I may, a couple of questions. First of all, can you give us an update on your efforts in the barrier slurry market as well as the couple of new slurries that you have launched at the end of last year and the beginning of this year? And whether or not you are getting any traction with the new slurry products and whether it's delivering what you were hoping for in terms of better margin and maybe a little bit better competitive position?

Dmitry, it's Bill Johnson. Let me comment on both of those areas. The first one you mentioned is the barrier slurry, and this is for -- mainly aimed at 65-nanometer applications, and as such, it's still in evaluation qualification and really ahead of any significant commercial ramp by customers. But we're excited about this product because it addresses, in a pretty effective way, the complexity that Bill Noglows talked about in many of his comments. As we find that technology advances, customer requirements become more specialized. And so with respect to this barrier product, we have created what we consider a tunable platform. We build a robust product platform that's intended to operate over a relatively wide range of customer operating conditions. And based on our tweaking two or three or four key trace amount of chemical additives, we can dial in the kind of specific performance that our customers need. So we're early in that -- we have talked about that as developmental product, and it is again, applicable to 65 nanometers, so we're in the early stages of that. But we're excited about the capabilities of the product to be able to address some of the complexity that Bill talked about.

Okay.

The second product that I think is noteworthy is a new dielectric product which uses a different abrasive than our legacy products. Our legacy dielectric products are more mature applications, are heavily loaded with abrasives. And in the chemical mechanical planarization process, they rely quite a bit on mechanical abrasion and less -- they are less chemically intensive. We have a new product that we've announced the last couple of quarters, Ideal 6600 -- I believe is the number, that relies on a different abrasive particle and a fraction of the abrasive content. It's much more chemically active and less reliant on abrasives. We think is a great potential solution for some dielectric applications. The challenge is that it's not -- it's a new platform. It's not a drop-in product. It takes a qualification and some work to apply it. So it takes work on our side and work on the customer's side. This is relatively new commercial product for us, and we have a number of customers that are evaluating and looking at that and we'll report more as we commercialize that further, going forward.

And then just to follow-up, if I may. You talked about the fragmentation of the market as you move from 90 to 65 to 45. Given that products are becoming more customer specific and application specific, it is reasonable to expect that pricing competition that you are experiencing in -- in the current copper line up may diminish as -- really you are only working with one manufacturing and one customer? Or are we likely to see pricing concessions as a on-going part of this industry?

Dmitry, I think it's a challenge for anyone that competes in CMP technology today to serve this market and serve the future market as we described it this morning and recover their R&D costs along the way. As we talked -- the development we do today -- and we're working in 45-nanometer and 22-nanometer, we're working on materials like ruthenium and [GST], some of those -- some of those materials may not see the light of day in the industry for another three, four, and five years. And -- and I think the ability to fund that kind of research and -- and spend the money that you need to spend to develop one of these product platforms and ultimately the manufacturing and supply chain process to deliver it -- we have to get paid for that. So I would imagine and I could certainly speculate that at some point, the fragmentation is going to lead to opportunities in these -- let's call them niche applications, to find a way to price to recover the value that the CMP industry brings to the semi-conductor industry.

Fair enough. Thank you very much.

Thanks, Dmitry. Next question, please.

Your next question comes from Steve O'Rourke with Deutsche Bank.

Good morning. Thanks for taking my call. Bill, now that 2005 is complete -- that's calendar 2005, I think revenue overall on the year was down about 5% over 2004. Wafer starts probably grew about 8%, maybe better in '05, maybe more at the leading edge. Understanding there is a lot of variables here, can you help us understand the dynamic that leads to an revenue decline in an increasing wafer starts environment? And how should we be looking at Cabot in 2006 with respect to these same factors?

Steve, it's Bill Johnson. Let me address the revenue -- the year-on-year revenue impact that you described and then we can talk about the broader issues for 2006. In 2005 -- going from 2005 -- sorry 2004 to 2005, we had a sequential revenue reduction year-on-year. There are three main factors that cause that. Recall that back in July of 2004, we announced we had lost a significant customer for 130-nanometer copper application, and we saw the benefit -- or the impact of that in the September quarters of -- of last year.

