Entegris Inc (ENTG) 2006 Q2 法說會逐字稿

Good day everyone and welcome to Entegris' second quarter 2006 earnings release conference call.

[OPERATOR INSTRUCTIONS]

At this time for opening remarks and introductions, I'd like to turn the call over to Mr. Steven Cantor, Director of Investor Relations. Please go ahead, sir.

Thank you and good afternoon and thank you all for joining our call today.

Earlier today we released Entegris' financial results for the second quarter ended July 1, 2006. You can access a copy of the press release on our website, www.entegris.com.

Before we begin, I would like to remind listeners that our comments today will include some forward-looking statements. These statements involve a number of risks and uncertainties and our actual results may differ materially.

These risks and uncertainties are outlined in detail in this afternoon's press release and in the Entegris 2005 10K report as well as in other reports and filings with the SEC. We encourage you to carefully read those documents.

On this call we will also refer to non-GAAP financial measures as defined by the SEC in Regulation G. You can find a reconciliation of non-GAAP financial measures to the comparable reported results of operations under GAAP in today's press release as well as on our website. In addition, all numbers discussed on this call unless specifically noted reflect results from continuing operations.

On the call today are Gideon Argov, President and CEO, John Villas, CFO, Jean-Marc Pandraud, Chief Operating Officer, and Peter Walcott, General Counsel.

Gideon Argov will now begin the call with some prepared remarks.

Thanks, Steve.

I'll make some comments about the June quarter then I'll turn the call over to John for the second quarter financial highlights and our outlook for the third quarter. I'm pleased to report another strong quarter for Entegris. Sales from continuing operations of $181 million grew 15% from the March quarter and were above the guidance we gave you in May.

Our earnings per share from continuing operations were $0.13 on a GAAP basis and $0.17 on a non-GAAP basis. Most notable was our achievement of an operating margin of 18.8% of sales on a non-GAAP basis. These results are an indicator of the potential of the platform we believe we are building here at Entegris.

It's been one year since we completed the merger with Mykrolis in August of 2005. The goal of the merger was to create a business with global scale and scope supported by a predominantly unit driven business model with close customer intimacy and products that are indispensible to our customers.

Our strategy was to complete the first phase of the merger by integrating as quickly as possible and achieving the cost synergies for the merger. Those initial goals have been completed. The results of the cost saving steps we've implemented are evident in our second quarter operating results.

We're fully integrated as a company and it reduced our operating footprint in square footage by about 1/3 since the time of the merger. So we're pleased with what we have achieved over the past year but we have more to do. In order to fully realize the potential of the merger over the next two years, we intend to do the following three things.

First, we're focusing our product strategy on solving our customers' most challenging contamination control issues particularly at the advanced technology nodes, as they deploy 65 and 45-nanometer technologies and beyond. We expect to increase our sales per fab in part by a virtue of value of these solutions to our customers in terms of optimizing their manufacturing yields and their returns on investment.

At Semicon West in July we talked about how we are focusing our development and market efforts to surround three key processes. Photolithography, wet etch and clean, and CMP.

Our pipeline of new products and systems that address these applications is robust and promising. We expect these products to be rolled out to the market over the next several quarters.

Second, we intend to achieve the top line customer and technology synergies from the merger. We are only in the early phases of seeing these results which should become increasingly evident in 2007.

And third, we intend to continue to leverage our operating model through a broad range of initiatives to increase the operating efficiencies around the Company.

Turning to the second quarter business trends. We achieved growth in every product category. Sales of unit driven products which were 58% of Q2 sales grew from the first quarter and were boosted by demand for liquid filters as well as shipper products for data storage applications.

Liquid filter sales reflected a continued growth in semi-conductor output and relatively high fab utilization rates particularly for our Japanese and North American IBM customers as they ramp-up 65 nanometer processes. We were particularly pleased with the performance of our flagship line of quick change filters for wet etch and clean applications as well as our point of use filters for photolithography applications.

We achieved growth in wafer shippers particularly for the smaller wafer sizes. The market for 200 millimeter wafer shippers continues to grow and remains quite resilient. Q2 sales included a modest amount of 300-millimeter shipper sales as we continue to complete the final qualifications for our new FOSB product with certain wafer growers.

Other unit driven products did very will. Sales of bisque shippers for 65-millimeter and 95-millimeter data devices grew robustly and were better than expected. These products are part of the approximately 25% of our business that addresses markets adjacent to the semi-conductor market.

