Coherent Corp (COHR) 2016 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to Coherent's second-quarter fiscal 2016 financial results conference call, hosted by Coherent, Inc. (Operator Instructions). As a reminder, this call is being recorded. I would now like to introduce Bret DiMarco, Executive Vice President and General Counsel. You may begin your conference.

Thank you, Scott, and welcome to today's conference call to discuss Coherent's second fiscal quarter financial results. I would like to remind everyone that some information provided during this call may include forward-looking statements, including, without limitation, statements about Coherent's future events, bookings, anticipated financial results, financial guidance, the expected completion and timing of the recently announced Rofin-Sinar transaction, and the expected benefits and other information related to the transaction.

These forward-looking statements may contain such words as expects, will, anticipates, or intends. These forward-looking statements are only predictions, and are subject to risks, uncertainties, and assumptions that are difficult to predict and may cause actual results to vary significantly. Factors that could cause actual results to differ materially include the risks associated with demand for our products; our ability to convert bookings into revenue; worldwide and regional economic conditions; the risk that the proposed transaction may not be completed in a timely manner, or at all; the challenges and costs of closing, integrating, and achieving anticipated synergies; and the risk that the proposed transaction disrupts current plans and operations and potential employee distraction and retention difficulties.

These and other risks are set forth in more detail in Coherent's periodic SEC filings, including our most recent Form 10-K, Form 10-Q, and Forms 8-K. These forward-looking statements reflect beliefs, estimates, and predictions as of today, and Coherent expressly assumes no obligation to update any such forward-looking statements.

I will now turn the call over to John Ambroseo, Coherent's President and Chief Executive Officer.

Thanks, Bret. Good afternoon, everyone, and welcome to our second fiscal quarter conference call. It has been an extraordinary three months for Coherent, during which we announced a major transaction and shattered the bookings record. I want to commend my colleagues for their focus and hard work to make this happen.

We posted record-setting bookings of $496.4 million in the second fiscal quarter, representing increases of 81.8% against the prior bookings record set in our first fiscal quarter, and 125.1% compared to the prior year period. The book-to-bill for the second quarter was 2.48.

Scientific orders of $26.6 million decreased 21.1% sequentially, and were nominally flat compared to the prior year period. Several factors affected Q2 scientific bookings, including seasonal effects, a slow start to China's new five-year plan, and a delay in increased NIH funding reaching researchers. We believe these issues will self-correct over the next few quarters.

Ultrafast applications continue to dominate the research landscape. The two largest areas are multiphoton imaging and time-resolved spectroscopy, where the lasers serve as cameras with ridiculously short shutter speeds. Historically, research lasers have been in their own class, but the emergence of short-pulse processing in materials processing, medical therapeutics, and microelectronics is starting to drive a convergence of research and commercial platforms.

For example, we introduced the Monaco, an all-fiber, ultrafast laser, with easily selectable performance for processing everything from semiconductors to eyeballs. The Monaco has now been mated to a new parametric amplifier, the Opera-F, to produce tunable wavelengths for use in MPE and spectroscopy. At the same time, it brings products built to commercial standards into the research market, which should improve reliability and lower operating costs for the scientific community.

Record instrumentation orders and OEM component orders of $58.9 million increased 95.9% sequentially and 3.2% versus the prior year period. The large sequential swing reflects the timing of certain OEM orders, as well as key design wins. Bioinstrumentation orders were fueled by several large POs from core accounts, record demand for integrated subsystems, and increased adoption of clinical applications from cytometry to DNA sequencing.

Design wins in several clinical application also bodes well for future business. And as I have said on past occasions, we believe the market will continue to migrate toward subsystems. This plays to the breadth and depth of the OBIS platform.

The medical OEM market roared back to life, with orders nearly tripling on a sequential basis. Customers cited improved confidence in market conditions when placing longer-term orders for ophthalmic, predominately in vision correction, and aesthetic products for hair removal. Demand for medical consumables was also very good due to market share gains, leading to an increased number of procedures on the part of our customers.

