科林研發 (LRCX) 2016 Q4 法說會逐字稿

Good day, and welcome to the Lam Research Corporation June 2016 conference call. At this time, I would like to turn the conference over to Satya Kumar, Vice President of Investor Relations. Please, go ahead.

Good afternoon, everyone, and welcome to the Lam Research quarterly conference call. With me today are Martin Anstice, President and Chief Executive Officer; and Doug Bettinger, Executive Vice President and Chief Financial Officer. During today's call we'll share our outlook on the business environment, review our financial results for the June 2016 quarter, our outlook for the September quarter, and provide an update on our planned business combination with KLA-Tencor.

The Press Release detailing our financial results was distributed a little after 1 PM Pacific Time this afternoon. It can also be found on the Investor Relations section of the Company's website, along with the presentation slides that accompany today's call.

Today's presentation and Q&A will include statements about our expectations and beliefs regarding certain future events.

All statements made that are not historical facts are forward-looking statements, based on current information and are subject to risks and uncertainties that may cause actual results to differ materially. These forward-looking statements include: the timing for the closure of the proposed business combination with KLA-Tencor, the beliefs to be realized from that transaction, the anticipated structure of future combined operations, and our guidance on revenues, shipments, costs, margins, share count, and earnings.

Other forward-looking topics that we expect to cover are included in the slide deck accompanying our remarks. We encourage you to review the risk factor disclosures in our public filings with the SEC, including our 10-Ks and 10-Qs. The Company undertakes no obligation to update forward-looking statements.

Today's discussion of our financial results will be presented on a non-GAAP financial basis, unless otherwise specified. A detailed reconciliation between GAAP and non-GAAP results can be found in today's earnings press release.

This call is scheduled to last until 3 PM Pacific Time. And as always, we ask that you limit your questions to one per phone with a very brief follow-up, so that we can accommodate as many questions as possible. As a reminder, the replay of this call will be available later this afternoon on our website. And with that, let me turn the call over to Martin.

Thank you, Satya, and thank you all for joining us today for our quarterly earnings conference call. The headline is that we delivered strong results that continue to reinforce our increasingly strong presence in the industry as the enabling technology inflections continue to intensify around etch and deposition processes. In addition, the quality of our earnings rises as a higher proportion of our market share occurs in critical applications, which are characterized by extreme technical complexity and multi-year cycles of learning for the Company. Lastly, our expectations for performance in the second half of calendar 2016 are stronger than previously articulated. We believe that with sustained focus on execution in partnership with our customers, multiyear outperformance opportunity is set to continue.

Lam's shipments, revenue and non-GAAP gross margins were above the midpoints. And non-GAAP earnings above the high end of our guided ranges for the recent quarter. I would like to take a moment to acknowledge the support of our customers and the contributions of all Lam employees, without whom, our performance would not be possible. I would also like to recognize the support we have received from our suppliers. You have helped us to ramp our capacity, increase responsiveness to customers, increase localization and support our rapid product development cycles. Thank you, all.

At the core of Lam's outperformance is our culture and values, our close partnership with our customers, and our ability to deliver innovative products, service, and capabilities at scale, which directly address key semiconductor manufacturing technology and market inflections, such as 3D NAND, multi patterning FinFETs, and advanced packaging. Our predominant focus is always on increasing the probability of success for our customers. Contributing to their stated business objectives.

In that context, the importance of these technology inflections and their enabling of new industry growth factors has never been stronger. Our leading customers are moving to capitalize on the acceleration and innovation centered on the next wave of industry application drivers such as virtual reality, artificial intelligence, and connected devices and automobiles. They articulate aspirations to change the world.

Realizing the potential of these application drivers will demand unprecedented scaling of performance, power, and cost for compute, storage, and networking, significantly beyond what is possible with traditional scaling and shrink, and Moore's Law. In essence, this re-energizing of our industry demands a more holistic approach to systems architecture through the entire semiconductor ecosystem.

In cloud server, storage and networking devices, this revolution is driving significant semiconductor demand for DRAM NAND, new memory technologies, and over time, additional logic chip demand for advanced computation necessary for converting data into actionable information. Growth in semiconductor content for DRAM NAND and leading and trailing edge logic is a strong theme also in clients' devices like smart phones, IoT, and connected automobiles, to deliver the power of the new industry application drivers and enrich the end consumer experience.