In addition, we saw some significant pricing pressure throughout the year. And you recall, that quarter-by-quarter we reported average selling prices and how that level changed, and there were three successive quarters where we saw 2 to 2.5% sequential ASP erosion, quarter-on-quarter, through 2005. So the pricing pressure was one factor on our sequential revenue reduction.

The third thing was, recall that after ending our fiscal 2004 very very strong, we went into fiscal 2005 and the foundries went from -- in excess of 100% utilization to 70 or 80%. They really put the brakes on. And we saw significant impact in our business in our last December quarter and also into the March quarter last year, and then we saw saw it sort of bottom out in the June quarter of last year.

So those three factors; the lost business at 130-nanometer, the pricing pressure that we talked about that was most intense around the copper product line, and then that turn down by the foundries that mostly impacted our tungsten and dielectric slurries; those were the three things that drove that sequential -- or that year-on-year revenue reduction.

With respect to 2006, I think if you look at what has been happening -- our September quarter was strong as we reported last quarter. Our December quarter built strength on that strength. And as we look at the industry, our customers appear to be running at high-capacity utilizations and the visibility over the next couple of quarters by industry experts is one of a relatively healthy industry. We have talked about -- next quarter we expect this adverse effect of our -- our going a direct sales model in Taiwan, so we'll see a significant impact next quarter, but fundamentally, the industry looks relatively strong as we look at 2006.

Okay. And then, along those lines, could you give us sort of an update on how you view the competitive scenario now going in 2006? There has obviously been a lot of discussion about that over the last year or two.

Well, it's still very competitive, Steve. Copper continues to be the battle ground, although we're beginning to see some of the new materials that I spoke of earlier -- we're beginning to see some of those materials finding their way into 45-nanometer and then some 22-nanometer work that we're doing in, let's call it predevelopment work.

I said it earlier, I'll say it again, I think and we believe that over time, it's going to be difficult to compete in the CMP space unless you have significant scale to be able to afford the infrastructure and the technical resources that our customers demand going forward. I think there's a lot of people in the world today that claim to be in CMP and claim to have -- be working with customers in CMP, but at the end of the day, if you don't have real revenue and you are not shipping gallons, you are not there. And I also think that there is a level of revenue that you need to sustain to be capable of -- of being in this business for the long term. And I don't know what that number is, but I think it's more than $50 million, maybe more than $70 million. So I think going forward, it's going to be difficult for any one competitor, if they are focusing on a sing niche -- one of these small niches going forward at a single customer, I think that's a difficult business model to sustain.

Thank you. Can you speak to any POR decisions that may have been made in the quarter?

Steve, it's Bill Johnson. Let me talk about our approach to disclosing POR's.

Okay.

About a year and a half ago, we started a process by which we would call out on quarterly basis our POR position and different technology nodes and this is really mainly for copper and barrier. And the intent was to try to communicate our competitive position on commercial technologies but also as well as communicate the adoption of our technology. Admittedly, it was an imperfect measure and I think we have been a little frustrated by it since we adopted it, but we have struck with it for about a year and a half. There are confidentiality arrangements we have that prevent us from naming specific customers and from a competitive standpoint, we have to be circumspect about that kind of information we give out.

And I think over time, we've just found this has been more confusing than clarifying as we give out PORs. And in fact, sometimes I think it can be misunderstood. And I'll give you an example of that. As we've talked about our POR position from 130-nanometer to 90-nanometer to 65-nanometer, there's a decreasing number of POR's that we have discussed. That can actually represent an increasing competitive position because there are fewer players as you go from one node to an advancing node. And we can understand that, and the more astute investors and analysts can, but sometimes people misunderstand and they see a decreasing number of POR's and they interpret that as a weakening commercial position. So I think sometimes that POR approach as been misunderstood. And again, because I think it's created more confusion, we have decided to discontinue that at this point. I would suffice it to say that if you look across our business, there were neither material gains for losses of business this quarter. But I think we'll stop quoting PORs about this time.

Okay. Thank you.

Thank you.

Thanks, Steve. Next question, please.

