Intevac Inc (IVAC) 2015 Q4 法說會逐字稿

Good day, and welcome to Intevac's Fourth Quarter and Full-Year 2015 Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions). Please note that this conference call is being recorded today, February 3, 2016. At this time, I would like to turn the call over to Claire McAdams, Intevac's Investor Relations Counsel. Please go ahead.

Thank you and good afternoon everyone. Thank you for joining us today to discuss Intevac's financial results for the fourth quarter and full-year of fiscal 2015, which ended on January 2. In addition to outlining the Company's financial results, we will provide guidance for the first quarter of 2016 and commentary on the full-year.

Joining me on today's call are Wendell Blonigan, President and Chief Executive Officer and Jim Moniz, Chief Financial Officer. Wendell will start with a recap of our achievements in 2015 followed by an update on our businesses, then Jim will review fourth quarter results and discuss our outlook going forward, before turning the call over to Q&A.

I'd like to remind everyone that today's conference call contains certain forward-looking statements including but not limited to, statements regarding financial results for the Company's most recently completed fiscal quarter and year, which remain subject to adjustment in connection with the preparation of our Form 10-K as well as comments regarding future events and projections about the future financial performance of Intevac. These forward-looking statements are based upon our current expectations. Actual results could differ materially as a result of various risks and uncertainties relating to these comments 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 February 3 call include time-sensitive forward-looking statements that represent our projections as of today. We undertake no obligation to update the forward-looking statements made during this conference call. I will now turn the call over to Wendell.

Thanks, Claire and good afternoon. On the call today, I will review the outstanding progress made in 2015 in our strategic growth initiatives in both Thin-Film Equipment and Photonics, then provide some commentary on the current business environment and our outlook for 2016. Today, we reported financial results favorable to our prior guidance with Q4 revenue of $16.4 million and a far smaller loss than forecast due to better gross margin and lower operating expenses.

We ended the year with revenue growth of 15% over 2014. Of the incremental revenue achieved in 2015, 92% flow-through is gross profit, and taking into account we'd lowered operating expenses, incremental operating flow-through was in fact 110%. This enabled us to shrink our operating loss by more than half while limiting our cash usage to $3.5 million for the year, net of cash used for share repurchases. In 2015, we exceeded our expectations for revenue and operating profitability and achieved a number of key milestones demonstrating significant progress in our strategic growth objectives.

We signed off and revenued our first VERTEX system for display cover panel and received an order for a second system from an additional Tier 1 customer. We signed off and revenued to our first MATRIX PVD system for solar cell metallization and received an order for a second system from additional Tier 1 customer.

We passed key technical milestones in our joint development program for solar implant and received our first MATRIX implant order also from a Tier 1 customer. We exceeded our expectations for upgrade revenue in the hard drive industry with total upgrades, spares, and services revenue up 130% from 2014. In Photonics, we were awarded multiple new production contracts including multi-million dollar orders for the Apache, Joint Strike Fighter, LIVAR programs, and importantly we were awarded a $25 million funding vehicle for next-generation sensor development.

Bookings grew over 40% year-over-year in both Thin-Film Equipment and Photonics reflecting a broad combination of orders in new equipment markets, increased demand for HDD upgrades, and the new Photonics program awards I just mentioned. And lastly, we executed $18.5 million of stock repurchases bringing the total to $28.5 million at year-end out of the $30 million plan.

Before discussing our current business environments, I would like to encourage everyone to visit our website to view our updated investor presentation, which highlights our strategies and opportunities for each of our business units. Starting with our Thin-Film Equipment business, we now have three production-proven system platforms. We have our core platform, the 200 Lean with over 150 systems in the field designed specifically for hard drive media sputtering. We have leveraged the core capabilities of precision thin-film deposition on small substrates in high volume manufacturing environments from the 200 Lean and now introduced two new platforms into the equipment market.

