Coherent Corp (COHR) 2006 Q3 法說會逐字稿

Good day, everyone, and welcome to the Coherent third fiscal quarter 2006 earnings results conference call. Today's conference is being recorded.

For opening remarks and introductions, I'd like to turn the call over to the Executive Vice President and Chief Financial Officer of Coherent, Leen Simonet. Please go ahead, ma'am.

Thank you, Shawna. Good afternoon and welcome to our third 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 that 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 registration statement on form S-3 and the reports on forms 10-K, 10-Q and 8-K, as applicable. Copies are available from the SEC, from the Coherent Web site or from Coherent investor relations.

Let me remind that you the full text of today's prepared remarks will be made available through the Coherent investor relations Web site. And a replay of the webcast will be made available for 90 days following this call.

We reported third quarter revenues of $149.5 million and a net income of $10.9 million or $0.34 per diluted share. Net income for the third quarter included $0.4 million or $0.01 per diluted share in Excel Technology pre-acquisition integration costs and a $0.6 million or $0.02 per diluted share tax benefit.

We also recorded approximately $2.3 million after tax or $0.07 per diluted share, equity-based compensation expense as required under Financial Accounting Standard 123-R. As a reminder, net income prior to fiscal 2006 did not include stock-based compensation expense. When we adjust prior years' earnings to reflect the pro forma stock compensation expense, the current quarter's non-GAAP earnings of $0.34 per diluted share compared to Q3 '05 non-GAAP earnings of $0.24 per diluted share and compared to last quarter's non-GAAP earnings of $0.27 per diluted share, demonstrating solid earnings leverage.

Our overall book-to-bill for the quarter was 1.0221 and our backlog at the end of Q3 was $199.1 million. This compares to a backlog of $191.5 million at the end of Q2 and $163.9 million a year ago. John will talk more about the bookings performance by major market applications but in summary, third quarter orders of $153 million increased by 24.2% over the corresponding prior year period and 4.6% from the immediately preceding quarter. Orders improved sequentially in all five of our end markets.

Total Company sales in Q3 '06 were $149.5 million, up 19.4% from the same quarter a year ago and up 2.4% sequentially. The Company sales by significant market application for the third quarter are as follows; scientific and government programs, $28.0, microelectronics, $56.7, material processing, $19.8, OEM components and instrumentation, $34.3, graphic arts and display, $10.7; for a total of $149.5 million.

Third quarter gross profits were $66.8 million or 44.7% of sales, which was above our guidance range of 43.5, to 44.5% of sales. This compares to last quarter's gross profits of 43.7% of sales and a Q3 '05 gross profit of 45.2% of sales. The sequential increase of one percentage point was primarily related to the positive impact of our manufacturing initiatives, more specifically, the cost of quality improvement programs and the material cost reduction program. Recently incurred freight surcharges, largely due to the rising oil and gas prices, has negated some of the benefits we have achieved by consolidating shipping vendors. Looking at the fourth quarter, we're still focused on leveraging our infrastructure and improving cycle times and yields.

Operating expenses for the quarter, excluding intangible amortization of $2.2 million and excluding the Excel Technology pre-acquisition integration costs of $0.6 million, was $52.1 million or 34.8% of sales, which is in line with our guidance of 34 to 35% of sales.

R&D spending for the quarter was 12.5% of sales. Spending increased significantly from the same quarter a year ago, primarily due to lower net reimbursements for development projects, spending associated with the greening of our products in order to comply with the new European Environmental Directive and increased investment in automated packaging of our OPS technology.

SG&A spending for the quarter, excluding amortization of intangibles and the Excel Technology integration costs, was $33.2 million or 22.2% of sales. The sequential increase as a percent of sales is primarily due to the opening of a direct office in Korea during the third quarter.

Other income came in at 2.4%, higher than the guidance of 1.5%, due to the fact that we enjoyed a higher interest rate on a higher than anticipated cash balance. Our ending cash balance for the quarter, including restricted cash, was $466.2 million, representing an increase of $19 million compared to last quarter. During the quarter, we paid the last installment of star notes decreasing debt and cash by $12.6 million and decreasing the corresponding restricted cash by $15.2 million. We generated approximately $17.5 million cash from operations and we had cash inflow of $12 million from the exercising of stock options and the employee stock purchase plan.