Microelectronics orders of $367.8 million rose 94.7% sequentially and 248.8% compared to the prior year period. The build-out of OLED capacity generated more than $300 million of orders for Linebeam 1000, Linebeam 1500, and UV Blade systems in the second quarter. The UV Blade is used for laser lift-off in flexible OLEDs. These systems will be delivered to end customers in South Korea, Japan, and China. We can't disclose the mix, since specific products are tied to certain end customers. Our biggest challenge is maintaining changes to customers' delivery requests, which have occurred as they have updated and refined their execution plans.

To meet these requests, we are dedicating one Linebeam 1000 and one Linebeam 1500, which would have been revenue units in Q3 and Q4 fiscal 2016, to optics qualification. In other words, we are slowing down to speed up. There is an additional large tranche of orders in excess of $100 million remaining in the current build-out phase that we expect to book before the end of the current fiscal year. The combined capacity will support a share inversion between LTPS-LCD and OLED for mobile from 80/20 today to 20/80 by 2019. Any broad adoption of OLED in tablet, computer, or automotive displays would require significant upgrades to older LTPS tools, and/or additional capacity.

The outlook for semi CapEx spending is flat to slightly up in 2016. We expect investments to be made to increase capacity at 10 nanometers. Semi service revenue is also rising as chip inventories have come down and utilization rates have climbed. Given the flatness in handset sales, the API market is slow and stable, with project specific activity. This will likely be the norm until the feature size shrinks or the material set changes.

Record material processing orders of $43.2 million increased 112.4% sequentially and 36.6% versus the prior year period. Though bookings performance was led by very strong demand for cutting and converting of metals and nonmetals, that included a major win for aluminum cutting in consumer electronics and multiple orders for textile processing, we also received record orders from automotive manufacturing OEMs and had very good results for additive manufacturing applications.

While Chinese customers contributed to these results, the broader Chinese market remained volatile. Low-power marking and engraving, a staple of the Chinese market, recovered from a weak Q1 but is still soft. The bounce that typically follows Chinese New Year has not fully materialized. The sheet metal market, which has also been slow for the past couple of quarters, appears to be improving. It will have to accelerate further to repeat the outstanding results from 2015.

Our second-generation fiber laser platform has been qualified by an OEM for welding and cutting, including copper. It is a notable milestone for the team. The validation process is ongoing, and we look forward to further qualification decisions in cladding and cutting.

Following the mid-March announcement that Coherent had agreed to acquire Rofin-Sinar in an all-cash transaction, both parties have been focused on various filings and integration planning. We continue to expect that we will be able to close the transaction in 6 to 9 months from the date of announcement. Rofin has filed their preliminary proxy and should be announcing a date for their special meeting shortly.

We have two substantial opportunities ahead of us in the OLED build-out and the Rofin acquisition. The team executing the OLED ramp is focused on delivery schedules and the long-term service annuity, which includes an eventual transition to contract rather than event driven service. The intercompany team working on the integration is assessing how to best support the combined customer base, create revenue and cost synergies, and finalize the plan for the first 100 days.

Both opportunities provide substantial revenue upside, earnings power and cash generation. As we have previously mentioned, we will use the cash flow to aggressively pay down the acquisition financing. Needless to say, we are very excited about the OLED ramp and the acquisition can do for our customers, the Company and our shareholders.

I will now turn the call over to Kevin Palatnik, Coherent's Executive Vice President and Chief Financial Officer. KP, you're up.

Thank you, John. Today, I will first summarize second-quarter fiscal 2016 financial results, then move to the outlook for Q3. I will discuss primarily non-GAAP financial results and ask that you refer to today's press release for a detailed description of our GAAP results, as well as a reconciliation between GAAP and non-GAAP financial results. The non-GAAP adjustments relate primarily to stock-based compensation expense, amortization of intangible assets, acquisition expense, and the related tax adjustments. The full text of today's prepared remarks and trended GAAP and non-GAAP supplemental financial information will be posted on the Coherent investor relations website. A replay of this webcast will also be made available for approximately 90 days following the call.

Second quarter fiscal 2016 financial results for the Company's key operating metrics were bookings of $496.4 million, total revenue of $199.9 million, non-GAAP gross margin of 45.3%, non-GAAP EBITDA of 20.9%, and non-GAAP EPS of $1.04. John talked about our record bookings quarter of $496.4 million in detail, so I will move on to the P&L.

