Entegris Inc (ENTG) 2011 Q3 法說會逐字稿

Good day, everyone, and welcome to Entegris's third quarter 2011 earnings release conference. Today's call is being recorded.

At this time for opening remarks and introductions. I would like to turn the conference over to Steve Cantor, Vice President of Corporate Relations. Please go ahead.

Thank you, Anthony, and good evening everyone. And thank you for joining our call. Earlier this afternoon, we announced the financial results for our third quarter ended October 1, 2011. You can access a copy of our press release on our website 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 which are outlined in detail in our reports and filings with the SEC. 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 table in today's press release as well as on our website.

On the call today are Gideon Argov, President and CEO; Bertrand Loy, Chief Operating Officer; and Greg Graves, Chief Financial Officer. Gideon will now begin the call.

Thank you, Steve. Good evening and thank you for joining the call. After reaching record levels in the second quarter, our third quarter revenue of $173 million declined 17% sequentially and was below guidance as semiconductor production and capital spending slowed through the quarter across much of the industry. Despite the softening trends in the industry, there were several bright spots.

Sales were strong at the advanced nodes as we continue to win key nominations on new platforms. We executed well both operationally and financially, achieving cash EPS of $0.17 per share and an adjusted operating margin of 16.5%, both in line with the target operating model; and we generated $15 million in cash from operations for the quarter. In terms of Q3 sales, our semiconductor business clearly felt the impact lower industry capital spending and reductions in fab utilization and output.

While the slowdown was not surprising, the magnitude of the reductions in customer fab utilization proved to be more than anticipated as our unit-driven sales declined 15% from the second quarter. Demand for our liquid filtration products weakened, particularly for older process nodes. Many foundry and memory customers operated their legacy fabs at utilization rates of 71% and in some cases even lower in order to work down inventory levels.

In addition, sales of filters were also impacted by the drop in OEM shipments of liquid tools such as wet etch and clean tools and photolithography track systems. Shipments of these tools tend to require purchases of liquid filters in order to get them up and running. These trends were in contrast to demand from logic makers, which grew during the quarter.

In terms of other unit driven products, we achieved record sales of our 300 millimeter FOSB wafer shippers, although this growth was somewhat offset by lower sales of shippers for legacy wafer sizes. Our CapEx driven sales in the third quarter declined 22% sequentially and represented 36% of total sales. This was in line with our expectations and reflected lower OEM tool shipments and fewer fab construction projects across the industry. We felt the impact in our sales of capex-driven products such as fluid handling components, purification systems and FOUPs.

In our markets outside of semiconductor, order trends also softened in TFT-LCD, data storage, as well as sales of graphite products for certain high-tech industrial markets. They all declined modestly. In our newer emerging markets, sales of solar products were flat although we continue to get traction with the new electrostatic chuck used in the ion-implant process for solar applications.

While the demand environment in Q3 was far from ideal, we continue to be pleased with how we're executing our strategy both in terms of our long-term growth as well as financial execution. We achieved a number of design wins for our fluid handling products on new OEM platforms that will yield revenue as sales of those platforms begin to ramp. We also had strong performance from other new products such as our Torrento filters and the 300 millimeter wafer shippers I spoke about earlier, and we continued to win a growing share of available new opportunities for our advanced FOUPs.

Several members of the Entegris senior leadership team and I just returned this week from visiting customers in Asia. The conversations we had reaffirmed our conviction that we are continuing to gain market share at the advanced nodes in both our unit-driven as well as capital-driven product areas. This is a direct result of our strategy to become even closer to our strategic and critical customers. We're doing that in a number of ways, including engaging in more joint development projects, with customers, as well as with key industry consortia and strategically moving resources such as manufacturing and engineering closer to our customers.

As an example of that, last week we inaugurated a new manufacturing and development center in the Hsinchu Science Park in Taiwan, which is a stone's throw from Taiwan's largest foundries and memory makers as well as a number of LCD manufacturers. We're also increasingly aligned with customer technology road maps and are continuing to develop unique solutions to meet their contamination control challenges, particularly for 28 nm and below semiconductor processes for EUV and for 450mm. These strategies continue to serve us well even in the current uncertain environment.

