Coherent Corp (COHR) 2006 Q2 法說會逐字稿

Good day, everyone. Thank you for holding, and welcome to the Coherent second fiscal quarter 2006 earnings results conference call. Today's conference is being recorded. For opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer of Coherent, Leen Simonet. Please go ahead.

Thanks, Kevin. Good afternoon, and welcome to our second quarter fiscal 2006 conference call. As is customary with our calls, I will speak to the financial results, and then John Ambroseo, our President and CEO, will provide a business and operational overview of the Company. We will continue to provide forward-looking financial guidance for the current quarter only.

Please remember that such guidance and other statements in this conference call pertaining to future events, are forward-looking statements and involve risks and uncertainties, and actual results may differ significantly. Additional information concerning these factors are contained in the Company's filings with the SEC. Listeners are encouraged to refer to the risk disclosure described in the Company's reports on Forms 10-K, 10-Q, and 8-K as applicable. Copies are available from the SEC, from the Coherent website, or from Coherent Investor Relations. Let me remind you that the full text of today's prepared remarks, and a replay of the webcast, will be made available through the Coherent Investor Relations website.

We reported second quarter revenues of $146 million, and a net income of $8.2 million or $0.26 per diluted share, which was well ahead of expectations. Net income for the second quarter included $0.2 million or $0.01 per diluted share in Excel Technology preacquisition integration costs. We also recorded approximately $2.4 million after tax, or $0.08 per diluted share, equity-based compensation expense as required under Financial Accounting Standard 123R. As a reminder, net income prior to fiscal 2006, did not include stock-based compensation expense. When we adjust prior year's earnings to reflect the pro forma stock compensation expense, the current quarter's non-GAAP earnings of $0.27 per diluted share, compared to Q2 '05 non-GAAP earnings of $0.22 per diluted share. Revenues of $146 million this quarter compared to $131 million in the previous quarter, and $131.2 million in the comparable quarter last year.

Our overall book-to-bill for the quarter was 1 to 1, and our backlog at the end of Q2 was 191.5 million. And this compares to a backlog of 192.8 million at the end of Q1, and 155.3 million a year ago. John will talk more about the booking performance by major market applications. But in summary, second quarter orders of 146.3 million increased by 13.1% over the corresponding prior year period, and 11.1% from the immediately preceding quarter. Total Company sales in Q2 '06 were $146 million, up 11.3% from the same quarter a year ago, and up 11.4% sequentially. Current quarter's revenue was above the high-end of guidance, primarily as a result of our ability to expand capacity in the areas where it was most needed, combined with a higher demand from customers. The Company sales by significant market application for the second quarter are as follows: Scientific and government programs, 28.8; microelectronics, 55.2; material processing, 19.3; OEM components and instrumentation, 31.8; graphic arts and display, 10.9, for a total of 146 million.

Second quarter gross profit was $63.9 million, or 43.7% of sales, which was about the midpoint of our guidance range of 43 to 44%. This compares to last quarter's gross profit of 42.9% of sales, and a Q2 '05 gross profit of 44.6% of sales. The sequential increase of 0.8 percentage points was primarily the result of favorable product mix. We remain optimistic about reaching the gross margin goal we set for the end of this fiscal year of approximately 46%. We anticipate that the increase to 46% from current quarter's 43.7% will predominantly be accomplished through leveraging our infrastructure, material cost reductions, and improved cycle times and yields.

Operating expenses for the quarter, excluding intangible amortization of $2.3 million, was $51.4 million, or 35.2% of sales. R&D spending was 13.2% of sales, which was slightly lower than our guidance range of 13.5%. The higher than anticipated revenues caused R&D spending to be slightly less as a percentage. In absolute dollar terms, spending increased $4.6 million from the first quarter, primarily to a higher than normal credit recorded in Q1 resulting from the completion of a customer development agreement, increased spending associated with the greening of our products in order to comply with the new European environmental directive, increased investments in automated packaging of our OPS technology, and fewer holidays in this quarter.

SG&A spending for the quarter, excluding amortization of intangibles, was $32.1 million or 22% of sales, which is at the low end of our guidance range of 22 to 22.5% of sales, primarily due to higher revenue. Our ending cash balance for the quarter, including restricted cash, was $447.2 million, representing an increase of $190.2 million compared to last quarter. During the second quarter, we raised approximately $195 million, net of issuing costs, from the sale of subordinate convertible notes with a 2.70% coupon, and a net share settlement provision. The net share settlement provision allows us to pay off any conversion premium on the notes in either cash or equity, at our discretion. We generated approximately $12.8 million cash from operations in the second quarter.