The data storage market experienced healthy growth in Q2 for 65-millimeter drives which were used in laptops and also for 95-millimeter drives which are used in a host of consumer electronics such as digital video recorders and video game consoles. Orders for these product tend to follow seasonal patterns and we expect order growth to moderate in these products through the end of the year, offset by reductions in our order backlog.

Sales of capital driven products were 42% of second quarter sales and reflected strong growth of liquid systems and gas micro-contamination controlled products used in the photolithography process. Specifically sales of liquid systems grew 36% from the first quarter and were stronger than expected.

A significant portion of this growth was from sales of our two stage pump used in New Trac tools and in retro-fit applications to dispense, resists and other coatings onto the wafer. We are the technology and market leader in this area and we extend this leadership with the introduction at Semicon West of the Intelligen Mini, lower cost version of our successful pump with a significantly smaller footprint that extends the high level of precision and performance of our current product.

Another area where we experienced good growth in the quarter was our liquid sensing and control products which serve a range of wet etch and clean as well as CMP process applications. Wafer transport products, such on his our 300-millimeter FOUP continued to perform well.

Gas micro-contamination controlled products grew due to demand for gas purification systems as well as our liquid lens system used on advanced lithography steppers. All in all, we were pleased with the quarter.

I'll now turn the call over to John.

Thank you, Gideon.

As I go through the financial highlights in my prepared comments, I'll refer to supplemental information that we have provided in this quarter. Sales from continuing operations for the June quarter were $180.7 million. This was 15% higher than the March quarter sales of $157.7 million.

For the first half of 2006 sales were $338 million. On a geographic basis, our Q2 sales were as follows, Asia 32%, Japan, 22%, North America 30% and Europe 16% of total sales.

Our GAAP net income was $18.2 million or $0.13 per diluted share. On a non-GAAP basis which is adjusted for merger related and other charges and expenses net operating earnings from continuing operations were $24.4 million or $0.17 per diluted share.

I want to point out that reconciliation information between our GAAP and non-GAAP results is disclosed in today's press release and can be accessed on our website. The quarter's results included merger related and other restructuring charges of $1.2 million, merger related amortization expense of $3.5 million, integration expense of $2.9 million and integration related stock-based compensation expense of $1.5 million. I'll reference each of these items as I discuss the rest of the income statement for the quarter.

Gross margin for the second quarter was 48.2% of sales and included a $700,000 benefit from the gain on the sale of a building that was part of our facility consolidations which was partially offset by approximately $400,000 in restructuring costs and integration related expenses. Excluding these items, gross margin in the second quarter was 48% as raw material prices remained relatively stable.

The gross margin reflected a sales mix driven by growth in liquid systems and shippers for data storage components, products which generally have lower than corporate average gross margins. ER&D expenses of $10.2 million increased by about $1 million from Q1 to support key new product development initiatives.

SG&A expenses of $52 million reflected expenses associated with higher business levels excluding $9.4 million of merger related expenses and other restructuring charges, total operating expenses were $52.8 million or 29.2% of sales. This represented a decline as a percentage of sales from the March quarter on a comparable basis, reflecting the impact of integration cost savings and other efficiency programs.

As I indicated, total integration expense in Q2 was $2.9 million relating primarily to severance and retention costs as well as consulting fees. To date we've incurred approximately $32 million in integration related expenses.

Total stock-based compensation in Q2 amounted to $4.1 million which included $1.5 million related specifically to restricted stock grants made to retain and incentivize key executives in connection with the integration process. As expected these integration related amounts continued to decline through 2006 as these grants are amortized.

Adjusted for merger related and other charges and expenses, non-GAAP operating income from continuing operations increased 36% sequentially to $34 million or 18.8% of sales. EBITDA from continuing operations for the second quarter was $41.4 million.

We reported income tax on a GAAP basis of 9.3 million in the quarter. Our year-to-date tax rate was 33.5% which we expect will be the effective income tax rate for fiscal 2006.

Weighted average shares on a fully diluted basis for Q2 were 140.6 million. We expect this will be about 141.9 million for Q3 based on our assumptions for option exercises and the vesting of restricted stock grants.

Turning to the balance sheet we have a very solid financial position. Cash, cash equivalents, and short term investments were $311 million. Ending inventories of 100.9 million increased about $15 million from March reflecting the higher sales levels. The increase was also due to inventory builds to support our manufacturing facility consolidations and to meet customer delivery commitments.