We believe that Lam is in an outstanding position to help drive needed innovation and capitalize on the opportunities presented by current and future inflections. The foundation of the last several years, great employees, strong ecosystem trust, and the increase in quality of product and technology roadmaps delivers an execution track record, proven financial outperformance, and leads to our recognized market leadership position.

Lam's etch and deposition products, and their on wafer performance are vital to our customer success, no doubt. In partnership, we are enabling multi patterning driven scaling in logic and DRAM. We are facilitating cost reduction and density scaling for 3D NAND and new memory technologies, and supporting increased compute performance and memory bandwidth, with FinFET and advanced packaging technology inflections.

One characterization of our strategic relevance is in our expanding market opportunity. As a result of our strategic and operational execution through the last several years, Lam's addressable market as a share of WFE has increased from 26.5% in 2013 to over 30% last year, and is on track once again to exceed the performance of overall WFE in 2016. The 3D NAND inflection in particular has accelerated and is driving a greater than 30% growth in 2016 NAND WFE year over year.

As our customers target probably the single largest growth opportunity in all of SEMIs over the next few years. NAND is still in the early stages of penetration, with its share of total bits addressable at under 20% of the overall flash and spinning media storage market combined. Underpinning the strong product cycle for NAND in storage is the visibility provided by the technology roadmap of our customers, which extends well into the next decade.

Etch and deposition are the key process technology enablers of 3D NAND, a fact that is perhaps best illustrated by the greater than 2X growth in our nonvolatile memory markets over the last two years and exciting multi-year growth outlook going forward. In addition to demanding requirements for high aspect ratio etch and cost and technology enabling, mold stack scaling in 3D, atomic level processing is growing increasingly important as storage layer counts scale from 40-plus today to over 60 next year, and eventually to more than 100 layers in the next few years.

Lam has prepared its product portfolio for this trend. Our latest ALTUS system with low-fluorine tungsten atomic layer deposition, or ALD capability, is being qualified at all customers. This system enables the next generation 3D NAND and DRAM by delivering an innovative ALD solution with lower fluorine impurities, differentiated stress control, and void-free fill properties. Our VECTOR Strata PECVD deposition product is seeing very strong momentum with its industry-leading productivity and film property control for mold stack deposition, and is now process tool of record at the significant majority of global 3D NAND customers.

Our dielectric etch installed base for high aspect ratio applications in 3D NAND and DRAM has more than doubled over the last year. This strong performance of the portfolio of our VECTOR Strata and ALTUS deposition, and Flex and Kiyo etch products have allowed us to remain on track with our objective for shared with US SEMICON West a year ago, up 7 to 10 percentage points of share gain from the 2-D to 3D NAND transition.

Another important element of the value we bring to our customers and enabling the growth of our systems market share is our Customer Support Business Group, which is leading value creation across the entirety of our 40,000 process modules in the installed base. This organization inside of our Company is providing world-class support for our new systems during integrated circuit production ramp and addressing our customers' ongoing and critical operational needs for spares and services over lifetime. But increasingly, this organization is also contributing highly innovative, differentiated technology, productivity and lifecycle solutions, resulting in substantial served market growth and an increasing revenue stream annuity that supports our investments in our future.

Now, turning to a Lam and KLA-Tencor merger update. To re-emphasize a point made many times before, the outperformance potential of Lam is set to continue for multiple years, we believe. This period of strength we've chosen to harness strategically through the planned business combination of two great companies. We continue to make progress with antitrust agency reviews, we are pleased with the overall tone of support from our customers for this investment, and without compromising the focus and execution in two standalone companies, the integration planning is in better shape today than was true for Lam and Novellus at this same point in the process.

Excitements and substance internally and with our customers is building. We continue to work diligently to receive the necessary approvals, and now target completion of our merger in the coming few months. We have no doubt this is a value-creating transaction for our customers and Company, for our employees and suppliers, worldwide. The opportunity remains. We are 100% committed to innovate beyond what is possible for the two standalone companies separately, to the benefit of the overall semi-ecosystem and add to the potential of Lam as currently defined.