With respect to working capital management, I would like to highlight the improvements in inventory. Inventory levels decreased approximately 3 million, while revenues increased approximately 11% when compared to last quarter. This translates in an improvement of 9 days in terms of days sales outstanding, which now stands at 59. The reduction is a result of multiple inventory management programs, including the impact of outsourcing non-core production to contract manufacturers. On the flip side, accounts receivable days sales outstanding roses by 3 days to 61, and this is primarily the result of the high concentration of revenues towards the end of the quarter, and a higher mix towards international business. Also during the second quarter we spent approximately $13.7 million to purchase shares under our stock buyback program. The program was put on hold on February the 20th, when we announced the acquisition of Excel Technology.

As a reminder, in the upcoming third quarter, we have our final debt payment for the Star notes of approximate $13.1 million of principal and interest, with a current funding reduction of the short term debt of $12.6 million, and a reduction of $15.2 million in restricted cash. Capital Expenditures during the second quarter were $4.1 million or 2.8% of sales, and our book value stood at approximately 21.11 cents per share.

Let me now move on to the guidance for the third quarter. The guidance does not include any impact from our pending acquisition of Excel Technology, nor does it include noncapitalizable integration costs. Upon completion of the transaction we will provide more information and update the financial guidance as appropriate. As a reminder, the third quarter guidance reflects the stock compensation expense under FAS 123R. impacting earnings negatively by approximately $0.07 per diluted share.

Following is a summary of the guidance by major line item. Revenues for the third quarter are expected to be approximately 3 to 4% above the previous quarter. We expect gross profit to be in the range of 43.5 to 44.5% of sales. R&D spending is expected to be approximately 13% of sales, and SG&A expenses, excluding intangible amortization, are anticipated to be in the range of 21 to 22% of sales. Intangible amortization will be approximately $2.1 million, which is slightly lower than Q2, and other income is estimated at about 1.5% of sales. The effective annual tax rate is expected to be 34.5%. And as I mentioned last quarter, the tax rate reflects the expiration of the Federal R&D tax credit, effective December 31st, 2005. If the R&D credit is reinstated, we will revise the tax rate down at that time. Capital spending for fiscal 2006 is projected to be approximately 45% of sales. This completes the line item guidance.

In summary, the financial results for the second quarter were much better than expected. We did a great job of aligning capacity for the areas needed to meet customer demand and improve inventory turns. While R&D will remain high for a few more quarters, due to the European Greening Initiative and increased investments in the automated packaging of our OPS technology, we believe it will return to a more normal rate towards the end of the fourth fiscal quarter. Finally, our backlog is strong, and our balance sheet remains in excellent condition, which allowed us to raise cash at what we feel are favorable terms for the Company and our shareholders. We look forward to continuing to deliver improving operating results for the remainder of the fiscal year, and we eagerly await the opportunity to join forces with Excel Technology. I will now turn over the call to John Ambroseo, our President and CEO.

Thanks, Leen. Good afternoon, everyone, and welcome to our Q2 conference call. As Leen has already reported, Coherent posted very solid results for the second fiscal quarter. Revenues were up significantly, both on a sequential and prior period basis. Our operations team did an exceptional job of expanding capacity during the quarter, thereby alleviating some of the constraints that limited our Q1 performance. We are better positioned in most areas, although demand for certain solid-state ultraviolet lasers continues to outstrip supply. This issue is being vigorously worked to bring the supply and demand curve back into balance.

We are also pleased to have increased our gross margin during Q2. This is no small feat, since it is not uncommon for margins to fluctuate as capacity is expanded. The Q2 results are consistent with our year end objective of achieving a 46% gross margin run rate for the stand alone business. In other words, excluding any benefits from the Excel transaction. I'm often asked, if 46% is our end-point. While it is our short term goal, we will seek to further expand margins through new laser architectures and increased operational efficiency. As has been our past practice, we will communicate future goals as we validate them.

Let's turn our attention to the results of Q2. Regrettably, we didn't burn any significant backlog due to strong bookings. The book-to-bill ratio for the Company was 1. Orders within the scientific and government programs market were down 5.3% sequentially, and 8.8% compared to the prior year period. After several spectacular quarters, Chameleon orders cooled in Q2. This does not appear to be a market share issue, but rather a timing issue, as some customers are awaiting funding and facility upgrades. The lower Chameleon orders were partially offset by bookings of VERDI, Mira, and custom lasers. Geographically, Europe posted a record quarter, while the U.S. was substantially flat, and Asia was down compared to Q1. The softness in Asia reflects lower orders in Japan following a record in Q1.