These new platforms each capable of processing multiples substrate types and sizes are field-proven for volume production. The new platforms support an array of processing technologies addressing multiple applications in the vacuum coating industry. They are the INTEVAC MATRIX, a horizontal carrier-based system, and the INTEVAC VERTEX, MATRIX' vertical processing counterpart.

Revenue in 2015 for our Thin-Film Equipment business was $40 million, up 57% and included revenue recognized on each of our three platforms. For the VERTEX, our first opportunity is in transparent diamond-like carbon coatings to protect display cover panels from scratching. The initial tools sold into this market are focused on mobile phone cover glass, but applications include tablets, wearables, auto infotainment, point-of-sale stations, and more. We believe we have the lowest cost anti-scratch solution available in the marketplace with up to 20 times the scratch resistant of uncoated glass, a 10 times reduction in haze due to abrasion and is 20% stronger in breakage resistance tests.

Our second VERTEX system was shipped in Q4 and will be production-ready prior to the Chinese New Year. This tool will revenue on customer acceptance, which is expected in the first half of the year. As we noted on the last call, we've established in-house coating capability and have been actively shipping sample cover glass to our customer to accelerate end-user evaluations. We are currently engaged in evaluations at six different cellphone manufacturers as well as watch and point-of-sales applications, and expect this activity to generate the initial round of orders for manufacturing capacity in the first half of 2016.

Industry forecasts indicate that the amount of cover glass needed for displays is expected to grow around 20% through 2020 and about 45 million square meters. It would require over 500 VERTEX systems to coat all of that production. Assuming just a 25% adoption rate of our solution, that represents a $500 million revenue opportunity for us just over the next five years.

For the MATRIX, our first opportunity is for advanced PVD metallization of high efficiency n-type solar cells. We now have two Tier 1 customers adopting our MATRIX PVD solution, which offers best-in-class target utilization, lowest cost of ownership, and advanced high-precision deposition capabilities. Our first system is in full production and we anticipate capacity expansion size and timing decisions to firm up mid-year. Our second customer tool is scheduled to ship in the first half of this year.

The work we are doing today with these two customers positions the MATRIX as a PVD process tool of record for advanced metallization of high efficiency n-type solar cells. Our second opportunity for MATRIX is ion implantation of high efficiency n-type solar cells where our technology provides advantages over boron diffusion doping including process simplification and the ability to selectively dope. This can result in the reduction of process steps lowering the capital intensity and cost per watt of the solar cell. In 2015, we successfully achieved the milestones in our joint development project for MATRIX implant and received an order for the first production system, which we expect will ship mid-year.

Industry estimates project that the capacity required to produce high-efficient n-type solar cells will double over the next three years and be up 2.5 times by 2020. This equates to 5 gigawatts of new capacity to be added in the industry. We expect to participate in a meaningful way in the capacity build out to support this growth. Based on those estimates, a combination of 65 MATRIX PVD and implant tools would be required to support all the incremental n-type capacity growth, less any capacity included for heterojunction devices. Based on our activities with our initial customers, we estimate our five-year revenue opportunity for the MATRIX to be around $175 million.

For the 200 Lean, the long-term drivers for hard drive media demand are positive. Estimates indicate that storage needs by 2020 will be about double that of 2015 with the majority of that storage in the cloud. While solid-state drives adoptions continues to grow, they are still expected to hold less than 10% of the stored data through that time frame. This equates to an exabyte growth rate between 15% and 20% depending on the projection that will be shipped on hard disk drives. This is in an environment where aerial density improvements are forecast at less than 10% per year. While excess media capacity remains today, there are several positive signs for return to growth. The [TIE] ratio or the average number of disks per drive increased for the fifth straight quarter in Q4 to around 1.9 and is expected to increase to over two as we look into 2016.

The increasing TIE ratio indicates that a growing percentage of drive demand is for nearline cloud-based drives against a weak PC environment. Nearline drives currently average four disks each and are forecasted to increase to over six by 2019. Therefore, even if the hard drive market would remain stagnant, the industry would run out of media capacity when the TIE ratio gets to about 2.5 to three average disks per drive. Until we reach the capacity crossover point, we have sized this business in the near-term to operate on strategic upgrades, service, and spares activities and focused our resources on the strategic growth opportunities for the VERTEX and MATRIX platform.

