科磊 (KLAC) 2002 Q1 法說會逐字稿

KLA-TENCOR FIRST QUARTER FISCAL YEAR 2002 EARNINGS CONFERENCE CALL

Ladies and gentlemen, thank you for standing by. Welcome to the KLA-Tencor first quarter fiscal year 2002 earnings conference call. During the presentation, all participants will be in a listen-only mode. Afterwards, you will be invited to participate in the question and answer session. At that time, if you have a question, you will need to press the '1' followed by the '4' on your telephone. As a reminder, this conference is being recorded Thursday, October 18, 2001. I would now like to turn the conference over to Mr. John Kispert, Chief Financial Officer. Please go ahead sir.

Thanks Todd. Good afternoon, and welcome to the KLA-Tencor conference call. I am John Kispert the CFO. We are here today to discuss our fiscal 2002 first quarter results for the period ended September 30th. We released these results this afternoon at 4:20 Eastern Time. If you have not seen the release, you can find a copy on our website at www.klatencor.com or call 408-875-3600 to request a copy. A simulcast of this call is also available on our website and the replays will be accessible for 2 weeks. The link for the release and the webcast can be found in the investor relations section of our website. Joining me on the call today is Ken Schroeder, our President and CEO. Ken will lead today's call with a discussion of industry trends, and KLA-Tencor's specific progress and strategies. Also with me is Tom Long, Vice-President of Electrical and Parametric Solutions Group. This is a group that is responsible for advanced process control software, our fab wide analysis software, and electrical message products. Tom will talk about our recently announced MicroLoop product, the industry's first non-contact, inline electrical defect monitoring system which enables our customers to dramatically reduce the yield learning cycles to accelerate the ramp of new chip designs up to full volume production. Following Tom, I will provide the financial results for the quarter. Then, I will open up the call to questions until about 3 o'clock Pacific Time. Before turning it over to Ken, I have a couple of announcements. First, our January conference call for the second quarter fiscal year 2002 is scheduled for Wednesday, January 23rd at 2 p.m. Pacific Time. Second, a calendar for investor events and conferences for KLA-Tencor is located in the investor relations section of our website. All presentations will be accessible live via webcast from our website. Let me remind you that during the course of this call certain forward-looking statements may be made and actual results may differ materially from these forward-looking statements due to various risk factors including those described in the company's SEC filings in the press release we issued today.

While we take no obligation to update today's information, any update by KLA-Tencor to the information presented in the conference call today will be done so on a systematic basis and will be broadly disseminated. And with that, I will turn it over to Ken.

Thanks John. Welcome all to today's webcast. Consistent with our prior calls, I will focus on 3 key areas. First, the end-market demand drivers for our industry at large and KLA-Tencor specifically; second, KLA-Tencor's market leadership. Finally, I will turn the call over to Tom Long to discuss MicroLoop and the growth opportunities it provides for KLA-Tencor. So, lets start with the big picture. Obviously, the world has changed since our last earnings call. Full impact from the September 11th tragedy on our business is still unclear. However, it appears that our fundamental recovery in our industry is most likely pushed out as a result of this event. For KLA-Tencor, the results of the September quarter were inline with the forecast we provided in our July 31st conference call. There remains an environment were our leadership in providing process control solutions for the most advanced technology processes has so far allowed us to better weather this downturn versus the industry at large. The very majority of our orders were related to enabling the move to copper interconnect; sub 130-nm design rules, and 300-mm wafers. Looking out three months, we see our order pattern staying relatively flat with the last six months, though September 11th may have an impact on the timing of future capacity additions, we anticipate technology purchases by our customers continuing at this level. The technology transitions facing front-end semiconductor manufacturing say are extremely challenging. If the chip manufacturers wish to compete in the future, they must develop these advanced technology processes. The competitive advantages derived from these transitions are significant and will be critical to achieving acceptable future returns on fab investment. Our strong balance sheet, strong backlog, and order position affords KLA-Tencor the ability to continue our product development investment in the phase of this severe downturn.

We will continue to bring innovative new products to market and improve upon existing solutions. Maintain this commitment to research and development regardless of business climate is fundamental to KLA-Tencor, and has enabled us to introduce 20 new products over the last 15 months. This R&D investment focus has provided us with a product portfolio that is unmatched in our industry. We are confident that this focus on product development, now during this downturn, will position KLA-Tencor, strategically, to enjoy the benefits of the next upturn. Let me move on to talk about some examples of our market leadership in the yield management and process control market. Lets start out with wafer inspection. At Semicon West this year, we introduced the AIT XP laser scattering inspection system. This system is ideally suited for accelerating yield ramps for chip manufacturers, producing multiple types of advanced devices, incorporating a 130 nm and below design rules. The advanced capabilities of this tool allow our customers to achieve maximum sensitivity on all die regions without being forced to conduct multiple passes in masking steps. At our leading foundry our AIT XP was evaluated versus a competitor for 300-mm film and CMP processes. The scoring system awarded the AIT XP six points. The competing tool received zero points. This resulted in additional orders for AIT XP, inoculates for its sensitivity and the ease of setup. We introduced through our yield management consulting engagement with the Japanese ASIC manufacturer who is experiencing major yield limiting defects causing yield bus in its 130-nm copper process. Our consulting group established an optimal inline monitoring recipe scheme and was able to identify and source unique defect types in [________________] metal and seed copper deposition in CMP.

