CMC Materials, Inc. (CCMP) 2006 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Cabot Microelectronics 2006 second quarter earnings conference call. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to Ms. Barbara Ven Horst, Director, Investor Relations.

Thank you. Good morning. This is 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 our results for our second quarter of fiscal 2006 which ended March 31st. 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 archived for four 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 Form 10-Q for the first quarter of fiscal 2006 ended December 31st, 2005 and Form 10-K for the fiscal year ended September 30th, 2005. We assume no obligation to update any of this forward-looking information. And now, I will turn the call over to Bill Noglows.

Thanks, Barbara. Good morning everyone. This morning we reported results for our second fiscal quarter, which we believe reflected continued strength in the semiconductor industry that we experienced during our prior two fiscal quarters. However, as expected, our financial results this quarter include the significant impact of our transition to selling directly to customers in Taiwan rather than through a distributor.

As we anticipated, during the transition period, our distributor sold its remaining inventory of our products to customers and we built inventory needed to serve these customers directly, with a resulting short-term interruption in our sales during the second quarter.

We first announced our plans to transition to direct sales in Taiwan last August and we have discussed this transition and its anticipated effects on our second quarter financial results in our last two earnings calls. The impact of this important initiative should come as no surprise. We believe that the strategic benefits of dealing directly with customers rather than through third parties are compelling, and this transition is consistent with our strategic initiative of getting closer to our customers.

I'm happy to say our team executed this transition smoothly and at this stage, the change appears to have been seamless to our customers, which is just the way we intended it. As we have discussed in the past, over the last several years, we have converted from distributor sales to direct sales in a number of different geographies. Our last significant transition was in June of 2003 when we began selling directly to customers in Europe and Southeast Asia.

We made our change in -- what made our change so important in Taiwan was the sheer scale of our business that we do there. Given that last year, approximately 35% of our sales were to our distributor in Taiwan and China, and since the vast majority of these sales were for customers in Taiwan, it was imperative that we execute this change flawlessly. And again, early indications are that it has gone very well.

Our revenue this quarter was $67.4 million, and we believe this was between $10 and $11 million lower than it would have them about the impact of the direct sales transition. Even without this effect, we did see some softening of demand versus the prior quarter. This is consistent with Bill Johnson's comments during our last earnings call when we noted that orders appeared somewhat lower to date in January, after a December quarter that ended very strong in terms of revenue and following two consecutive quarters of revenue growth in excess of 10%. This slight softening may also reflect normal seasonality effects within the semiconductor industry.

I want to be clear that the sequential reduction in revenue that we experienced during our second fiscal quarter was due to the direct sales transition and possibly some seasonality or modest softening of demand. It did not relate to any material loss of business in any of our application areas.

[Putting] aside sales to customers in Taiwan to eliminate the effects of the direct sales transition there and taking a somewhat longer view, we see that year-over-year our sales were up nearly 22%, with still higher growth rates in a number of important geographies in the Asia-Pacific region. For example, our sales in China this quarter were up almost 100% versus the same quarter last year. Our sales to customers in Korea were up almost 50% and sales into Southeast Asia were up around 25%.

We think our financial results for the second fiscal quarter reflect overall healthy conditions in the semiconductor industry. And demand appears generally strong and chip inventory levels have trended within a range that industry experts would describe as normal, although recently some have expressed concerns about rising chip inventories in certain areas. A number of experts are forecasting a solid second half of the calendar year and expectations for the foundries in Asia, which are important customers for us, are generally upbeat. Visibility beyond that timeframe is more limited.

We have typically characterized demand for our products as driven by wafer starts at technologies of 250 nanometer and smaller because this is the portion of the semiconductor industry that uses CMP technology. Currently, this represents slightly more than half of the overall semiconductor outlook. Since data on wafer starts by technology node is reported on a three month lag, we do not find this metric particularly useful for forecasting.

However, another metric to which we are beginning to pay closer attention because we think it represents a three to six month leading indicator for demand for CMP materials, is silicon wafers shipments to the fabs. Based on actual and forecast wafer shipments, it appears that demand for CMP materials should be steady in the June quarter and growing in the September and December quarters. So overall we see a pretty healthy near-term CMP industry outlook.

As I have often discussed on these calls, we are executing on two parallel growth strategies for Cabot Microelectronics. The first strategy is to continue to strengthen and grow our CMP business, including slurries and pads. This broad strategy occupies most of our corporate [mind] share.

In parallel with this effort, we are pursuing a second growth strategy through our engineered surface finishes initiative or ESF, through which we are leveraging our expertise in chemical mechanical polishing solutions for semiconductors into other demanding polishing applications beyond this industry.

