Intevac Inc (IVAC) 2008 Q1 法說會逐字稿

Welcome to Intevac's 2008 first quarter results conference call. All lines have been placed on mute to prevent any background noise. After the speakers remarks there will be a question-and-answer session. (OPERATOR INSTRUCTIONS) Please note that this conference call is being recorded today April 28th, 2008. Kevin Fairbairn, Intevac's President and Chief Executive Officer, is hosting the call today.

I would now like to turn the conference over to Mr. Fairbairn. Please go ahead sir.

Thank you. Good afternoon, and thank you for joining us today. With me are Jeff Andreson, our Chief Financial Officer, Luke Marusiak, our Chief Operating Officer, and Joseph Pietras, our Vice President and General Manager of our Imaging Division. After Jeff reads the Safe Harbor Statement I will give a progress report on our first quarter activities and then Jeff will discuss the first quarter results and provide our guidance on the second quarter and fiscal year. We'll then open up the call for questions. Jeff.

Thanks. During the course of this conference call we will comment upon future events and make projections about the future financial performance of Intevac. Including statements related to projected orders, shipments of our products, revenue, gross margin, operating expenses, other income, profitability, tax rate, earnings per share, investments, capital expenditures, depreciations and stock-based compensation expense. We will discuss projected demand for hard drives, our 200 Lean system and upgrades, the status of our product development programs, the customer qualification status for our new products, and competitive advantages on why we believe Intevac can be successful. We will discuss our plans for military and commercial low-light imaging products, the expected market sizes for these products, projected applications and anticipated orders and shipments for these products.

These forward-looking statements are based upon our current expectations and actual results could differ materially as a result of various risks and uncertainties, including without limitation the possibility that markets for our products may not be as large or develop as quickly as projected, that we may not be able to develop and deliver new products and technologies as planned, that if the auction rate securities market recovery is delayed. That we may fail to achieve expected cost reduction, tax rates or financial results and other risk factors discussed in documents filed by us with the Securities and Exchange Commission including our annual report on Form 10-K and quarterly reports on Form 10-Q. The contents of this April 28th call include time sensitive forward-looking statements that represent our projections as of the date of the call. We undertake no obligation to update the forward-looking statements made during this conference call. Any redistribution of this call without our expressed written consent is strictly prohibited. Kevin.

We are pleased to report our first quarter results. We met our revenue guidance and exceeded our earnings guidance. Revenues totaled $33 million with two 200 Lean shipments in the quarter. We generated $1.6 million profit or $0.07 per share which exceeded the high end of our guidance by $0.05 per share. Our results include a net tax benefit of $1.3 million or $0.06 per share, and pretax stock option expense of $1.6 million or $0.04 per share. Jeff will provide more details on the tax benefit later.

Highlights for quarter included orders for seven 200 Lean systems, including production orders for two Gen II systems. We also shipped our first 200 Lean Gen II Evaluation system. Imaging had a record quarter in total revenue as well as product revenue as we execute on our strategy of transitioning to a product driven versus contract R&D business.

In our equipment business, the public drive companies have all reported positive results for the first quarter of 2008. With disk based shipments increasing significantly compared to the same period last year. Their forecasts indicate year-over-year disk growth of 15% for 2008. In addition, customers are reporting an increase in the average number of disks per hard drive. Trendfocus is forecasting an increase from 1.75 to 1.85 average disks per drive or 5%. This is being driven by accelerating mobile shipments and high capacity drives, both of which contain multiple disks. This is very positive for our business because increasing disk shipments is a driver for more systems like our 200 Lean. Again, Trendfocus is currently forecasting the demand for this media to grow 19% year-over-year reflecting the increase in disk per drive.

Given the current economic climate, we expect our customers to continue to be cautious on their capacity addition but at the same time be reactive to any positive changes in market demands. While we expect to ship fewer 200 Leans in 2008 compared to the past two years, this is mainly due to our customers' use of legacy systems that have been sitting idle for at least a year. We expect this factor will be behind us after 2008 and that growth will resume in 2009.

On the last call, I introduced our latest generation magnetic media deposition system which we call 200 Lean Gen II. We ship our first evaluation system in Q1 and received orders for two production systems in the quarter. The Gen II system features a 25% improvement in throughput to 1,000 disk per hour with improved vacuum performance and reduced particle contamination compared to the original 200 Lean, and is being received very positively by our customers.

