科磊 (KLAC) 2009 Q1 法說會逐字稿

Thank you, operator.

Good afternoon and welcome to KLA-Tencor's first quarter fiscal year 2009 earnings conference call.

I'm Ed Lockwood with KLA-Tencor Investor Relations.

Joining me on our call today are Rick Wallace, our Chief Executive Officer, and Mark Dentinger, our Chief Financial Officer.

We're here today to discuss first quarter results for the period ended September 30, 2008.[The preceding text was provided by the Company due to audio difficulties.] We released these results this afternoon at 1:15:00 p.m.

Pacific time.

If you haven't seen the release you can go find it on our website at www.kla-tencor.com, or call 408-875-3600 to request a copy.

Rick will lead off today's call with highlights of the quarter, updates on the current market environment and provide guidance for the December quarter.

Afterwards Mark Dentinger will review the preliminary financial results for the quarter and then we'll open the call for questions.

On the investor section of our website you'll find a simulcast of this call, which will be accessible for 90 days.

On the website you'll also find a calendar of future investor events, presentations, and investor conferences, as well as links to KLA-Tencor's SEC filings, including our most-recent annual report on Form 10-K for the year ended June 30, 2008.

In those filings you'll find descriptions of risk factors that could impact our future results.

As you know, our future results are subject to risks.

Any forward-looking statements, including those we make on this call today, are subject to those risks.

KLA-Tencor cannot guarantee these forward-looking statements will come true.

Our actual results may differ significantly from those projected in our forward-looking statements and although we take no obligation to update those forward-looking statements, you could be assured that any updates we do provide will be broadly disseminated and available over the web.

With that, I'll turn the call over to Rick.

Thank you, Ed.

Good afternoon, everyone, and thank you for joining us for our Q1 earnings call.

Today I will discuss highlights of our performance in the September quarter, give an update on the current market environment and provide guidance for the December quarter.

In Q1 KLA-Tencor maintained our market share leadership, while at the same time meeting our financial targets for the quarter, all in the face of a pervasive industry-wide downturn and mounting global economic uncertainty.

We expect the oversupply in device inventories, reduced consumer demand, and limited access to financing will continue to constrain our customers' capital investments for the foreseeable future.

Still, even with low order levels across the board today and with visibility very limited, our customers continue to invest in technology development of leading-edge devices which benefits KLA-Tencor.

Our strategic focus in these challenging times is to strengthen KLA-Tencor's competitive position and lay the foundation for superior growth once industry growth resumes.

Our market share leadership, the exceptional value of our technology, and our strong balance sheet provide the resources to continue to invest in growth, to invest in advancing our technology roadmap, and to maintain a high level of customer focus while others are scaling back.

They also provide the flexibility to manage the business to break-even profitability or better, in spite of a weak demand environment and the great degree of uncertainty as to the duration of this downturn that persists in the market today.

Now turning to more detail on the September quarter results, starting with the numbers, revenue in Q1 '09 was $533 million and net income was $55 million, or $0.32 per diluted share, excluding one-time charges.

We generated approximately $81 million in cash flow from operations in the period, ending with $1.3 billion in cash and investments as of September 30th.

New bookings in the quarter were $325 million, down approximately 33% from June and below the range of guidance.

Q1 bookings reflect seasonality we typically experience in our first fiscal quarter, intensified by increasing inability among our customers to deploy capital in the face of the unstable global economic environment.

This resulted in weak demand across all sectors and geographies in the quarter, with the exception of logic.

In the month of September we saw further pushouts from memory and foundry orders, with customers moving these projects into 2009.

Although we think demand has reached minimum levels necessary to sustain our customers' advanced development investments, visibility remains weak and we expect the general reluctance among our customers to invest will persist for the foreseeable future.

Looking at the Q1 demand picture and the individual end markets, logic orders were strong once again coming in at 77% of the total, as logic continues to push investment in leading-edge development.

Memory was approximately 16% of the orders in Q1.

The memory industry continues to grapple with the prolonged inventory oversupply condition, with resultant pressure on pricing and margins significantly impacting economics in this market.

This coupled with concerns that a weakening global economy will further dampen consumer demand has led to a significant pullback in capacity investment and memory, with memory customers scaling down CapEx budgets and delaying previously-planned programs well into 2009.

Additionally, we would expect the recent consolidation trend in the memory market to continue, as the industry works to rationalize capacity.

In the interim, we expect the market leaders to remain focused on device strength and increasing yields to improve margins, which we believe will benefit KLA-Tencor.

Foundry bookings were down sequentially in the September quarter at 6% of orders.

Foundry capacity utilization is expected to trend down in the near term in conjunction with declining demand for both mainstream and leading-edge products, impacting equipment demand in this market.

Overall, in spite of the poor visibility we're experiencing today across our industry, process control remains the key success factor for our customers, as they advance their technology roadmaps at the leading edge.

So although investment levels are low today, we're maintaining pricing discipline, and our market leadership and our indispensability to our customers remains a powerful competitive differentiator for KLA-Tencor.

Looking ahead to the rest of the calendar year 2008 and into the first half of 2009 we see little evidence today of a meaningful near-term improvement in the demand environment.

Taking this into account, we're taking actions to manage through these uncertain economic times and capitalize on opportunities for KLA-Tencor to sustain and grow our market leadership in the downturn and position the Company even more strongly in the future.

I'd like to take you through some of the key areas of focus as we manage through this period.

Number one, we will focus on our core businesses in this period of compressed capital budgets, leveraging our strong balance sheet and market leadership, the breadth of our global field support infrastructure and our product portfolio to support our customers' investments in advanced technology development, while also addressing the heightened emphasis on cost.