Now, turning to an overview of capital equipment spending patterns in 2016. Expectations for global economic growth have remained generally stable since our last report. Although there has been some increased uncertainty with the possible effects of Brexit. End market demand expectations for PCs has been relatively stable, and there's evidence of solid growth in low-end smartphones and slightly slower units, but stronger content expectations today in high-end smartphones.

We continue to expect solid and long-term demand for leading edge silicon in the enterprise markets driven by the move to the cloud. WFE for 2016 continues to track to $33 billion, plus or minus $1 billion. Our bottoms-up analytics imply at or slightly above the midpoints is most likely. By segments, memory WFE tracks to approximately $15 billion, with spending more biased in NAND than DRAM this year, and for sure, since our last update. We now expect NAND CapEx to be up over 30%, offset by DRAM CapEx, which we now expect to be down approximately 40%.

Logic and foundry CapEx is tracking slightly better than our prior expectations. Spending in these segments is weighted primarily to an addition of 10 nanometer and some pilot 7 nanometer capacity, as well as additions at the mature 28 nm and 40 nm technology nodes, with China featuring prominently, driven by strength in low and mid-end smartphones and IoT devices.

Despite a flattish WFE year, with some segment mix headwinds for our Company, including a substantial decline in DRAM CapEx this year, Lam once again is poised to outperform WFE in calendar 2016. We are confident that calendar year-over-year revenues, and second-half 2016 versus first-half 2016 trends are very positive. Currently, we anticipate second-half shipments will be up mid to high-single digits, sequentially.

Momentum continues to build in 3D NAND with total 3D NAND shipped capacity at the end of calendar 2016 now tracking to the higher end of the 350,000 to 450,000 wafer starts per month outlook that we provided earlier.

In DRAM, spending remains focused on the 2Z nanometer and the 1X nanometer conversions, with about 50% of industry capacity converted to 20 nanometer, and mid-single digits converted to 1X, we believe, by the end of this calendar year. We remain optimistic on content demand drivers for DRAM in clients and servers. Which combined with our customers' prudent responses to managing supply in response to the PC demand weakness earlier in the year, are already pointing to early signs of improving supply and demand balance. This sentiment biases us positively for a recovery in DRAM CapEx, as we look into the next calendar year.

As we enter the second half of 2016, we are excited by the inflection driven long-term outperformance opportunities for Lam. Also, our strong installed base market share positions across all geographies, and when combined with KT, further increased strategic relevance to our customers by providing them more valuable innovation, trusted productivity, and fast solutions. With that, let me hand the call over to Doug.

Great. Thank you, Martin. Good afternoon, everyone. Thank you for joining us on the call today, during what I know is a busy earnings time.

The June quarter results represented a solid conclusion to FY16. In the quarter, we performed above the midpoint of guidance for all metrics, with operating margin and earnings per share above the high end of the range. For the fiscal year, shipments, revenues, operating income dollars and earnings per share were all at record high levels. We delivered double-digit revenue growth fiscal year over fiscal year, and operating income dollars and earnings per share that grew at twice the rate of revenue growth.

Moving now to the specifics for the June quarter. Shipments were $1.587 billion, up approximately 10% compared to the March quarter. And just slightly below the record high level that we saw in the June 2015 quarter. The combined memory segment made up 66% of system shipments, and that was down from 70% in the prior quarter. Nonvolatile memory shipments contributed 51% of the system shipments, and this was up from 43% in the March quarter. The nonvolatile shipment dollars represent record levels for Lam Research.

As we progress through the first half of the year, 3D NAND investments have accelerated, with multiple customers moving forward in their 3D NAND ramp plans. We are continuing to see the expansion of our SAM, and this, combined with our success in winning critical applications in the 3D NAND process flows of our customers, is driving the financial performance we're delivering. 3D NAND will represent over 95% of NAND shipments for 2016.

As we expected, DRAM shipments decreased to 15% from 27% in the prior quarter. Investment is pacing at a rational reduced level in response to market conditions. DRAM spending was predominantly focused on 20 nanometer conversions, with a continued objective of lowering cost per bit. PC DRAM pricing seems to have bottomed, as the market shifts to server and mobile DRAM. Server and mobile represents roughly 2/3 of the market bit growth this year.