We are excited about our current position as well as our future prospects in our core CMP business. We strive to find innovative ways to meet our customers' needs and we believe we achieved a number of accomplishments this quarter, which I will mention briefly here and we can discuss more during the Q&A session.

During the quarter, we continued to work to further improve our product line and supply position in slurries for all applications. We recently commercialized two new products for tungsten polishing and are near final on a third. And we earned significant new wins for tungsten application with two big memory players.

We have begun to work with a number of customers on supply arrangements that could combine provide a combination of our several of our products to meet the multiple needs of our customers. Through this approach, we think we can leverage our broad and deep portfolio of CMP products and services to bring greater value to our customers.

We increased the number of customers to whom we are sampling our polishing pads based on encouraging feedback from the initial group of customers who have helped us evaluate them. We believe that two or three customers are close to selecting our pads for their commercial polishing applications.

During our second fiscal quarter, we also continued preparations for the opening of our Taiwan technical service center. This new facility is designed to provide copper slurry formulation capability for our customers in Taiwan, acting as an extension of our Asia-Pacific technology center in Japan. And finally, we won a number of supplier awards and distinctions from several important customers. We believe these are further evidence that our ongoing efforts to work more closely with our customers are making tangible progress.

Clearly, there's a lot of energy around our core CMP business in both slurries and pads. We are excited about the capabilities we bring to our customers, our robust product portfolio and product development pipeline, our substantial technology infrastructure and technical team and our unmatched manufacturing and supply chain infrastructure. We think these capabilities and our continued execution of our strategies uniquely position us to be able to meet our customer requirements in the years to come.

We're also making progress on our second growth strategy through our ESF initiative. We are focused on precision polishing applications in optics, optoelectronics, compound semiconductors, health care, displays, and precision metal finishing. And we are excited by the opportunities we're seeing there. We expect to grow this business through a combination of both internal organic technical development and acquisitions of business positions, technologies, and channels to market.

We continue to leverage our recent acquisition of the assets of Surface Finishes Company, which is providing greater visibility into high performance polishing markets that we had not previously served. We are also continuing to look for other interesting acquisition opportunities that can complement our internal efforts. We believe that acquisitions to fulfill our ESF growth initiative as well as to grow our core CMP business can be productive uses of capital to which we have access by virtue of our strong balance sheet and business model.

Our approach is to manage our business for the long-term. Within our core CMP business, developing relationships with customers and building their trust and confidence while developing new products and qualifying these with customers takes time. Often, it may be difficult to see measurable progress month-to-month, quarter to quarter or even over several quarters. Despite this, we believe we have the discipline and the resources to take the steps necessary to strengthen our position for the long-term.

Let me offer three recent examples in our core CMP business where we have incurred costs in the near-term in exchange for long-term benefits. First is our direct sales transition in Taiwan. As we have discussed, we anticipate clear strategic and economic benefits of working directly with our customers that far outweigh the short-term effects on our second quarter financial results.

A second example is moving our data storage business to Singapore. We have built business capability in Singapore to better serve the data storage industry and position ourselves as the preferred supplier to a number of important customers in the region. This should provide attractive long-term benefits relative to the short-term incremental costs.

The third example is building research and development capability closer to our customers to our Asia-Pacific technology center in Japan and our new Taiwan technical center. Research and development in the CMP industry requires significant investment in people and equipment, which can raise costs in the near-term. But as these investments become productive and integrated with the rest of our global activities, we believe there will be substantial long-term benefits.

Finally, beyond the core CMP business, our ESF growth initiative is another example of near-term investing for long-term investment. Developing a new business is challenging and takes time and patience, but we're willing to invest in the commercial and technical resources and capabilities we need to grow our engineered surface finishes business, because we believe in the long-term potential value of this initiative. Now, I'll turn the call over to Bill Johnson to review our business results and then we'll take your questions.

Thanks, Bill. Our revenue for the second quarter of fiscal 2006 was $67.4 million. Bill discussed at length our second quarter direct sales transition in Taiwan, which we believe decreased our revenue this quarter by between $10 and $11 million. The impact of this transition on the quarter makes a comparison of financial results for this period with other periods more difficult.

For example, revenue this quarter was down by $14 million or 17.3% versus the prior quarter. But it was only down by around 4% absent the impact of the direct sales transition. We believe this 4% sequential reduction may reflect some normal seasonality and a modest correction from our very strong first fiscal quarter.