Accounts receivable increased $10.7 million as day sales outstanding were 67 days versus 71 days at the beginning of the quarter. Despite the increase in inventory and accounts receivable we generated $28 million in cash from operations in the quarter.

Total depreciation and amortization was approximately $11.1 million and capital expenditures for the quarter were about $6 million. Total capital spending for the year is anticipated to be approximately $35 million inclusive of investments associated with the expansion of our Malaysia facility which is expected to come on-line in November.

Turning to our outlook, we expect business trends to remain positive through the quarter even as sales of our liquid systems and liquid micro-contamination products moderate somewhat from their strong levels in Q2.

As such we expect third quarter sales in the range of $170 million to $180 million. We expect GAAP net income per diluted share to range from $0.11 to $0.14. Adjusted for approximately $6 million in merger related charges and expenses, we expect non-GAAP net operating earnings per diluted share to range from $0.14 to $0.17.

With that, we will now take your questions.

[OPERATOR INSTRUCTIONS]

We'll take our first question today from Timothy Arcuri from Citigroup.

Hi, guys, this is actually Brian Lee calling in for Tim. I just have a few questions.

During your Q1 call you commented that incremental gross margins should track at around 55% to 60% as you scale up about a $200 million run rate. Looks like you guys came in a little light this quarter. I know it was partly due to the mix. Could you give us some additional color on where the short fall might have come from outside of mix or was it completely driven by the mix?

It was primarily all driven by the mix. Certain product lines have higher gross margins and have also higher incremental gross margin impact when sales increase in most product lines.

This quarter as we mentioned our liquid systems business increased 36% sequentially. We also had very strong growth in our data storage offering. Both of those product offerings do have lower than average corporate gross margins.

It's difficult to control our mix, obviously we're in business to satisfy our customers and we're pleased with the performance we had this quarter to get those products out the door, but they did have some impact on our gross margins with the mix.

Okay, so it would be incorrect to assume that maybe some of the margin pressure was a result of maybe the initial heavy lifting related to--as you shift product over to Asia primarily specifically Malaysia at this point. Is that kind of an incorrect assumption?

Yes, this is Gideon. It is an incorrect assumption, our Malaysian facility won't be open in its expanded form until October. It's slated to open in October and that's when it will.

We have shifted some product lines around the world as we've closed our German manufacturing facility as well as reduced our footprint in some North American operations. Frankly that has not had any margin impact at all.

Fair enough. What sort of visibility do you have on wafer start activity at your customers? Maybe you can comment on how this is trended particularly in recent months and maybe as you look ahead what you're seeing? Thanks.

This is Jean-Marc, I have a cold, so I hope you can hear me correctly. Visibility in this industry is, I would say, an oxymoron.

When I look at the forecast given in June, we forecast given in January, I've seen all of these numbers changing from huge number to smallest number and vice versa. On the capacity of the question, I believe we should see a flat lean in the next quarter--quarter three versus quarter two. We certainly enjoy 5% to 6% growth from the first quarter to second quarter but I believe it's going to plateau a little bit in quarter three.

Okay, thanks and then last thing from me, it looks like you ended the quarter with about $2.20 in cash on the balance sheet. Are there any plans on implementing a share buyback program in the near future? Maybe you can just give us an idea for what your plans are with respect to cash position? That's all I have.

Sure. Our plans with our cash position is to use it in a way that increases shareholder value. Obviously, we believe the best way to do that is to identify and focus on the kind of acquisitions that complement our core business. And if and when we make those, then that certainly will be the best use of that cash.

And our next question today will come from Brett Hodess with Merrill Lynch.

Good afternoon. I have a couple questions.

First on the high growth rate in the liquid systems in the quarter, is that because of some of the new products that were introduced or because your customers are ramping up new products at this point? If you can give us some color on what went on with that sharp mix shift?

Brett, that is Jean-Marc.

It's all over the board. The good news we have liquid system which is a fully deployed business unit right now. In fact, but we are not contemplating before not available to us.

Whether it's coming from Japan, or from North America or from Europe, most of the tool manufacturer in these key geographies are now counting on us to develop some new products.

And all the names you know in Europe, North America and Japan are currently dealing with us and not only liquid immersion, lithography, not only (inaudible-heavy accent)--CMP systems and Trac are all being available in this second quarter.

In fact, my problem was the ability to cope with all these demands. And our people did a good job.

So as we look forward, even though you said it would moderate a little bit from the strong level in 2Q. Would we expect that liquid system giving all those differing demand points would continue to grow at a rate perhaps higher than the core business? The other businesses I should say.