Over the past several quarters, we have performed well against our peers and against industry metrics. Over the past nine months year-to-date we have grown by 16% and have generated significant amounts of cash flow while executing consistently to our model. We expect that when 2011 is complete, it will be a record year for revenues, profits, and cash flow for Entegris.

In looking out to the future, our commitment to R&D and the technology road maps of our customers as well as our momentum in emerging markets is positioning us well to achieve our goal of reaching $1 billion dollars in revenue over the next two to three years. Our board has authorized a $50 million repurchase of stock which will be put in place when our quarterly open-window period begins in a few days. I will now turn the call over to Greg for some additional commentary on the financials and our outlook for the fourth quarter.

Thank you, Gideon. Good evening. Although from a top-line perspective the quarter proved to be softer than expected, we are pleased with our operating performance for the quarter. Our adjusted operating margin of 16.5% and our cash EPS of $0.17 were in line with the target model for the Q3 revenue level. Q3 sales of $173 million were down 17% from Q2 and 3% below the third quarter last year.

Our year-to-date revenue is up 16% from the prior year. The unit driven CapEx mix shifted to 64%/36%. From a geographic perspective, sales to Asia were 37%, North America was 30%, Japan was 18%, and Europe was 15%.

In terms of our performance by division, sales for Contamination Control Solutions or CCS declined 20% after a record quarter in Q2. CCS operating margin was 26.8%. Sales from the Microenvironments division or ME declined 16% despite record sales of 300-millimeter FOSB wafer shippers. ME's operating margin was 16%, reflecting the lower sales levels.

Sales of our Specialty Materials division declined 6% as the graphite business was down modestly both in industrial and in the semi markets. The operating margin for the Specialty Materials division improved to 23% in Q3. This is a record margin for that division.

Consistent with the lower sales levels, consolidated third quarter gross margin was 43.2% as we reacted quickly to the downturn in the business to reduce costs. Q3 operating expenses were $48 million. SG&A was $33.5 million, or $6 million below Q2 reflecting tight control over discretionary spending and lower variable compensation.

R&D expense of $12 million was down about $500,000 from Q2. The relatively small decline in R&D reflects our commitment to sustaining R&D investments to support our initiatives in advanced wafer handling, CMP, lithography and other applications. Our tax rate for the quarter was 17%.

Looking ahead to Q4, we will have a non-cash tax benefit of approximately $29 million as a result of removing the reserves on our tax assets. As a result, beginning in Q1 of next year, our tax rate will be approximately 30% to 32%, although our cash taxes will continue to be approximately 20% to 22%. EPS on a non-GAAP basis was $0.17 per share. The non-GAAP number excludes amortization expense.

Cash flow from operations for the quarter was $50 million, just shy of the record high of $52 million we achieved in Q2. As a result, our cash position reached $229 million, an increase of $38 million over the Q2 level.

As Gideon mentioned, the board authorized a $50 million share repurchase program. This reflects the confidence we have in our strategies and the strong cash flow of the business. Depreciation expense was $6.8 million in Q3 and CapEx was $9.6 million.

We are on track to spend approximately $30 million in capital investments for the year. This includes a new manufacturing and R&D facility in Taiwan, which we opened last week, the migration of additional product manufacturing to our facility in Malaysia, and equipment and tooling for 450 mm wafer handling products.

Looking ahead to Q4, we anticipate another quarter of industry weakness driven by cyclical trends and macroeconomic uncertainty. Given the current environment, we expect Q4 sales of $155 million to $165 million. At these revenue levels, our target model calls for operating margins of 13% to 17% and non-GAAP EPS of $0.11 to $0.15.

In summary, lower industry capex and wafer production clearly impacted our Q3 revenues even as we continued to achieve design wins at advanced process nodes. For the tenth consecutive quarter we delivered financial results consistent with our target model and again demonstrated our ability to flex our cost structure. We are confident in our long-term strategy to grow to a $1 billion in revenues and in our ability to deliver strong cash flow and a high return on equity. Finally, the share buy-back that we announced today demonstrates our confidence in the future of the business.