Year-over-year, our revenue was up by 4.5% from $64.5 million in the same quarter last year, even including the impact of the direct sales transition. Absent this effect, our revenue was up around 21% versus the same quarter last year. Primarily due to the effects of the direct sales transition, all of our CMP slurry products recorded sequential revenue reductions.

Another indication of the difficulty in comparing sequential quarters, given the impact of the direct sales transition, is that revenue from our slurries for copper polishing applications, including barrier, decreased by 32.6% sequentially this quarter. The direct sales transition obviously had a huge impact on our copper revenue.

Sales of our slurries products in Taiwan are heavily foundry oriented and the big reduction in copper sales this quarter reflects the significant amount of copper slurry we sell for advanced logic applications in Taiwan. Consequently, copper slurries represented only 16.3% of our total revenue for the quarter.

I want to reiterate Bill's earlier comments, specifically with respect to copper slurries. The sequential reduction in our revenue from copper slurries was due to the direct sales transition. We did not lose any material copper business this quarter.

Our average selling price for the quarter decreased by 2.5% compared with last quarter. Selected price reductions accounted for around two-thirds of this total impact and a lower-priced product mix represented around one-third of the effect.

Gross profit this quarter represented 46.8% of revenue, down a bit from 47.2% last quarter and up from 46.2% in the year ago quarter. Gross profit as a percentage of revenue decreased marginally this quarter due to lower pricing, partially offset by benefits of a higher margin mix of products.

Now, I'll turn to operating expenses, which include research, development, and technical, selling and marketing, and general and administrative costs. Operating expenses of $24.6 million decreased by $0.5 million sequentially and were $3.2 million higher than in the same quarter last year. The sequential decrease was primarily due to lower costs for cleanroom materials for our research and development activities along with lower professional fees, partially offset by higher travel cause.

A year-over-year a comparison of operating expenses is difficult to make due to the effect of accounting rules that required us to begin expensing stock options this fiscal year. Mainly due to this non-cash expense, operating expenses increased by 15.1% year-over-year. Pre-tax stock option expense was $2.5 million this quarter of which $2.3 million was classified in operating expenses.

Net income for the quarter was $5.4 million, down from $9.6 million last quarter mainly due to the effects of the direct sales transition. Net income this quarter was only approximately $700,000 lower than the $6.1 million we reported in the same quarter last year, even including the significant impact of the direct sales transition and the new $1.7 million of after-tax effect of stock option expensing.

The weighted average number of shares outstanding on a diluted basis this quarter was 24.2 million. This is slightly lower than in the prior quarter due to $4 million of stock purchases under our share repurchase program. Diluted earnings per share were $0.22 this quarter including $0.07 of stock option expense. EPS was down from $0.39 in the previous quarter.

During our last earnings conference call, we estimated that EPS in the second quarter would be reduced by around $0.17 per share due to effects of the direct sales transition. Our $0.22 in earnings per share this quarter includes this $0.17 adverse transitional effect, so except for this planned impact on our EPS -- except for this planned impact, our EPS this quarter was consistent with our performance last quarter, despite the somewhat softer revenue we mentioned earlier.

In the same quarter a year ago, EPS was $0.25 or $0.03 higher than this quarter. Remember that the year ago quarter did not include the $0.17 effect of the direct sales transition or the $0.07 of stock option expense we recorded this quarter.

Turning now to cash and balance sheet related items, capital additions for the quarter were $5.3 million. This included investments to commercialize new copper and pad products, tools and equipment for our cleanrooms and to support our engineered surface finishes growth initiative, investment in our new Taiwan technical service center, and cost associated with moving our data storage business to Singapore. Depreciation and amortization expense was $5 million for the quarter.

We ended the quarter with $173.7 million in cash and short-term investments, $5 million lower than last quarter. Cash flow this quarter reflects a $7.7 million increase in working capital, mainly due to higher inventories required to support direct sales in Taiwan. Our cash flow also reflects the $4 million of share repurchases I mentioned earlier.

I'll conclude my remarks with a few comments on our near-term outlook. Our guidance on gross margin for our third fiscal quarter remains at 48% of revenue plus or minus two percentage points. This has been our guidance since our April earnings conference call in 2004.

For the last five quarters, we have operated in the lower half of this guidance range due in part to pricing pressure, partially from competitive activity and partially from pricing actions we have initiated as we price our products to maintain or grow our supply position within the industry. And we expect this pricing pressure to continue.

In the recent past, we have achieved productivity improvements which have helped offset the effects of price reductions on gross margin. Although we have likely captured much of the low hanging fruit in this area, we expect to achieve further productivity improvements in the future. We will also continue to introduce new higher margin product that can help offset pricing pressure.