A hard drive business will always be driven by capacity additions. But it is also driven by major media technology shifts. Investors will remember how the transition to perpendicular media drove our business to record levels in 2006. The next major change is now within sight and can be expected to have a very positive impact on our business. This new technology is called patterned media, with the first implementation known as discrete track recording. This new technology involves creating discrete media recording tracts on the disk through lithography patterning and subsequent processing. This technology is in the late stages of R&D and our customers who have been using wafer related equipment to prove feasibility. However this equipment is not compatible with high productivity, low cost media manufacturing.

The 200 Lean solution we are developing for patterned media will provide new process models engineered for this next technology mode. The emergence of patterned media will require twice the number of 200 Lean systems per media manufacturing line in order to produce the same output. It is anticipated that this new technology will start deployment in 2010. However, there is a possibility that this date may slip if customers find ways to extend existing media technology.

I'll now turn to our Lean Etch program. We continued tobe very busy on the program optimizing process recipes for customers advanced application. The slowdown in capital spending witnessed by all companies in the semiconductor equipment industry has affected the timing of new capacity additions. Which means that it's evaluation decisions have pushed from our prior expectations. We are continuing to work with our customers with the goal of shipping evaluation units during this calendar year.

In Q1 at one of our targeted customers, we were involved in a very competitive first round demo runoff against other major semiconductor equipment companies for consideration as their leading edge, Dielectric Etch development system choice. I am pleased to report that we made that cut with some very good results. Further competitive demos are required before a final selection is made. We are working very hard to win this. Successful results combined with our very competitive cost of ownership will help us win production orders in the future. These multiple rounds of competitive demos do mean that the earliest shipment date for our Lean Etch system is likely Q3. We are also pursuing opportunities to other leading memory customers and making good progress. Our goal continues to be to get our system qualified in 2008 with follow on orders in revenues commencing in 2009. Joe will now give you an update on our Imaging business.

Thank you, Kevin. I'm pleased to report that our Imaging Instrumentation business achieved record revenues of $6.2 million in Q1 with product revenues achieving a record high of $2.1 million or approximately one-third of our revenue. This is nearly double the level of product based revenue in Q1 of 2007. This transition of our imaging business from a primarily contract R&D to a business driven primarily by products is a key driver of our growth strategy. We are on track to achieve over 50% of our revenue in 2008 from product sales.

During Q1, we delivered a record number of our digital night vision camera modules. An exportable version continues to be supplied to SAGEM, our NATO customer, as well as a notable number of units being supplied to various U.S. military customers. We expect to double the production levels during 2008 in order to beat SAGEM and U.S. military demand. We have received funding and are on track to introduce a next generation sensor with enhanced performance for various U.S. military applications during the latter half of 2008. We continue to work with our partner DRS Technologies to develop an advanced design of our digital enhanced night-vision goggle known as DENVG. This advanced design will incorporate our next generation night-vision sensor as well as the next generation thermal sensor from DRS. Prototype development is progressing very well and we are on track for delivering prototypes of our advanced DENVG design to the U.S. army in the second half of 2008. We still expect the U.S. army to award DENVG preproduction funding in 2009 followed by the initial three years of production beginning in 2011 with revenue valued at $150 million over that period.

We have also begun to integrate Creative Display Systems into our strategy of becoming a provider of digital goggle products in a wide range of military applications. Creative Display Systems expertise strengthens our capabilities to provide integrated sensor display system products. We are pursuing several opportunities in the avionics night-vision area where our digital sensor is also incorporated. As well as opportunities to provide a near eye viewer product for several weapon site systems.

During Q1 we also delivered initial prototypes of our next generation LIVAR camera for use in a land base application. We received funding from another customer in Q1 to provide LIVAR cameras for an aerial application as well. Initial production shipments of our LIVAR camera are still expected in late 2008. Due to its use on multiple platforms, we estimate that the business opportunity for our LIVAR camera can grow to a level of $10 million per year over the course of several years.

About 20% of our imaging business currently sells into the commercial market. And this segment continues to remain strong in the first quarter despite some softening in the scientific research markets. Sales of our new MicroVista CMOS camera which provides high sensitivity cost effective imaging for the inspection, surveillance and scientific markets were quite robust. We also made progress at DeltaNu in advancing our design of a compact Raman reader for a medical diagnostics application. We expect to deliver prototypes of this reader to a major medical products company in Q2 for evaluation in the specific diagnostic application. The potential business opportunity for this DeltaNu Raman instrument is estimated at $40 million to $50 million over the next seven years. I will now turn it over to Jeff to discuss our financial results for first quarter. Thank you, Joe.