With respect to working capital management, inventory days sales outstanding crept up by five days during the third quarter and now stands at 64 days, although down significantly from 82 days a year ago. Over the next several quarters, we will strive to get back to the level achieved last quarter. Accounts receivable days sales outstanding rose by one day to 62 days, and it is primarily the result of a high concentration of revenues towards the end of the quarter and the continued high mix of international business. Capital expenditures during the third quarter were $4.8 million or 3.2% of sales.

Let me now give you the guidance for the fourth quarter of fiscal 2006. 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 fourth quarter guidance reflects the stock compensation expense, impacting earnings negatively by approximately $0.08 per diluted share.

The following is a summary of the guidance by major line item of the income statement. Revenues for the fourth quarter are expected to be approximately 3 to 5% above the previous quarter. We expect gross profit to be in the range of 44.5 to 45.5% of sales. R&D spending is expected to be approximately 12.5% of sales, which is similar to the third quarter. SG&A expenses, excluding intangible amortization, are anticipated to be in the range of 22 to 22.5% of sales. Intangible amortization will be approximately $1.8 million, which is slightly lower than Q3. Other income is estimated at about 2% of sales. Rather than estimating the closing date for the Excel Technology transaction, the guidance for other income includes a full quarter of interest income on the total cash balance. The effective tax rate is expected to be about 33.5%. Capital spending for the full fiscal 2006 is now projected to be approximately 3 to 4% of sales.

In summary, we're pleased with the financial results for the third quarter. We did another great job of improving our gross margins and generating cash. And our backlog remains as solid as ever.

I will now turn over the call to John Ambroseo, our President and CEO.

Thanks, Leen. Good afternoon, everyone, and welcome to our Q3 conference call. The third quarter shaped up very nicely for Coherent. Revenues improved, margins and earnings expanded sequentially and the order stream remained strong. We also experienced modest to double-digit sequential order growth in each of our five markets. Incoming bookings benefited from our existing portfolio as well as products released during the fiscal year, including the Micra, the LSX series, new versions of our OPS platform, and the TracER.

While the news was generally good, we were disappointed by the German Federal Cartel Office's decision to continue its review of our pending acquisition of Excel Technology Incorporated. I'll provide an update on the current status later in my remarks.

The book to bill for the Company was 1.02. Orders within the scientific and government programs market increased 1.7% sequentially and decreased 8% compared to the prior-year period. Last quarter we reported that Chameleon orders had slowed due to certain timing issues. This proved to be correct as Q3 orders for the Chameleon line were within one of our all-time record. The vast majority of these units will be used in biological imaging. Bookings for the recently released Micra and Mira HP lasers, both of which filled gaps in our product portfolio, have started to flow as well.

The most challenging area is the custom laser market. In particular, European vendors are offering a combination of aggressive performance specification and deeply discounted pricing. We continue to exercise financial discipline in pursuing business in this sub-market. On a geographic basis, the U.S. and Asia were up, Europe was lower, following record bookings from Q2.

Microelectronics bookings increased 1.6% versus a record Q2 and 47.2% compared to Q3 of '05. There was sustained strong demand for lasers used in advanced packaging application. The biggest demand drivers were increased layer count and higher microvia densities in cell phone boards and capacity expansion for flip-chip substrates.

In the laser-direct imaging or LDI market, we are transitioning to a lower cost platform that should improve the adoption rate. We received our first production orders for an emerging application in flux circuit manufacturing and there were positive signs from the silicon scribing and dicing market, which had not yet contributed to growth in FY '06.

Orders within the semiconductor CapEx market, while sequentially lower, remain on pace for strong double-digit year-on-year growth. Current demand appears to be skewed towards memory rather than logic devices. Bookings were brisk in the photomask market for writing, inspection and repair and semiconductor [N]FPD applications.

Orders for metrology products benefited from the launch of new tools by certain customers. FPD annealing orders were strong for new systems and service spares. All system orders were for our LSX series lasers, which is the new standard in the market. We also received first orders for a new application in LCD and color filter manufacturing.

OEM component and instrumentation orders increased 2.4% sequentially and 39.1% versus the same prior year period. Bioinstrumentation bookings for solid state lasers were steady, but down slightly overall, due to the retirement of a non-RoHS compliant IM laser platform. We are fortifying our market position in bioinstrumentation through qualification on a number of soon to be released platforms for multiple customers, all of which are using solid-state lasers. Market development remained on track as we qualified our ExiStar platform with another major [alphonic] company and we have shipped the first yellow OPS prototypes for use in photo coagulation.