Beyond this pricing pressure on margin, we have described our efforts to grow our Company through our ESF initiative, including through acquisitions which will take us into new polishing applications and business models that may not support gross margins at our historical levels. We have also described our interest in growing our core CMP, business including through acquisitions. Our focus is on top line as well as bottom-line growth. And based on the choices we make, we may achieve this at the expense of some gross margin when expressed as a percentage of revenue.

As you know, we don't provide guidance on revenue, but as we look at business activity through the month to date in April, we see somewhat softer demand than we saw in January and February of this year in terms of orders we expect to ship by the end of the month. Since March was a key transitional month our change to direct sales in Taiwan, March is not appropriate comparator.

The softness that we're seeing in April may reflect some residual effects of our direct sales transition. Obviously, we will closely monitor sales activity through the rest of the period. As we caution on every earnings car, the first four weeks of orders out of a quarter represent only a limited window on full quarter results. Now, let's open the call to questions.

(OPERATOR INSTRUCTIONS). Robert Maire, Needham & Co.

Yes, there's a fair amount of speculation and discussion about copper being adopted by memory manufacturers. Can you tell us what your experience has been or what you're seeing so far with memory companies and potential uptick of copper business there?

Robert, this is Bill Noglows. As I think (technical difficulty) excuse me, we have a little bit of interference on the phone here. As I think you are aware, we have a significant position in the memory market and we're close to all of the leading memory manufacturers in the world today. There are clearly a number of them that are interested in copper and are looking at copper and that are in the -- I would call it predevelopment phase of working with copper, but we haven't seen a significant inroad in copper in the memory industry as yet.

We believe it may show up at some very small feature sizes around sub 20 nanometer feature sizes, and that is -- I'm sorry -- not sub 20 -- around 45 nanometer feature sizes. But as yet, we do see any material copper utilization in the memory side.

Okay. And second question is in terms of pricing, will you -- you discussed a little bit in your prepared remarks regarding pricing pressure. How do you see pricing overall laying out over the remainder of the year? I realize it's difficult to predict, but do you think we've been through a fair amount of pricing pressure here and that will reduce? Or do you think we continue on some sort of a linear path with pricing pressure or what's your best take on that?

Robert, it's Bill Johnson. With respect to the 2.5% pricing or ASP reduction we had this quarter, a portion of that we attributed to product mix or mix of products, mix of customers. And in fact, a good portion of that was related to the direct sales transition in Taiwan. The $10 or $11 million that we took out of revenue had an impact on overall ASP, so that accounted for about a third of that 2.5%.

If you look at last year, in 2005, we had three quarters I think where we have around to 2.5, 2.2 to 2.5% ASP reduction and I think in one quarter we were roughly flat. I wouldn't want to put any specific numbers out there, but I think we've been pretty open that we expect pricing competition to continue. The pricing dynamic is a bit different each product area. Copper is pretty competitive because that's where a lot of growth is and there are some new players trying to vie for positions, so we see some competition there.

Tungsten seemed to be less competition. We have very strong technology there, fewer competitors, and less pricing competition. And then in dielectric, particularly in the more mature portion of interlayered dielectric part of the business, that's mature. It's quite price competitive and really competitive on cost. So the dynamic differs by application areas, but I think it's safe to say that we would see some continued pricing pressure and pressure on ASPs going forward.

So from a modeling perspective, a couple of percent a quarter is probably within a reasonable realm?

Based on the recent history, that would be reasonable.

Jay Harris, Goldsmith and Harris.

I'm a little confused with the revenue decline from going to direct marketing in Taiwan. According to your 10-K last year, your total sales to Marketech for both Taiwan and China were about $97 or $98 million. That was running roughly $8 million a month. Marketech should have known that they were going to lose the Taiwanese sales relationship for well over a year. Why would they accumulate so much inventory?

It's Bill Johnson. It was not issue of them accumulating inventory. They maintain -- and we talked about this in the past, we think they maintained on the order of five or six weeks of inventory, which would be consistent with your $8 million figure roughly. It was more like 10 to 11.

But basically, the transition and the impact on our revenue of this transition was what we had described for the prior two quarters in our conference calls. It was $10 to $11 million just as we predicted and basically, it was the effect of them running down this ongoing level of inventory. It wasn't an extraordinary amount of inventory they had built. That was roughly their normal ongoing inventory level that they had to run down.

And they had to run it down even though their Chinese business was up 100% year-over-year?

They had to run down with respect to the Taiwan sales. As we mentioned, the Taiwan sales of Marketech represents the vast majority of their sales. China, we talked about, is a high-growth market, but it's a growth market from a relatively small base.