We remain confident in our technology leadership position and our ability to gain incremental market share at the next technology inflection point, which is heat-assisted magnetic recording or HAMR. As the leading HDD companies are using our 200 Lean for HAMR development, we estimate our five-year revenue opportunity in the hard drive industry to be around $300 million.

In our Thin-Film Equipment business, the new VERTEX and MATRIX tools we have sold establish our foundation customers for our equipment growth initiatives. Capacity build out timing by our foundation customers will be a key component in our ability to deliver positive cash flow from operations in 2016. Leveraging our core capabilities and technology into new thin-film deposition applications, we continue to gain momentum in entering new markets and our three product platforms together address nearly $1 billion of revenue opportunity over the next five years.

Now moving to Photonics; 2015 was a year of important progress in building our program opportunity pipeline for our enabling digital low-light solutions, where we are the supplier of digital night vision for the US military. We ended 2015 with $35.5 million in revenue, which moderated as expected about 12% from the record 2014 levels, once the Apache cameras moved to second and third lot pricing levels. Operating profitability was around 15% and favorable to our long-term model for the business. While revenues moderated in 2015, the program opportunity pipeline expanded significantly.

In September, we were awarded a $25 million funding vehicle as well as the initial grant of funding for the development of our next-generation night vision sensor, the ISIE12. This expanded our opportunity pipeline by providing a technology upgrade path for our fielded cameras and integrated night vision systems as well as providing the sensor technology required for the large ground force application digital night vision for soldiers. In our night vision camera applications, our largest near-term opportunity continues to be the Apache helicopter program. Our latest generation digital night vision sensor, the ISIE11 has been established as the digital night vision gold standard for the military. The next-generation ISIE12 sensor expands our opportunity pipeline by providing a technology upgrade path for the Apache cameras.

Additionally, we can grow our night vision camera business through a second camera for the Apache co-pilot as well as through drone and UAV opportunities that leverage some Apache camera technology. In total, the program opportunity pipeline for our digital night vision cameras is currently over $250 million, the majority of which is for existing programs where we are already designed in and technology upgrades to those programs in the future.

In integrated night vision applications, where our night vision sensor and camera technology is integrated into a helmet display or goggle, we are the digital night vision solution of record for programs currently in production or development. Today, our integrated digital night vision for the F-35 Joint Strike Fighter helmet mounted display includes an average of 3.5 cameras per aircraft. For the BAE Striker II helmet display, we are in flight qualifications phase for the Eurofighter Typhoon. And our next-generation, high-resolution ISIE 4000 digital goggle (technical difficulty) program enters prototype deliveries in 2016.

When we look at the total opportunity pipeline for integrated digital night vision, it includes the F-35 Joint Strike Fighter moving to full-rate production with the ISIE11 sensor for around 2,700 baseline aircraft. Added to this opportunity is the ISIE 4000 technology upgrade path for the F-35, our high-resolution digital goggles program, as well as BAE's Typhoon and additional future opportunities outside the United States.

These programs bring the total opportunity pipeline to about $325 million just as in the night vision camera opportunity, the majority of this is for existing programs where we're already designed in and the technology upgrades to those programs in the future. The largest future opportunity for our proprietary digital night vision technology is for ground force application. Our solution targets to fuse night vision monocular for the US Army ground forces, which is the program of record to replace analog night vision. Over 100,000 of these binoculars are expected to be fielded for US Army soldiers.

We will deliver our first demonstrator monocular to the Army in the second quarter of this year for evaluation of alternatives for the fused mobility vision program. We will be demonstrating not only superior night vision capability, but the advantage of digital such as zoom information overlay and wireless digital image transmission and reception.