This will further strengthen our position for the next phase of capacity investment in our industry when it again materializes.

Number 2, we will continue our high pace of investment in R&D.

While the declining demand environment is putting pressure on R&D budgets elsewhere in our industry, we intend to maintain our relatively-high levels of investment in technology, while at the same time improving efficiency in our R&D effort, advancing our technology leadership and pushing a product roadmap that addresses our customer requirements at [N plus] and beyond.

These investments are targeted not only at advancing KLA-Tencor's leadership in our core market, but are also focused on supporting technology development and integration activities among our recently-acquired businesses, which are a key component for our long-term growth strategy.

We acknowledge that the decision to invest for growth in this environment involves a trade off in terms of near-term earning power, but we think over the long term these actions will help to further strengthen our competitive position and provide a catalyst for accelerated growth in the next investment cycle.

Third, we intend to continue to focus on advancing our diversification strategy.

Our end-market profile has changed significantly since the last major downturn in 2001.

Back then we addressed five or six primary segments, focused on wafer inspection, radical bare wafer and metrology markets, and these businesses accounted for about 80% of total revenue.

Today we have ten primary engines for growth at KLA-Tencor and we've diversified into adjacent markets, such as wafer metrology, mass metrology, back-end packaging, solar and high-brightness LED.

Our strategy to broaden our footprint opens up access to markets with attractive growth and profitability characteristics to drive our future performance.

While these new growth engines have also been subject to the current economic downturn, they should help reduce our exposure to the volatility of the wafer front-end market when more normal demand conditions resume.

The final success factor for KLA-Tencor in this environment is our strong balance and operating model.

As I mentioned, we are investing today across our portfolio to support our long-term strategic growth objectives.

In addition, we're also committed to managing the business to deliver break-even profitability or better.

To that end we are currently in the process of implementing additional cost reduction actions in support of that objective.

In conclusion, no doubt times are tough today and visibility into a sustainable recovery and demand is still very limited, but we believe KLA-Tencor is operating from a position of strength and has the right strategy in place to weather this storm.

More importantly, this challenging environment presents unique opportunities for KLA-Tencor to capitalize on our competitive advantage in terms of technology, market leadership and financial strength to position us for success in the future when a healthy demand environment resumes.

Now discuss our outlook for the December quarter.

We remain guarded in our outlook, as we expect the demand environment to remain unpredictable for the foreseeable future, with CapEx limited to technology investment programs and longer-term visibility virtually nonexistent.

In terms of guidance, new orders in the current quarter are expected to be flat compared with September, plus or minus 10%.

Revenues are expected to be between $410 million and $430 million and non-GAAP EPS at break-even plus or minus $0.02 excluding one-time charges.

Now I'd like to introduce Mark Dentinger.

As many of you know, Mark joined KLA-Tencor in September as CFO and in the past two months is already making an impact in helping to navigate through these challenging times.

I'd like once again to welcome Mark to the team.

Mark?

Thanks, Rick.

Revenue for the quarter was $533 million, slightly above the guidance range we provided in July of $510 million to $525 million, and fully-diluted GAAP EPS was $0.11.

Non-GAAP EPS is $0.32, at the low end of our guidance, but was impacted by circumstance that drove our tax rate up to almost 37%, or seven points higher than the 30% range we guided in July.

The higher-than-anticipated tax rate reduced EPS by $0.03 in Q1.

Absent this issue, non-GAAP EPS would have been $0.35.

We'll discuss tax issue in more detail later in the call.

The differences between Q1 GAAP and non-GAAP numbers are: Acquisition-related charges of $40.3 million, or $0.17 per share after tax; stock-option restatement related charges of $3.8 million, or $0.02 a share after tax; and restructuring and severance charges of $4 million, or $0.02 a share after tax.

In our press release you will find a GAAP to non-GAAP reconciliation, which addresses the adjustments I just mentioned in more detail.

The remainder of my comments will be on our non-GAAP results, which exclude the adjustments I just mentioned, but include stock-based compensation.

We completed the acquisition of Vistec's MIE business unit, hereafter referred to as MIE, at the end of September, so the MIE results had a negative impact on our income statement in Q1, but our balance sheet includes the MIE assets and liabilities as of quarter end.

In terms of financial performance, we met our target for Q1 in a difficult environment.

Our market position in all products and businesses was consistent with the last several quarters.

Despite of the tough environment, we viewed downturns as an opportunity to strengthen our position so we'll have a strong set of products for next-generation product nodes.

Global economic instability, which began impacting our business several quarters ago, continued in Q1 and drove an unprecedented level of caution by our customers in making capital investment decisions.

A number of fab expansion projects that had appeared solid for Q1 back in July pushed out of the quarter, driving lower-than-expected new order levels this quarter.

In this environment, customers are only investing in advanced technology node development.

While we expect most of these order wins will lead to future capacity business for KLA-Tencor as these nodes ramp to production, they are small today and resulted in new orders of $325 million in Q1, down 33% from the June quarter and below our guided range of a decrease between 5% and 25%.

Additionally, we scrub our backlog quarterly to reflect only orders we believe will ship in the next 12 months.

We do this to size the Company properly, both in manufacturing and operating expenses, and to send clear demand signals to our supply chain.

In Q1 we initiated $60 million of backlog reductions, largely to reflect shipment delays from certain customers.

We expect the majority of these orders to reenter our backlog over the next six months, as new delivery dates firm.

We ended the quarter with $811 million in total backlog after adjusting for customer-initiated delays, acquisition-related adjustments and foreign exchange impact.

The $811 million in backlog at September 30th includes$250 million of revenue backlog for products that have been shipped and invoiced but have not yet been signed off by customers and $561 million in orders that have not shipped to customers.