And as a result, the customer significantly drove down defect density and improved yields on this leading edge process from 20% to over 70% in less than two months. This consulting success was instrumental in driving additional AIT XP business this quarter. In multiple customer evaluations, the AIT XP has demonstrated the ability to find defects in a single pass that a competing tool is unable to isolate with multiple passes. A 2350 UV image processing inspection tool is also building momentum. At our leading foundry which was ramping its 300-mm line, the 2350 demonstrates superior throughput reliability and sensitivity to critical defects, in particular, tungsten stringers versus the competition. Noting this and its inline automatic defect classification capability, the customer placed an order for multiple systems. A leading Japanese ASIC manufacturer found the 2350 capable of detecting defect signatures such as focus exposure issue with edge dye and under edge residues that our competitors too have been missing for the previous three months, resulting in another order win. Our eS20XP E-Beam Inspection tool continues to maintain its strong market presence. In major [________________] our advance logic copper devices recently stated "our result show that we can get the same results with E-Beam Inspections as we could with electrical via resistance testing and final yield testing. This correlation results in a significant time-to-results advantage for yield improvement and provides a solid return on our investment." This customer has now put the eS20XP into their process flow as a regular inspection check. Lets move on to metrology, our Archer 10 overlay metrology system recently won two of record at a major European chip manufacturer.

This customer side of the technical advantages of our Archer 10, in particular its robust as to process variation and low contrast CMP layers. A year ago, this customer used another vendor for this application. Today, we have over 21 tools placed with this customer including new orders this quarter. In addition, to being selective for all the 300-mm business, this customer has also decided to replace all the competitors tools in its older 200-mm fab with the Archer 10. At Semicon West, we introduced the SpectraCD our new optical critical dimension tool to round off the industry's most comprehensive CD measurement solution. SpectraCD delivers the precision, throughput, and sensitivity needed for sub 100-nm design rules and 193-nm lithography. This tool provides simultaneous, extensive, and nondestructive critical dimension feature shape and film thickness data in real-time. At a lading logic manufacturer, SpectraCD was recently selected for providing the best overall solution for production implementation. This customer site is SpectraCD's overall complete library generation system and overall cost of ownership as key factors in their selection. This selection led to the place where there are multiple tool orders this quarter. No one else in the industry can offer a CD solution that encompasses both SEM and optical based systems that match in our tie-together with common software recipes and analysis capability. In our last earnings call, I mentioned that we were in discussions with several leading OEMs in regards to integrated meteorology programs. Earlier in the quarter, we announced the agreement with FSI International on the heels of an agreement with [________________]. This quarter we also announced an integrated meteorology program with LAM Research. The program with LAM in fact began several months ago.

The initial focus is on adding meteorology capabilities such as CD and coding thickness uniformity monitoring to LAM's 2300 edge systems. We believe these agreements validate our strategy to first focus on integrated solutions for CMP endpoint, and then the pattern transfer process which involves lithography & edge. In selecting KLA-Tencor LAM-sided our installed base, our neutrality, our ability to deliver, superior measuring capability, fab wire recipe sharing, matching the standalone tools, advanced process control software and expertise. These are exactly the advantages that we expect will allow us to lead the industry in production-ready integrated solutions. Finally, Reticle Inspection, we posted another outstanding quarter. Reticle inspection continued to be a counter cyclical force in the semiconductor cycle. This quarter, we began shipping the second generation of TeraStar which includes full-guided database capability. TeraStar continues to move from one success to another. This quarter a major foundry completed its data evaluation of TeraStar and ordered 5 additional systems. They will take delivery over the next 2 quarters. The systems are slated for use in their photomask manufacturing operations. Among the reasons discussed were cited for the order was TeraStar's ability to detect critical defects and their most advanced photomasks by also achieving a fourfold increase in productivity. A leading merchant photomask manufacturer also placed orders for multiple tools this quarter. The customer intends to use these tools to inspect advanced photomasks manufactured for 130-nm integrated circuit production and 100-nm IC development applications with a side productivity and unparalleled sensitivity, the TeraStar has the versatility to make it ideal for either a leading-edge Reticle development where sensitivity is critical or for volume production where high throughput and productivity are required.

One additional reason I want to cite for TeraStar's success has been the participation of our Beta-test products. This has allowed KLA-Tencor to develop a product that works in the field and not just the laboratory. Let me finish off my prepared remarks by talking about new segment growth. The challenges created by the convergence of copper interconnect, sub 130-nm design rules, and 300-mm wafers, including being able to detect both new types of yield-killing defects and smaller-sized yield-killing defects within an expanding critical area. Finding the defects that matter has required increasing the sensitivity of inspection technologies. But this has created another kind of problem, increased detection not only of yield limiting defects, but also the nuisance defects that do not impact yield. The challenge then becomes how do you quickly sort through thousands of physical defects detected to isolate the tens of defects that impact yield. MicroLoop addresses this challenge. MicroLoop is a combination of custom test chips specifically designed to work with KLA-Tencor's industry leading E-Beam inspection and review technology, supported by advanced software for defect analysis and reporting. Working together, this solution is able to provide, in hours, a complete report of electrical defect activity including the precise location of killer defects. As a result, it enables a dramatic acceleration in year learning, which substantially speeds our customers time to yield and time to profit. We are all very excited about MicroLoop and in just a moment Tom Long will talk in detail about this revolutionary process control strategy. Before I turn it over to Tom, let me summarize where KLA-Tencor stands today - While we see no improvement on a silicon consumption front, we continue to see signs that indicate that our customers will continue to make R&D and pilot investments in the technology transitions facing semiconductor manufacturing today.

Some examples are Intel, recently announced that over the next 6 to 7 quarters they will have 6 fabs running 130-nm technology, and Infineon just announced that they are providing megabit DRAM using a 140-nm technology, and that this technology reduces their cost by 30% over their present 170-nm technology. They will be fanning this out in 2 additional fabs, in Richmond, Virginia and Chen Cu, Taiwan. UNC indicated that at the end of this calendar year, they will be producing 5 to 7 thousand wafers per month in their 300-mm fab in Taiwan. So, there is a great deal of evidence that the need for technology will continue. The near-term environment is certainly challenging. However, we are confident about the future. The timing of the next upturn is clearly a question of when, not if. We will continue to invest in product development to ensure that we have the yield management solutions are customers require; these investments will position KLA-Tencor as one of the primary beneficiaries of the next upturn. Now I am pleased to turn the call over to Tom Long to discuss one of those investments on development of MicroLoop.