This is a correct statement. The third quarter command--no, nobody knows what activity. You have some good news coming from Somalia and some mixed news coming from (inaudible-heavy accent) and some great news coming from some little group as well.

We do know this business is (inaudible-heavy accent) you see the reason why we have this cautious approach that it might moderate in the third quarter or so. But today I don't have an indication that it is going moderate when I (inaudible-heavy accent), we are pretty bullish.

I want to add one point to that, Brett, this is Gideon.

Obviously, quarters are pretty arbitrary markings of time as far as business. We cannot sit here today and say clearly we will not have another 36% percent growth in that business next quarter, I can sign a piece of paper right here that says that.

Now we also can't say exactly what the growth rate will be in one specific quarter or another for that small a part of our business. But it's important to realize that in the liquid systems business, couple of things are important to note.

Number one, it is an area where a lot of the synergies from a revenue standpoint from the combined companies are taking shape. But before you reach the wrong conclusion from that statement, remember that liquid systems are just what they are, they are systems and they involve significant sales of consumables that are embedded in the systems and become ongoing recurring revenue.

Our aim when we engineer a liquid system that handles fluids or purifies gasses and may include a variety of capital type equipment is to embed equipment that is recurring revenue nature equipment, obviously filters and purifiers that need to be exchanged, exchangers and so forth. And that is a significant ongoing revenue stream.

It is a double boost, but it certainly is an area where we do see a lot of technologies coming together in ways that frankly our customers are really going to enjoy. Because they will have to spend fewer of their engineering hours on sub-systems and more dealing with putting together the entire envelope, if you will, and integrating the tool, which is what they should be doing in the first place and what they're happy to do.

Absolutely. And that sort of got right into the second half of my question, Gideon, which is, given the growth rate in the last couple of quarters and particularly this quarter of course and sort of the system side of your business.

The installed base of products that use your consumables has grown quite a bit. So as we move into the second half, if you have--if the cautious outlook of the flatter wafer environment perhaps in 3Q occurs, wouldn't your unit business continue to maybe grow a bit better because it's growing off an installed base if you will that has grown quite a bit in the last couple of quarters.

Right, you are absolutely correct. I would say that there are some systems that we will not even take for doing the job because we (inaudible-heavy accent), but what's important for us is to have a component of filters, of the gasses, of purifiers, onboard systems because we do ensure our revenue stream.

Whether we build the system ourself or whether somebody else does it for us. We start to see that today. Most of this CMP system, (inaudible-heavy accent), Trac system, and also immersion lithography system are all carrying a good load of consumable attached to that. As we are placing them in the field, you are right, they will generate revenue, that will be a consumable revenue going forward for many, many years.

Very good. Thank you.

Thank you.

For our next question today we'll go to Avinash Kant with Canaccord Adams.

Good afternoon. My first question was actually kind of very similar to the discussion in the previous question. Given that the guidance at this point for the next quarter seems to be pretty much flattish from the current quarter. Should we be expecting a different mix of unit in CapEx in the September quarter and should that also be impacting margins in any different manner?

This is John. Actually, mix, we said that we thought that our liquid systems, our CapEx, one of our drivers of our CapEx spending will be down a little bit.

We said that our liquid micro-contamination will be down as well which is a unit driven business because of some extraordinary shipments this last quarter to get caught up with some customer demand.

It really is a mixed bag, our gas products will be--we expect we'll continue to do quite well.

Avinash, Gideon here, if our mix in Q2 had been exactly the same as it was in Q1, but we achieved obviously higher revenues by 15%, our gross margin would have been 100 points, 100 basis points better approximately, just to give you some sense.

So there is--instead of 48% it would have been 49%, there is a difference that happens, but it's not--it's not another solar system. It's another planet in the same solar system if you know what I mean. That's what you want to keep in mind.

Of course before they synergy--you have talked about synergies being roughly $20 million in cost savings by the time you finished them. Now that you are done with it, do you think you ended up doing better than that?

Yeah, we do. We do--when you grow, you also flex your operating expenses. So what I can tell you is, yeah, we did better than that. We are not done. Avinash, we are not done.

We have an intense focus in the Company on making this a very, very efficient, productive platform. Frankly, whether the industry is having a good year or not having a good year because we can't impact wafer starts. We can't impact the cycle.

We can impact our own growth through putting out innovative products and dealing with our customers micro-contamination issues, the advanced technology nodes. We think this will increase our sales per fab as those fabs and those wafer starts start to skew toward those nodes. But irrespective of any of that, we have an intense and abiding focus on making this a highly efficient platform.