We expect the majority of the unshipped backlog to ship over the next six to nine months.

The approximate regional distribution of new orders in the quarter change in regional distribution was as follows: The US was 45% in Q1, up from 33% in the June quarter; Europe was 4%, down from 6% in Q4 of '08; Japan was 21%, up from 15%; Korea was 13%, flat versus last quarter; Taiwan was 6%, also flat with last quarter; and the rest of Asia was 10%, down from 16% in the June quarter.

The approximate distribution of new orders in Q1 by market was: Wafer inspection was 30%, down from 45% last quarter; radical inspection was 10%, flat versus last quarter; metrology was 14%, down from 20% in the prior quarter; and storage, solar, high-brightness LED and other non-semi was approximately 9%, up from 2% last quarter.

Service was 37% in Q1, up from 23% last quarter.

45-nanometer and below development and pilot activity was roughly 85% of the semiconductor system orders received in the quarter.

This level was up from 75% in our June quarter.

As we move forward, visibility into a meaningful turn in the business is low and we do not anticipate significant improvement in new orders in Q2.

We will continue to manage the Company in line with these business levels until an upturn is evident.

Looking at our income statement, revenue for the quarter was $533 million.

This is down 10% from last quarter and down 32% from Q1 of last year.

Non-GAAP gross margin was 54.9%, down 170 basis points from the June quarter.

The gross margin decline is due to a higher percentage of service revenue, dilution from recent acquisitions and lower manufacturing capacity utilization.

In the December quarter we expect gross margins to decline further due to three factors.

One, the revenue mix will shift further as we expect product revenue will decline $100 million to $120 million, while service revenue would be roughly flat.

Two, we will include the MIE results for a full quarter and we will transition MIE to our customer acceptance driven revenue recognition policy, both of which would be margin dilutive.

And three, lower manufacturing capacity utilization will also create margin pressure.

As anticipated in the July conference call, operating expenses were $209 million, up $16 million from the June quarter, as we absorbed a full quarter of ICOS in Q1.

R&D was $104.5 million in Q1, up $7.3 million from June, due to ICOS, as well as continued investment in key research and development and application support for next-generation technologies.

SG&A for the quarter was $104.4 million, up $9.1 million from last quarter.

In Q2 we anticipate that operating expenses will decrease by $5 million as we begin to see the benefit of synergies from recent M&A activities.

In addition, we will initiate a number of cost cutting measures designed to reduce operating expenses in the next few quarters.

In total, the acquisitions of ICOS last May and MIE in September will account for about $24 million of our operating expenses in the December quarter.

Other income for the quarter was $4.2 million, in part due to an $8.5 million one-time recovery of back taxes, which was anticipated when we issued guidance last July.

In Q2, we expect other income and expense to decline approximately $10 million, resulting in a net charge of $6 million, as the interest expense on our long-term debt exceeds the expected yield on our marketable securities.

The non-GAAP tax rate was 36.7% in the quarter, almost seven points higher than the 30% range we discussed in the conference call last quarter.

This unanticipated rate increase arose because of investment declines in our deferred compensation program, which are not deductible for income tax purposes, but are included in pre-tax income.

The investment balances in this program are normally fairly stable and historically the effective changes in the investment portfolio have impacted our tax rate by less than one percentage point.

Presuming the recent volatility in equity markets subsides, we will expect this tax rate to return to prior levels.

Looking forward to Q2, lower pretax profits combined with the impact of recently-passed US legislation renewing the R&D tax credit will increase volatility in our tax rate, which will make it more difficult to forecast.

For the December quarter, our projected tax rate will be between 0% and 10%.

In the long-run, however, we expect our non-GAAP tax rate to return to the 30% range.

Non-GAAP net income was $55 million, or $0.32 per share in Q1.

These numbers include stock-based compensation expenses of almost $28 million.

In the December quarter we expect expenses for stock-based compensation to be approximately $25 million.

Turning to the balance sheet, cash and investments ended the quarter at $1.3 billion, a decrease of $270 million -- $273 million quarter to quarter.

Cash flow from operations was $81 million in Q1 versus $188 million in Q4 of '08.

During Q1 we repurchased $177 million of stock, we paid a cash dividend of $26 million and we used $127 million in net cash to acquire MIE.

Accounts receivable ended the quarter at $370 million, down $122 million from the prior quarter.

MIE added $15 million to the quarter-end balance and DSOs were 80 days versus 83 days at the end of June.

Inventory increased by $44 million from last quarter, including $36 million from the MIE acquisition, and ended the quarter at $504 million.

Net capital expenditure were $10 million, $7 million within the core business and the remainder due to the MIE acquisition.

Fully-diluted shares in Q1 were just over 174 million versus 178 million shares in Q4.

For the December quarter, fully-diluted shares are expected to be about 172 manage.

Total headcount ended the quarter at 6,306, an increase of 246 from June 30th.

The MIE acquisition added 344 people and this is partially offset by a 98-head reduction in the rest of KLA during Q1.

Finally, our visibility into demand for semiconductor-based products is limited.

At this point, we do not expect any meaningful capacity-related spending to occur for the remainder of the calendar year and into early 2009.

KLA's long-run fundamentals are compelling and we are confident in our new product pipeline, both in our core and acquired businesses.

We remain cautious in the near-term outlook, given the uncertainty surrounding the next few quarters and we expect new orders in the December quarter will be technology focused and similar to the level we experienced in Q1.

We are adjusting our near-term revenue expectations downward and we will continue to run the Company in a way that is designed to maintain sufficient backlog and key research and development investments.