Thank you Ken. As Ken mentioned, I will focus my remarks on our new MicroLoop product, which we launched 10 days ago. MicroLoop represents a revolutionary new-yield management methodology. It is the industry's first non-contact inline electrical defect monitoring system. It addresses 2 problems affecting E-Beam inspection cost of ownership, wafer throughput and signal to noise. MicroLoop technology can improve E-Beam wafer inspection throughput by an order of magnitude. It identifies only the defects that matter, killer electrical defects. MicroLoop essentially brings end of the line electrical bitmap testing inline into the wafer fabrication process. It accomplished this by leveraging our latest electron beam inspection and review tools, proprietary test structures, developed specifically for our E-Beam tools and unique customer requirements along with defect and yield analysis software. To accomplish this, we leverage our industry-leading yield acceleration expertise. At its most basic level MicroLoop accelerates electrical yield learning cycles on semiconductor processes from as much as 3 to 16 weeks, down to only a few days. MicroLoop provides specific solutions to quickly identify yield problems for today's leading technology challenges, copper interconnect, 0.13 micron, and below lithography and 300-mm wafers. This marks a major step forward in accelerating yield and our customers time to profit. To understand just how significant an advancement this represents, you need to understand the challenges chipmakers currently face in bringing new devices to the market. In the course of developing a new IC technology from development through new product ramp, many yield-learning cycles are typically required.

This can equate to a year or more before fab achieves full volume production on its new technology advanced IC designs. This is a major reason for shortages when new technology products are first introduced. Due to shrinking product life cycles, chipmakers no longer have the luxury of taking a year getting their fabs fully ramped up on new processes and products, increasing competitive pressures are driving companies to bring their new products to market faster. If you miss you target window by as little as 6 months, you can lose all profitability on that product. For our customers, MicroLoop could mean the difference between gaining or losing hundreds of millions of dollars per year in revenue. Let me move on to what this means to KLA-Tencor. Simply put, MicroLoop opens up an important new process control market that we expect to own. We have all the critical technologies necessary to make this methodology work; E-Beam inspection, E-Beam review, yield knowledge for test structure optimization, and leading HD factor and yield analysis software. MicroLoop is first and foremost an E-Beam centric technology for which we are very well positioned. KLA-Tencor is the dominant leader in E-Beam inspection and yield methodologies. Our E-Beam review tool has unique [_______________] contrast identification and filtering capabilities. Our propriety test structures are optimized to work effectively only with our E-Beam inspection and review technologies. Our MicroLoop system controller integrates and adaptively controls all our unique systems components providing ease of use through one button automation. We filed for more than 20 patents and technical disclosures covering MicroLoop. Our protection is centered around the unique methodology with which we use our E-Beam inspection technology with our patented test structures.

This is what allows us to reliably detect only killer electrical defects in real-time. Our IP position will make it extremely difficult for competitors to replicate this capability. What's more, even without the IP hurdle, developing MicroLoop was no easy feet. It took a dedicated team of our best and brightest, representing more than 150 years of engineering and semiconductor experience to bring MicroLoop to market. The complexity of mixing and matching a system of components from different vendors would be unmanageable and could never meet the quality metrics established internally for our products. To date, we have generated prudent results at beta sites in leading semiconductor fabs around the world. MicroLoop has already demonstrated a 50% reduction in copper process development time at one customer site. A five-fold reduction in defect density on aluminum processes at another customer site, this represents a 75% improvement in yield learning rate. Orders have already been received from a number of leading chip manufactures. In closing, I want to add how excited we all are with this new technology break through and its potential impact both to KLA-Tencor and to the semiconductor industry at large. We believe MicroLoop will do for semiconductor yield acceleration today what inline optical defect monitoring did to revolutionize yield learning in our industry more than a decade ago. Now, I will turn it back to John for the financials.

Thanks Tom. Before I begin, let me remind everyone that we are now reporting financial results as required by the Securities and Exchange Commission Staff Accounting Bulletin 101 better known of us simply as SAB 101. For more detailed information on SAB 101 and what it means for KLA-Tencor, we encourage you to visit our website at www.klatencor.com. On the investors page, you will find frequently asked questions devoted exclusively to SAB 101. Our operating results continue to be driven by orders received during the quarter, and we are managing the company in line with our best estimates for orders over the coming quarters. For the September ending quarter, the incoming booking levels were within 5% of our June quarter bookings. This is in line with our expectations of flat to down 10% that we gave you at the beginning of the quarter. The order environment in terms of composition and percentage of business changed little from last quarter. The dollar amount of cancellations and push outs were about 4% of the backlog that's the backlog that we carried into the quarter. Technology buys defined as orders, for development in pilot lines continue to make up over 90% of our orders as capacity sales remained weak. Our book-to-bill for the quarter was less than 1. At current shipment rates, we have over 6 months of shipment backlog. That is booked orders that have not been shipped or delivered yet. The regional distribution of orders for the September quarter was as follows. The U.S. was approximately 40%, above its historical average of 30% to 35%. Japan was approximately 20%, in line with the average over the last 3 years. Europe was approximately 10%, slightly lower than its historical average of 15%. Taiwan was approximately 25%, slightly higher than its historical average. And Korea, Singapore, Malaysia, and China account for the remaining 5% of orders, below the historical average. The drivers for our business continue to come from the technology transition challenges our customers are facing in their R&D and pilot lines with the move of 300 mm new materials like copper and low-k dielectrics and 130 nm and below device rules.