Do you guys maintain five or six weeks of inventories for your customers?

This is bill. We have a deep commitment to not in any case leaving our customers high and dry on CMP slurries. And because of that, we maintain what I consider safe inventory levels around the world to protect our customers against running out of CMP slurries in any case. I think this transition is very similar, just like what we did with Metron in 2003 with the same impact [occurred] then.

Also, with respect to our inventories, we maintain a safe level of inventory. But to the extent that we have been using Marketech in the past, they maintain the finished goods inventory. Our inventories have been mainly with respect to raw materials and particles. Now that we transitioned to a direct sales model, this caused a shift where we had to build and hold some finished goods inventory in place of Marketech.

Do you anticipate further inventory build in the June quarter?

No, we feel -- believe that the inventory that we built this quarter will be sufficient on an ongoing basis.

[Chris Blanchett], J.P. Morgan.

Thanks for taking my call. I had a couple quick questions. One is talking about the soft sales during the quarter. I'm a little surprised to hear that due to the fact that it seemed like there was a lot of strength in NAND flash wafer starts. And I wasn't sure if you can comment on this; do you have slightly less of a position in NAND versus DRAM or did something else happen? And I'm kind of using an apples to apples basis backing out all of the transfer of inventory.

Chris, I think we're looking to gather the data there. Give us a second.

Okay. No problem. Thanks.

Chris, if you look at the -- as I mentioned, it's difficult to make some comparisons on a quarter because of this direct sales transition. But if we take that piece out that we saw around 4% sequential reduction in revenue, I can't really say that we saw any particular area that was any softer than another.

We don't think we lost any position with any customer in any application that was material, and so we didn't identify any particular area that might have been soft. So I don't think we have a very specific answer for you. We haven't seen -- we haven't really been able to identify that.

I guess looking at it in a different way then, if you were to normalize your revenue opportunity for a DRAM wafer for versus a NAND wafer, can you give us a direction on how that looks?

We're really agnostic with respect to DRAM versus NAND. The CMP requirements of both are about the same. So to the extent a customer ships from one to another, we shouldn't see that in a change in demand for our product.

I was kind of under the impression that some of the new NAND devices had additional polysilicon processing steps and I wasn't sure if that actually increased the revenue for wafer pass potential.

That's one that perhaps we need to start differentiate between NAND and DRAM. I think that's clear. We're clearly seeing the -- we are seeing people use more and more poly and more and more complex NAND devices. And some of what we talked about in the script was two significant wins with memory producers, and they were in fact in NAND flash.

But we see that as kind of an evolving technology and the introduction of poly is a relatively new technology, Chris, and we don't believe it has ramped as far as -- far enough to have significant revenue. But we're excited about the JDPs. We're just wrapping with those two significant memory (indiscernible).

Okay. And then just last question, regarding how much you'll say revenue comes from polysilicon for you today, is it a really small number still?

It's a very small number, Chris.

So we are looking at -- this is the new growth area for CMP slurries for the next few years?

In memory. Yes.

Thanks a lot guys. I appreciate it.

Suresh Balaraman, Think Equity Partners.

Thanks. In terms of the transition to Taiwan, do you guys have any sense of how sales and marketing expenses as well as R&D expenses would shift up because now you have a local business in Taiwan? That's question number one and I have follow up after that. Thanks.

Great question, Suresh. If you look at what we've tried to do, and we tried to really exert a lot of financial discipline at the operating expense line. We added the Asia-Pacific technology center. We added our business leadership and our manufacturing facility in Singapore. And we're well on our way to having our Taiwan technical service center completed and have hired many of the people we will hire there.

Along the way, we have done our best to manage our costs to absorb that transition. If you look at our numbers, we're up about $3 million over last -- the same of quarter last year of which 2.3 of that was stock option expensing. So we have been able to absorb those three significant initiatives and only increase our operating expenses by about $800,000 or $900,000. We will continue to focus on operating expenses and do all we can to keep our costs down there.

It's an interesting transition. We're having -- and what we talked about before where our customers and their technology is fragmenting and requiring very technically sophisticated custom solutions as the feature sizes get smaller, it's very important to have people on the ground working with customers in their language, in their time, in their culture. And we have been able to do that without suffering or penalizing the technical infrastructure we have here in Aurora, IL.

So we try our best to maintain the technical excellence here and the innovation capability here and we spread that around the world with these localized centers. It would be very difficult to replace or replicate the group of scientists and engineers we have here in Aurora; in fact, I think it would be impossible. And so we're trying to balance -- maintain the balance between the technology leadership here in Aurora and being able to be close to our customers in places like Taiwan and Singapore and Japan, and make sure we're serving them in the way that we believe we need to serve them.