System shipments into the foundry segment increased to 27%, which is up from 23% in the March quarter. As Martin mentioned, foundry spending continues to be broad-based with an increase in contribution from 10 nanometer capacity additions, augmented by the ongoing investment at 28 nanometer and above nodes, primarily in China. The logic and other segment held steady at 7% of system shipments, which was a level similar to that we saw in the March quarter. From a geographic standpoint, China continued to be strong, representing 17% of total shipments and 22% of total revenue.

June quarter revenues came in at $1.546 billion, a sequential increase of 18% and above the midpoint of our guidance. Gross margin was strong in the period at 46.6%, which was a 150 basis-point improvement from the 45.1% that we saw in the March quarter. The strength in gross margin was a result of higher business volumes, as well as favorable product mix. As we've described previously, you should expect to see variability quarter to quarter in our gross margins. And I'd just like to remind you that our financial model is the best reference to help you think about margins over time.

Our operating expenses for the quarter were within our expectations at $361 million, which was an increase on an absolute basis from the $350 million in the March quarter. But decreasing to 23% of revenue in the June quarter versus 27% in March.

In the June quarter, our spending allocated to R&D was 63% of total spending. During the quarter, we completed construction on our new R&D lab in Fremont, California. This lab will put us at the state of the art, in terms of capability and flexibility to continue to develop leading-edge process capability and productivity solutions.

Operating income for the quarter was very strong at $359 million, which was an increase of 48% compared to the $242 million in the March quarter. Operating margin increased from 18.4% to 23.2% above the high end of guiding range, due to both the higher revenue as well as the stronger gross margin. This operating margin percentage is the second-highest level since our acquisition of Novellus in 2012.

Our tax rate came in at 10%, which was lower than the 14% rate last quarter, primarily due to more income due from lower tax jurisdictions. A rate in the low teens for the remainder of 2016 could be a reasonable number for you to use in your modeling.

Earnings per share for the June quarter were $1.80, based on a share count of approximately 175 million shares. The share count includes dilution from both the 2018 and 2041 convertible notes, and the outstanding 2016 warrants with a total dilutive impact of about 13 million shares on a non-GAAP basis. In the June quarter, our $450 million 2016 convertible note matured and was settled for both cash and stock. The stock issuance was offset by the corresponding bond hedge that we had in place. Dilution schedules for the remaining convertible notes are available on our Investor Relations website, for your reference.

We returned $0.30 per share for a total of $47 million in dividend distributions to our shareholders in the quarter. There were no real share repurchases in the quarter, in line with our previously announced plans around the business combination with KLA-Tencor.

Let me now turn to the balance sheet. We have a very solid cash position of $7.1 billion on the balance sheet, reflecting both the strong performance of the business, as well as steps we've taken to increase the cash position of the company during the quarter. We generated a strong cash from operations of $424 million, which was an increase of 132% sequentially in the quarter. Cash from operations for the fiscal year came in at $1.350 billion, a record high level.

As expected, days sales outstanding for the period improved to 74 days from 86 days, with the shipment profile more linear than in the March quarter. Inventory turns improved to 3.5 times.

We completed the issuance of $2.4 billion in principal value of investment-grade senior notes in May. This issuance, together with $1.5 billion in term loans, completes the required financing for the KLA-Tencor transaction. The net interest expense associated with the $2.4 billion financing is $4 million and is excluded from our non-GAAP results in this quarter. On a full-quarter basis, the net interest expense from this new debt will be approximately $18 million.

The deferred revenue balance at the end of the June quarter stood at $566 million, an 11% increase quarter over quarter. That number excludes approximately $132 million from shipments to customers in Japan, which will convert to revenue in future quarters. And recall that those Japan shipments remain as inventory carried at cost on the balance sheet. I expect that deferred revenue will again grow in the September quarter.

Company non-cash expenses during the quarter included the following -- $39 million for equity comp, $39 million for amortization, and $36 million for depreciation. Capital expenditures were $52 million, which is up from $46 million in the March quarter. CapEx projects included investment in infrastructure expansion from an additional engineering lab space to support the growth of the Company.