From a product line perspective, the distribution of orders is as follows. Wafer inspection accounted for about 33%. Metrology comprised about 14%. Reticle Inspection continued to be the counter-cyclical force to the semiconductor cycle and accounted for about 30% of our orders which is up sequentially from the June quarter. Service represented roughly 17% of orders, versus 7% a year ago. Process control applications software accounted for 5% of the orders, and finally sales of products from our data storage business made up the remaining 2% of our incoming orders. Our shipments were approximately 375 million in line with the guidance that we provided in the July 31st conference call. This represents a sequential quarter-on-quarter decline of 19% and a year-on-year decline of 30%. I am getting this information this quarter to aid investors in their transition to SAB 101, but KLA-Tencor is now running its business and focusing all of its efforts on revenue recognition upon customer acceptance. Revenue for the quarter was 502.8 million down 17% quarter-to-quarter and up 31% versus the same quarter last year. Gross margins were at 51.4%, and we continue to focus on the productivity and efficiency of our manufacturing service organizations as we ramp our new products in the face of lower overall volumes to the downturn. Operating expenses were approximately 154 million down from 172 million in the prior quarter. As we have indicated in the last few calls, continued investments in research and development and the applications support of our customers regardless of the business climate is fundamental to KLA-Tencor. We look at downturns as an opportunity to strengthen our leadership position. Over the past few quarter we have implemented a number of cost-cutting measures that have resulted in lower run-rate and this will be continued to be evident in the coming quarters.

Other income was 12.5 million, a decline of 1 million from the prior quarter, driven primarily by lower interest rates. The tax rate was 26%. As I indicated in the last call, we reviewed our tax reserve plan in the quarter and have lowered our provision going forward to 26%. Net income was 86.5 million or 44 cents per diluted share. Now I will turn to the balance sheet and our financial position remains strong. Cash and cash equivalents ended the quarter at 1.1 billion a decrease of 57 million quarter-to-quarter due mainly to share repurchases. Repurchases net of issuances were about 50 million and this is part of an ongoing systematic buyback plan. Accounts receivable declined quarter-to-quarter by 33 million or 8%, and day sales outstanding are approximately at 90 days. Inventory declined quarter-to-quarter by 33 million, the reduction was driven primarily in production inventory and was partially offset by increased service inventory levels. Differed profit was 349 million, as you may recall this represents the difference between the differed revenue and the cost of goods sold associated with products that have been shipped but had not been accepted. When the customer formally accepts the products these profits are recognized and the revenues moved out of differed revenue. Capital expenditures in the quarter were 33 million. Depreciation for the quarter was 17 million, and headcount ended the September quarter at 6,288 employees. Okay, looking forward, we remain very cautious, our revenue levels will be determined by our backlog position which remains strong, and the orders we receive in the December and March quarters. As for the order outlook, our visibility regarding the recovery of the world economy is clearly limited. The long run fundamental dragging our industry are compelling. However, we remain cautious in our outlook given the uncertainty in the world economy.

As we look today the level of orders in the December quarter will be very similar to the level of orders we received in the September quarter. Given that our guidance for the December quarter or fiscal 2002, second quarter is orders to be approximately the same level we saw in the prior quarter. Revenue is targeted between 360 and 390 million. EPS is targeted between ¢23 and ¢25, and shipments for the quarter are targeted within the range of 320 to 340 million. This concludes our remarks on the quarter. We will now open the call for questions. Todd you can begin the polling please.

Thank you. Ladies and gentlemen if you wish to register a question for today's question and answer session, you will need to press the '1' followed by the '4' on your telephone. You will hear a 3-tone prompt to acknowledge your request. If your question has been answered and you wish to withdraw your polling request, you may do so by pressing the '1' followed by the '3'. If you are on a speakerphone, please pick up your handset before entering your request. One moment please for the first question. Our first question comes from Glen Yeung with Salomon Smith Barney. Please go ahead with your question.

Thanks. Hi gentlemen, I will start with gross margin. It is a little bit lower than I would have anticipated, given your revenues can you talk about what happened there and specifically thinking about pricing pressure in the quarter?

Glen if you look at our margins over the last 3 quarters the degradation I put it into 3 buckets. The first one is that as I have explained before in other calls, as the service component is managed nearly as profitable as rest of the business. I think for obvious reasons that is for customer satisfaction. That has become a much bigger percentage of the business; it has gone from roughly 7 to close at 20% of our business, so there is a mix issue there. The second as I had said it's probably about the third of the degradation. The second piece is when you take your bill plans down, when you take your shipment plans down you are going to end up with excess and obsolete inventory and extra capacity. What we have done here at KLA-Tencor over the last 3 or 4 quarters is let that go right to the P&L. We are not saving enough in inventory, there is no excess obsolescence on our balance sheet; it is going right through the P&L and just the matter of taking the revenue down as fast as it has to come down in this downturn. Also, in light of the rapid ramp of the new products, we have a transition going on. There has been excess of obsolescence that we have flushed to the P&L. The third piece that it's a kind of pricing pressure, clearly in this environment we are sheltered because of our technology from the pricing pressures, but we are not immune from it. The economics that our customers are going through does get passed back to us, but we see it in things like extra consulting, things like extra application support, extra service support, we see in terms, we'll do extra operating in this timeframe. It is a short timeframe, those things don't happen in the upturn but that will show up, so it's a little bit here and a little bit there, that degrades the growth margin in its downturn. I think if you look over a 10-year period of KLA-Tencor in the downturns, we'll always have a quarter to where these three things will hurt us a little bit more than normal, but they go away quickly when the business turns around.

Okay, and then just one other thought, one of the things we've been hearing from some of the other companies is that at the current level of orders the technology curve that, you know may be is characterized by a [_______________] call it what you want, is not being maintained at current bookings levels. Do you have any thoughts in that regard and maybe you could throw in there while you are answering that, what the dollar opportunity to KLA-Tencor is when you see a fab like in Intel fab transition from a 180 to 130 nm?