Should I read the answer as the current expenses of 20 to 23 million combined R&D (indiscernible) any other kind of numbers we should be seeing allowing for some gradual increase? Is that the number we should be seeing like to quarters from now for example?

That's correct. That's consistent with what we had described. If you remember back in our fourth quarter where we talked about some -- the outlook for operating expenses in fiscal 2006, we said to take the numbers from the September quarter which I think was about $24 million and apply a gradual increase of that through fiscal 2006, so we're right on track with that.

If you think about incremental costs associated with the direct sales transition in Taiwan, the most significant incremental cost is going to be in cost of goods sold, associated logistics costs. The freight cost previously had been handled by Marketech, so that was part of the commission we paid to them went to pay those logistics costs. Now that we're selling directly, we will pay those logistics costs ourselves. We'll absorb the distributor margin, but we'll pay those logistics costs that will show up in cost of goods sold. So as a result, we don't expect to see any lift in gross margin percentage, but there should be some modest increasing gross margin dollars, if that's clear.

In terms of pricing, are they up for renegotiation because of the transition or are they pretty much the pricing the Marketech had with their customers in Taiwan?

We have not gone down the road, Suresh. I -- what we have tried to do is put ourselves in the shoes of the customer and make sure that we do everything in their eyes to maintain the efficiency and the productivity of the relationship. Marketech was a terrific distributor for us and did a fantastic job in Taiwan. And as we've made the transition to being direct, we've made sure that we've done all we can to maintain the closeness of those relationships and enhance them.

Thank you very much. Next question please.

John Roberts, Buckingham Research.

Normally you give the April sales relative to the average in the previous quarter, but maybe I missed it. This previous quarter is kind of messed up. Could you give the April sales relative to say the December quarter average?

I don't all have that in front of us. I guess the thing we were -- as we compared it to January, February and March, yes, you're right the comparison is difficult because of the transition in Taiwan. If you remember what we talked about in the December quarter, we had sales growing successively from October to November to December and we ended our December quarter at a very high level of sales in December. So we weren't surprised to see a little bit of pullback in the first calendar quarter, but offhand I don't have that number. I am sorry.

Is April better than December last year?

A year ago?

December '05.

December '05 -- we ended that December quarter very strong on sales, so no, April's probably less than that December month. December month was very, very strong.

Was it less than October?

I don't know the answer, John.

Sorry, just trying. And [just one more] question. Many electronic chemical suppliers, Rohm and Haas, Air Products, Du Pont, had double-digit sequential gains. They were pretty strong. Did you have areas of your business at least that -- I know average was not that strong, but did you have areas of your business that maybe matched what some of these competitors were seeing in some of their segments? Was Korea up double-digit [percent] sequentially?

We talked in the script about Korea and Southeast Asia and China versus relative to the same quarter last year. We were up 100% in China, 50% in Korea, and I think the number that I spoke of this morning was 23% in Southeast Asia.

But they were up a lot earlier in the past 12 months -- was sequentially [they saw] double-digit sequential?

Aside from Taiwan, our sales even aside from that, was relatively flat, and that accounts for the 4%. Even if we adjust the direct sales transition, we're down 4% quarter to quarter and that was pretty uniform across the geographies.

Okay, so you really didn't have any areas that showed double-digit sequential gains like some of these peer companies did.

No we did not.

Dmitry Silversteyn, Longbow Research.

Good morning. A couple of questions and I may have missed this is because my phone cut out for a while, but did you discuss the growth sequentially or year-over-year in the slurries for the storage device as well as for the tungsten and dielectric? I caught the 32.6% decline in copper revenue sequentially, but did you talk about the other two businesses that usually provide information for?

We did not and again, it's kind of due to the noise in the sequential results caused by this direct sales transition. But I can provide that to you. Combined, tungsten and dielectric together were down 14.7% sequentially, and data storage was down by 4.2% sequentially.

Any reason --

Keep in mind we focused on the sequential reduction in copper because that's a really important element of our sales to Taiwan. But of course we also sell tungsten and dielectric into Taiwan as well, and those products were also impacted by the direct sales transition.

Right, and the data storage decline sequentially, that is normal variability or is there something going on with the destocking -- I mean the downstream hard disk drives? Or what is going on there?

Actually, we think that the data storage -- the hard disk drive market tends to be continue to be very strong, mainly driven by consumer devices, DVRs and things like that or TiVo type devices. So -- but it is a real volatile market. We've seen swings and our business quarter to quarter, so I don't think we could draw any real conclusions.