Net sales for the second quarter of $199.9 million increased $9.6 million or approximately 5% sequentially. Sales increased sequentially in all four of the markets we serve. Approximately half of Q2's sequential increase was in the materials processing market, where we saw an increase in shipments related to marking and cutting.

Geographically, Asia accounted for 51% of the Company's revenues for the second quarter, the US 27%, Europe 16%, and rest of the world 6%. Asia includes two territories with revenues greater than 10% of total sales. Specifically, Japan and South Korea represented 25% and 14% of second-quarter revenues, respectively.

Total backlog of $707 million at the end of the second quarter is also a record for the Company. The shippable backlog, defined as shippable within the next 12 months, is approximately $469 million. This includes $225 million, or approximately 48%, of shippable bookings related to flat panel display applications. The comparable shippable backlog at the end of the first quarter was $370 million, of which $169 million or approximately 46%, related to flat panel displays.

Other product and service revenues for the second quarter of fiscal 2016 were $59 million, or approximately 29% of sales. Other product revenue consists of spare parts, related accessories, and other consumable products, and was 23% of sales, representing growth of 3% compared to last quarter. Revenue from services and service agreements were approximately 6% of sales, virtually flat sequentially. We had one customer in Japan, an integrator to large flat panel display manufacturers, who contributed more than 10% of the Company's second-quarter revenues.

Second-quarter non-GAAP gross profit excluding stock-based compensation charges and intangibles amortization was $90.6 million or 45.3% of sales, which compares to 45.1% last quarter. The sequential increase of 20 basis points was mainly the result of favorable operating leverage due to higher production volumes. Although non-GAAP operating expenses, excluding stock-based compensation expense, intangibles amortization and acquisition-related costs, increased sequentially in absolute terms, they were 26.8% of sales and came in better than the guidance of 27.5% to 28%.

Non-GAAP operating margin was 18.5% for our second quarter, and when depreciation and deferred comp expenses are excluded, we yield a non-GAAP EBITDA of 20.9%. This is approximately the midpoint of our longer-term goal of 19% to 23%.

Turning to the balance sheet, cash and cash equivalents and short-term investments was $361 million at the end of Q2, an increase of approximately $25 million compared to the end of last quarter. International cash, primarily in Europe, was $323 million or approximately 90% of the total cash and investment balance. About 70% of the total cash and short-term investments is denominated in dollars. Similar to last quarter, we ended the quarter with $5 million of short-term borrowings. Operating cash flow for the quarter was approximately $31 million, primarily driven by increases in working capital.

Accounts receivable DSO was 68 days, similar to last quarter. However, we expect to see fluctuations in our DSO based on the timing of our larger flat-panel display system shipments during future quarters. The net inventory balance at the end of the second quarter was approximately $179 million. This is a sequential increase of $21 million, primarily due to increased WIP levels to support the flat-panel display demand ramp up. Capital spending for the quarter was $11.5 million or 5% -- 5.7% of sales.

Now, I will turn to our outlook for the third quarter of fiscal 2016. We expect our third quarter fiscal 2016 revenue to be in the range of $205 million to $215 million. As was identified in the Q1 earnings call, the impact of the significant increase in the flat-panel display backlog will positively impact our fiscal 2016 second half and future revenues. This impact is more significantly skewed to our fourth and future quarters than Q3.

Having said that, and given the magnitude of Q1 and now Q2 bookings, I am compelled to talk about fiscal 2017 as well. We expect 2017 revenue to be in the range of $950 million to $1 billion, excluding the Rofin transaction. Clearly this is a wider range than our quarterly guidance, since the revenue driver in this time frame will be the Linebeam 1000 and 1500s, and they ranged in list price from approximately $10 million to $20 million.

Now, returning to our outlook for Q3. We expect the third quarter non-GAAP gross margin to be in the range of 42.5% to 44.5%, a temporary decrease from this quarter's results, mainly due to manufacturing inefficiencies related to the ramp up of flat-panel displays. Non-GAAP gross margin excludes intangibles amortization of $1.3 million and stock compensation costs estimated at $700,000.