We posted a monster increase in microelectronics, where bookings were up 43.2% sequentially, and 31.9% compared to Q2 of '05. We experienced record demand for lasers used in advanced packaging applications, including Via drilling and laser direct imaging. The 2 biggest drivers were high density Microvias for cell phone boards, and flip chip substrates for a variety of end use applications. We have also benefited from high utilization rates and 300 millimeter fabs for logic and memory devices. The shift to copper for 65 nanometer node, led to an increase for lasers used in metrology applications. Orders were also strong from semiconductor and FPD photo mass writing and inspection applications. The wafer inspection area rebounded nicely from the previous quarter, to an increase in demand for solid-state lasers and higher service orders from the installed base. Bookings in the FPD space were robust, with a solid order stream for our new LSX [aneleon] lasers and our high powered CO2 lasers, used in LCD glass cutting.

OEM component and instrumentation orders decreased 3.1% sequentially, and increased 26.5% versus the same prior year period. Bookings for medical OEM lasers and components, especially those used in refractive surgery, were solid. We are completing the conversion to the Exostar platform for the refractive market. The instrumentation market was predictably slower, following 2 quarters of strong bookings. Customers in the space are expressing interest in our acute product line, which offers wave-length flexibility and an attractive total cost of ownership. In addition, our high power green and yellow OPS prototypes are attracting attention from the medical and instrumentation customer base.

Orders for materials processing lasers were up 6.5% sequentially, and dipped 4.6% from the prior year period. Carbon dioxide lasers used in marking, engraving and cutting, again led bookings. China also experienced its typical seasonal upswing. We benefited from decreased cyclicality compared with previous years, due to an overall growth in marking and engraving over the past few quarters. Our high powered CO2 lasers also saw strong performance this quarter, with nonmetal drilling and cutting end users experience a lift in end customer demand.

Orders in graphic arts and display decreased 37% sequentially, and 24.2% versus the prior year period. The large swing reflects the timing of certain annual orders, rather than a change in market share or dynamics. The driver for our business is the expansion of highly configured infrared devices for high volume printing. We would like to thank those of you who had a chance to see our laser TV demonstration in New York at the USDC Needham conference. We received positive feedback on the overall image quality. The financial model remains challenging for productization, especially in the consumer market, where prices for LCDs and PDPs continue to drop. The business model for commercial display and eCinema may prove more compelling, as the ASPs are significantly higher and the volumes are much more similar to our existing business.

Let me now speak to the Excel acquisition. Following our announcement to acquire Excel Technology Incorporated and the placement of $200 million of subordinated convertible bonds, we received a second request from the Department of Justice regarding the acquisition. We have had several productive discussions with the DOJ, and are confident of a satisfactory and timely resolution to the investigation. Assuming the transaction is cleared between now and the end of the third fiscal quarter, we will hold a separate call to discuss the integration plans and objectives. In the meantime, we will continue to work on our integration planning.

We are heading into the second half of fiscal 2006 well on track to meet our core objectives of top line growth, margin expansion, and cash generation. Our backlog is very strong, and our product pipeline is in good shape. We are also looking forward to integrating Excel Technology, following regulatory clearance. We believe the combined business represents an excellent opportunity for our customers and our shareholders. Our next major trade show is a conference on lasers and electro-optics, normally referred to as CLEO. It will be held in Long Beach, California, from May 23rd to the 25th. We will also participate in SEMICON West, held in San Francisco, from July 11th to the 13th. We look forward to seeing you at one of these events. And I will now turn the call over to Kevin, so we can begin the question-and-answer session.

Thank you very much. [OPERATOR INSTRUCTIONS] John Harmon, Needham.

A couple questions, please. First of all, I was wondering, looking at the guidance you gave for Q2 that you greatly exceeded, was your guidance predicated on having some of the same capacity constraints that you suffered from in Q1? In other words, what turned out better than expected?

Well, I would say that the operations team, in particular, proved much more adept at adding capacity than even our best expectations. And that's really what led to the swing.

And the 1 capacity constraint that's persisting that you mentioned on a solid-state laser. Was that -- does that account for the majority of the bottleneck last quarter, or was that just one of many?