We reached a new all-time high for bookings in the materials processing market. Orders increased 25.3% sequentially and 7.6% from the prior-year period. In Q3, the highest order growth came from the marking and cutting customers. We also saw solid demand from textile application. Engraving orders were lower, following an exceptional Q2. The overall market performance is consistent with global trends as well as internal predictions. As I have mentioned during previous calls, improving the ROI for the customer is the key to growth. We can accomplish this through cost reductions associated with supply chain management, scale and reliability. On a geographic basis, Europe had an outstanding quarter while Asia and the U.S. met our expectations.

Orders in the graphic arts and display market were up 1.8% sequentially and 13.4% versus the prior-year period. As in past quarters, bookings were placed -- paced by configured infrared devices for use in high-volume printing. We also continue to see a transition from visible solid-state layers to visible diodes, as the low power market strives to drive costs out of the system.

Our ongoing effort to expand gross margin has met with considerable success. We had planned to exit FY '06 at a gross margin run rate of 46%. Our current guidance is below this target due to two factors. We had expected to complete the outsourcing of all electronics by June 2006. The process is taking longer than anticipated and we now project to be done by December, 2006. This delayed an increase in gross margin of approximately 0.2 of a point.

As Leen mentioned, we have also seen an increase in freight costs resulting from a rise in oil prices. The impact was one-tenth of a point, which offset previously recognized gains. We remain committed to further gains in gross margin performance. I'll provide an update on our next set of goals during our fiscal year end conference call.

Let me now turn to the Excel acquisition update. In May, we received clearance from the Department of Justice to proceed with the acquisition of Excel. Given that our revenue base in Germany exceeded 25 million Euros, the deal was also subject to approval by the German Federal Cartel Office or FCO. At the end of its initial phase one review, the FCO notified us of a phase two request in early July. We had hoped to resolve any FCO concerns during its phase one review but it became clear that the FCO did not have sufficient time to complete its process and still meet the phase one time line. Under a phase two review, German law requires the FCO to release the case file to us except for, quote unquote, customer business secrets. We believe we'll be better prepared to address any concerns that the FCO may raise after we have had a chance to analyze the case file.

As far as a timeline, we plan to meet with the FCO as soon as we have completed a review of the case file. This should occur in the next two to three weeks. While we have some work ahead of us, we remain committed to completing this transaction and optimistic that it will receive FCO approval. And I must apologize, I misread -- it is three to four weeks, not two to three weeks.

We are now almost one month into our seasonally strong fourth quarter. We are well on track to close the year meeting 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're also looking forward to integrating Excel, following regulatory clearance. We believe that the combined business represents an excellent opportunity for our customers and our shareholders.

Our next investor conference is the Sidoti Conference on September 28th at the Ritz Carlton in San Francisco.

I'll now turn the call over to Shawna so we can begin the question-and-answer session.

Thank you. [OPERATOR INSTRUCTIONS] And our first question comes from John Harmon with Needham & Company.

Hello, good afternoon.

Hi, John.

Just a couple of questions, please. You were talking about integrating your new packaging technology into your OPS lasers. I assume that's from the [Ialon] acquisition. What's the rough timeline when you think you might be able to switch over to the new technology?

The assets that we acquired in the [Ialon] deal are being used for high-power OPS developments. So those products are just starting to filter into the market at this point in time.

Okay. So these are for new products.

Correct. We're not going to be using it on the existing low power platforms at this point in time.

Okay. I realize that you said you would talk about your next fiscal goals at your next conference call. But just hypothetically, let's say the -- let's just say absent the Excel acquisition, what generally are the next steps that you would work on to improve profitability? It seems like you're very close to your gross margin goal; there's clearly more things you can work on; what other things would you generally focus on?

John, when you say close to our gross margin goal, could you be a little bit more explicit?

Yes, your guidance was very close to that 46% gross margin goal you had given for the fourth quarter. And you gave a couple of reasons why you were a bit --

I just wanted to make sure we were talking about the same number. When we gave the 46% goal, I believe we also highlighted this was a step in a process that it didn't represent an end point. And while it's true that there could be some benefits of -- gross margin benefits associated with the Excel acquisition, there are stand-alone benefits as well. And we want to have a chance to digest the changes that we're making now -- complete the ones that we're making now before we move onto the next set. So, those goals would be independent of whether the transaction closes.