Maybe John could comment on the dollars, but we still see that there is a great need for technology buys when a company like Intel goes from 180 to 130. They need Reticle Inspection in the mass shop, they need the Reticle inspection on the fab line, they need a whole new line of defect inspection, typically their measuring thinner films, tighter overlays, obviously smaller CVs and in many cases this requires a whole new generation of equipment than they have had in the past and that's how we have benefited. I think some of the examples I gave Intel 6 fabs over the next 6 to 7 quarters. They are still keeping to their number about capital expenditures, you heard about the Infineon example, they are going to do 3 fabs at 140 nm, they will need all that equipment and so on. So, we at least in the measurements, inspection, the process diagnostic segment, it still looks bright as people continue with their technology change. I think Tom talked to you about MicroLoop. I don't think if you are trying to compete and you want to get to a copper process quickly at a 130 nm, we believe that a number of companies will accelerate their plans for purchases like MicroLoop for example, to help them with their process development. So, we are optimistic about technology buys going forward.

Glen, as far as the dollar amount, it's always difficult to tell until the actual transition has taken place. What we will see, in any kind of technology transition you are going to see phases and that's the way our business has been for a long time. You know, in the example you gave, it could be a 4- or 5-phase approach before the total process control, set of applications is in the fab and in most of these transitions if not all, we are not [_______________] so it's a hard question to answer. One of the things we do in the investor presentation is go through what we think is double the opportunity when we are all said and done going from 0.18 aluminum 200 mm to 0.13 copper 300 mm, we think it's double the opportunity for us, and over time we'll see that fab by fab.

Thanks guys.

Thanks Glen.

Our next question comes from Vadim Zlotnikov with Sanford Bernstein & Company, please go ahead with your question.

It's Mark Fischer calling in for Vadim. I am looking at your research and development cost [_______________] that you have cut the cost from the last quarter, could you go into a little more detail on that whether that was planned or an effort to save cost?

Yeah, Mark I think I, well I guess I didn't answer it. I was talking about gross margin. What we've focused on, its very planned, every action we are taking around here, we have taken over the last 9 months have been proportional. We have been trying to control it over the last 9 months, programs finished and come to market, and when they do obviously the spending goes down in those programs. We have also eliminated a lot of the contractor and temporary work in R&D, we have managed some attrition, we cut all discretionary spending, we have had some pay raise freezes, we have cut the pay down to the management level, anywhere from 15% to 5%, and we've had shutdowns across the company in many different areas, little pieces here and little pieces there and we are going to continue all these. So you'll see R&D continue to come down, but the productivity coming out of it is not going to come down and that's really what we have been focused on the last 3 to 4 quarters.

Okay, great. Thank-you.

Our next question comes from Steven Pelayo with Morgan Stanley, please go ahead with your question.

Yes, John when we look at your orders, it looks like metrology probably fell off the most this quarter, is there something more behind that?

Not really Steve. When we think of metrology, it definitely appears to be more tied to capacity buys where it's done very well for us, is the transition at 300 mm. We are just not going to get the big banks for the bucket at 300 mm when you are in pilot in metrology. The other area where metrology has been strong for us is in and around litho. When you add it all up, you are right it's a small percentage of the total, and total has always been tied more to capacity buys unlike Recital or wafer inspection.

And then one more quick question. John, I think midyear you talked about the order progression by customers, usually the top tier guys come in and get their initial tools to play around within the second tier and then the top tier guys come back for their capacity volumes. I am wondering if that concept still stands and you just continue to kind of scale up with that or can there be a lull in between.

No, we're still seeing a cycle of buyers. You know, the folks that were buying from us in the September quarter is a little bit different group of folks in the June quarter, and we look forward into December and it's a different group of people too. The top tier guys have kind of completed their first round and are coming back for second phases, some cases third phases, and now what I'll call maybe the second tier are coming around for their first round of first phase buys over the last couple of months and we see that continuing in December.

I guess with the rapid remaining so strong given the maximum we've got to wait till that falls apart?

You can see the pickup everywhere else, that's just a joke.

And then my last question was, I know you carried on the balance sheet deferred profit lines, can you give us as a sense on what deferred revenues are sitting up?

Yeah, its just over 500 million, 505, 510 something like that.

Great, thanks John.

Our next question comes from Mark Fitzgerald with Banc of America Securities, please go ahead with your question.

Given in terms of signing off on these tools and shortening that process is that something you are focused on?

Hey Mark, start over again, we only got the last part of it.

Can you give us some sense in terms of this whole process of getting sign off on tools if you are trying to shorten that process.

Oh! Yeah, good question. If you recall, last quarter at the earnings release, I told you that we had about 4-1/2 months of deferred revenue that hadn't been signed off. We have cut it now down below 4 months, roughly 4 months. I have been extremely happy with the progress we have made there and it's just operational, changing people's focus both not only in the field but in the factory one what needs to get the [_______________]. I see it going down next quarter and in the following quarter also and we have fulltime effort on that because it's clearly important for our business.

Mark, we although it may be confusing, I am sure [________________] confusing for a lot of people. We are really, in general, supporters of the whole process because what we think it does is provide a better product to our customer. I think in the past a lot of our divisional people, the division managers could take revenue credit when the product left the back door and now they can't take that credit until the customers signs it off. So I think we've got more attention by everybody in the factory on that product as it goes all the way out the door and to the customer and through acceptance of the customer's facility. So all in all, we think one of the really big side advantages for KLA-Tencor is we will deliver a better product to the customers that will reside off really in a shorter amount of time and overall it should reduce our overall cost of quality as we look forward over the next few years. So, we are behind the results of what SAB 101 gives us, although technically for you guys am sure it's confusing.

And just one quick question. Do you give a cancellation number in the quarter number dollars was cancelled?

Yes. In my prepared remarks Mark I said it was 4% of our incoming backlog. Let me spend one second on that too, you know, cancellations, we get the semantics here, we have cancellations and pushups. Cancellations in my mind are something I get from my customer who says, "look I don't want that order." 95% of the cancellations we got in this quarter were KLA-Tencor inflected or either push-outs, where the customers come to us and said, "look we want to push it out one more time," and we said, "look, why don't you just reorder this because I don't want to carry it on my backlog I don't want to put capacity into the factor, I don't want to bring in the parts because it is now 9 to 12 months out, let's reordered it." So it's a relatively small number. It was not cancellations from the customers. It was KLA-Tencor inflected pushing it out.