With that, we'll now take your questions. Operator?

(Operator Instructions). And we'll take our first question from Krish Sankar from Bank of America Merrill Lynch.

Yeah, hi. Thanks for taking my question. I had a couple of them. Gideon when I look at your guidance, can you just help us understand -- I understand both segments would be down. Which is going to be down further; the consumables or the CapEx?

As we look forward, we would expect -- our guidance is sort of down in a percentage basis around -- we'd expect 5%. It is about a little bit more on the capital side, a little less on the consumable side, so low single digits decline in the consumables is what I would expect to see given the trends we see in the fourth quarter. That's a general statement obviously.

Got it, got it. Alright. And then the other question I had was, you guys had seen in Specialty Materials, both semi and industrials are weak,if I remember correctly, industrials was pretty strong until Q2, right? So is this kind of the beginning of the rollover of the industrial cycle, given that it's more of a late cyclical with the semis?

I don't think it's the beginning of the rollover of the industrial cycle, and one thing I want to point out with regard to that business is that's been our top performing business from a growth perspective this year. Year-to-date the revenue growth in that business is about 24%, So overall we have seen good performance in that business this year. We did see a little bit of softness in the most recent quarter, but it was not dramatic.

All right. And then in terms of the gross margin, right, clearly I understand part of it is top line driven, but do you feel it is incremental pressure on your gross margin as you start gaining more market share, or do you think it is just the name of the game at this point?

I was happy with the margin for the quarter given the revenue volume and how quickly we actually saw the revenue drop beginning in July. I think our organization reacted relatively quickly. The margins... we're operating near the lower end of our target model. Like I said, overall, I feel good about the performance on the margin side.

All right. And then just a final question. The $50 million share buyback, is it a certain timeframe on it or is it open ended?

I guess by definition it is open ended. Our expectation is that we would use that over the next twelve months.

Very helpful. Thanks.

We'll take our next question from Avinash Kant with D.A. Davidson & Co.

Good afternoon, Gideon and Greg.

Good afternoon, Avinash.

Maybe you, Gideon, you talked about this already, but just to give us some idea about what's the mix of materials versus capex in the Q4 guidance approximately you are talking about?

I think Gideon mentioned that briefly. But at the midpoint of our guidance, revenue is down 7.5%. We'd expect the capex side to be down something more than 7.5% and the unit-driven side to be driven something less than 7.5%.

Okay.

That will make -- the mix could change a little bit. But it's not going to change markedly from the 64%/36% we saw this quarter.

Okay. And in the Specialty Materials side, you had pretty good operating margins. Could you give us some reasons how you achieved that?

A couple of things. One relates to the margin on the graphite-related products. We have seen some improvement in those margins as we have moved into a lower cost layer of the product there.

The second thing would be we had very good mix in that division this quarter. I wouldn't look for that operating margin. We have consistently said to expect 20% as we get to revenue levels over $20 million. I mean, clearly we did much better than that this quarter. Like I said, largely driven by mix.

And final question, of course, more in terms of visibility -- the broad visibility, how much of it is out there and how have you seen things go maybe thus far in the current quarter?

I think we see a volatile time. It is -- if you are asking whether things have totally stabilized, it is premature to say that. I think you still see some weakness clearly on the capital side, and you see really very different levels of capacity utilization.

We have seen at the advanced nodes, Avinash, demand being quite sustained and quite strong in many cases, and then at the more mature nodes we have seen that the -- quite a bit lower in terms of past utilization.

Actually I will stake one more in. Maybe that's a good team. This has been a good team all around, and that advanced node seems to be doing quite well. Can you give us some idea about what percentage of your sales come from advanced nodes like obviously 32-nanometer and below maybe?

Well, by definition, the percentage of sales in the industry of 32-nanometers and below is something like 5% overall, so you're not going to find that to be a huge portion of our revenue, but what it does bode well for is the future, because we do see quite a bit more intensive demand for those consumable products at the advanced nodes.

Perfect. Thanks so much, Gideon. Thanks, Greg.

And we'll take our next question from Wenge Yang with Citi.