And one final question if I may, in terms of the commentary from the customers, would you be able to see any difference in terms of what your larger customers are saying versus what the memory guys are saying? Any difference from the regions that you have seen?

My comment was more related to the OEM, the tool manufacturers when I made this comment, the liquid systems.

Thank you so much. Thanks, John.

Our next question today comes from Daniel Berenbaum with Susquehanna Financial.

Hi, good evening, this is Robert Spandau for Dan. Quick question about Q2 versus Q3, were there any pull-ins from Q3 that made Q2 look a little stronger than perhaps we expected?

No, in fact, no, we haven't seen that at all.

We built backlog, actually.

Yeah, we in fact built backlog a couple of million of backlog in the second quarter.

Okay, great. You mentioned that you're not done with the integration process. If that's the case, should we expect better operational control over the coming quarters than what we see in guidance?

Well, it's--one way to think about it is we're never going to be done. We are--what we have to do here is to have a focus that doesn't end with a statement that we've said we've won the war.

We're not in here to win the war in one quarter. We're here over a long period of time to make improvements in our--I would say the leverage that this platform provides.

There are a lot of ways we do that. We do that by over time shifting resources and production closer to our customers and into lower cost areas. We do that over time by hopefully, intelligently making decisions on what to make internally and what to buy and doing that in a way that decreases our costs.

We do that over time by stressing the development of products that have high margins because they're consumable. These are all parts of what we do every day. But it's not--we're not declaring victory. We're just declaring so far so good and now on to the next step.

Okay, great. Thank you.

We'll take our next question from Hari Chandra with Deutsche Bank.

Thank you. In terms of the global manufacturing optimization initiative that you talked about. What are the key limits that are currently underway? When can we begin to see the favorable impact of that in gross margin?

The answer is all of the above which I just went through, to be honest with you.

There's not a silver bullet in there. There are a lot of different initiatives. I can tell you about our continuous improvement initiatives, but that's not for this call because it's a long story.

Frankly, as you know, and to be a really good company, one has to basically focus on incremental improvements every single day. I mean every single quarter. And while that may not sound exciting, when we look back a year from now, two years from now, I think the results will be exciting.

It's true that we are shifting capacity over time and resources over time to areas that are close to our customers. And it's true that the fastest growing geography for us, no question is Asia, that is where many of our growing customers are located.

If you look at, as we did a few minutes ago, the growth of our business in Asia, it has been--it has been pretty remarkable, actually, in percentage terms over the past three years. It's basically quadrupled to be honest with you. We expect that to drive many of the initiatives that we take as we extend.

Also in terms of the near term outlook being a little cautious, should we assume the third quarter gross margin to trend down? And secondly, in terms of the longer term, how should we see 2000 shaping up? Or from standpoint of new fabs, or fab expansion opportunities and how it is impacting--how it might impact your unit driven or CapEx?

I mean, in terms of mix for the coming quarter, we will probably have less of a liquid system which has a lesser margin, but we will more of (inaudible-heavy accent) micro-contamination which has a better margin.

So we should balance out pretty nicely. For the right--we are thinking about 35 new fabs coming into play about every year, about 927 fabs currently in action. We are trying to serve them very well.

We have a lot of product, a lot more product than before. Our sales solution on the globe and our presence there. So I believe the coming future looks great for us.

With the mix we have today of 58% of our business being unit driven, 42% capital driven, you will see these numbers shift a little bit when you go into a softening from a capital standpoint, you would go back to the 60%, 61%.

We still remain in eminently dominated unit driven business in the 60/40. 60% consumable and 40% capital.

Let me just make a comment which relates to your question.

One of the things that not easy to see from a numbers standpoint or to describe as an initiative that has a beginning and a middle and an end because--is a process of getting a sales force--we have over 300 highly trained people in our worldwide field operations throughout the world.

And remember that a year ago, half of those people roughly knew about half the products in the Company that exist today and the other half knew about the other half of products.

One thing that's really critical to understand, it's impossible to see it as well from the outside so I'm trying to describe it for you is the cross-trading that has gone on in order to familiarize people in the sales force in what we call the global product support part of the organization so they can be more effective in selling a broader range of products.

I won't go into a huge amount of beef on that. That is actually having a very important long-term impact. And frankly there's a bit of a logarithmic organizational impact with that kind of a training that goes on. It gathers--it's like a snowball effect. And I think you'll see that as we move forward.