Toward this end, we are undertaking a number of measures which aim to lower our quarterly operating expense run rate to the $165 million to $170 million range over the next nine months.

These measures will be broad-based and focused on acquisition synergies, administrative support, sales and channel efficiencies, operations, and non-core engineering activities.

Due to the timing of these actions, as well as other legal and contractual factors, we will not see significant cost reduction in the December quarter.

However, we do expect to see progress from these efforts beginning in the March quarter.

In summary, our guidance for Q2 is: New orders are expected to be flat, plus or minus 10% versus Q1; total revenue between $410 million and $430 million; and non-GAAP EPS, which includes stock-based compensation, but excludes one-time charges and amortization, will be approximately break-even plus or minus $0.02.

This concludes our prepared remarks on the quarter.

I'll now turn the call back over to Ed to begin the Q&A.

Okay.

Thank you, Mark.

At this point we'd like to open up the call to Q&A and we ask once again that you please request -- that you limit yourself one question given the limited time we have today.

Feel free to requeue for your follow-up questions and we'll do our best to get everyone on today's call.

Operator, we're ready for our first question.

(OPERATOR INSTRUCTIONS) Your first question comes from Jay Deahna from JPMorgan.

Your line is open, sir.

Okay, great.

Thanks very much.

Back in the spring and in the summer there was a lot of noise, a lot of concern about KLA potentially losing market share in photo mask inspection and I think actually concerns about losing share in brightfield wafer inspection popped into the equation, as well.

Just wondering if you can give us an update on a competitive landscape and if you've seen any competitive pressure in those areas?

And if you have been able to hold your share, have you seen any pricing pressure that could negatively impact your margins as a result of somebody being out there that's more competitive than they have been in the past?

Sure.

Yes, good questions, Jay.

Absolutely there's been a focus on market share on our side over the past several quarters, as you mentioned.

We continue to do well.

I think that this environment has changed somewhat our strategy and that many times our customers have reduced CapEx budgets, so we do find that there are occasions when we are providing capability and perhaps deconfiguring, so taking off some options of the tool, in order to meet certain price points, more limited by -- driven by our customers' need to really meet their budget.

From an overall market share we're pleased with our position and how we've done, but in this kind of environment you have to battle for every order and that's certainly what we're out there doing.

So when the market share gets reported for this year in the spring of next year do you expect your share to be higher, lower or about the same as it was last year and are you actually experiencing any pricing or potential margin pressures as a result of competition that you would view as abnormal?

Yes, we don't expect to see market share decline.

As I said, sometimes there are some cases where we'll deconfigure tools to provide capability.

These could result in having a short-term margin impact, but you get it back in the long term when you provide upgrades.

So balancing over time we don't see that being a significant factor for us.

But there's definitely increased competitive landscape based on the fact that there's not as much buying and customers have more time to evaluate tools.

Okay.

Then lastly, can you give us an update on your move to Singapore and what the impact is on your margins now and what it's expected to be in the next cycle compared to what they would be if you maintained your domestic manufacturing?

Absolutely, sure.

The products that we moved to Singapore, they're now several products, but most of them are relatively higher volume, oriented toward capacity buys, so when we were running at higher revenue levels then we said we got about 100 basis points out of the move to Singapore.

Actually, as revenues come down, as we're forecasting in this slowdown, that effect is somewhat minimized by the fact that we're just running lower volumes.

However, when we reaccelerate in the next cycle, that's when we expect to see the 200 basis points that we originally had forecasted for that move.

But we're not going to see that until we come out of the other end of this downturn.

Great, thank you.

Thanks, Jay.

Your next question comes from Jim Covello with Goldman Sachs.

Your line is open, sir.

Guys, good afternoon.

Thanks so much for taking the question.

If I could ask about the cash and the plans on the buyback, on one hand the stock's down a lot so if you were buying back stock before obviously this looks like an attractive level to you.

On the other hand, you want to manage the cash balance in this environment, so how do you balance those two concerns or questions?

And then if I could ask my follow up ahead of time, and it's kind of a follow up on Jay's question relative to, can you talk a little bit about the technology competitiveness.

So I understand that you're deconfiguring systems to meet customers budgetary constraints, but what are the issues you're dealing with from a competitive environment, both against [amat] and radical inspection and brightfield inspection?

Thanks so much.

Sure, Jim, good questions.

First, on the buyback, we have been -- we did buy back shares in the last quarter; however, in the last few weeks we have curtailed our buyback.

As we look out, there's so much economic uncertainty we have curtailed that in anticipation of just trying to get better clarity on what's going on and so -- in terms of the long-term macro effect.

So right now we're in a mode of conserving cash, given the current environment, and certainly we'll be in a position to return back to our mode of buying back shares once we get better clarity.

But right now there's just so much uncertainty that we felt that was the most prudent thing to do.

In terms of the competitive front and the technology that we're seeing, not really a big difference.

As I mentioned in the prior question with Jay we do see competitive pressure, we always see competitive pressure and it gets heightened in an environment where people have more time to evaluate tools.

We do see the differentiation in the new tools that we brought on in radical inspection, the WPI option that we've added to our 5 SX.

It's gotten very good traction in the market and we have some extensions to our roadmap as well as new products that we're working on, so we feel very good about our technology position.

We also think that for our competitors it's going to be increasingly challenging to maintain their investment levels as we go through this downturn.

In terms of brightfield, again, good progress there.

We feel very confident in the latest -- what we see in terms of market share and evaluations.

We continue to differentiate.

And for many of our customers the buys that they have right now are really technology focused and so it does -- on the one hand, they're short on capital, on the other hand they really want to make sure they get the best performance possible and that's why we believe our market share is holding up in this environment.

Great.

Thank you so much.