Consolidated first quarter revenues totaled $33.2 million and included two 200 Lean systems. Imaging sales were $6.2 million that consist of $4.1million of contract, research and development, and a record level $2.1 million in product shipments. First quarter consolidated gross margins of 46% was above our beginning of quarter guidance. Equipment gross margins remained at 47% as compared to the prior quarter and increased from 43% in the year ago period as a result of the higher content of upgrades and spares as well as the impact of our cost reduction program. In imaging, gross margins decreased to 42% from 47% in the fourth quarter but increased from 37% in the year ago period. The reduction from Q4 was a result of including Creative Display Systems for entire quarter.

First quarter operating expense of $16.5 million was at the high end of our first quarter guidance but 17% lower than the year ago period. Our first quarter operating expenses increased $1.5 million from the fourth quarter due primarily to the reversal of certain variable compensation expenses in the fourth quarter of 2007 as compared to this quarter, and the inclusion of Creative Display Systems for entire quarter. We continue to tightly manage our expenses in response to the current business environment. Our 2008 tax rate is forecasted to result in a net tax benefit for the year even though we are generating pretax profits. This resulted in a net tax benefit of $1.3 million in the first quarter or $0.06 per diluted share. Net income for the first quarter totaled $1.6 million or $0.07 per diluted share and included $1.6 million of pretax stock-based compensation expense equivalent to $0.04 per share. Our backlog increased to $43.5 million at quarter end, up from $34.2 million in the fourth quarter and now includes seven 200 Lean systems.

Now I'll discuss the balance sheet. Cash and investments decreased to $125 million or approximately $5.65 per share from $140 million at the beginning of the quarter primarily as a result of our growth and working capital needed to support the higher revenue levels as compared with the fourth quarter of 2007 and the annual payment of our variable compensation programs. Our investment portfolio at the end of the first quarter included $78 million in student loan backed auction rate securities which are investments with contractual maturities between 20 and 40 years. The auctions for the securities which occur at either seven or 28 day intervals began failing in mid-February, and as a result the securities have become temporarily illiquid as conditions in the debt markets have reduced the likelihood that these securities may not all successfully auction over the next 12 months.

All of the auction rate securities held by us remain AAA rated, are backed by student loans and carry guarantees by the U.S. Department of Education of 97% to 98% of the principal and interest. We have determined that a temporary impairment exist and have taken a charge to other comprehensive income of $1.6 million or 2% of the value. This impairment charge reflects our best estimate in the loss in value related to the illiquidity of these assets. We expect the market to correct over the next 18 months, and as such have concluded this is a temporary impairment. More details-- more detailed disclosures will be included in our 10-Q filing.

Capital spending totaled $1.3 million in the first quarter. Depreciation and amortization including DeltaNu and CDS purchase accounting amortization totaled $1.2 million in the first quarter. Our headcount at the end of the quarter totaled 471 employees. 7% of our employees are contractors and 30% of our employees are located in Asia.

I will now provide our guidance for fiscal year 2008 second quarter and the year. We are projecting consolidated Q2 revenues of $24 million to $27 million which includes three 200 Lean revenue systems. We expect second quarter gross margins in the range of 41% to 43%. Operating expenses are expected to be relatively flat and remaining in the range of $16 million to $17 million. Other income and expense will be approximately $1 million reflecting the lower interest rates. For Q2 we are projecting losses in the range of $0.14 to $0.20 per share which includes an estimated $1.6 million of pre-tax stock-based compensation expense equivalent to $0.04 per share, as well as an anticipated net tax benefit. For the full year, we are maintaining our initial earnings per share guidance of a profit of $0.15 to a loss of $0.25 per share which includes an estimated $6.5 million of stock-based compensation expense equivalent to $0.17 per share.

We have increased the high-end of the range of our system shipments from 15 to 16 tools as we are now forecasting to ship between 12 and 16 200 Lean systems for the year. We expect to ship our first Lean evaluation tools in fiscal year 2008 but are not assuming revenue recognition until 2009. We expect imaging revenues to be in the range of $30 million to $40 million for 2008. Our projected full year consolidated revenue guidance remains at $120 million to $150 million. We expect gross margins to average 41% to 43% for the full year, down one percentage point from the high-end of our previous guidance as the expected mix of upgrades will be slightly lower. We expect operating expenses of $63 million to $68 million. We expect other income, primarily interest income on our cash, of approximately $4 million to $4.5 million reflecting the lower interest rates we are now experiencing.