Gideon, in your opening remarks, you talked about increasing revenue opportunity on a 4-5 basis, can you give us some color in terms of how much is it and what is the run rate that you see as all this synergies come to trickle?

What we--we are going to do some work to try and provide some background for you and others on this call, which we frankly don't have today. Very honestly, I don't have all of the information you're looking for, except, say, that we're working on giving you as much transparency as we can and when we have that, we'll give that to you.

If you look at the consumption of the kind of consumable products that are the mainstay of our business in many ways, whether they are stand alone products or whether they're products become recurring revenue products, on installed capital equipment that we put in.

You look at the consumption of these products at the 90 versus 65, versus 45-nanometer type of environment, there's a very significant increase, let's just put it that way in terms of consumption with many of these products. And the reason is simple. There's less room for error. 193 lithography is a good example.

There is no room for any kind of contamination, be it organic, be it ions, be it, frankly, of a molecular level in an environment that's around 193-nanometer lithography. Because the result is substantially of loss and degradation of the process. So that's an opportunity and we see a hole like that, we're going to rush right through there as fast as we can.

Thank you. And our next question today comes from Chris Blansett with JP Morgan.

Hello, this is [RJ Sopra] calling in for Chris Blansett, and I have a couple of questions. One is with regards to your 300-millimeter FOSB shippers. You had mentioned that you have qualification going on at several customer sites. Would you give us an update on how that is going? How many events do you have if any and what's the outlook for that gong forward?

It's going very well indeed. I am closing Minnesota today, but the manager of my business dealing with that is currently in Japan. And he has been in Japan for the last two weeks dealing with our key partners there. He is very busy.

As you know, we have very limited market share in that area so it takes some time to build up. We are very hopeful that we will see the light very, very soon and we start to see some very good news now.

Just to prove a point, in fact, when you look to that 200-millimeter performance and we have been there for many years serving this industry. This has been the great, great news for us in the second quarter.

Our shippers, our carriers did very well. And you should expect that in future (inaudible-heavy accent) today, is it substantial? No, it's not, but it will soon, and I got some report today that things are tracking very nicely.

Okay. Another question on your unit driven business. I know you talked about this a lot already.

Can you give us some idea what the linearity of orders was through the quarter and how that's tracking with the orders in July? And also if you could provide some color, is there a difference logic versus memory or by technology node that you're seeing?

What I can tell you is that the aggregate growth was bout 15% of the Company, which means about 12% to 15% for the consumable business and 19% for the capital driven. So this was the dynamic, if you want, for the second quarter.

And for July, I mean, the guidance is currently reflecting the fact that we see things pretty well after five weeks in the third quarter. And the fact that we still give guidance in the 180 for the third quarter, where still people are wondering whether it's going to plateau or still grow should be interpreted as a positive thing.

By different logic, no, we don't do these--we don't do these reporting. So we don't report by type of device. For us whether we deal with (inaudible-heavy accent) or other kinds of devices it's still (inaudible-heavy accent) activity and doesn't need to be segmented that way to analyze our business.

So I would take that to mean that you're already seeing the plateauing in July then?

You never know. The September, August and July time frame is always a question mark in this industry and September is only four, five weeks, as you know.

The only way is to take into account some kind of uncertainty. We are also ramping-up production in the front places as Gideon mentioned Malaysia, (inaudible-heavy accent) with a couple of tools, ready to ship.

Large quantities of product in our FEP business, which is the data storage business as well and whether we are able to manufacture all that in due time. We have to take in account this uncertainty, which is the reason you have such a guidance of $10 million from 170 to 180.

Your next question today comes from Jim Covello from Goldman Sachs.

Good afternoon, most of my questions have been answered, just a simple one.

Do you have any measure or idea of how much you would be undershipping the demand for your customers products? So in other words, if your customers are in the process and your customer's customers are in the process of liquidating inventory, do you have any messor or idea of how much you're undershipping consumption.

I'm trying to get a feel for how long it might take to work through some of the inventory issues throughout the supply chain?

No, we don't have too much visibility for the customers of customers. What we have visibility is for products we ship. Some of the products have four to six weeks lead time, some of them only a couple of days. But we have not seen this inventory build, a little bit of that beginning of the quarter. I don't think we have seen anything significant that would be worrisome at this time.