During the quarter, we sold our San Jose campus for net proceeds of approximately $80 million and a gain of $15 million. This gain is excluded from our non-GAAP results. This transaction is part of our R&D consolidation into the Fremont site.

We exited the quarter with approximately 7,500 regular full-time employees. The growth in headcount was primarily related to growth in factory resources to support the growing business level. Additionally, we added some R&D heads.

So now, looking ahead, I'd like to provide our non-GAAP guidance for the September quarter. We're expecting shipments of $1.700 billion, plus or minus $75 million. This midpoint would represent a record level of shipments for Lam Research. We expect revenue of $1.625 billion, again, plus or minus $75 million. This midpoint would also represent a record level of revenue.

Expect gross margin of 45.5%, plus or minus one percentage point. Gross margin is down sequentially, due to higher customer concentration in September. We forecast operating margins of 22.5%, plus or minus one percentage point. And finally, we forecast earnings per share of $1.77, plus or minus $0.10 based on a share count of approximately 176 million shares. This earnings-per-share number excludes the $18 million associated with the $2.4 billion KLA-Tencor financing. The net interest expense will be excluded from our non-GAAP results until such time as the deal closes.

We expect both shipments and revenue to be stronger in the second half than the first half, with mid to high-single-digit growth in shipments in the second half of the calendar year, compared to the first half. We expect revenue growth in the second half to outpace shipment growth, half over half. We expect to deplete some of the deferred revenue balance by the end of the calendar year.

And that concludes my prepared remarks. Operator, Martin and I would now like to open up the call for questions.

(Operator Instructions)

Tim Arcuri, Cowen.

Thank you very much. I have two questions, I guess. First, Doug, I'm not sure if I heard the guidance right, but it sounds like the second half shipment guidance is sort of up Mid to high singles, so that would imply that the fourth quarter shipments are down a smidge, they're down maybe $150 million.

My question on that is -- we've all heard about some recent big 3D NAND projects that may have pulled into this year. Is that more of a Q3 phenomenon than a Q4 phenomenon? Thanks.

Tim, you know, we're giving you a firm number on calendar Q3, and then calendar Q4, it's more directional, that's why it's mid to high-single digits, because I don't want to get specifically pinned down to exactly what is December, and that's why we put a range around it. But when we describe it, it represents our expectation for everything that is going on, not just in 3D NAND but foundry logic as well.

Just to add to that, Tim, I would say the message that we would very deliberately emphasize is the outperformance opportunity, long-term for the Company in the inflection space, and whether it is multi patterning with logic or 3D NAND scaling, the ebbs and flows in any one quarter or ebbs and flows from one customer to another, I guess they are interesting at some level. But I think one of the headlines from the industry in the last two or three months is a very strong strategic commitment to some inflections that fall directly into the wheelhouse of this company because of the intensity of etch and deposition related process. There is always an ebb and a flow, but the headline I hope you help us with, which is long-term commitments for customers to inflection that are extremely relevant to the future of this company.

Good point.

Totally. Totally, Martin. Great.

And then the follow-up question is on China. Of course, overnight, two of the bigger projects in China the Chinois plan and XMC they merged to form a new venture, obviously, they still need IP, but it seems like there's a little more confidence that this project could sort of get off the ground.

I know, Doug, you guys have been a little more, I think, not cautious, but a little more realistic, I'd say, on China, that it's sort of like an even sum gain. So, sort of in light of that recent development, can you talk a little bit about China and whether you are seeing any increase signs that maybe you could see some business from these indigenous projects on the memory side next year? Thanks.

I'll let Martin handle this one.

I think -- I don't really think there's a kind of deliberate kind of tone differentiation for Lam relative to a China agenda. We all see exactly the same thing, more or less at exactly the same time. What we said, I think fairly consistently, is that the conviction to an IC 2020 and 2025 agenda appears very solid and robust.

There are very strategic actions, sometimes involving global companies, sometimes the domestic community. We're tracking at least 20 different fab level kind of ambition statements. And there is a full spectrum of probability associated with each one of those.

There clearly is over a multiple-year timeframe more than a million wafer starts per month out there, as a reference point for installed base capacity in China, relative to it being incremental. For me, that's all about performance and cost of devices. And if the performance and cost of devices out of China can be a catalyst and trigger for incremental demand, it's kind of positive for a global kind of industry, including Lam.