Hi. Thank you for taking my questions. One of their competitors as [inaudible] mentioned, 20-nm ramp is going to start significantly in the next two quarters, and so based on your exposure to the 28-nm, have you seen a similar trend that the 20-nm ramp is starting at this point?

Well, this is Bertrand, Wenge, and I can tell you actually both Gideon and I spent a fair amount of time in Asia over the last several weeks and had plenty of opportunities to interact with some of our major customers. And I will tell you that, yes, we definitely are seeing some greater activity at the most advanced nodes and it correlates for us in actually good performance of some of the leading edge filters such as the Torrento filters which are used in wet etch and clean applications.

What we have also recorded this quarter is historical high for some of our FOSB products, so 300 mm products which set a new record in terms of quarterly revenues, and that's also driven by the demand of a large U.S. device maker here and that's also in direct relation to their adoption of most advanced nodes. So again, as Gideon expressed earlier, we are very confident about the potential of the newest product lines that we have been lately introduced in the marketplace.

What's the overall view in terms of fab utilization rate and also wafer starts in December quarter and in projection for the first half of next year?

It is a complicated story which we don't know all the details of. I would say the likelihood is that again, certainly 45nm and over you're still likely to see utilization somewhat lower than we would like to see it, and then the advanced nodes it will be higher, and I think that that is the expectation here, and then as far as memory goes, other than -- you're likely to see some low utilization in memory as well for obvious reasons into the fourth quarter as well.

Okay. In terms of gross margin when I compare your gross margin in Q3 versus similar granular level last year in 2010, it seems to be down about 200 basis points. Could you give some explanation on why the gross margin is depressed year-over-year at the same revenue level and how is it trending in the next couple of quarters, assuming the revenue maintained the same level?

Okay. So let me answer that. I will answer the second part first. If the revenue were to maintain at the same level as the most recent quarter, I would expect the margin to be relatively similar with regard to the first in that 43% range.

With regard to the first question, when you're in a ramp, you're building inventory. You're putting cost onto your balance sheet. You're not bringing cost down as fast as the ramps. You do tend to have higher margins on the way up, and on the way down you're trying to reduce inventories and take cost out. You don't get the cost out; it is not instantaneous. That would be my answer to that.

I would just underline that point, Wenge. I think one thing we're seeing is a high volatility of demand and a rapid movement. We saw a lot of deceleration go on over a relatively short period, and that's when you do see some impact on the gross margin which goes the other way --

Okay. That helps. Just one last follow-up. It seems that the company is generating pretty decent cash flows and I think this buy-back program is very good reward to the shareholders, so just wondering, I think the question was asked earlier that the timeframe that you want to complete that buy-back and if there is any further plans beyond this $50 million.

I guess, first of all I would say the buy-back definitely shows kind of our confidence in the business. We have said all along that we'll look at our cash balances at every quarter. We typically said we need $150 to $200 million to run the business today, and we're well above that.

We think the combination of that and what we're seeing in the environment makes it a good time for us to repurchase shares. The timing will be dependent on price. I think as I answered the question before, most likely over the next 12 months. As it relates to additional buybacks, when this money is spent we'll again reevaluate our cash position, look at our opportunities, and decide whether to buy additional stock or not.

Great. Thank you.

We'll take our next question from Dick Ryan with Dougherty.

Good afternoon, guys. Greg, when you look at the gross margin, if you said similar revenue levels at 43%, coming in at 43%, but for Q4 you guided down a little bit below that. What assumption are you using for gross margins in Q4?

First what I would say I will come back and say we're committed to achieving kind of the target model and the target model to primary focus is operating margin, so I want to be clear that we will make our model in Q4. As it relates to gross margin, if the revenue is down at, say, the midpoint, I expect that we'll see some additional weakness in the margin from where we operated in the last quarter. It is not going to go down to 40%, but it could be down a point or so.

Okay. And in the expectation or goal to get to a $1 billion, have you changed any of the assumptions to getting there from previous discussions, whether it is market growth, advanced markets, or market share assumptions?