Non-GAAP operating margin for the third quarter is expected to be in the range of 15% to 18%. This excludes intangibles amortization, estimated at a total of $2 million and stock compensation expense of a total of approximately $5.6 million. Other income and expense is estimated to be immaterial. We do not include transaction gains and losses related to future changes in foreign exchange rates in our outlook.

We expect our non-GAAP tax rate to be in the range of 27% to 28% for the fiscal year. And finally, we are assuming weighted outstanding shares of 24.4 million for the third quarter. With regard to our participation at upcoming conferences, we will be presenting at the Stifel Technology Conference on June 7 in San Francisco, and the CJS Conference in White Plains, New York on July 12.

I will now turn the call back over to our operator, Scott, for the Q&A session.

Jim Ricchiuti.

Congratulations on the bookings numbers. Question: just as we think about how this is going to roll out -- Kevin, thanks for the preliminary guidance for fiscal 2017. Can you say whether there would be meaningful shipments from the flat-panel backlog beyond that period? I am just trying to get a sense as to how much of this flat-panel backlog is going to be shipping over this time frame through fiscal 2017.

Yes, Jim, Kevin here. So, as we said in the prepared remarks, our total backlog is $707 million. The 12-month piece of that is $469 million. And then within that $469 million, about half or, call it $225 million, related to flat panel. So, looking at those numbers, we clearly have additional shipments and therefore revenue beyond fiscal 2017.

And John, I think you mentioned that there is potentially another order or tranche of orders relating to this. About approximately $100 million and that you think will fill out this major buildout with potentially -- depending on what happens in the market -- additional orders beyond that? Is that a way to think about it, this last piece will conclude the bulk of the buildout?

I would look at it this way, Jim. There is another large tranche, and then I think is a steady-state business beyond that. But in terms of looking at the capacity that would be needed to drive this market share inversion between LCD and OLED, these orders will represent the bulk of that and we'll be shipping them through 2017 and into 2018, as Kevin has already stated.

Okay. I may have missed it. Did you give a number or an increase in the flat panel service portion of the business in the quarter? And when would you think that that business could shift over to -- from the current model that you have?

So, historically speaking, flat panel shipments have converted into the service pool about six months after they get to the customer. So that is the qualification process and then the initial warranty period. I don't foresee anything in the current business that would change that, so the units that we are going to be shipping in the second half of the year will hit the service pool sometime second half of fiscal 2017. And then you just roll that forward.

And then shifting to contract model, when is the timing on that, do you anticipate? Or is that going to take some time to -- I assume, to negotiate with customers?

So the key thing on the contract model is making sure that we are in violent agreement with the customer as to what performance parameters we are going to be measuring. Because we have seen a variety of results when tubes have come back from customers. Some of them are completely depleted. Others are still running and meeting many but not all of the specs.

And before we move to a contract model, we have to agree on what it is that we are going to be measuring for the purposes of that contract. We will probably make some progress on that in the remainder of the year. It's possible that we could start to enter some of those contracts in 2017, but still I want to stress there is still a lot that we have to learn and agree upon with the customer.

Okay. Thank you.

Patrick Newton.

Congratulations on the very nice order flow. I guess jumping right into flat-panel display, John, can you talk a little bit about the capacity side? Is the Company fully ramped on the capacity additions you talked to last quarter? Given the level of orders that you received this quarter, could we see future capacity additions to make sure that the delivery times do not extend much further than where you are already booked out to?

So, the delivery schedule has been developed in conjunction with the customers. I have to say that recently they have asked -- some of them have asked to reorder shipments, which has caused us to come up with a new process. And that is why I alluded to the fact that we are pushing a 1000 and a 1500 into permanent optics qualification, rather than doing them -- building a system at a time. As far as adding additional capacity, I don't see that there is necessarily a market need for it today in terms of being able to meet the customers' desired delivery window. If that changes, of course we will have a discussion about it. But it is predominantly going to be manpower at that point. I don't think it's going to be space.

Great. And then on the service revenue, John, in your prepared remarks or maybe it was the press release, you talked about long-term annuity stream that is associated with these orders. Is there a rule of thumb that you could provide us with on the service business, i.e. a system should equate to about -- the service portion of a system should equate to about 5% of its purchase price per annum, or any type of rule of thumb?