Successful technology validation of our monocular demonstrator currently scheduled in the second quarter will position us as the solution for ground force digital night vision and enable funding for the development of the production monocular solution. Ground force applications also include the family of weapon sights program such as the rifle sight eyepiece and the wireless helmet mounted displays, each of which will ship in the [tens of thousands of units].

While only a small piece of the program opportunity pipeline for the ground forces is currently designed in, these pursuits add up to $400 million of future opportunity for our Photonics business. In total, what we had previously sized at $350 million revenue opportunity for Photonics programs has expanded over $500 million and that only includes what already is designed in plus technology upgrades.

When we add pursuits including ground force applications, the opportunity expands upward of $1 billion. In summary, I'm extremely pleased with the progress the Company has made over the last two years to diversify our Thin-Film Equipment business and scale our Photonics business to a profitable volume production provider. 2015 was an important year as we positioned our efforts of 2014 into real products [with] foundation customers and validated our value proposition in each of our businesses.

As we exited 2015, we remained ahead of our plan to return the Company to sustainable profitability and distance ourselves from being perceived only as a hard disk drive equipment company. In 2016, we see a relatively similar year in our HDD business and increasing opportunity in our non-HDD equipment business. 2016 will be pivotal for both our Equipment and Photonics businesses as we anticipate orders for capacity additions in our new equipment growth initiatives and that the successful execution of our night vision sensor will position us in the upgrade pipeline and ground force opportunities.

As I indicated previously, our equipment revenue will continue to be lumpy as we move forward and we expect 2016 revenues to be heavily backend loaded. That being said, with our current backlog and revenue forecast, 2016 revenues are expected to increase from 2015 as much as 10% with the potential upside depending on adoption momentum of our equipment growth initiatives. As the revenue events for our new equipment occurs at customer sign off and not at shipment as our HDD systems do, the revenue cycle is longer and not completely in our control. So, forecasting is difficult. We will continue to update you each quarter as we move through the year as we did in 2015.

Although revenue on new equipment is based on sign off of tools, we receive around 80% to 90% of the cash for the tool at shipment, which is why cash flow is somewhat easier to forecast than revenues for 2016. Given our profitable operation in Photonics in providing our equipment customers' current factory build out plan stay on schedule, we believe that we are positioned to deliver positive cash flow from operations in 2016. Before I end my commentary, I would like to take this opportunity to thank our employees for their hard work, dedication, and success in 2015 as we repositioned the Company and also thank our customers for their continued partnerships in business. I will now turn the call over to Jim to discuss our fourth quarter results, provide guidance for the first quarter, and to discuss the outlook for this year. Jim?

Thank you, Wendell. Consolidated fourth quarter revenues totaled $16.4 million, above the midpoint of our guidance. Thin-Film Equipment revenue totaled $8.3 million. Photonics revenue of $8.1 million included $6.7 million of product revenues and $1.4 million of contract research and development revenues. Q4 consolidated gross margin was $6.7 million or 40.7%, above guidance with favorable contributions from both business units. A more favorable mix in the Thin-Film Equipment business and favorable yields in Photonics both helped margins exceed guidance.

Thin-Film Equipment gross margin was 41.8%, up from both the third quarter of this year and the fourth quarter of last year. A higher mix of higher margin upgrades and improved factory absorption were the drivers. Photonics gross margin was 39.6%, higher than last quarter and lower than the fourth quarter of last year. The improvement over last quarter was primarily driven by improved sensor yields. The decline from the fourth quarter of last year was due to a higher factory overhead due to the modified cost structure implemented in the second quarter of 2015 and lower margins on contract research and development revenue.

Q4 R&D and SG&A expenses were $8.9 million, similar to Q3 and below the low-end of our guidance range due to the timing of engineering materials. Our Q4 net loss was $2.5 million or $0.12 per share, much better than our guidance driven by better gross profit from both business units and lower than forecast Q4 operating expenses.