We have not changed our market share assumptions, Dick, and we haven't changed our assumptions for the growth of our core business in terms of new products or what we're doing in some of our newer adjacency areas. The goal that we have set in place does require a positive industry environment, and whether we see that environment in 2013 or 2014, we can't predict.

While we can't predict when the industry will fully recover, we are quite confident that we'll be in a position to accelerate our revenues if that happens. We continue to talk about that and are confident we will get there.

One last one, Greg, on the numbers. What would you use for CapEx for 2012 and where do you think D&A goes?

At this point the only thing I would say with regard to 2012 is I would expect it to be at least consistent with in the $30 million range that we saw this year. We do have a number of significant projects that we're considering, so there is a scenario where it could be higher than that $30 million, but right now as a starting point, I would say use $30 million.

Okay. Thank you.

(Operator Instructions). We'll hear next from Patrick Ho with Stifel Nicolaus.

Thanks a lot. Gideon, in terms of a little bit of color on the share gains you've talked about in the past and on this call, particularly on the unit-driven side of things, can you give a little bit of color which process segments you are seeing some of these or some of the most share gains over this period of time and you know where you expect the revenues to ramp?

Yeah. I mean, as Bertrand indicated earlier, first of all on the microenvironment side, we had a record quarter for FOSB. We're delighted with that, and we expect that growth to continue. We're executing on that fight-back goal and we're on track to be in the mid-20s in terms of market share over the next 18- to 24-month period.

Number two, we have seen very good performance in our filtration products for wet etch and clean, particularly the advanced nodes. Our Torrento products were up again significantly, and that's a positive as well. And then we have seen very good performance again at the advanced nodes in our PVA brush product lines as well. Those are all advanced node related. They're all very strategic goals for us because we're carving out positions that will be long-term and important in nature. And they all relate to the advanced nodes. So we're delighted about all three.

Great. Looking at your balance sheet, inventories were relatively flattish quarter over quarter. Can I read or interpret that as any signal from your capex-based customers that they're kind of telling you to stay ready just in case they get some potential late quarter type of orders and shipment requests? Is that reading into too much of what your capex -based customers are saying?

Patrick, I would say that's reading a little bit too much into it. I mean, what I would say is given our current operating levels, we're focused on actually reducing that inventory balance.

Great, final question, Greg, for you in terms of the operating margin line and the OpEx. I think you guys have done a really good job there. Can you just give a little bit of color of some of the trade-offs you can do on the SG&A line, particularly as you're trying to maintain your R&D investments into the next-generation nodes as well as new process technologies -- how you're able to trade off at least on those levers there?

I would say first of all we're very careful... even if you look back to 2009 when things got really ugly, we have been very careful around our R&D head count and making sure that we maintain kind of the muscle in the R&D organization and we'll continue to do that. In terms of levers, there is a fair amount of discretionary spending in the SG&A line, things like travel and entertainment, where we clearly tightened up, and then obviously the other big lever is variable compensation.

Great. Thanks a lot, guys.

We'll take our next question from Tom Claugus with Graham Partners.

Hi, guys. One question. -I actually have two questions. On Poco, what's the outlook and why wouldn't -- is it still running 60% to 70% semi because it held up extremely well, and so I know we're expecting share gains. I know you were expecting that, but what's kind of the outlook based on what you guys have booked and is it going to be up next year or what's your take on what you think that Poco is going to do?

This is Bertrand. If you think about the exposure to semi versus non-semi business for Poco, semi only represents about 40% of the Poco top line. Now it is true that if you add Specialty Coating to that, which would add up to the what we call internally the Specialty Materials division, the semi exposure would be closer to 50% to 60%. Now, it is true that we have been very pleased with the performance of this division, and one of the contributing factors for this very solid quarter is the very good performance of our E-chuck business, primarily used in the ion implants. This application is primarily in semi, but as you are probably aware, those tools are also finding new applications in solar, so just outside of the semi processors.

Again, so this is primarily the reason why we have seen a very stable environment for our SMD division and I would expect for Q4 to see some relative stability to this business. Now, I won't comment really about 2012 because that's far away and too distant and I reserve the right to make that comment durning the next quarter. But again, as of right now we expect this business to continue to perform extremely well as part of our overall portfolio divisions.