Patrick, I would -- we have not given that data in the past because customers consider that pretty proprietary. It is even harder for us now, because the mix is going to change pretty significantly between LCD and OLED over the next few years. And with it comes a higher service demand. Because as I have pointed out on various occasions, the OLED process window is tighter than the LCD process window. So, the historical norm doesn't really hold here. We will need more information to see what that number looks like. And you'll probably see it right along with us, because it will be a real-time event.

Okay, fair enough. And then, Kevin, I think one question that Jim asked previously that I do not believe was answered is, in the past we were provided with some data points around how the LDU revenue fared as a percentage of your total business, and whether it was a growth rate year-over-year or some type of data point on that -- from that perspective. Is there anything you can provide us with for the March quarter?

Yes, Patrick, so on the website, you'll see the breakout into the four markets for revenue. Specific to services, we have never broken it out at that level. It has always been for the total Company and that was in my prepared remarks. That was 29% of revenue at about $59 million.

Okay. But for example, last quarter you said that LDU was up 9% sequentially and 20% year-over-year without providing absolute numbers. So, there is zero data point that you could provide us there?

Okay, so I did not do, obviously, the call last quarter, so I am not familiar with it. Let me go check to make sure that LDU was provided and then I can always follow-up.

Okay, perfect. And then just last one pertaining to the Rofin-Sinar transaction. Kevin, I might have missed it, but have you guys provided a coupon rate on the debt issuance associated with the purchase?

It is all in the filing. Just to be specific, you will see it there, but the term loan B was LIBOR with a 1% floor, 4.75 up and OID of 99.

Perfect. Congratulations. Thank you for taking my questions.

Joan Tong.

I might have missed the numbers. I just want to make sure I've got that right. For the quarter, did you deliver any large format system?

We did not comment on what we delivered during the quarter, and we rarely do.

Okay. And so I assume that you will not talk about whether in Q3 you -- in Q3 what's your assumption in terms of how many systems you are going to deliver?

No, and Joan, I'm going to refer back to the comment I made. Certain format tools are tied to very specific customers. So, if we start breaking it down, we are telling the marketplace what kind of capacity is going into the hands of a specific customer, and we can't do that.

That's fine. But then you mentioned that after the quarter closed, you actually booked another $100 million, am I correct?

No, my comment was that we expect one additional large tranche of orders in excess of $100 million that will book before the end of the fiscal year.

Got it, got it, okay. And then a question regarding the EBITDA targets. In the past you talked about EBITDA targets. I think it is 17% to 23%. And then you said that when order flow comes in, and started to ramp, and you probably would come in at the high end of the range, like in the out year. But that is predicated on the non-flat-panel display business being stabilized at a good stable base. Can you just comment like, you know, in a broader sense, how is your non-display business doing?

Joan, it's Kevin. Let me first talk about the numbers and then I will hand it to John for the long-term strategy. Just to be specific, our longer-term goal when we talked about this was between 19% and 23%. So, call it 21% at the midpoint. And for the quarter, we came in at 20.9%. So, virtually right at the midpoint. So to get the high end of that range as we look at some of these larger systems coming in with higher margins, we expect in time to move or approach that higher end of that range. John?

Joan, you are recalling correctly from the last quarter's conference call, that I said if a certain number of things happen, break our way, that in fact we could pass the high end of that range. That is not a 2016 event. We would have to look at 2017 and 2018 for that to happen. Again, a lot of planning has to be done. But certainly the orders and the mix are favorable right now.

Right. And how about your non-display business? What's your outlook like for next year?

You need to help me here because I'm a little lost on what the question is.

I was just basically asking, the non-display business, a lot of people (multiple speakers).

Oh, the non-display?

Yes, exactly.

I'm sorry, I thought you said the display business.

No (laughter).

What we are seeing in the other businesses -- and I will start with the easy one, which is scientific. It is a GDP plus or minus kind of model. Nothing that we see today suggests that there is going to be any difference there. The instrumentation business right now is enjoying a bit of an upswing. With a number of new applications coming in, we see that as a mid- to high-single-digit grower over a long-term period. It feels like it is in that range.