I mean, there's no question your customers and customers' customers have a lot of inventory, that's just showing up on their balance sheet. I guess the question is, if you don't have a great feel for how much inventory they have, I'm not saying of your product, I'm just saying overall, how can you be comfortable in the full numbers for the second half of the year?

Last time we gave the guidance, we had 8 million gap between the minimum and max, this quarter we gave 10 million, that I'll adjust to reflect some kind of question marks around this potential (inaudible-heavy accent).

But as a customer or customers' customers. We have to take into that account because those are our public and we can see that as well. This is the best we can do at this time.

When I look at the prediction again six months ago versus what we are today, for every analyst in the industry, numbers have shifted dramatically. For 2006 and also operation for 2007 as well, because they are obviously interlinked.

Great, thanks so much.

And our next question comes from Stuart Muter with RBC Capital Markets.

Yes, this is [Mahed Sanganinia] for Stuart. One clarification, first, for the quarter just reported in the guidance, you still include the stock option, which is not merger related--is that correct?

Yeah. Our stock-based compensation expense for the quarter was about $4.1 million and about 1.5 million of that was specifically related to integration related grants.

That you have it in non-GAAP but the 2.6 million is still included in the non-GAAP?

No, that is included in GAAP. That 2.6 is in our GAAP.

And non-GAAP?

Yes, I'm sorry yes. Only 1.5 million is split out as an adjustment to our GAAP earnings.

So what do you expect the stock option expense for the next quarter? Which is not merger related?

It should be in a similar kind of range for our merger related stock grants, we said that expense would drop to about $1 million, $1.5 million. All other stock-based compensation expense should be in a similar range to what we just had.

So about $2.5 million?

Approximately.

For the September quarter, from your guidance, it looks like your gross margin coming at around 48%. So is that where we should be modeling going forward? That for 175 million revenue level your gross margin would be around 48% and R&D expense would be around 10 million? Is that a reasonable starting point?

It's not an unreasonable starting point. We gave guidance, obviously, that we'd be at $0.14 to $0.17 non-GAAP for 170 to 180 million in sales.

I think as Gideon mentioned, we'll constantly be honing the model and making sure we have the right expense levels to support our customers but also to make sure we're driving as much as we can to the bottom line.

Thank you.

Thank you.

[OPERATOR INSTRUCTIONS] We'll go now to Mark Fitzgerald with the Banc of America.

Just a couple of quick questions. Did you guys get any expedited orders in this recent quarter from OEMs?

During the second quarter?

Yes.

No, not really. We had (inaudible-heavy accent) in the first quarter but not in the second quarter. It has been a pretty smooth quarter.

Second, historically when I followed micros, you talked about the fourth quarter as being a seasonally strong quarter for you, the December quarter because of the shutdowns. Would that be true still for the combined company?

Yes. Thank you for remembering the old days. So I would say the shutdown and the fab replenishment for consumable is happening every quarter I would say.

The Chinese new year is one big time. Obviously we have the end of the year which is an opportunity in the western world. We see these altering trends especially in an upturned environment.

Fabs want to make sure they have the right consumable available to them on a quarterly basis. When I look at my liquid micro-contamination revenue, it's very smooth now quarter after quarter, during the last several years. So I don't think we necessarily called for booming fourth quarter this early.

Just third question. You talked about a pipeline of new products here over the next couple of quarters. Could you give us any sort of quantitative sense of what that means in terms of the impact on the product mix? Are we talking 5%, 10% impact?

In terms of the next quarter?

No, in terms of the pipeline and new products that you plan to launch?

Yes this is my 40 million in 2007. We have a list of about 10 key platinum projects internally, which are mostly synergistic project between various business unit bringing technology to the same platform.

And all these product, you mean when you think about it $40 million on 10 project is only about 4 or 5 million per project. They are important, but we are not bidding everything, we are only bidding from one single project. You have five business unit all sharing those ten key projects. We are busy with between one and three projects per business unit and we do expect to bring this 5, 6% additional growth to the market growth in 2007.

Okay, thank you.

Thanks.

Our next question today will go to Jesse Pichel with Piper Jaffray.

Do you have a target for those new products for 2008 in terms of revenue or growth?

We have targets. It's premature to talk about them on this call. Obviously, they'll be higher than 2007.

This is the second quarter we've outlined photolithography, wet etch and CMP as your growth engines. Is CMP the most pronounced opportunity and could you share with us what milestone targets do you have that we should track?

I'm not sure I understand, do you mean from a--

For these new products, how many customers do you have in qual? Have any of the customers moved out of qual? Have you launched any? You've launched, I guess, two new products.