Time will tell. But, clearly, the commitment appears to be there, and as Doug said in his prepared comments, China is not an insignificant part of the revenue for the industry and the Company.

Tim, just to remind you, whatever happens in China, we're going to be involved substantially. Our share position, our presence there is very strong, so whatever is going on, be it a global, multinational, or an indigenous Chinese customer, we are extremely well-positioned.

Of course. Okay. Thank you so much.

Thanks, Tim.

Joe Moore, Morgan Stanley.

Great. Thank you. I wonder if you guys have done any analysis in terms of the current level of DRAM shipments, if you know kind of where we are tracking for DRAM supply next year, given the rate of investment we've seen, if you have any thoughts on that.

I think we've done analytics, but we're not going to get ahead of our customers, relative to quantitative disclosure. We feel really good about the ASP dynamic in the last several months and the inventory situation, generally. I think those kind of positive trends, the discipline appears to be in the system.

We end the year, we believe, with a smaller installed base than we began the year. There's plenty of opportunity left to improve the performance and lower the cost of DRAM chips from conversions. I said in my prepared comments no more than 50% converted of the 29 nm technology node by the end of year.

We are biased to a positive spending year in DRAM next year. But we're going to hold off on dollars until a little later in the year.

Okay. That's helpful. Thank you.

I guess just when you talk about that, that's more based on your extrapolating what the DRAM environment will look like next year? Or are you sort of hearing forecast from your customers that spending will pick up next year? In DRAM.

I guess the humorous response would be we don't just make it up. So, it's an educated judgement from the analytics of the Company and a lot of dialogue with our customers. We try to give you the best perspective we have, and I just did.

Very helpful. Thank you very much.

Thanks, Joe.

C.J. Muse, Evercore.

Good afternoon. Thank you for taking my question.

I guess first question, when you think about an environment with shipments done in Q4, curious how we should think about deferred revenues cascading in, given the record levels today and you suggested they would grow further in September. Curious how we should think about that coming through, and then what would the impact be to gross margins?

I described an expectation that next quarter deferred revenues will grow again. They grew this quarter. You normally see that when shipments are above revenue, which, obviously, we've had the last couple of quarters now.

I also described an expectation in the scripted remarks that I expect by the end of the year to deplete some of the deferred revenue. And obviously that will happen then in the June quarter if it is growing in September, so that's a way to think about it.

Gross margin, C.J., I'm only going to guide it one quarter at a time. There isn't anything magic about the deferred revenue in gross margin. It's more what the product mix is, the customer concentration, all of that.

Okay. Very helpful. And I guess as a quick follow-up, hoping to, I guess, dig a little bit into the KT transaction, can you update us on what needs to get done on a regulatory basis?

And then whether you can extend the bridge financing beyond October 20? I think I saw that as an important date in the filing. Thank you.

I will let Doug deal with financing part of that question. What needs to get done is we need to get consent from agencies that we haven't got consent from.

We're working hard to do that. We've obviously communicated to you today a delay relative to our original September reference. We might be lucky and still be pleasantly surprised, but we don't expect to receive consent globally inside of the September quarter.

We are targeting before mid-October. And, obviously, the disclosure of the Company will stay consistent with our learnings. We feel the deal is clearly a compelling value proposition to our customers and our Company.

We feel better about it today as a value proposition than ever. I think even as recently as SEMICON West, we had a couple of customer meetings with clear statements of interest in the joint development activity and the innovation that would be possible when Lam and KT come together. We are targeting closure as fast as practically possible, and obviously, looking forward to being part of one company.

C.J., you're right, the term loans have an expiration that would be in the 20th of October. And were we to still be going back and forth and we extend the deal timing, then I would have to go extend those as well. It wouldn't be all that hard to do it.

Okay. Thanks a lot.

Thank you.

Thank you. Harlan Sur, JPMorgan.

Good afternoon, and congratulations on the solid quarterly execution. Last quarter, the team was somewhat optimistic on second-half shipments being up over first half. But a little bit tempered, just given the DRAM fundamental environment.