I lost you again.

Are you still there? Dmitry can you hear us?

I think we'll move on to the next question. If Dmitry has another question he can comeback. Please proceed with the next question.

Chris Shaw, UBS.

Good morning. Not to harp on the pricing issues, but I wanted to -- how was the model with Marketech? I would assume with going direct you'll now be -- if you're charging the same prices that Marketech was, would that mean an increase in prices that you guys actually account for or were you already accounting for the same price that -- do you know what I am trying to say? Now that there's no distributor involved, the prices you were selling to Marketech was lower than what you would be now selling? That wasn't clear, sorry.

Chris, this is Bill Noglows. We of course have had to -- not had to, we had chosen to make sure that we have staffed our team in Taiwan to make the transition with our customers in Taiwan as seamless as possible, which caused us to bring on some incremental costs which we would have paid for as part of the commission to Marketech. So going into this or coming out of it, we would expect a couple of perhaps basis points on gross margin as a result. But we have yet to sort of understand or fully understand what the costs of some of these incremental resources are in Taiwan. Do you understand what I am saying?

Not exactly. So, I'm just trying to -- did you book the price at Marketech or was that with -- did that -- that Marketech used to charge or customers prior to -- now you will be booking the same price? Or was there -- commission was involved in there so that was what you were booking?

In the past, we would sell product to Marketech, they would add a commission and then sell it at a higher price to their customers. Out of that, they would cover the logistics costs which were involved. So going forward now, we step into Marketech's shoes and our attempt would be of course to absorb the margin that they have been earning. But in conjunction with that, we will now be burdened with the logistics costs that had been part of their commission.

So we would expect more gross margin dollars, but not any higher gross margin percentage just because of the sort of relative magnitude of those logistics costs versus the markup that Marketech might have had.

Right. But that sounds like you'll be reporting higher prices than you had been. Is that wrong?

To the extent that we can capture the Marketech commission, yes, we would have higher prices.

Okay that is what I was trying to get at, thanks. Do you have any estimate of what your gross margin would have been this quarter on a percentage basis without this disruption, this change from the distributor to direct?

Yes, it's hard to say. I mean we had a lower level of sales, so -- in normal quarters, you might expect some adverse impact of lower capacity utilization. What was interesting about this quarter was we to continue to run hard because we were building -- replenishing inventory that Marketech had held before and was drawing down. So our manufacturing operations essentially operated at a high utilization consistent with a much higher level of sales. So I don't think there was much of an adverse impact due to the direct sales transition. There could have been some modest amount, but it wasn't a big effect.

Okay. That makes sense. So the disruption is basically in the past now, we will not be seeing anything really except for added costs, but in terms of sales, really the disruption was a 2Q event?

That's right. We transitioned over effective April 1st. We're now shipping to customers directly. I mentioned when I talked about what April was looking like, we're a little surprised by some softening which could account for some -- be caused by some residual effect of the go direct. And I think we're just going to have to watch the quarter unfolds to see if that's right or not. The attempt was try to concentrate it into a single quarter, but there may have been some modest spillover.

Okay great, thanks a lot.

Thank you. Next question please.

Steve O'Rourke, Deutsche Bank.

Bill Johnson, in you're prepared remarks, it almost sounded like you were trying to reset gross margin expectations a bit lower going forward -- maybe to the lower half of the range. Did I interpret that wrong?

Steve, this is Bill Noglows. I know you asked the question to Bill Johnson, but I'll take the question. I think Bill already spent a fair bit of time talking about average selling prices and the trends that we see there. I would add to that, it's no secret there is more competitors out there and that we have been far more aggressive with our willingness to protect and in some cases enhance our position in the market with long-term contracts and price. And we will continue to do that where we feel it's necessary.

The other -- and along the way, what we're trying to do is find innovative ways to meet our customers' requirements for lower cost of ownership and higher performance, which has -- in our technology program is what we looked to do is develop slurries that have much lower price points or are [dilute-able] -- they are dilute-able concentrate or whatever it maybe to resolve this issue and help our customers drive their cost of ownership down on CMP. We continue to do that, combined with our efforts in the operating side of our Company, to improve productivity. We -- I think we disclosed we had 9% productivity improvement last year. We have a similar target this year and we will strive for ever more productivity as we go forward.