Right. Okay. Thank you very much.

Yes.

[OPERATOR INSTRUCTIONS] We'll go now to Mark Miller with Brean Murray Carret.

Congratulations, another solid quarter. Just a couple of short questions here. Do you feel that there's any opportunity coming from the Vista launch or any impact now -- you're seeing in some of your orders? In terms of semiconductor processing equipment?

Probably don't have that level of detail for you, Mark.

Okay. And the other question was -- am I wrong, is this a record backlog or is it just near-record?

I believe it is a record backlog. If you look at it from the standpoint of months of sales, it's fairly consistent with where we've been historically. I think we've been running at about four -- call it three to five months of backlog -- if you just look at quarter's revenues, that is -- for some period of time. So as revenues are going up, the backlog is going up, as well.

Thank you.

[OPERATOR INSTRUCTIONS] We'll go now to Jiwon Lee with Sidoti & Company.

Good afternoon, just a few short questions. The backlog was pretty high for the quarter, John. If you could just comment a little more on where do you see the strength?

Well in this past quarter, Jiwon, we've seen -- we've seen orders coming in across the board. As I mentioned during my commentary, that all five markets were showing a sequential improvement from modest improvement to a strong double-digit. So clearly, we've built backlog in most areas. If you break it down further, obviously, the larger markets command more of the backlog.

Okay. And in terms of your European material processing market, did you previously have sort of a low expectation? Or what's going on in Europe that sort of drove the upside?

I'm sorry. When you say did we have a low expectation? We normally don't forecast bookings.

I see, okay.

So we wouldn't establish any sort of expectation with regards to bookings. It's not uncommon in this market for various geographic entities to perform stronger in one quarter versus another just based on their own business profile. So I don't think there was anything unusual in that regard.

Okay. And I guess this is a question for Leen. In terms of R&D, 12% to 13% is sort of a normalized rate going forward?

Well, we guided for Q4 to be 12.5%.

Okay. All right, that's it. Thank you very much.

Thanks, Jiwon.

Now we have [Ali Irani] with AI Capital Management.

Good afternoon, gentlemen. Great quarter. I'm hoping you can just clarify for us a little bit why the inventory crept up in the quarter? Whether it was product specific or for the launch of new products? And what it will take to drive that down to improve your cash efficiency? Thank you.

There are a couple of things that I would point to. We had expected to ship a little bit more this quarter and we built -- as I think you're well aware, Ali, we built some fairly complicated equipment. Some of the things that we had slated to get out late in the quarter didn't make it off the dock. That had some contribution to the inventory build. And we've also had to prepare for slightly higher revenues in Q4.

So this seems like something that will fix itself in the next quarter or so? Really in the next quarter.

As Leen mentioned during her commentary, our expectation is to burn it back down to close to the levels that we've seen in the past couple of quarters.

Great. Just looking at the fundamentals, as a follow-on, it seems that -- looking at your bookings, mix and the growth, both sequentially and year-over-year, it really seems that you have a lot of new product drivers. That should give you some fair degree of visibility, outside of the cyclicality of the semi cap end markets. Do you feel better now this year than you did a year ago in terms of that very famous visibility? Is it getting a little bit longer stretch with the new products, John? I mean, this is the best bookings mix I've ever seen from you guys.

I'm hesitant even to say that better or worse, they are always subjective calls. I would say that what we're seeing from customers is a little bit more confidence in placing longer-term orders than they have over the last few years. It's been changing over the past 12 months, let's say. So we're seeing customers exercise more confidence in placing orders.

Just to get a sense a little bit within the microelectronics business, your PCB driver seems to be very strong on the packaging density going up. Could you give us an idea of what part of your business that represents? And I remember a couple of quarters ago of course we talked about the Direct Light business. Is that still a strong driver and do you see a ramp that business continuing?

As I mentioned -- let me answer your first question. We don't break it out in terms of sub-markets, at least we haven't historically broken it out. So it's a little bit challenging to answer the question. But clearly, we're seeing good business right now from the front end and back end of the semiconductor market and the packaging part, piece that you're referring to, is for us, at the back end. With respect to the LDI business, that has been a growing business for us over the past 12 to 18 months. And I mentioned during my comments that we're introducing our -- or we're switching over to a lower-cost platform because working with our customers we want to help accelerate the adoption rate and this will drive a new ROI -- or an improved ROI for customers.