The materials processing business, our growth was predicated on the introduction of the fiber laser and successful adoption, where we felt we could grow above the market rate. I would say that is a little bit in flux, because there is a lot of moving pieces associated with the pending acquisition of Rofin. But, overall, I would say we have a generally stable non-display business to work with.

That's very good. Thank you.

Larry Solow.

A bunch of my questions have been answered. I will just ask a few more general ones. John, in terms of the opportunity in flat panel going forward, so it looks like a lot of these sales are -- or the majority are the conversion from LCD LTPS to OLED. It sounds like you feel that most of the -- beyond the next tranche of orders, you will be mostly complete with that. Is that --? And then I guess growth then would just be penetration of high def screens in OLED going forward, and then bigger screens, and then other things outside cell phones? Is that a good way to look at it?

I'd say sort of. The orders that we've booked thus far and what we believe is coming in over the next couple of quarters at least is all for mobile. So those are screen sizes up to 5, 5.5 inches in today's standard. But I did make a note in my prepared remarks that anything that goes into tablet, computer displays, automotive, that would have to be incremental capacity to what is going in today. And certainly there seems to be a fair amount of interest in moving up the size scale.

We have heard that certain laptops are going to be released with OLED displays. We know that a number of car manufacturers are looking at it. They can do low volume demand with existing capacity. But once they go to high volume, it is tough to be able to feed both markets with the capacity that is out there today.

And will growth just on the -- from where we stand today, within the handset market also -- if things -- in terms of better, more penetration on just the high def screens, will that -- is that still something that will need increased capacity? Or is that something that will -- may not need it?

Today, you probably have somewhere between 65% and 75%, maybe even as high as 80%. I have not seen the most recent numbers on what the penetration of high-definition screens are into the handset market. This is really driving the conversion from LCD to OLED. The overall growth of the handset market, as you're probably well aware, is low single digits at this point. So, it's a repeat -- it's the replacement market that offers the opportunity here, and the first wave of that comes with putting OLEDs on a lot of these devices.

Got it. Just a couple of specifics; the gross margin, I think you guys had thought it was going to be down a little bit sequentially, about 100 bps or so, and it actually went up. I think you called out why it went up, but was there any sort of -- what was that versus what you had -- your prior expectation, the difference there?

Yes, Larry, this is Kevin. So we came in on a non-GAAP basis at 45.3%. That is up slightly from 45.1% last quarter. The guide was 43.5% to 44%, and there was a myriad of things that we thought were going to happen to pull it down a little bit. We worked our way through that. In addition, with some additional or higher volumes in certain areas, that helped with the overhead absorption, if you will. So we landed 20 bps up.

Got it. Okay, okay, let me just see -- any other questions? I am pretty well set. I guess last question, John, just another global one. With such a good opportunity in front of you, it looks like several years on the OLED side. Do you -- with the acquisition of Rofin, do you concern yourself that you're getting into a little bit more of an industrial market, more cyclical markets? Is that something that maybe the benefits outweigh the risks, but is that a risk?

If we felt that the risks did not outweigh the benefits, we would not have done the deal in the first place. The industrial market or the materials processing market is the largest market for lasers in the world. Yes, it has its ebbs and flows, but I think in the long term it makes a world of sense for us to be more invested in the world's largest laser market as one of the premier laser companies in the industry.

Got it, great. Okay, great. Thank you.

Jim Ricchiuti.

This is just a quick question with respect to that long-term target EBITDA margin. So, is that Coherent standalone, or are you talking about the impact longer-term of folding in, merging with, acquiring Rofin to get to that kind of -- I am just curious, as you talk about a long-term target margin, does that encompass Rofin?

Jim, this is Kevin. So when that target was developed, Rofin clearly had not been announced. It may have been contemplated, but I will tell you independently, that 23% high end of that range, that was developed as a standalone Coherent number, not the combined.

Sure. So that is more of an intermediate type goal, okay. Thank you.

At this time, we have no further questions in the queue. I will turn the call back over to John Ambroseo for any additional or closing remarks.

Thanks, Scott. I want to thank everybody for your participation. As Kevin mentioned, we are going to be attending a couple of conferences in the next few months and we hope to see you -- some of you there. And we will certainly speak again in -- at the end of Q3. Thanks.

This concludes today's conference call. You may now disconnect.