Thanks, Jim.

Your next question comes from Timothy Arcuri with Citi.

Your line is open, sir.

Hi, two things.

Number one, Rick, can you give us shipments and can you give us what you think shipments will be in December?

And then I had a second question.

Yes, sure.

Actually I'll let Mark handle that one.

Yes, shipments for the quarter were about $420 million, Tim.

We are not forward guiding the shipment number into December simply because it's not a particularly meaningful leading indicator of exactly what the revenue follow on is going to be, but we'll continue to guide the order flow and the revenue numbers.

But $420 million was the shipment number for the quarter we just completed.

I'm sorry, why would shipments not be a good indicator of what the future revenue's going to be?

Yes, because there are is wide variety of different possibilities of when those shipments can turn into revenue and the shipment is not necessarily a short-term leading indicator of exactly when those orders are going to turn into revenue.

And for the time being, at least, we think it is prudent to not guide that explicitly, especially with the economic uncertainty that's out there.

Okay, all right.

I guess a question for you, Rick.

Maybe I misheard your answer to the first question, but it seemed -- I guess my question is around profitability versus market share.

And I guess the last maybe five or -- years or so KLA would have never considered cutting price to keep market share and I guess in answering a prior question it sounds like you were maybe hinting or saying that in some cases you've done that and maybe that's not what you meant to say or I misheard it, but I'm wondering what your thought is around the balance between profitability versus market share.

Thanks.

Yes, sure.

Timothy, no, I've been here 20 years and this is absolutely what we would have done in the past.

When times are slower we tended to deconfigure tools in order to make sure that we have the sockets and win the business.

Longer term, of course, we get that profitability back if there's any short-term hit on that due to the configuration.

We also offer more support for our customers during these periods of time.

Now, we think that'll translate, again, into the similar performance we've had in the past, so it's really no change in our operating model, but more consistent with this part of the cycle.

Okay, thanks.

Your next question comes from C.J.

Muse with Barclays Capital.

Your line is open, sir.

C.J.?

Sir, your line is open.

Since we have no response from C.J.

Muse we will go on to Satya Kumar with Credit Suisse.

Your line is open.

Yes, hi, thanks.

I just was looking at your comments on bookings.

You mentioned that into March you don't really expect significant recovery.

I suppose that your revenue levels should therefore drop at $325 million to $350 million in the March quarter.

Earlier on I think you mentioned that you expect to remain above break-even through the first half next year.

You're guiding to break-even at a $420 million run rate now.

What type of OpEx reductions would you expect to see in the first half, is there something else that's helping you maintain break-even in the March quarter?

Can you explain the linearity of the cost reduction efforts?

Yes, sure.

We are taking actions.

We said in Mark's prepared comments that we believe we can get our fixed costs in the $165 million to $170 million range down from $209 million in Q1, so that's a significant reduction.

We also believe that we will be able to do better than $325 million to $350 million in revenue, but the way we're modeling it right now we believe that with the current plans that we have and where we still have backlog that we can utilize through this next couple of quarters that allows us to revenue slightly above bookings we'll be able to improve upon our profitability as we go forward.

So you say $165 million we'll get to in just March quarter itself?

$165 million to $170 million by the June quarter.

That would be the run rate at the end of the June quarter.

Okay.

In terms of the gross margins into December I was wondering if you could quantify that a little bit more.

I get like a 500-basis point decline in the gross margins from September to December to get to your break-even EPS levels.

How much of that is the changes in pricing and how much of that is volumes that's driving that?

Probably the biggest factor is actually mix.

So we have as service becomes a larger mix as we bring down the revenue, as you know, and from that standpoint we see the margin.

The other part is we do have some absorption happening in the near term.

We're also, at this point, still integrating the Vistec and the ICOS business, which initially until we work through some of the synergies will have margins that are dilutive to the overall model.

And lastly, Rick, your inventory days went up quite significantly.

It seems it gets a higher level in the last ten to 13 years, something like that.

Is this acquisition related or is this also tied to these pushouts that you're seeing or the additional (inaudible) that you're providing to your customers now that you're classifying them as inventories?

Can you provide some granularity on that?

Yes, 80% of the inventory increase was related to the bring on of the -- the balance sheet bring on of the MIE Vistec acquisition for the quarter.

The balance of the increase was very nominal and, of course, we're catching up with the downturn real time and we would expect to control that number going forward fairly carefully.

But most of the change in the quarter and most of what would drive the turn slowdown was a function of bringing on the acquisition.

Got it.

Thank you.

Your next question comes from Steve O'Rourke with Deutsche Bank.

Your line is open, sir.

Thank you.

Good afternoon.

Just as a -- first as a follow on to the last question, I think last call you talked a bit about inventory from beta shipments in the field, how much is out there and when do you expect it to turn?

Yes, the inventory beta shipments are not calculated in our backlog, that is true, and we would expect the beta turns to turn with the rest of the business at approximately the same levels we've experienced with everything else that's going right now, which means that they'll probably turn a little bit slower in light of the downturn than they might have historically during an upturn.

And vice versa when the upturn returns you can expect to see those flip a little faster.

Do you have a higher number of beta shipments in the field -- or beta tools in the field than you normally do?

At this phase we do have a number of new product introductions, but yes, that's true.

Okay, and one other follow up on a separate front.

You talked about technology buys only in orders and if I understand the numbers correctly in you prepared remarks, if I back out service it sounds like what I call maintenance equipment spending is about $200 for KLA in a quarter.

One, is that the right way to think about it, and two, do you think maintenance CapEx is trending down when you consider number of customers, for example?

No.

Yes, you're right, the math is correct.

No, I don't think it's trending down.