Can you give us the numbers. I am not sure what you meant by incoming backlog.

Mark you have to work harder. It's 25 million.

Okay. Thank you.

Our next questions comes from Edward White Lehman Brothers. Please go ahead with your questions?

Thanks. Two-part question. First, you talked a little bit about commitment on the part of Intel to technology. Can you talk about the commitment on the part of some of your Asian customers to continue their R&D and pilot lines in this environment? And then secondly, can you talk a little bit about what those R&D lines generally will tend to look at in terms of the types of tools that will ordered or the amount of revenue opportunity you might get from a typical line?

Yes. This is Tom Long. We see basically in our Asian customers that a number of them, in particular the foundries are out on the leading edge as far as the design rules that they are now offering, and those customers are been very aggressive in adding the capabilities to try and ramp up the yield very quickly to get to point where they can transfer these into production. I think in Japan we are seeing similar things with some of the ships out of DRAM into more consumer-oriented circuits. There is a real drive there to move into the copper methodology, and we are seeing them to be fairly strong in the R&D purchases as well. So, you know, I think across the board and even in Europe, we are seeing very strong spending levels in R&D programs there, because I think everybody wants to get their new products out to move up the ASP curve to have some differentiated capability out of the [_______________] capability that they've had through the 0.18 micron generation and not everybody has been as fortunate as Intel to quickly ramp yields and move everything into 0.13 across many fabs; in fact numerous customers are struggling at this point 0.13 micron level given us a very good opportunity there.

And the profile of what one of these typical lines might look like in terms of revenue opportunity for you?

You know, I think that naturally in pilot facilities we are seeing that those pilot facilities are been built within the major fabs and then that they are adding equipment to be able to do the pilot work, but at the same time they are starting to add some additional capacity to get ready for ramps as they meet the minimum yield requirements to move forward those new products.

Ed, it's across all of our products, you will get wafer inspections, you will get meteorology solutions for each one of their process steps, and certainly software interconnectivity and everything.

And finally a quick question on MicroLoop. You talked about the ability to reduce the numbers of nuisance defects, but by doing an electrical test can you effectively screen out all of the nuisance defects or are there some nuisance defects that you can't screen with electrical test that are still going to crop up as nuisance defects during inspection?

We have developed a very unique filtering methodology that allows us to go from literally thousands of defects which include electrical as well as physical defects cut by E-Beam systems to identify only the electrical signatures that will impact yield and the structures that we use to do that replicate the customer's design rules exactly as well as systematic structures as well as finding random defect there, so we are very pleased with the results that we are seeing out of that technology and customers are able to focus their priorities on specifically what's killing their yield at that particular moment, and it's been very viable for them to accelerate their learning cycles and to take that down to literally just a matter of day or two rather than having to wait to end of line to get results back on product or special test chips.

Great. Thank you.

Our next question Jerry Fleming Tucker Cleary. Please go ahead with your question.

John, looking for a silver lining in SAB 101 for doing analysis, I was looking at the ratio of your deferred profit to your what you said were your deferred sales, and I see something like nearly a 70% margin that's in there on those deferred revenues. Does that have implications for showing the increase profitability of your new products over your old products?

Hoping you'll keep this quiet Jerry.

And does it also mean that we're going to see a really strong earnings recovery when things start to pick up?

It is misleading let me give you a few reasons why the first one is that it has no service.

Right.

That happens, that's a period deal and we talked about that before as how that changes the mix of the company. The second thing is, it's only the cost of goods sold, so before I mentioned there was a question on gross margin I said that we expanse everything we can in that period. So any of the overhead, any excess stocks, any reserves that we take in the quarter, we will all take in that current period, installation and warranty things like that will happen in that current period. So it is an exaggerated number, but it also does build well for the future.

Okay. I noticed that incrementally what you took out in the quarter only had about a 60% margin whereas what's left is 70%.

And the reason is, I gave three reasons earlier on the call that gross margin was a little bit lower this quarter. We spilled everything we have anything that looked like excess or obsolete we spilled through the P&L this quarter.

Great, and I want to congratulate you on not checking it as an extraordinary charge the way a lot of your competitors did.

Thanks Jerry.

Our next question comes from Brett Hodess from Merrill Lynch. Please go ahead with your question.

Two questions really. First last quarter you noted that with all the new product rollouts here blended average ASP had gone up in the first half of the year, did that trend continue in the third quarter?

Brett it's about 25%, and I think I told you 20% to 25% that did go up, it was relatively slightly I guess.

So like year-to-date or something like that is up?

What we are talking about here is dollars per unit, dollars per box.

Right. And then secondly on MicroLoop, I was wondering if you could give us a little bit more insight on that in terms of what the rollout looks like; how many beta sites are there today, have production orders actually been placed. And then, for the actual electrical measurement, is that a new product that you noted that it would pull through a lot of eS20s or what not, but is there a new voltage measurement product that goes along with that?

The first question again was?

He wanted to know where the 9...

Oh! Yeah. Right. You know, we had a fair number of beta sites. In fact, the beta sites existed in a number of continents, and today we are working those sites as well we have taken orders that are thoroughly rapid cliff for a number of other locations, and we have been building up our capability to roll this out in the field, and we expect by the end of this year we will be in roughly half of the top 20 suppliers out there in the industry.

And the second question?

Brett just repeat it second question?

Second question was relative to the electrical measurement that you do. Is that a new product that you do that does the measurement on the test structures before the eS20 comes in and looks at the defects?

The eS20 is the primary scanning tool and combined with the eB300 review tool which does some of the final filtering. In addition to that there is a controlling system that controls the overall operation and the automation and the program management and stuff that does all of the intelligence of tying all this together along with the desk chips, and so there are additional revenue opportunities in the desk chip generation, which we've got that highly automated right now, as well as in the licenses and the server controller automations system involved with eS20 and eB300 there.