Our backlog was $51.2 million at quarter-end. Thin-Film Equipment backlog of $19.3 million included one VERTEX PVD system, one Intevac MATRIX PVD system, one pilot Intevac MATRIX implant system, and one energy solar implant tool. Backlog in our Photonics business was $31.8 million. We ended the quarter with cash and investments including restricted cash of $48.4 million, equivalent to approximately $2.38 per share based on 20.4 million shares at quarter-end.

During the fourth quarter, we bought back 1.5 million shares for $7.6 million at an average price of $4.98 per share, bringing total share repurchases for 2015 to $18.5 million and to $28.5 million total since inception, out of a total plan of up to $30 million. Net of the $18.5 million in repurchases completed during calendar 2015, the net decline in cash and investments was $3.5 million, better than our $5 million goal. And while the net decline in cash and investments was limited to just $3.5 million, cash flow from operations was positive for the first time since 2010. Q4 capital expenditures were $917,000 and depreciation and amortization was $1.1 million for the quarter.

Now turning to the full-year outlook. In 2015, we made significant progress towards diversifying our Thin-Film Equipment product portfolio, which makes our revenue growth less dependent on new capacity systems in the hard drive market. All three of our new equipment initiatives gained meaningful traction with repeat orders from new Tier 1 customers. Our equipment backlog grew for the third straight year and three-quarters of that backlog is from our new initiatives. With our current backlog and revenue forecast, 2016 revenues are expected to increase from 2015 as much as 10% with the majority of the revenue being recognized late in the year.

At this revenue level, we would expect gross margins in the range of 34% to 36% with operating expenses of between $37 million to $38 million for the year. While these ranges indicate an operating loss on the P&L, given the orders anticipated for our customers' current factory build out plans and the timing of associated deposits and inventory repurchases, we believe that we can deliver positive cash flow from operations in 2016. And our objective is to achieve a net increase in our cash balance in 2016.

Turning to the first quarter, we expect Q1 revenues to be a low point for the year as the majority of our current backlog will revenue in subsequent quarters. We are projecting consolidated Q1 revenues to be between $11 million and $12 million. We expect first quarter gross margin to be between 18% and 22%, which reflects the expectation that the energy solar implant tool revenues in Q1 as well as unfavorable factory absorption.

Q1 operating expenses are expected to be around $10 million, higher than our normalized level due to higher research and development spending in both business units along with some typical seasonal increases. Because we have a full valuation allowance on our deferred tax assets, we expect no tax benefit and minimal tax expense. For Q1, we are projecting a net loss in the range of $0.36 to $0.39 per share based on an estimate of 20.4 million shares. That completes the formal part of our presentation. Operator, we are ready for questions.

(Operator Instructions) Rich Kugele, Needham & Company.

Thank you, good afternoon. A few questions, first, Jim, I don't know if you're willing to do this, but if you had to look first half, second half for the revenue, do you have any rough sense on what we should be assuming?

Yes, I think we would probably say about 35% of the revenue in the first half and 65% in the second half with the growth of up to 10% and then as Wendell said with any success and any upside that we see in the new equipment initiatives that would likely be in the second half.

Okay and then, this is probably not assuming much in the way of HDD capacity additions, I assume all this is spares and upgrades, correct?

Yes, that's pretty much the same as we said in the script. We see it looking pretty similar on the hard drive portion of the equipment business this year.

And how much of the thin-film in the fourth quarter was just spares and upgrades. I don't want to put words in your mouth, so what would be the right spares and upgrades number to think of for Q4 because it drove so much of the upside margin-wise?

What we've been looking at on the spares and upgrade in the quarter, I think it was somewhere around $6 million.

Does that delay purchases of outright capacity in any way?

The upgrades we were doing, no, these are more strategic upgrades in one particular example, a slightly different film stack that's requiring another module to be installed on the tools. So, to answer your question, no, that's not impacting the capacity points.

If we were to fast forward, call it two years, what would you expect your mix of business between traditional HDD the equipment tool sets for other initiatives, lump all that together and Photonics.