There was just such very little spending out of the foundry sector and out of the memory sector last quarter that it was heavily dominated, really, by the logic spend.

So the other guys I think didn't -- in these times, they tend to be pretty lumpy, so I think that's part of what we're seeing.

But overall, I don't see it coming down.

I see there's some pressure to have it go up.

I wouldn't say it's materially going up over time, but I don't think it's a high point, either.

So you think a $200 million number is a pretty good maintenance CapEx number based upon your business now?

That's similar to the way we're looking at the business for the next couple of quarters, yes.

Fair enough.

Thank you.

Your next question comes from Gary Hsueh with Oppenheimer & Co..

Your line is open, sir.

Thank you.

That's Gary Hsueh.

Rick, just a question to revisit this competition decontenting issue that was brought up.

If I look at memory as a percent of the total in absolute value, I've just never seen memory bookings in one quarter reach a level this low for you and just by way of comparison, in 2002 and 2003 you're memory orders, by my math, hit a trough of around $60 million and that's when TSMC was spending on average roughly about $1.3 billion in CapEx and now I look this year, TSMC's still spending $1.8 billion-ish in CapEx and they're ratcheting it down to $1.4 billion.

So the CapEx environment is arguably a little bit better, but why are we seeing such a low foundry order number?

Is it because of share loss there at the foundries, or is it because of decontenting, or is it simply because foundries are seeing less of a need here for inspection and metrology?

I guess I lost you, Gary.

You were talking about memory and then you switched to foundry?

No, I'm sorry.

Just focusing on foundry, just wondering why your foundry orders are at these low levels, levels that I haven't seen before.

Oh, okay, sure.

Even in '02, '03 when the CapEx environment was pretty much the same.

Yes, sure.

Well, foundry was 35% in June, Gary, and it was 6% in September and we think it's back to 15% in December, so I think it's hard to read a lot into one quarter's data on this because it ends up being pretty lumpy.

When we look across 2008 there's no question that process control has outperformed other sectors in terms of the foundry spend, which have been generally very down.

As you know, the way the foundry guys report, they report revenues different than the actual bookings that are going on, so we're talking about when we give these numbers they're bookings and I'm quite sure there was very -- there very few orders placed in the September quarter out of the foundries.

Okay, so just once again, just the orders at the $20 million level going to roughly around the $50 million level compared to a trough of $60 million in '02, '03, it's just the lumpiness in the foundry business, nothing else?

Well, I think you point out one of the foundry players is their CapEx.

The other guy's actually have been pretty constrained in their spend.

I think one of the questions will be where the -- will be broader spending overall from foundries.

But there's no question that foundries with utilizations where they are right now, and their expectation on demand have been very constrain on their capital.

Okay, and just my last follow up here, what do you think is the mix in your orders in December between memory and logic, since you provided foundry?

Sure, we think logic's probably about 55% and we see memory about 31%.

Now that -- on top of all that we have 25% which is nonsemi.

Okay.

Okay, great.

Thank you.

Your next question comes from Brett Hodess with Merrill Lynch.

Your line is open, sir.

I know that you said you're going to get your cost structure down to the $165 million, $170 million fixed cost range by the end of next June and that includes all the acquisitions at that stage.

Can you talk a little bit about what your gross margin structure will look like once you get these things all integrated such that what the new break-even level might be overall?

Sure, Brett.

I think there's a couple things.

One, obviously some of the things we're doing in cost both are -- in the $165 million, $170 million we're talking about fixed costs.

Obviously we're also we're working hard to reduce the overhang that we have -- the overhead we have in the gross margin line.

When we model the whole thing out, though, we see break-even somewhere between $350 million and $400 million in terms of revenue and depending on -- we think the June quarter is when we can get our fixed costs down in the $165 million range.

So exiting the June quarter then $350 million to $400 million would be the break-even?

Correct.

Okay, got it.

And if you look at impact of mix, you talked earlier on margin, is the impact bigger across your semiconductor equipment portfolio, or is it more an issue of the mix between -- obviously no service is lower gross margin, but the other markets that you're going into now, some of -- the LED, solar, back end and things like that?

Yes, it's really hard to say.

Different products at different points have different margins based on new product, old product.

I'd say it's pretty close to being the same.

In general, the gross margins are often a function of us just getting costs out of the system and less dependent on the existing market.

When we take acquisitions in we find there's a number of things that we can do to reduce their cost, but it just takes us a little time to do that.

Some of the things we get, for example, just out of our leverage of our buying and that's one way that just the procurement side we can reduce our cost and drive up margin in acquired businesses.

Okay, thank you.

Thanks, Brett.

Your next question comes from Krish Sankar with Banc of America.

Your line is open, sir.

Hi, guys.

Can you hear me?

Yes.

We got a couple of quick questions.

How do think about service going forward into the next three to four quarters, is this $130 million run rate sustainable or do you think there's going to be modest growth in it?

And then I had a follow up.

Sure, Krish.

There's no question that our customers, while they're constraining their capital, most of them are trying to do everything they can to get cash out of their existing assets, which means running their factory, which means creating the opportunity for service.

So we do see some opportunity to grow the service business in this environment.

[On the other hand it's also an environment where our customers are really looking for cost and efficiency improvements, so we have to improve our operating model and service, as well in order to see the revenue growth in order to continue to build that business over time.] [But, yes, we do think we can grow off our current levels.]

[And looking at your bookings for December quarter, even with the mix you (inaudible) memory and foundry, these are pretty low levels.] [Heading into '09 -- back to normalized levels (inaudible) memory?]

Krish, I've given up predicting.

I just have no idea given the macro environment that we're in right now.

You go to talk to customers and they are all, I think, scratching their heads trying to figure out where it's coming.