If I can get a quick follow on, what might you think the revenue opportunity per fabs and would be incremental as somebody puts MicroLoop into there fab.

Oh! Brett, it is difficult when we have these kinds of paradigm shifts in technology, and so it is difficult to size the market, and I think, you can remember back with the introduction of wafer inspection we had 2 or 3 wafer inspection defect finders in a fab. We thought that was great. Today, we regularly do 15 to 20. So we are kind of scratching our heads, the adoption has been quick; it has been big. So, we are hopeful, but it is hard to get our arms around it right now.

Okay, thank you.

Thanks Brett.

Our next question [________________] Adams, Harkness & Hill, please go ahead with you question.

John, can you give us some matrix as to the degree, having penetration of the new E-Beam inspection equipments, something we can certainly get a feeling for how it is rolling out and what the expectations are?

Yeah, the market share is one of the highest in the company, if not the highest, where it sits at the very top, and I think you have a good appreciation for some of our high-end products a little bit, you know how high the market share is. Production for the systems has certainly come down over the last couple of quarters like everything else that has come down. At one point, early in the year, we were close to 10 a quarter, and we are now about a half of that. But, the system we are now with the MicroLoop, we are all hopeful that it will gain some traction and some adoption real quickly and help us over the next couple of quarters.

Okay, right. Thank you John.

Robert Maire with Bear Stearns please go ahead with you question.

Congratulations, by the way on keeping it together, you've done a great job. Number one, I didn't hear any reference to any order cancellations related to customer nervousness, post September 11 as some others in the industry have had. Maybe you can comment on that, if you have seen anything related to that, and also in terms of 300 mm plans, can you give us an update as to your view of what is out there any particular cancellations or push outs or other changes that you've heard from customers?

Robert, on cancellations associated, what we saw was, our first reaction was well everything is going to be freeze up, it turns out despite everything, there wasn't a huge freeze up with our business. There wasn't a dramatic impact other than personally and of course, across the industry. We saw things like instead of getting the entire order, we are going to cut the order in Phase A and Phase B, and we will give you Phase A this quarter and some in the next quarter. We didn't see a lot of it, but there certainly was some more skittishness than when we thought before September 11. I think, going forward that certainly gives us more apprehension, but so far so good we have not seen anything dramatic.

So you would suggest, you have seen a little or no impact?

No, we have seen impact like I just said, where the orders are going to get cut into a half, but the second half does not disappear, it has just been pushed out to the next quarter.

So, maybe if it hadn't happened you would have been flatter in orders.

Yeah, we are up.

Okay, well.

Robert, in terms of 300 mm we are tracking, maybe 10 or 12 new fabs and expansions in terms of 300 mm in kind of our primary list and then another 10 to 12 on our secondary list. So, there is a number of opportunities whether we will see some push outs in those as people, kind of, formulate their plans. We don't know. But at least right now there are some solid opportunities that we were tracking. I guess the other piece of information that at least we hear from some people is that the process equipment companies are really going to be introducing their new processes on 300 mm first and maybe only, and so, some of the key processes, going forward, will come out on 300 mm, and I think that will make companies that are 200 mm only rethink their plans and perhaps accelerate their plans for 300 mm, maybe partnerships or different things like that. If you only have process coming out on the large wafer size, and you want to be a leader, a technology leader, you are going to have to think about going in 300 mm. So that may be a plus or an acceleration of people thinking about 300 mm and some potential partnerships that have not shaped up yet to develop 300-mm fabs.

Okay, and one last question related to the Reticle inspection, typically the Reticle manufactures or photomask manufactures go through different cycles of capital investment as we break through different technological hurdles or points per se given that were going through subwave length of [_______________] shift and all that, how long you see the current sort of spending to get to the next generation lasting, is this a one-year, or 2-year, or 6-month, or is there any guess as to what we are talking about here in terms of potential addressable market?

Right, let me must rephrase the question to make sure I get it right. How long will he the Reticle inspection counter of cycle work for us?

Okay, if you want to put it that way, sure. I will take it

I think the December quarter will be down from the September quarter. Not terribly down, but will be down, and I would anticipate going into next year that it won't be as strong as it has been the last 3 to 4 quarters. But I want to make sure it is only the impression is, it is going to zero. It is going to be very healthy from an order standpoint over the next couple of quarters.

You know Robert, we cannot count on Reticle inspection to keep our orders, our technology orders strong every quarter, but looking out in the December quarter and March quarter, we think, we have got some very strong products that will take its place. We talked about one on the saying MicroLoop. We think the SpectraCD has gotten a lot of interest, and there is a strong need for people to not only measure language, but to do profiling and get profile information from SpectraCD. So, we think there are a number of new technology products that will continue to provided some good technology buys up there for us.

Okay, great, thanks. Congratulations again.

Thanks Robert.

Our next question is from John Pitzer with Credit Suisse First Boston, please go ahead with your question. Mr. Pitzer, your line is open. Our next question comes from Shekhar Pramanick from Prudential Securities please go ahead with your question.

Hi, good afternoon. I am going to ask a question on TeraStar the same rapid. Based on my maps, it looks like last 9 months, you have gotten about 280 million worth of orders and what the split has it gone between iDMs for their wafer fabs and what for the mass houses, and first of all, if I am correct on my order number?

Yeah, I don't think I can answer either question with data I have with me. I am sorry. I spend a lot time in the Reticle inspection division here, but I just don't know over the last 9 months, have any idea what the order rate is. As far as the split between mass [________________] and fabs which I think is what your question was, I could not give you an exact split, I cannot tell you that, we, over the last few years, have put a lot more focus, business has grown in the fab side of the business. We have always sold to the mass makers, and now you have seen a lot more incoming quality check and rechecks in the fabs, and I have to use a Reticle you are going to continuously check it, and that has created more and more opportunities for our Reticle inspection division. I just do not have the numbers.