Well, I think if you -- the numbers that I put out there over the five-year horizon, you can see, I think we had 175 plus 500, so 675 in the new equipment businesses and 300 forecast in the hard drive activity. So, that's a reasonable ratio at that point.

So that's -- but that's [out] five years, right?.

Yes, but I would say that if you look at the end of a two-year horizon from now, that would be pretty similar.

Okay. I'm just trying to figure out if investors should be waiting for a turn in hard drives or if the other business lines can generate profits even without that.

As I said in the script, it's our intention to drive this profitable without capacity adds in hard drive. We consider that to be a bonus when it happens.

Okay. My last question is just, and when you look at the MATRIX and the VERTEX tools, do they go out as a typical configuration. I know the Lean had a fairly wide band of the number of stations, but what is the throughput of each for those machines as a general rule.

Well, the throughput question first, it's very subject to process. If you're limited by process, then the platforms can't produce as much as they could, but not nominally the VERTEX is just shy of a 1,000 substrates an hour and that would be talking about five-inch substrates. If you change from a cell phone application to a tablet application, then the units go way down because it's a larger area and the MATRIX does up to 3,000 substrates, but again that's process dependent.

And then the first part of your question, the configurability, right now the VERTEX is doing a specific film. So those tools go out pretty much the same configuration. However, the MATRIX in its current application in the n-type solar cell metallization, it's highly dependent on what device structure the customer has and what their metallization needs are. So, those are quite configurable, but the good part of that story is that the way we designed the MATRIX, it's a linear modular tool. So, we basically just add modules or subtract modules depending on the application. So, it's not a difficult re-configuration, but there's quite a span of configurations for that tool.

Nehal Chokshi, Maxim Group.

Thank you, [two] questions. So, how far along are you guys now of the upgrades that drove us for I think calendar year 2015 of the installed base.

I think on the last call, we said about 25% through. So I would say we're north of that, but short of 50.

Okay. Especially the way I'm reading this guidance is that it seems like there is a - I guess a pause in that upgrade or was it basically of the particular customer that was executing that upgrade. They are pretty much done through their installed base?

Yes, I think what we've seen on that particular upgrade that was driving that margin that was pretty strong for us last year. We got a couple of customers merged together. So there's some pause as things work themselves out, but we expect that to be through that period shortly.

And just to answer that question, we also have less upgrades in 2015 in quarter one and in quarter three and a strong upgrade revenue in Q4 -- I mean in Q2 and then also a strong in Q4. So it jumps around. It's not linear each quarter.

All right, I want to move on to my more favorite topic, which is cover glass and congrats on announcing [Truly] a cover glass customer for VERTEX back in early November, I think that's a huge win and also a really nice slide on page five, the Needham Conference presentation, I do have a question there though. You show Intevac's optical DLC solution having a lower relative price than other alternatives out there.

Yes.

What goes into that relative price. I assume that there's multiple components. Can you walk us through that there?

Well, on that particular graph, we're looking at nominally what a, in this example, say, a cell phone manufacturer, but they would have to pay for the future to put on their cover glass. So, that would -- it's not a measurement of how much it costs us to deposit it, it's what looking at cover glass guys, their margin, how much it costs them to put it on and what they need to sell that to the cell phone maker for.

I see so, alternative A and B in that slide is referring to not necessarily another DLC coating from another provider, it's referring to just a different way providing that kind of protection.

That's correct.

Understood, okay. My last question will be on the Photonics for calendar year 2015, it was down year-over-year [about 12%] and on average for the past three quarters down 18% year-over-year. So, [already] through the year-over-year declines on Photonics now or do we still have one more quarter to lapse the year-over-year declines that we're going to see and then we're going to be looking at year-over-year growth starting in the June quarter.

So, we think that Q1 of 2016 will be similar to what Q4 was and we expect growth in 2016 over 2015.

Would you be willing to provide some sort of growth range that you feel comfortable with for Photonics?

I think for right now we'll keep it at the corporate level and we'll keep you posted as we move through.

Mark Jordan, Noble Financial.