I think what we're talking about this morning is as we look out into the world, and as Bill said, we're interested in growing the top and bottom line of the Company, and as we look out in the world, it's very difficult to find opportunities to use our cash in the form of acquisitions that have the same sort of business model that we do. We have -- we enjoy a very profitable business model, high gross margins and high operating margins, and it's difficult to find companies like that that we can acquire and bring into the Cabot Microelectronics model.

But that being said, we're focused on growth. And we may choose to, as we look for opportunities to grow both in the core in ESF, acquire companies that don't have the same business model. That would have an impact on our gross margin, but would have an overall positive impact on our revenue and our EPS.

Okay. Just a follow-on to that, all that said, when we look at rather substantial changes to the Company over the course of the past year of some restructuring, maybe gross margin is not the best way to look at it. Maybe it's more in the operating margin line. Can you help us understand how benefits from this restructuring, obviously not from potential acquisitions, may build into an operating margin trend over the course of the next year? Is there any way to try and frame that?

I would not describe what we've been doing as restructuring. I would describe it as building and enhancing our position for the future, but that's -- we're just -- we're mixing words here. I think it's an interesting question. We -- in our view of how to grow the Company and growth opportunities we see, we think we would like people to spend less or focus less interest on the gross margin and more interest on the operating margin. And I think as we get further down the road, we would begin to talk more about that as we go forward. So I can't answer your question specifically, but I think you're heading in the direction where we would like to see -- where we would like to begin to talk and focus people on.

It's Bill Johnson. And in addition to that, Bill commented earlier on the control and the cost control we demonstrated around operating expenses. And you're right; there are a number of new things going on - the Asia-Pacific technology center, this transition of direct sales in Taiwan, our new data storage facility in Singapore. And we've done all of that within a relatively flattish operating expense trend. And I think our plan going forward would be to continue to watch those cost very quickly -- or very carefully. But to the extent that you could have revenue growth and control over operating expenses, there could be the opportunity of some leverage around operating margin.

Next question please.

[Chris Blanchett], J.P. Morgan.

Just a couple quick questions on your new tungsten products. With the two new wins for -- were they repeating marketshare position you had or did you to actually move into new marketshare with those wins?

In one case it would be new marketshare. In another case they would be replacing one of our legacy products.

In general, are the gross margins of these products, how do they compare to the prior generation?

They are about the same. As Bill said earlier, we enjoy very healthy position in tungsten. We have very strong IP and we have what I describe as a really robust product platform that has been the industry standard for many years now. We just continue to build on it and enhance it, and it's -- it's a great product for us.

And then I guess a real quick follow up on your -- [and then] transition a question from -- to Taiwan, would it be safe to assume that corporate gross margins in Taiwan are slightly higher than the average or that -- than the corporate average?

I think I would rather not comment on that.

All right. Thanks a lot guys.

We can take one more question.

Dmitry Silversteyn, Longbow Research.

Hopefully my phone won't cut out on me. A couple of questions. One, on the two fab customers you talked about that were getting close to making a commercial decision, by close, do you mean it's going to happen sometime in this fiscal year?

Dmitry, Bill Noglows. Give you a little background before we -- before I answer that question. We -- as you know, we've had a couple of false starts in pads. And we've been working, I would say very focused with a number of -- let's call it a handful of customers over the last nine months to a year to evaluate our new technology.

We're excited about the feedback we get from those three or four customers in the form of -- we think our pad is bringing them longer pad life, in some cases higher yields, and in another cases greater uniformity. And we think we're at a price point that also brings them lowered cost of ownership in the process. All of those things combined is a pretty exciting offering. And we're feeling good about it.

We have since extended our reach and are beginning to introduce those pads at a number of customers in addition to the original three or four that we had worked on to develop the technology. I would -- and I am going to go out on the hook here, I think we're going to see some revenue in this fiscal year. I am not going to give you number, but I think I have seen enough interest and enough customer [pull] that I think we're going to see some revenue come in this year.

Okay. Thank you.

We're excited about that initiative.

Yes, it is very exciting. And the second question is on the engineered surface finishes, you talked about it several times both in your prepared remarks and later. You are kind of getting us ready for the fact that some of the acquisitions here may come at a lower gross margin. Should I kind of read between the lines and would it be fair to say that an acquisition in the space is coming sooner rather than later?

Dmitry, I am not going to answer that question. I think in past calls, we talked about utilizing our business model and our cash position to make acquisitions into channels and technologies, and we said again today. And when the right opportunity comes along, we will certainly announce it and talk about it.

Thank you very much for your time this morning and your interest in Cabot Microelectronics. We look forward to the next opportunity (technical difficulty). Goodbye.

Thank you for your participation in today's conference. This concludes the presentation. You may all disconnect and have a good day.