No, it didn't John. The solid-state lasers that I'm referring to in this quarter are some of our high-end, highly desirable products, and we've been adding capacity regularly to those. And we are also experiencing higher bookings for those products, as well. So we are continuing to run to add capacity to keep up with the demand. The other areas where we -- where I think we had mentioned, or at least I had mentioned in last quarters conference call that we found ourselves a bit out of position, is the order stream that was coming in in the fourth quarter, and to some extent in the first quarter, didn't match up exactly where we had capacity. We corrected many of those, and we still see a push for demand in certain limited areas.

Okay. Thank you. And I would just like to clarify on the pending Excel acquisition. You mentioned the second request for information. My understanding is when you get a request, you have 30 days to satisfy it. And you received the request on March 28th. Does that mean if we don't hear anything by April 28th, you're home free? Or what are the mechanics involved?

Actually, the way that it works, and I have our Corporate Counsel here, and he's -- I think he's nodding his head to me, is that normally you have a 30 day waiting period for regulatory. That's customary. If you don't hear anything during that first 30 days, then you are free to proceed. Once you receive a second request, it's open-ended. It doesn't end until the DOJ or the FTC, who's ever heading the investigation, says it's over. So there's no 30 day period here, except when they get to the end and they say, "okay, you have now fulfilled all our requests, and we have 30 days to render a decision."

I see. Thank you. And finally, how do you define backlog? Are those products shippable within 12 months or by the end of the fiscal year?

No, it's products shippable within the 12 months.

Next 12 months. Thank you.

Mark Miller, Brean Murray.

Congratulations on the progress. A couple questions. First, in terms of the semiconductor orders, were they more capacity weighted towards, or more technology?

I would say that we've seen probably more technology orders in the quarter than capacity orders. Which is consistent with our investment pieces of trying to provide more solutions to the front end of the curve, where there is more sustainability, better margins, et cetera, et cetera.

And what about the foundries? Were they strong or were they relatively normal, or above average in terms of their business with you?

They were in good shape.

Next 2 questions. Competitive -- first of all in the flat panel, the [inaudible], one of your competitors launched a major venture. I'm just wondering if there's been any impact there, and how that's gone?

We are unaware of any systems that they've actually sold. I believe they are scheduled to deliver a unit for evaluation later this year. But I believe that's on their dime, not on the customer's dime. And I would say that they have not been talking about it as much as they did 6 months ago. And I'm not sure how to interpret that.

And final question, have you seen any competitive moves by your competitors with response to your pending acquisition of Excel?

Have we seen any responses from competitors?

Right.

Well, you know Mark, there's always activity in the marketplace. And people are making various moves. I would say those moves are consistent with past behavior. I don't think there's been anything unusual thus far as a direct response.

Thank you.

[OPERATOR INSTRUCTIONS] Jiwon Lee, Sidoti & Co.

Just a couple of quick questions. Some of the things just kind of went through my head. But I think you mentioned that international business was strong. And I suspect that the strength was mostly in your material processing, but most likely on the microelectronics. Could you comment a little bit more on your international landscape?

Well, as we mentioned, the international market was better for us this past quarter. And certainly we are seeing a lot of demand in the microelectronics region, or in the microelectronics market, particularly when you look at the demand curve that we experienced. Materials processing is in good shape, but the big mover this past quarter at least in terms of new demand, is microelectronics.

And going into the third quarter, how do you see that visibility? You are guiding sales to be 3 to 4% up. Is that mostly because you expect the continued strength in that segment?

Well, remember that a good portion of our business is commercial in nature, and customers typically generate call offs. So the commercial market that's given us the confidence, let's say, in the Q3 and our prospects for Q4.

Okay. And not to beat a dead horse, but this pending Excel acquisition, did you guys -- did I hear it correctly, that did you already meet your answers related to the second request from the DOJ? Or did you just receive the request?

As I mentioned, we've had several productive meetings with them.

Okay.

And the DOJ -- in this case, this is under the jurisdiction of the DOJ. They will determine when we have satisfied the second request, and they will notify us of their decision.

And there is no timetable on that one? It's an open-ended?

As I said, this is at the discretion of the DOJ.

Great. Okay. Thank you.

Ali Irani, AI Capital Management.

Congratulations on a great quarter. Looking at your mix of business and the margins, you talked about the uptick this quarter on favorable mix. And it just strikes me that it's been awhile since had you both volume leverage and favorable mix happening at the same time for you. And looking at the areas of bookings growth, it seems that they are in the product areas where the margins are pretty healthy. Could you give us a sense of where you see the mix going in the second half, and where we can see X normalized level, your gross margins going, as a result of that mix?