Question relative to the first customer for MATRIX, you said that there was a [mid-2006] decision point relative to another order. Assuming that is kept, when would you think that, that incremental unit would be shipped?

I don't know. I mean our standard lead on those tools is about six months. So, that kind of puts us right on the edge of the end of the year, but the actual timing of that decision is pretty fluid. So, it could happen earlier, it could happen later. So, it's just really hard for us to forecast that revenue right now.

Okay. And again I think you've talked about this, but I think I missed it when I was taking notes. Excluding the buyback activity, what was the cash flow from operations in 2015?

It was a positive $0.5 million.

Okay, looking at the opportunity you have in the ground soldier vision systems, given that the early stage we're obviously at right now from a design and development standpoint, if it moves into sort of say initial low rate production, what kind of time frame would we be talking? Is that 2018, 2019, 2020?

Yes, we need to go through the complete development of that solution. So I think it's there, but keep in mind, depending on what's going on in the world, those programs can push or pull depending on what's going on in the military world. So, it's a long-range program, but we see that it's really 2018 is when the final solutions will start to move into some type of real volume -- not real volume, but prototype volumes. We need to be ready for 2018, which means we need our sensor in design right now and our demonstrator out in the field so people can really understand the real advantage of digital technology and [why] this is the right solution.

Okay and the $25 million funding that you received is the primary funding for that development through 2018?

Just to clarify, it is a funding vehicle that we had taken about $1 million last year in funding for development and that's to develop the ISIE12, the next-generation digital sensor and one of the key features of that sensor is it's a square format versus a rectangular. From our testing with our different goggles and for ground applications, it's critical that the solider be able to see his feet in the night vision field of view, which drives us to a different format sensor. So that's what that funding vehicle is today is to develop that sensor and we're also using all the latest CMOS designs and technology nodes so we can drop power requirements as well as get all the speed we can out of that particular design.

Mark Miller, Benchmark.

Good morning Wendell and Jim, just wanted to get a little more feeling, you said you're currently in evaluations for your VERTEX tool at six cell phone manufacturers, how long are some of these? What is the range of time these evaluations have been going on?

We've had evaluations going on for -- with both -- counting both the tools about a year. I would say the activity that we've been engaged with since we sold the second tool and I mentioned on one of the calls that we were co-marketing with Truly this feature both externally and to the cell phone and tablet makers. We've seen a real interest in this functionality enough that Truly went ahead and bought the system so they would be ready. We've been feeding them samples that we now have a coating service. So they're able to work at capturing the customer while their tool is being built and installed, which is going on right now, but when we look at the different cell phone manufacturers as an example, we're in different stages with different customers.

Some just initial qualifications in generating the specs they want all the way up to where we actually have our display cover -- our coating on display cover panels, on cell phones that are actually being used by an executive team at one of the customers for a test run for several months before they commit to production. So lots of different engagements at different stages and some customers want to move very fast and some customers want to go relatively slow. So it's kind of a mixed bag.

So from what you just said it looks like the nearest term thing we could be in a production mode in a few months or six months?

We believe that right before Chinese New Year -- we know that they're running samples today, but they're still dialing in there and they do some other work with the cover panel after our films. So they're working on their integration, but we expect them to be ready to produce the volume that one tool will put out, I would say June -- April, May something like that. The tool already -- we've tested and ran it and it does what it's supposed to do. It's really a matter of them getting their facilities, their integration, and capturing their customer base.

You mentioned one of the reasons for the upside in gross margins was improved yields on some of the Photonics products. I'm just wondering is there any more room there in terms, you've been producing some of these Photonic sensors for quite a while. Is there any more room there to get more improvement in margins and yields?

Yes.

Significant, I should say.

Well, I think we've come, if you're familiar with the way these learning cycles that need to be done to lower the cost, improve yield with these military contracts, we jumped way ahead of the curve in 2014 and got some outstanding margin results. So, you always -- the rate of yield improvement is starting to slow down from those levels, but when you look at the overall yield of the sensor and in the overall yield of the product, there is room to improve there and we have programs in place to drive that.