What you would say, if you backed off and you went on fundamentals and not factoring the macroeconomic situation, you would say that the foundry guys are under investing relative to the needs to go to advance design rules.

And at the same time, the memory guys, while they were heavily investing are certainly in a period now of under investing, as well, and they will want to ramp up their advanced design rules.

But when and how that catalyst hits we really don't know, which is why we're sizing the business the way we are.

Okay.

And just a last question is, in your December guidance you said that includes a full quarter MIE business, how much of a drag in terms of basis points on the gross margin?

Is it like a 15 basis points or a 100-basis point drag?

I did indicate the prepared remarks that there's about $24 million in OpEx that'll come in as a result of both the Vistec and the MIE acquisitions in the December quarter, so you can figure from that, if approximately half of that would be you'd probably get about a two-point effect.

What about the gross margin line?

OpEx (inaudible) --?

It's still dilutive at the gross margin line, but the exact percentage is hard to fare it out.

All right.

Again, as I said, our goal over time is to get it so that it won't be and believe we have plans in place.

That's just going to take some time.

Thank you.

Your next question comes from Stephen Chin with UBS.

Your line is open, sir.

Hey, great.

Thanks.

Hi, Rick.

Maybe to help out on these radical inspection questions maybe you could give us an idea of how many customers have taken KLA's new radical inspection product -- I think you call this wafer plane inspection tool -- and when do you think this new radical inspection tool could be 10% of sales?

Okay, so the WPI, Stephen, is not a new tool.

It's an application, an upgrade to the existing installed base to the 5 SX, so we have a lot of sockets out there where we can provide that upgrade and that provides additional capability.

I don't have the specific numbers of how many, but we're definitely seeing a large adoption.

One of the attractions that it has for our customers is it is a relatively low-cost way to improve the capability, so in this environment, we do see adoption of it.

However, that being said the radical guys are not in a mode of heavy spending at this point.

So on the one hand, it's attractive, on the other hand, they're pretty constrained with their capital, as well.

Okay.

Just another follow-up question on the questions about Singapore.

I guess I didn't understand.

Are you planning to accelerate the product move out to Singapore or are you thinking about halting this product move to Singapore temporarily?

No!

I didn't understand the impact to gross margin there.

Yes.

No, we are not changing our plans at all.

What's changed is, given the volume of the overall business the effect of the Singapore operation is less in a declining revenue environment than it is when we're accelerating and growing.

Since most of the buys, we said, are technology-oriented buys at this phase, those are not products that are typically built in a high-volume manufacturing environment like Singapore.

Those come more out of the California because they're radical tools, high-end wafer inspection tools, so that changes the impact Singapore will have.

It'll be most impactful when we're back to a higher volume environment.

But no change to the schedule of how the products get outsourced out there?

No, no change.

Okay.

The last question I have is on the balance sheet cash.

You said you're curtailing the stock buyback.

You also have plans to curtail the dividend payment?

We don't have any plans right now to change the dividend payment.

Okay.

Thanks.

Your next question comes from Atif Malik.

Your line is open, sir.

Hi.

Thanks for taking my question.

The PC market is quite fragmented.

They're a bunch of smaller players.

Are you seeing any indication from your customers that they're concerned about those little guys, that won't take business to you guys?

And then I have a follow up.

I'm sorry.

Which market -- do you mean process control?

Yes.

Oh, yes.

And concerns about our customers about dealing with smaller players?

Right.

Yes, I think that's definitely true.

And in this environment one of the concerns a lot of customers have is the economic viability of their supply chain and so we are absolutely seeing that from our customers, is that's one of the things that we're finding that it affects us in two ways.

One, we've been asked to look at some distressed assets, and the other is when we're dealing with customers we are finding that's a differentiator for us.

And then can you comment on your acquisition appetite?

I understand we're in a balance sheet cash preservation mode, but can you comment on that and do you consider EDA space to be adjacent to your core competency?

Yes, Atif, I would say from an appetite perspective, we're in the digestion phase right now, having just acquired ICOS and Vistec and while we're always open to looking at opportunities that are out there, right now I think the focus for us is to integrate the acquisitions that we've recently done and to focus on our core businesses and streamline our cost structure.

Your next question comes from make Mahest Sanganeria.

Your line is open, sir.

Thank you very much.

Apologize that I'm a little bit confused about the operating expense questions, so if you could give some clarifications.

First, to start with, in your EPS guidance, is that pro forma and excludes the amortization of intangibles?

Yes, it excludes the amortization of intangibles, but it does include the stock-based compensation.

Okay.

So what is your recurring amortization of intangibles going forward?

You added a lot of intangibles to your book.

Yes, we amortized about $7 million this quarter on a recurring basis and we added $33 million in one-time charges associated with the MIE acquisition this quarter.

So you can figure that going forward it will be something north of the $7 million as we start to amortize the amortizable portion of the MIE acquisition.

Okay.

And for your target for $165 million to $170 million in fix fixed costs, does that include the stock option expense and amortization of intangibles, or is that excluding that?

It's consistent with how we actually present the numbers on our non-GAAP basis.

It would include stock-based compensation, but it would exclude the acquired intangibles effect.

And so what is that number as of today, the fixed cost?

What is the run rate right now?

We reported in this quarter, I believe it was about $209 million, but we did indicate that there were certain phenomenon associated with the acquisitions that we're still digesting, so you can figure that we're moving from the $209 million to a run rate of $165 million to $170 million by the end of Q4.

The $209 million number you reported was OpEx, not the -- is that what you're calling fixed costs also?

Yes, unfortunately, that's true.

They're interchangeable.

It's really the operating expenses as you read down the income statement.