Yes, in (inaudible-heavy accent) everything is a specific product when you deal with a lithography company in Europe, and you know who I'm talking about, sure we have a couple of specific project which are specific to them. When we deal with wet etch and clean product, we have another Europe and company, same story, they are different applications and we have to be good enough at customizing for them.

When we deal with CMP application in North America, exactly the same. In the valley, in Silicon Valley here we deal with a couple of OEMs and they have specific projects.

What's important for us is to be dealing with the one, two or three key leaders, the rule of three applies, we are no more than two or three players per key application. I can tell you we are working with each of them.

Did you say you had two quals for CMP?

I don't want to be too specific on CMP but we are working with two key important people in CMP.

John, two house-keeping questions. Your merger and integration costs were slightly lower than your guidance, 2.8 million versus 4 million and I was wondering is there anything to be read into that?

No, I wouldn't say so. We did indicate that our integration process should be pretty much complete by this time frame. We are still working to optimize some of our systems. So that's one of the reasons we'll have some trailing integration costs in this quarter. So I wouldn't read anything into that.

And that's flat sequentially for September?

Integration expenses? No, I think we indicated that we would have about 1.5 million between integration and restructuring.

For both, okay.

It's trailing off quite rapidly.

Now with some of your capacity reduced there, what is your revenue capacity here at the end of '06?

I don't think you should read a reduction of capacity. What we have done is what Gideon mentioned that we are reduce the footprint of manufacturing sites by 20, 25, 30%. This is true. Production capacity we are in fact increasing it.

What would that be at the end of this year in terms of revenue capacity?

It's different by product. Let's just say that we don't foresee the need to add significant square feet to increase our capacity any time in the next two to three years, given our current products.

We will add equipment. We will add fixtures. We may add shifts here and there. Obviously we're adding some square feet in Malaysia. You should not--we are--we have a lot of capacity.

And finally, there's a press release during the quarter about a favorable patent infringement case. Is there any additional background you can give us here or discuss any type of financial implications there for Q3?

Sure, let me ask Peter Walcott, our Senior Vice-President and Legal Counsel to comment on that. Peter?

We view as IP a critical success factor in being able to produce differentiated products. We were successful in resolving a pending patent lawsuit on terms that respected our IP, and we expect that to be beneficial going forward. We will, on an ongoing basis, aggressively protect our intellectual property.

Would some type of royalty income be part of your future mix and could that potentially be a margin enhancer?

It's possible. That is not our overall strategy. We are--our strategy is to manufacture, differentiate products and sell them to our customers, primarily. I wouldn't build in your model any kind of royalty stream.

The former Entegris had some type of royalty plan in Asia. Is that still ongoing? Or am I incorrect in that?

There are some modest revenue, but they come incidentally. This is not the strategy of a company to just grow the business by getting revenue from royalties, but since we have IP, we sometime are in a position of collecting royalties, but I would not model that into a financial model. It's not really significant.

Great. Thanks very much.

And we'll take our next question today from Colin McArdle with Needham & Co.

I had two quick questions from a balance sheet perspective. The first was DSOs in the quarter went from 71 days to 67 days. I wondered if there was a targeted level for DSOs and what that time frame might be, building on that success?

We really had some good cooperation as we came together as a worldwide team and working and focusing with DSO with our customers. I'm really pleased with the effort.

Some of these things are a little bit related to timing and when the quarter ends and it's arguably that we did have a good success, we are pretty much in synch with industry ranges for our comparable companies. Over the next 6 to 9 to 12 months, would we like to drop that a few more days? Yes, that would be certainly a target we'd be striving towards.

Secondly, with 28 million in operating cash in the quarter, 370 million or so in total cash and equivalents, do you have any plans for that? Or is there anything in discussion?

First of all, we're happy to hear we have 370 million. Last I checked it was 311.

I'm sorry.

Maybe there's some more there.

No, no, no, I don't have the numbers right here.

Look, as I said earlier, we have a great platform and one which has a number of businesses which reside in sort of fragmented fields that present opportunities for interesting, accretive and focussed purchases. When we make one of those, we will tell you about it and that's about all we'll say about using that cash at the present time.

Okay.

And that does conclude our question and answer session. At this time I'll turn the conference back to Gideon Argov for closing remarks.

Thank you for joining us. And we look forward to hearing you and talking with you next quarter. Have a great day.

Ladies and gentlemen, this does conclude our conference, we appreciate your participation and you may disconnect at this time.