Our forecasted 2008 tax rate will result in a net tax benefit for the year. The net tax benefit for the year will be in the range of $2 million at the high-end of our guidance to approximately $4 million at the low-end of our guidance. The net tax benefit is driven by three factors: The relatively fixed benefit of state R&D tax credits, U.S. losses, as well as the shift of business to offshore operations that have a lower effective tax rates as compared to the U.S. This completes the formal part of our presentation. Operator we are ready for questions.

(OPERATOR INSTRUCTIONS) Your first question is from the line of Bill Ong with American Technology Research.

Yes, hi gentlemen. Just a couple of questions. Seagate and Western Digital talked about a weak price environment. And usually when that raised, that tends to cause the hesitation in CapEx. What's your thoughts on that and have you anticipated some of the price declines that they've conveyed?

Hi, Bill, this is Kevin here. Normally ASPs decline calendar Q2 anyway for hard drive companies, it's always their soft quarter. Historically has had no impact on unit volume or on their capital investments from our perspective.

Okay. So that's pretty much anticipated and built into that guidance that you just now conveyed?

Correct.

Okay. And then my second question on the Gen II tool, where these tools ordered by the customer to replace the older MDP 250 tools or to replace the Gen I? Maybe some insight on those two machines that were just recently placed on order.

These are for additional capacity. They're not replacement for any other tools, they're pure capacity additions.

And are you getting any indication on-- for the follow-on on Gen II tools and are these just essentially for capacity or replacement going forward?

Well going forward we would expect customers to switch to Gen II and most of those buys will be capacity-driven expect when people start to retire the legacy tools. Because those are certain type of media that some people are projecting that they're going to start ramping in 2009 which won't be compatible with the legacy tools, in which case any system design-- any tool orders will be for technology change in that case.

And Bill, this is Luke. I wanted to add a clarification. Just be aware that the Gen I tools out there are fully retrofitable to Gen II status. So when we talk about legacy tools, we're referring to the 12 and 10 station tools out there.

Okay, that's helpful. And then would the ASPs for the upgrades be comparable, like Gen I versus the 200 and the Gen II versus Gen I? Maybe some insight on the dollars.

We're taking a look at what makes the most sense to add value for the customer. We think we can price those competitively to add the productivity the customers going to get, but we haven't solidified that yet.

We believe we have (inaudible) that customers gain and we do that without cannibalizing our profitability.

Great. Thank you very much, gentlemen.

Your next question is from the line of Hongyu Cai with Goldman Sachs.

Thank you very much. I actually would like to follow-up on the first question in terms of the CapEx menu of the hard drive industry. We hear that -- we heard that WD cut capacity in the March quarter and they also lowered June quarter CapEx. Also Seagate is closure on their CapEx media for 2009, how do we reconcile that with your increase of the other forecast for the year? Just want to get some additional color.

Okay well normally when WD and Seagate are talking about their years they're talking about their financial years and not calendar years, and so that's the first thing we need to be clear on. So for our '09, calander '09, we'll be really looking at their '10-- '09 year.

And actually, I think Seagate actually made a comment that they're going to hold it flat to slightly up in their fiscal year '09.

Yes, but the portion for the media is actually lower than this year.

Well when I listened to the Seagate call, they said it was going to be split roughly a third, a third, a third. And last year they put up the Woodlands III facility, which is a sizable investment, which is just bricks and mortar. So we would expect they would have more money for equipment in next year.

In '08 they actually mentioned they put 50% of their CapEx in media versus their planning for one third for next year.

Yes, that's your-- that's an agreement because as I said, they put in a whole new building, plus they started to populate that building with some legacy tools. But next year they will have to-- they won't be paying for the bricks and mortar and that money will be used just for equipment.

Okay. Also I wonder if given that the upgrade revenue is pretty strong this quarter, it was in the Q&A session last quarter's call you mentioned you expect 30 to 40 for the year for operating revenue. Is there any change for your expectation?

No, that's about right. I would say it's going to still be in that range.

Okay. Thank you very much.

Your next question is from the line of Rich Kugele with Needham & Company.

Thank you. Good afternoon, guys. Just to get a little deeper here on the Gen II for a second. How do you plan on selling that going forward? Will that just be a-- an upgrade option? Or will you basically migrate everyone to all future sales being Gen II?