Okay.

And you said that it's going to increase by how much for the December quarter?

It will decrease slightly.

We had estimated about $5 million.

Okay, thank you.

Thanks a lot.

Your next question comes from Raj Seth.

Your line is open, sir.

-- and he is from Cohen and Company.

Thanks.

Rick, can you talk a little bit about the pace of technology transitions in the industry, any change at all in this kind of environment?

Clearly in logic over the last couple of years, if you look at starts, the distribution of people at various nodes has broadened, but are you seeing, even at the leading edge, any kind of change in the speed with which people are adopting new technology?

Thanks.

Yes, Raj, not in development, certainly not the customers we're talking to, and I've been on the field quite a bit lately and what I'm finding is that's the one conversation everybody's excited to have, is their work on advanced technology -- when you talk about capacity, it's a different conversation -- but there's a lot of push toward getting to the next technology node.

Certainly among customers that I've talked to in both memory and foundry and logic, all three, their focus is how do we get to the next node.

Even if they have very constrained capital, that seems to be the one area that they continue to be focused on.

Any of these guys thinking about skipping nodes where there's not enough volume, I don't know, at 45 it looked like it's appearing -- just kind of skipping, at least in logic?

Well, there's one major player who's talked about half nodes and I'm sure you're aware of that.

Yes.

The 40-nanometer, so there's certainly that talk.

I think that's more of a decision, at least what I'm seeing, is based on what the fabless guys are looking for less so than what the customers we're directly talking to who seem to be very focused on getting to their next node.

And I've had a number of meetings recently where people are talking about their 3X, but also their 2X technology nodes and the plan is to continue those investments.

I do think that you're right.

There are some fabless guys that have looked and are considering doing -- at least skipping half a node.

And last question, if I could.

[Lam] in their call talked about their expectation whenever it is we return to more normalized spending levels, that capital intensity in this industry is probably more like 16% to 18%, obviously inflated in the recent past because of the memory cycle.

Do you subscribe to that view, or do you have a view of your own?

I think that the 17%, the midpoint of that is a reasonable number.

When I do our long-term modeling, when I think long term, I actually think there are factors to push it up and there are ones to push it down, as I think 17% is not a bad number.

I do think you will occasionally -- and who knows what the next one will be -- you'll find there's increased entries into the market, which for some period of time may drive that number higher as we saw in memory, but from a going-forward kind of average level I do think 17% is a reasonable number.

Right, thanks.

Your next question comes from C.J.

Muse with Barclays Capital.

Your line is open.

Yeah, good afternoon.

Can you hear me now?

Hi, C.J., yes.

Perfect, thank you.

I guess first question, in terms of the service business, what kind of growth do you think we could see here in calendar '08 and I guess given more subdued outlook now for the industry, what kind of growth do you think also for calendar '09?

Well, calendar '08's not a the lot left, so I think we're pretty close on that one.

What we said, I think, at Semicon is we've been seeing growth in the 11% to 14% range over time.

I would expect that to slow in the -- in calendar '09 and probably higher single-digits would be the growth rate I would see because there's clearly pressure from customers to manage all their expense, including service.

But we still think it's a growth business, but probably somewhat slower, then resuming once we see overall industry pick up.

Can you elaborate on what's driving the growth, because we're seeing from plenty of other equipment companies where that's declining year on year and I guess is that installed base coming off warranty, offering other services, is it some of the acquisitions coming in?

Can you help me understand the growth a little bit better?

Sure, C.J.

Our business is different from a service perspective than many of our peers, and the reason for that is we don't sell consumable.

And so I think what a lot of -- what they see is consumable will reduce in periods of slowing where ours is really line fix and we have a larger installed base.

The other thing that's driven some of our growth recently is we acquired companies that have large install base that weren't offering services for those and we're actually able to bring value to that and drive that, additionally driving increased services as we go forward, and even including some upgrade opportunities for the more mature tool sets.

So I think all those factors differentiate our service and make it a pretty compelling story in this kind of environment.

Great.

Good segue into some of the other acquisitions.

What kind of revenue contributions should we see from ICOS and Vistec in Q4 -- or calendar Q4?

Yes, we don't break them out, but I would say that they -- that those businesses are seeing similar kind of pressures to what we're seeing elsewhere.

One thing that I found kind of striking is the solar business, for example.

We are seeing pressure in that market, as well, as I think the capital concerns of some of the solar companies are delaying actually some solar projects.

So while ICOS has a good solar business and we see some growth in that I think near term it's under a fair amount of pressure.

So we don't -- we're not going to break it out, but I would say that it's kind of consistent with what those businesses came in with, with the applied factor to everybody else the effects of the downturn, if that makes sense.

Sure.

And then last housekeeping -- you may have said it and I apologize if you have -- could you tell me what the backlog in deferred revenues were exiting the quarter?

Yes, the total backlog at the end of the quarter was $811 million and we split that $250 million into the shippable backlog and $561-ish million in the orders taken but not shipped yet.

Okay, and that doesn't include -- that's just product only, no service?

That's right.

That's the way we always report that.

Yes, okay.

Great.

Thank you.

Okay.

Our last question comes from Mary Lee with Stifel Nicolaus.

Your line is open.

Hi, I'm in for Patrick Ho.

just a quick question.

Are you planning any shutdowns during the December quarter?

Hi, Mary.

We are.

We're shutting down for three days at Thanksgiving and we have a shutdown for four days around the Christmas holiday.

Okay, great.

Thank you very much.

Thank you.

Okay, great.

Operator, thank you very much, and thank you all for your participation on today's conference call, and this concludes the call for today.

This concludes today's conference call.

You may now disconnect.