I mean, is it about like 25 to 28 kind of TeraStar tool orders you have seen recently?

A 25 to 20 tools?

Yeah.

I do not have it Shekhar, I don't know.

All right, thanks.

Yeah.

Our next question comes from Min Pang from SG Cowen, please go ahead with your question. Mr. Min pang your line is open for question. Our next question comes from Nikolay Tishchenko from ABN Amro. Please go ahead with your question.

Good afternoon, very short question. Your were talking about customers coming in waves, the first tier, then the second tier, then the first tier coming again. Do you see the floatation in 300-mm related orders and what pattern you are seeing right now, and what do you expect to see in December? And the second short question is what is the linearity of the orders during the September quarter, and what do you expect in the next couple of quarters?

Nikolay, I am not sure I understand the first question, I'll take a shot at the second one. The second one, our linearity in the September quarter was probably a little bit more linear than it typically is, linear meaning more of it was front-end weighted in the first and second months and less in the third month, but you know as a rule in this business, most of the activity seems to happen in the eleventh hour of the third month of the quarter. I would not see any difference in December or the March quarter. I do not think it is going to change overnight on this.

I see. The first question was about 300 mm. To put is simply what is the share of 300 mm related or non-related products?

Okay, 300 mm for our bookings in the September quarter made up about 60% of our orders, so now the way we do that is we say is it going to a 300 mm fab then we are going to call it 300 mm tool, 60% of the orders.

Thank you very much.

Yeah.

Our next question is from Ali Irani, CIBC Oppenheimer, please go ahead with your question.

Good afternoon gentlemen. Two-part questions; what it would seemed to me or what appears to me that to ramp from a one-system evaluation to multiple system adoption of your tools and your new products, in particular, is accelerating, and it would appear to me also that the pipeline of some of these new products entering the multiple system ramp cycle into existing fabs looks pretty good and is reflected in your bookings. I know that it is difficult to look out typically beyond the quarter, but with your bookings holdings flat, could you give us an idea of what your general sense would be in the first quarter, and whether you could see stabilization in your shipments by then?

It is a combination..

Let me just add maybe little bit to that, it just sounds to me that KLA in a position to have better visibility to stabilization today than most of your peers on the process equipment group.

We are really taken it 3 months at a time in this environment Ali, that's what I was about to say to. We have 6 months of backlog that we nurture and used to protect our R&D investment, our investment with our customers and we take it 3 months at a time, so we will check at the end of December again, obviously, and look at it what it looks like into the March quarter, but as far as we are looking out right now, really it is right through December and it looks relatively flat to us. To answer your question, I will have to make some assumptions beyond that and we are just not in a position to be able to do that.

Would you agree with those 2 first statements. Tell us about the cycle of ramp into multiple systems of some of these newer products, actually just beginning. The cycle of the new products ramping into multiple system and [________________] at existing fabs?

Ali, I am not sure. I don't want to agree to it because I am not sure I understand.

Sure. For example, your eS20 or your 2350 UV going from single system shipment for existing fabs to multiple systems installs to support the ramp, for example 2.13.

That's the way it works.

Yeah. Certainly with the new products like a 2350 there are not many fabs who have multiples installed yet, so that's just beginning. We believe that MicroLoop is a killer [________________] that will lead to multiple eS20s, and that's another, SpectraCD just passed the beta phase and is beginning the first tool shipments, so a lot of our new products that have just one or two in every site and I think we are positioned really well for multiple tool orders as business picks up and as our customers get more confident about expanding their fabs.

Is there specific combination of units of the new products that work with microfab that you are recommending to these customers in a 15 or 20 per fab of 5 to 15 per fab.

You know we have. When we work with the fab, we will help them and drill sample plans with them, in terms of old sample plans for metrology and sample plans for more inspection in their leads based on a number of wafer stocks to a number of units that we will recommend for every fab.

Okay great. And John, mix of sales that go to copper and mix of bookings that go to copper and markets, excluding the 300 mm, could you provide us with that as well?

I cannot do it excluding the 300 mm.

Including the 300 mm.

Yeah. It is about 50% of our orders.

Great. Thank you.

Thanks Ali. Hi, we have got time for one more question.

Thank you. Our last question comes from Mike O'Brien with Wit SoundView Financial Group, please go ahead with your question.

Yeah. Hi, good afternoon. Two quick questions, one with regard to the orders, John you said there was within about 5% of the range so, would that be down 5% or down 15% with first question, and then, how are you feeling about your headcount sizing, as of right now, the typically you haven't in the past made announcements of layoffs, but what's the strategy there, are you comfortable with your level of headcount or are you going to have to look at that as you go through the quarter?

The first question, it's 5%. We were down, actually a little bit less than 5%, but 5%. And the second question, like we are continuously looking at this spending level of our business. If you look at our fixed cost for instance, something you can clearly see on P&L and the income statement. We are up to about 190 million about a year ago, and now our run rates about 145 million that's R&D and SG&A, and we have done that by, I went through these before, eliminating contractor's stamps, part-time workers, we've [________________] poor performers have been leaving the company. We have managed attrition, cutting discretionary spending with pay rates freezes on, we've cut management right up to CEO 15, 10, 5% at each level. We have shutdowns periodically across many different organizations. We are going to continue all those things. We will dial the business into the economic conditions, but what's key here is what Ken mentioned a couple of times is we are not going to strangle the organization. We are going to invest, maintain and grow on our leadership position and get these innovated solutions to our customers. We got more announcements, [________________] coming ahead of next 9 months that are going to come out, but we are going to be profitable no matter how deep this thing goes we are going to keep working at it. So it's hard for me to have a crystal ball, but we will dial the business into the economic conditions.

Great. Thanks a lot.

Thanks Mike. Okay, with that I would like to thank all of you for participating in the conference call today and we look forward to speaking with you in the next quarter.

Ladies and gentlemen, that does conclude the conference call for today, we thank you for your participation and ask that you please disconnect your lines.