One additional point, Tom, on Poco, which maybe an obvious point, but we are also spending resources on new product and new market development within the ESMD business as well, and that will bear fruit. There are actually very interesting and significant efforts in those areas that are on-going and some of the what I can tell you is that some of the capacity that we just opened up in Taiwan actually is related to products that are ESMD products and designed to bring us closer to Asian customers. So longer term, whether it is quarter A or B or C, we never know because it is a macro situation we're dealing with, but we're investing in that business because we think it can continue to grow in some very interesting directions.

Okay. And then my other question was on SG&A. The takedown was pretty significant, $5.6 million sequentially. Was that -- was there some one-off items in there? Is that what we should model for next quarter going forward or what's your -- because that's $20 million a year.

It will be up slightly next quarter. We brought our variable compensation down for the year, and that had a meaningful impact because we're bringing that down for the prior two quarters as well as the third quarter.

So I should expect some rebound in Q4 then?

Yeah, but nothing like we saw back in Q2 and see it up a $1 million or $2 million.

Okay. And R&D, you're just going to hold around the $12 million level?

Yeah. For the most part.

The R&D is going to be held around 12 million?

Yeah, the R&D, I mean, our goal is to keep that relatively constant. You can see it fluctuate a little bit one way or the other.

It is not going to go up, Tom, if that's the question.

Okay. Thank you.

(Operator Instructions). We'll hear next from Steve Schwartz with First Analysis.

Good evening, guys.

Good evening.

My first question, Gideon, I think you made a comment in your prepared remarks that unit-driven sales were perhaps weaker in the quarter than you expected, and so my question is given the level of production -- chip production, what would you have expected sales to be, and ultimately the reason I am asking this question is to try to understand whether or not you believe your customers are drawing down inventories.

So that's a very good question, in fact. The shortfall was primarily in our liquid filtration products which was really impacted by two factors as we said. Number one, the fab capacity utilization in older nodes through the quarter was more depressed than we anticipated and then secondly, as we said, there were lower shipments of OEM wet tools and those things have filters on them as well. And it is the case that probably there was some drawdown of inventory , and what that is related to and whether that goes back to Japan and so forth is unclear and won't know the answer, but my sense clearly -- our sense is that there was drawdown of inventory which really was partially the cause of this trend that we

Okay. And so I know you guys don't typically forecast or offer up your outlook view on these sorts of things, but if the industry is saying that chip production starts to come back in the first quarter, then you might expect to see a little bit of a bump, then, in your purchases as inventories get rebuilt?That's possible, right?

Yes, that is the case. If you look historically at the trends in our unit-driven side of our business, that is exactly what happens pretty much like clockwork. So when that happens, that will occur.

Got you. Okay -- I'm sorry. Go ahead?

It's Greg. One other thing I just mentioned, we talked about it before, remember, our unit-driven business is not like Cabot or ATMI where they're putting a little bit of something on every wafer. Ours is very correlated to unit production, but we talk about units as products that have a life of less than 18 months. I guess the other thing I would point you to is our unit revenue is up 15% for the year.

Okay. Greg, since you are at it, my follow-up question, and this ties a little bit to what Patrick was asking about with respect to inventories. If I could ask this from another way, looking at the cash flow statement, it does look like in the third quarter you consumed a little cash on inventories.

During downturns, there are quarters where you can generate as much as $10 million in cash from inventory. Can you tell us a little bit about what we might expect there and maybe what happened for the fourth quarter, maybe first quarter; and kind of what was behind the third quarter number?

I think as I said a little earlier, our goal is clearly to reduce inventory in the fourth quarter, so we should generate some cash from that initiative. And as you look at the cash flow overall for the fourth quarter, I wouldn't expect it to be as strong as Q3 even if the revenue is similar because we did generate an awful lot of cash in Q3 from receivables coming down.

Okay. Very good. Thanks, guys.

We have no further questions at this point. I would like to turn the conference back over to Gideon Argov for any additional or closing remarks.

Thank you very much for joining our call. Have a good evening. We look forward to speaking with you in the future.

This does conclude today's conference call. We thank you all for your participation.