Your next question comes from Tim Summers with Stanford Financial Group.

Good morning, Tim. Go ahead.

Hi, good morning. I'm sorry, another POR question. As you look at the five or six big guys running copper chip manufacturing, have all of the PORs at 65 nanometers already been selected?

I think the answer to that question is no. And that's -- that battle to win that 65-nanometer is on going and will continue.

As we have transitioned from 90 to 65 over the past couple of years, have you seen the level of PORs switching during the qualification or early manufacturing -- has that increased or are customers actually more reluctant to switch vendors?

Has it increased or more reluctant to switch vendors? It depend, I think it depends on where you are in the development cycle. From the start of development all the way through ramp, I think it depends on maturity of the technology and the amount of fort that has gone to develop it. We know of cases where the material has made it all the way to HVM and failed. And we know of cases where it has been up to, I said it earlier, 15 different CMP suppliers at the start of a product development cycle. I think it's still a variable in the process, Tim, and it's no real assurance until you are in HVM and you're supply chain is embedded and that you can demonstrate that you can consistently and reliably deliver the solution day in day out, gallon by gallon.

Okay. Thank you.

Thank you. Next question, please.

Your next question comes from Chris Kapsch with Black Diamond Research.

Good morning, Chris. Go ahead.

Good morning. I had a follow-up on the competitive dynamic. And you described, Bill, the copper slurry area as being the battle ground. But I was wondering if you could also characterize what is going on in tungsten. Do you see any -- I guess, traditionally, you've had a dominant position there. I'm wondering if any competitors are making inroads there? And what the pricing dynamic is on the tungsten slurries?

Sure. We can answer that question, Chris. First of all, I'd say memory continues to be on fire, and there's a lot of tungsten used in memory, which we're happy about. We do and have enjoyed a very strong position in tungsten CMP. We have some very important intellectual property. But I think beyond that, we have a very robust product that is very predictable, it's very reliable, it's very consistent, and it brings a really -- a really good cost of ownership to our customers that I think locks us in a very strong position going forward.

We always see -- we have -- always see and have always seen competitors trying to break into our space there. But I guess the way I would answer the question is that we continue to enjoy a very strong position in tungsten. We continue to develop and innovate new products on tungsten and bring new products to the market that are very focused on very specific customer needs. We have two specific platforms in tungsten, one is a very tunable selective tungsten CMP process and another is a tunable non-selective tungsten CMP process. So we think we have it covered both today and going forward.

Okay. Thank you for those comments. And a different subject regarding the comments about fragmentation of the projects and applications going forward -- and to me it sounds like those -- to solve those -- address those customer issues and problems, the products would tend to be customized rather than made to stock. So to me that sounds like a little bit more of a challenging mix of products from a manufacturing standpoint. Does that effect your ability to maintain gross margins? And then more specifically are you maintaining your gross margin guidance range at 48%?

Our guidance remains the same, Chris. As we talked in the past, we work on both ends of the gross margin calculation. On the numerator, we're always looking to introduce and innovate and create new products that we would hope we would be able to charge higher prices for given their performance and value to our customers. And on the other side, as we have talked in the past, we have been working very hard on our Six Sigma projects and our design for Six Sigma initiatives to drive cost and drive efficiency into our manufacturing operations.

I think our ability to -- in the old days, years ago, people used to talk about things like mass customization and things like that. I think our process technology lends itself to producing small, tailored batches for customers. We actually feel like we're well-positioned and in a very strong spot to take advantage of the fragmentation going forward. We believe the three strategies we pursued; getting closer to our customers, operational excellence and technology leadership are all very consistent with where we see the market going.

Okay. Thanks.

Thanks, Chris. And Candace, we'll take one more question.

Your next question comes from Murali Abburi with J.P. Morgan.

Good morning, Murali. Go ahead.

This is actually [Chris] for Murali. I had a couple of questions. One is, do you expect ASP trends in '06 to follow '05, where you're generally a slow decline, it looks like?