Well, as I think Leen and I have both stated during our presentations today, we remain committed to achieving the 46% run rate exiting the fiscal year. And that is in part predicated on mix. In terms of what it looks like, I mean you look at the bookings in microelectronics this quarter, you look at the bookings in microelectronics last quarter, they were 2 reasonably good quarters. This current quarter -- most recent quarter was outstanding in terms of orders, and you're correct that those are typically the highest margin products in the portfolio. So, yes, it does bode well.

Could you give us an idea of the mix differential that you could see if we suppose that second half activity for some of the leading edge devices, 90 nanometers, 65 nanometer, picks up at a faster clip, or continues to pick up. Could there be something like an extra 100 or 200 basis points margin outside, just on a mix basis?

From your lips to God ears.

So there is a possibility? It just would depend on where the market goes?

Ali, I can't comment on the individual margin contributions from specific product lines. We've never done that. We are not going to start engaging in that at this point in time. But clearly, when you look at the backlog and just look at this most recent quarter, where the strength in orders were from, it is a good indicator.

Okay. Let me ask just a quick follow-on if I could. On Excel Technologies, could you give us an idea of where you see short term and long term the margin impact of bringing that business into the fold? I mean, you've done a great job historically buying businesses, integrating them, and turning the margins around like [inaudible]. Is there that kind of potential for added leverage over time from that acquisition, as well? Or are they pretty much in line with where you are?

I think it's important to note that right now, Excel's margins are actually slightly higher than ours. They are about 47, 47.5, somewhere in there. So that's an updraft from where we are today, assuming that everything else remains constant.

Great. Thank you very much.

[OPERATOR INSTRUCTIONS] Doug Fisher, Matador Capital.

Let me add my congratulations on the quarter. Without specifically talking about individual product lines, I wonder if you could just talk about how the range of gross margins, say between your highest and lowest areas, however you want to bracket that, just so we can get a feel for how much of a variable mix can be here?

I would say if you just want to use a very short rule of thumb, assume it's plus or minus 5 points from the midpoint, with microelectronics being the highest, and scientific being the lowest. And that's a very rough approximation.

Okay. And you mentioned seasonality in China. How big a factor is that quarter-to-quarter? And if that was a seasonal phenomenon this past quarter, and it adds in the current quarter? I'm trying to get an order of magnitude there.

Typically, you see a buildup occurring through the March, and sometimes into the June quarter. And typically it gets -- it starts to cool off in the summer, largely because capacity that's needed for year end product shipments, and this is consumer goods that are produced by the tools that our lasers go into, have to be in place well in advance of year end demand. Last year however, we did not see the same type of seasonality. In fact, the order stream in materials processing and from Asia, in general, was much more stable in the second half of the year, the second calendar half of the year, than we had seen in prior years.

Okay. That's helpful. And when you mentioned that 46% is the Company's goal on the gross margin side, but that also you will obviously continue to seek to move that up pursuing new architectures, et cetera, I guess can you give us a feel for how far along efforts like that are? I imagine it's been an ongoing process there.

Indeed, it is. I mean, this is something that you constantly review, and plan for. And what we've done in the past, Doug, I think you're -- or at least I hope you are aware, is that we've come out with our objectives for expanding the gross margin. We've told people what the time line are, sort of what the top level programs would be, and what the ultimate goal is. And once we successfully complete that, we will come out with our next set of goals. So right now we are committed to 46% exiting the fiscal year. And once we've got that under our belts, we will then look at the next round.

Okay, and last question. I think you mentioned on the receivable side, there's a little bit of an influence there, in terms of timing of orders or shipments during the quarter. If you could just touch on that, and I don't know if you can provide any color early in the current quarter about whether the general tone of business is changed much from what you saw last quarter.

I think this quarter we saw a bit higher concentration towards the ends of the quarter. So that was, that was a bit unusual. And also, as John just mentioned, our international business, driven by the high microelectronics, was very much concentrated in non-U.S. And so we have a lot more international business, and they typically have slightly higher days sales outstanding. So the combination of those -- both those items drove it up by 3 days. But it's still, we are still at 61, which is very good for a company that has more than 65% of its business outside the United States.

Sure.

It's very good. I only highlighted it because it will impact the cash flow from operations a little bit for this quarter. But, other than that, we are still very pleased with our performance in receivables.

Okay. Thank you very much.

With that, there appear to be no further questions. I will turn things back over to Ms. Simonet and Mr. Ambroseo for any additional or closing remarks at this time.

I would like to thank all of you for participating in the call, and we look forward to talking to you again in the future.

Thank you all for joining us. That will conclude today's conference call. Have a good day.