Obviously, this call, you seem extremely confident, you even quantified the growth in second-half shipments. What segments or programs are driving the better second half for you relative to your outlook 90 days ago? Is it truly broad-based across memory foundry and logic, or is it skewed towards one segment or the other?

I would say relatively speaking to the commentary of the Company three months ago, it's memory and foundry both, and it's exactly where you'd expect it to be, a 3D NAND and demand related with broad industry commitment to that technology. And it's 10 nm and 7 nm focused with, as best I can tell, very good tapeout and customer engagement commentary from the customers that are making those investments. It's definitely not just a single segment or limited customer commentary.

Thanks for the insights there, Martin. Given the stabilization in DRAM pricing, as you mentioned, there is a focus on profitability. As you mentioned, 50% of the capacity may be transitioned to 20 nm exiting this year. But there also seems like there's a sense of acceleration on some of the leaders in this space to make the move to 18 nm and 16 nm nodes, so I'm wondering if you're seeing this reflected in your second-half shipment outlook and your thoughts on shift to 1X capacity as we exit this year for DRAM.

Yes, I think the essence of fundamental value in these conversions is well understood, and I don't think debated. I think appropriately our customers are disciplined around supply and demand in their respective industry. They're conscious not just about in capacity, but making money on the chips they build.

And so, we're very confident that as the cycle of demand emerges and there's a decent amount of commentary on content expansion in some of our devices, as well as some positive signs in terms of unit demand on the low and mid-end, that this will naturally play itself out. I don't really think it's a big second-half concrete for us. Which is why we've articulated an expectation of calendar 2017, biased to the positive. And that's certainly when we would expect the supply and demand conversation to be more or less behind us.

And Harlan, there's a little bit of 1X conversion occurring. But that really is going to be more about what is happening next year.

Thanks for the insights.

Romit Shah, Nomura.

Thank you. I just wanted to ask about the deal, because there's been uncertainty as to whether or not it is going to go through. I think part of this stems from what happened last year.

You aim at [tell], that was a deal that was consistently delayed until it ultimately got killed. And with KLA, this is, from what I understand, the second time that you guys have delayed the timing of the closure. I guess the question is, why should we be more confident that this transaction actually goes through?

I guess I don't really get a chance to comment about your confidence. I will tell you that we believe this transaction is fundamentally different than the conversation in the transaction that you just referred to. There is no overlap, whatsoever.

We strongly believe in the merits of this transaction. We believe it is pro-competitive. We believe that Lam and KT together can innovate and deliver value to our customers beyond what we can do as independent companies.

We are, as you know from prior disclosure, codifying the behavior that will be relevant to the Company with the consent decree conversation, and I think we're on record in prior earnings calls on that point. Part of that is obviously is describing our commitment to the entire semiconductor ecosystem relative to availability, supply and support kind of KT products. And that's just kind of part of this process.

And we are stepping through and working diligently and cooperatively with agencies. We respect their work products.

And as you likely anticipate, the crystal ball of Lam Research does not extend beyond the precision that we are currently articulating. We're doing the best we can to give you our best knowledge and will continue to make that commitment.

And Martin, is customer feedback really important, and do you feel like there is a difference here with what you guys are trying to do with KLA versus previous deals?

Again, maybe I don't want to get trapped in a comparison here. I will tell you what I've tried to communicate from the beginning here. Obviously, we are doing this for the benefit of our customers.

We believe we can innovate more and contribute more value to our customers and support their technology and economic roadmaps with this transaction. We believe if we do that, there will be more opportunity for our Company, and henceforth, stakeholders' benefit. We believe passionately in that value proposition and we spend a decent amount of time working the conversation indirectly and sometimes directly with our customers to make sure the strategic choices were lined up with their expectations.

There's always an ebb and a flow, and I'm sure every one customer has a slightly different characterization of this. But I feel, at least as best I can tell from my personal interactions with customers, there's much more support than not, and much more interest in exploring innovation potentials.

Okay. Thank you.

Toshiya Hari, Goldman Sachs.

Thank you for taking my question, and congrats on a great quarter. My first question was on 3D NAND. I appreciate 2017 is still a couple of quarters out, but was curious how you guys were thinking about 3D NAND spend into next year. Are there enough projects out there? And is the mix broad-based enough for you to predict another healthy year?