The -- if you look at historically -- over long history, Chris, our ASPs from 2000 to 2004 actually increased year by year and then they flattened out from 2003 to 2004, I believe, and then went backwards a little bit in 20005. 2005, we made some pricing adjustments, particularly in the copper area, where we felt like we needed to do that in conjunction with maintaining a market position. Going forward, our expectation is that pricing continues to be competitive.

I think the competitive dynamic on pricing is different in each application area. In copper it's -- pricing competition from competitors that are trying to gain a foothold in the industry. In dielectric, and especially the more mature technologies, pricing competition is more around the cost of the product, and as Bill mentioned, it's quite competitive. In tungsten, where we have very strong technology and very strong intellectual property, we have price competition, but I would say it's less intense than any of the other areas.

Our expectation going forward is continued pricing pressure, I think that's -- that's a fact of life in the semiconductor industry. And as Bill mentioned, we'll work to offset that by gaining productivity improvements in our operations as well as introducing new and higher margin products.

All right. Kind of along those same lines, you discussed some lower fixed manufacturing costs, is there something we should expect to continue? Or is this a one-time shot or -- ?

Last year we gained about a 9% productivity improvement year-over-year in fiscal 2005. And our expectation is, we have continued opportunities to capture more productivity improvement in 2006. But- - but I would caution that we got the low-hanging fruit first so there's still opportunities but probably not at the level that we saw in 2005. Specifically with respect to fixed manufacturing cost that we talked about this quarter, there was a phenomenon last quarter, in our fourth fiscal quarter, where we saw fixed manufacturing costs spike up. And we talked about that time that we expected that those would come back down and they did. It was sort of a fourth quarter phenomenon around a couple of areas including some year-end maintenance -- that maintenance expenses went up in our fourth fiscal quarter, and back down in our first quarter, and a couple of areas as well.

So I think we'll -- our approach will be to manage manufacturing costs consistent with the guidance on gross margin that we have put out and continues to be our guidance; 48% of revenue, plus or minus 2%. But we have a strong focus and attention on productivity improvements and cost management, particularly in the manufacturing area, and I think that will continue in the future.

I had one more question, do you actually see any seasonality in your business in general? Or is it just -- ? Do you actually contribute anything to that?

Chris, this is Bill Noglows. I think this quarter -- or the quarter we just reported, we expected to see a bit of a softening in December, which would have been our normal trend in seasonality, which we did not see. In fact, as Bill described, we saw strengthening all the way through the quarter and therefore we had a very strong December. We see some seasonality around the Chinese New Year, which we're coming into as we speak. We -- we think and we maybe saw some of the build-up pre-Chinese New Year in the previous -- or the quarter we just reported this morning, but we'll wait and see what happens.

If I may ask one more question on new stuff. We've talked about polysilicon CMP and I wasn't sure when these type of applications really hit mainstream. And what your position is there? Because it seems like you guys are good at getting in initially due to your focus on the CMP industry.

Well, I think-- that's a good question, Chris. Two years ago we formed, what we call here at Cabot Microelectronics, our Enabling Technology Group, which is a group that focuses on future technologies, and looks way down the technology road maps of our customer in the industry. We see materials like ruthenium for instance, which is thought to be a material that might be substituted for the existing barrier material which is tantalum. We started working on ruthenium up to three years ago. We have products on the shelf ready to go, if and when ruthenium shows up a barrier material.

There's a new material called GST which is used in [T-Ram], which is phase change Ram. Same story -- We have worked and developed solutions for GST if that material was to ever make it's way into the semiconductor space. Things like poly we see at 90-nanometer. We've had wins at 90-nanometer. A very significant win, actually, with poly at 90-nanometer.

So I think that's the nature of our Company, that's what we're trying to do. And we're trying to all we can to get ahead of the industry and get ourselves way down the road map, so when our customers come us to with a new material or a new application that we have a material that we can pull off the shelf that we have validated and we have already worked with.

Thanks a lot, guys.

You're welcome, Chris.

Take you very much for your time this morning and your interest in Cabot Microelectronics. We look forward to the next opportunity that we have to speak with you. And good-bye.

This concludes today's Cabot Microelectronics first quarter earnings conference call. [OPERATOR INSTRUCTIONS]