It's going to be a combination. We think initially people will be buying Gen II systems. And it won't be a question of us having to migrate people. Our customers are all wanting to move in that direction. Once they've qualified Gen II and are happy with the system, then we expect to see them start upgrading their installed base of Gen I. We wouldn't expect that upgrading to start until probably Q1, Q2 next year.

Okay. And then should we assume then that the -- that between now and then most of the systems will, will go out -- the brand new systems will go out as Gen II, or you still expect a mix of even those?

Well we have a backlog of seven systems right now, five of which are Gen I. They will continue to go out as Gen I.

Okay. All right, that's helpful. And then just to go back to your comments there on platter counts, which are very interesting. Do you think then given the drive companies being somewhat still conservative on their own CapEx, but yet facing strong demand and then the added benefit of extra platter growth, do you think that there is the possibility we have some tightness, given the current situation for the balance of '08 or in the second half of '08? Or do you think that given what you're seeing in both hard and soft backlog that we're going to be in balance?

I think if there's a robust demand in the second half, I think the industry could be very tight and I think our customers would rather have that situation.

Okay. That's helpful. Thank you very much.

(OPERATOR INSTRUCTIONS) Your next question is from the line of Jesse Pichel with Piper Jaffray.

Good afternoon. Can you just tell me your guidance is for 12 to 16 tools and you only have seven in backlog. So I'm wondering what gives you the confidence there that you'll realize that guidance? And is the delta there from one customer or one customer order that's visible? Or is it just a hope and a prayer?

Hey Jesse, it's Jeff. It's more than a hope and a prayer for sure. When you look -- when we model the industry and what our customers expect and need for capacity, that pretty much supports our 12 to 16 tools. So I would say it's based on what we see in the market today. We don't really make specific customer comments on who it is or whom it is for it, so I would say at this point obviously we're giving a range from 120 to 150, as we don't have them in backlog. But we have seven in backlog, two shipped. So we have nine of the 12 bids to 16.

You have nine. I'm sorry.

Right, because we shipped two this quarter.

Got you. And so you would expect to get a purchase order when? Would you have to I guess get a purchase order in the next quarter in order to satisfy the lead times for 12 to 16 tools? Would that be right?

Jesse, this is Luke. Yes, we've got our lead times to about a quarter.

Oh, a quarter now, that's great.

So if we get an order by the end of Q3, we'll still make it within the year. And it's likely this year will be more back end loaded than last year.

Great, and in fairness you have been accurate in the past in terms of your annual guidance, so. Could you talk about-- in your-- in this document-- in this analysis you do of the order flow, what do you think the utilization is on some of the-- ask some of your customers for media sputtering capacity utilization that is?

Well our understanding right now is that it's a little soft this quarter, seasonally soft. But as we go into Q3 and Q4, we think it's going to be pretty tight based on the amount of media that's required in the systems that are out there.

Right, could you help us quantify that? I'm just trying to quantify some of the unit growth numbers that you appeared to endorse, the 15% unit growth and 19% platter growth with that utilization to determine when we see the next cycle coming.

You're talking about utilization as in throughput of the tools?

Correct.

All right, so right now we use-- it probably ranges, maybe Luke you can help me, somewhere between 3.5 million and 4 million disks per tool depending on what products they're running.

No, I'm sorry. I mean how-- what's the utilization of the tools at Seagate for instance has in their inventory? And when that utilization-- when it hits full they'll have to order more tools.

Yes, I think-- well first of all we don't talk about particular customers.

Right

We're talking general. But as we said earlier, we think the industry is tight. We've seen people reluctant to add capital in this current economic climate. They're just ordering just what they need to meet immediate demands. And you kind of referred to the next cycle. Well if the industry is going to continue to grow and it's tight this year, then if we see another 15% to 20% growth in media needed in 2009, that's going to be the growth in systems.

Right. Kind of going back to Rich's question, I'm not sure if this was his question, but wouldn't the customer prefer to have a Gen II upgrade first before they put on a new tool?

Well first of all, they have to qualify the new tool.

Right.

Okay that's what they're doing right now when we say we've shipped an (inaudible) system, that's for that purpose. Then we're going to be in the midst of Q3 and Q4 when they're at peak output, so they won't want to take any of their existing tools down to upgrade them. So that's why I said I didn't think they would doing any upgrades until Q1 or Q2 next year when there's the softer quarters where they may have the time to take a tool down and do the upgrade.

Great. Thank you very much.

And there are no further questions at this time.

Okay. Well, thank you for joining us today. We look forward to updating you in our next call on our Q2 results. Goodbye.

This concludes today's teleconference. You may now disconnect.