And that's still in the process of qualifying with the customer?

Well, the products, the LDI machines are out there in production use today, and there are quite a number of them. This new platform is going out as we speak.

Great. Thank you very much. Congratulations, again. Great numbers.

Thank you, Ali.

And now we have Doug Fisher with Matador Capital.

I add my congratulations on the quarter. Just a couple of quick questions. You mentioned some spending, I think, that was necessary to meet some new environmental standards in Europe, I think. Could you give me some feel for how long that spending should persist? And whether that's a material number?

Well, as we've mentioned in previous calls, Doug, the regulations actually went into effect on July 1st. So it was important for us to be compliant with those regulations by that date. We still have some clean-up work that we're doing, and as we also mentioned, we would start to roll back those expenses during this quarter. So it will return to a more nominal rate in Q1.

Okay. That's helpful. And without putting too fine a point on it, I wonder if you could talk about the potential for continued leverage on the gross margin side, say in the coming year? Is it possible to talk about how that might play out relative, say, to how it has improved in this past year?

It's an excellent question and I know it's one that many people are interested in. I'm going to defer until the next conference call because we want to make sure we have all our ducks in a row and we can substantiate any claims that we make. But clearly, we do not see the current quarter -- the current targets for Q4 as being an end point. We're striving to continuously improve those and we'll use whatever means are at our disposal to do that.

Okay. And on the OPS platform, is it possible for to you give us some feel for how significant a line that is for you? Or how significant that could be if we look out over the next year or two?

I'll give you a longer-term time horizon on that. If we look at all the possible versions of OPS technology, that physics tell us are possible, clearly we haven't developed all of these products yet. But if you took it through its theoretical limit, we're probably looking at a platform that could touch somewhere between 25 and 35% of the Company's revenue. It can be very significant. But I have to -- I have to caution you at the same time that that's a theoretical statement. We have to go out and actually prove that all of those versions will meet the customer requirements as well as meet our own business requirements. Thus far, we've enjoyed a modest amount of success with the versions that we put in the marketplace. So it gives us reason to be optimistic.

My last question, just in microelectronics; can you give me a feel for how much of the growth in bookings you're seeing there is a function of market growth versus, say, new products, versus share capture? I'm just trying to understand how much is being pulled along by underlying demand in that area.

I'll give you a qualitative answer, based on what I believe is happening. I think we've had some market wins, so there has been some share. We have some new products out there, which are also doing well. And quite frankly, some of our existing customers have stepped up their demands. So actually it's the trifecterate, it hits all three thing that you asked.

And maybe not any one of them disproportionately?

At the present time, no.

Okay. Okay, thanks. Congrats again on the quarter.

Thank you. And we have a follow-up from John Harmon.

Yes, just a couple quick ones, please. In one of your answers, you were talking about some products that hadn't made it off the loading dock. I recall a couple quarters ago you were capacity constrained due to the changes you were making in manufacturing.

Yes.

Are you still capacity-constrained? Or have those bottlenecks been -- ?

These were not capacity issues. We had ample capacity in place. This had more to do with the complexity of the systems that we were building and we simply didn't get them done on schedule for a variety of reasons.

Okay. And last question, certainly, if you look at the semiconductor industry, the book-to-bill index, it's quite strong. It's been increasing. How do you feel about the duration of the strength in your microelectronics business? I know you sell to various segments. But I think one of your competitors was out tonight saying it should -- that competitor expected it to be strong through the rest of the year.

I'll defer to their judgment, then.

Okay. Thank you.

And we have a follow-up from Jiwon Lee.

Hi, John. Could you give us a sense as to the CO2 lasers, the portion in your micro -- materials processing segment? Is that about one-third, give and take?

I don't -- I don't have a number in front of me that would give me confidence to answer the question -- to answer it accurately.

Okay.

But I will tell you that CO2 is a major contributor to materials processing. It's used in a wide variety of applications. So I wouldn't be surprised if it was one-third or more of that business.

Okay, terrific. Good enough, thanks.

And that does conclude the question-and-answer session. Mr. Ambroseo, I'll turn the conference back over to you for additional or closing remarks.

Thank you, Shawna. Again, we'd like to thank everyone for taking the time out to join us for conference call. And we hope to speak to you very soon with good news from the FCO. And best of luck on all of your endeavors.

That does conclude today's conference call. Once again, we thank you for your participation. Have a good day.