So, you're guiding to kind of a flat year for HDD upgrades. Is there anything on the horizon in terms of the change of the [coating] structure that could be an opportunity for you or they're just sticking with their basic recipe they've had for a while.

Really nothing I can comment on that.

And finally, the solar business has been kind of choppy. I mean people were anticipating a better year next year. I'm just wondering what's your visibility there, things starting to pick back up, quoting activity or general activity or are we going to see a significant capacity adds in 2016.

Well, in overall, certainly we're seeing some equipment sales to some changes in multi-crystal and cell structures particularly on PERC-type cells. We're seeing that. I think there's spotty capacity going in where like say in Taiwan, it's not a huge ramp and there's over supply in China, but I think what we're hearing from the customers is a big sigh of relief with the ITC and there was a lot of questions about what US demand was really going to look like if that went away and getting that problem solved is relieving people's concerns about adding capacity at this point and really we're having to wait to see what the impact of the loss of ITC would have done to the demand curve. So, I think that's positive. The tone is positive based on that.

(Operator instructions) Brian Alger, Roth Capital Partners.

Hi, good afternoon guys. I want to follow-up on that last series of questions. Within the solar space, I've kind of gotten the sense that you guys have at least maybe not orders in hand, but at least some forecast from the customers that you've already engaged with, that give you confidence in the growth outlook for this year. Am I reading that correctly?

When we look at that the customers that we -- our foundation customers that we've captured, they do have plans of record and we're just working with them so that and we think the risk of them not going is pretty small as far as adding capacity, the only real question is time.

And as we look back on 2015 and we look at the thin-film revenues, obviously there was a couple of systems sold in there, but can you maybe characterize how much of the thin-film revenues was related to the upgrades business and how much was system sales?

We actually only sold one system for hard drive in thin-film and then the systems that we took revenue on, we took initial systems on a MATRIX PVD system and also on our initial VERTEX system as well and then the majority of that revenue really came from the hard drive upgrade spares and service.

Right, I guess that's what I'm asking is, of the total thin-film revenues, how much was that upgrades business?

It's somewhere, I think on Rich's comment, I told him we ran about $6 million in Q4. It runs a little around $6 million to $7 million run rate, but again, like I say on any given quarter, it fluctuates. It could be variable on a quarterly rate. So it was higher in 2015 than it was in 2014 and we're projecting that, that should be relatively flat and continue to be strong for whole of 2016, but certainly with the guidance we gave, not in the first quarter.

Right, obviously, that's clearly not there and I guess with these upgrades and I'm sure each customer and each upgrade is a little bit different from the next, but roughly what kind of capacity improvement or utilization improvement is the customer getting on the legacy systems on the installed base? Has it taken up to the full throughput of what a 200 Lean would be?

I wouldn't couple those two things, the upgrades and the full output of tools. The tools run at really high yield rates already. There's not a lot of headroom there. So these are really -- they're looking at small increments of aerial density by changing layer stacks, different things with carbon as well as some of our catalog upgrades that are converting some of the very old controllers to digital technology for better controlled things like this. We also have some HAMR upgrades in there as well.

Yes, on the developmental side. Right. Okay, good. And then on the Photonics business, as we look at that, just to kind of get to the outlook that we're talking on a year-on-year for the corporate growth of about 10%, it would imply that we see an uplift. Is there any particular project as we go through the year that's going to cause an inflection point or is it just seasonality or how should we think about that?

The way to think about that and I think we've talked about this last call as well is that the growth in Photonics in the near-term is on funded development. So that's around the funding of the programs we talked about in the call with the sensor, the ground, the monocular, the aviation ISIE 4000 goggles, all those programs is the growth engines for that. We're pretty stable in our product production right now.

Thank you. I'll now turn the call back over to Mr. Blonigan.

Okay, so thank you for joining us and we look forward to updating you again during our Q1 call in May. Until then, so long.

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