Well, I think if the -- I'm going to stay away from quantitative, again, if I may. But qualitatively, we think this is probably one of the most healthy spaces in the semiconductor industry, because there are some very compelling value propositions and growth opportunities for semiconductors with solid-state drive technology, particularly.

Again, in any one quarter there's an ebb and a flow. Precisely how it plays out, but broad industry commitment to this technology and very compelling growth opportunities as we characterized in our prepared comments today.

Okay. Thank you. And my follow-up is on EUV.

It seems like your customers are warming up to the idea of EUV insertion at the 7 nm node. Have you also sensed a slight change in tone as it relates to their approach to EUV?

And it would also be helpful if you could help us understand how your opportunity in etch and dep would differ between a world with no EUV and perhaps some EUV? Thank you.

A gentleman by the name of Peter Winick is much more qualified to answer your question than I am. As we said a number of times, we are invested in extending immersion and enabling EUV to the best of our abilities as in etch and deposition and clean company. We believe that the inflection opportunities, multi patterning opportunities in DRAM and logic for us extend into an EUV implementation.

When that happens, which we hope it does in the best interest of the semiconductor industry and our customers, we are there to support, and we believe the multi patterning growth opportunity continues in that context. So, no major tone comment from me at the customer interface, because, obviously, we dialogue much more about our business than [AXML's].

Great. Thank you very much.

Welcome

Farhan Ahmad, Credit Suisse

Thanks for taking the question. You obviously guided on NAND to be a little bit stronger this year. I just wanted to probe the lineality of NAND. Do you still see the NAND shipment as being primarily first-half [weighted].

It's a little stronger in the first half than the second half, Farhan, it continues, though, to be quite strong as we look into the second half.

Got it. Doug, can you talk about how much of the cash is onshore versus offshore?

It hasn't -- well, it has materially changed. All of the $2.4 billion that we raised, obviously, is domestically available. Taking that out, the remaining balance sheet cash, it's still about 20% or 25% as it pertains to funding the transaction. We have all the domestic cash that we need to complete the KLA-Tencor transaction.

Thank you. That's all I have.

Thanks, Farhan.

Thank you. Stephen Chin, UBS.

Thanks. Hi, Martin and Doug. Nice results.

Thank you.

Just a question on the customer concentration, it looks like Lam's shipments to southeast Asia were up a lot in the quarter. Was this region mostly one customer, and is Lam likely to see a different top-three customer list every quarter? And is it basically just up to you to manage this quarterly customer lumpiness?

Yes. There is primarily one big customer investing in southeast Asia that I'm sure you know who it is, Stephen. And yes, you're going to see variability quarter to quarter as these very large fab projects get undertaken.

They will come in and then they will need to ramp, and then another one will come in and they will need to ramp. So you're going to get variability due to that. That's just the nature of this business.

To the manage reference, I don't think we get a chance to manage it. We are biased to give our customers what they need, when they need it, to the best of our abilities. And as Doug said many times, that creates an up and a down week to week, months to months, and quarter to quarter in every element of our financial statement. And it's tough for you, we realize, hopefully you realize it's tough for us as well.

One last comment on this. I always refer back to the public financial model that we put out there is the best way to think about things over time when we put that together. We did our best to model some level of variability.

It doesn't mean it's going to be exactly those numbers. But that is the right kind of medium to longer-term way to think about it.

Thanks for sharing that color. My follow-up color is on shipments to logic customers. We saw Lam recently win a Preferred Quality Supplier Award from Intel last year. Congratulations on that.

But we still haven't seen a big inflection in Lam's shipments to logic customers. Just curious if you still see logic as a customer segment that you're confident you're taking market share from and maybe future upside? Thanks.

Absolutely, yes.

Yes. Definitively.

Krish Sankar, Bank of America.

Hi. Thanks for taking my question. I told them one, Doug, I know you don't want to comment on December. But I'm just curious, if December revenues are flat with September, would the gross margins be up in December?

Again, I'm only guiding gross margin one quarter at a time. Usually, everything else equal, if you have a higher level of revenue, margins will tend to be better.

But you've got all the mix that I've always described. So you can necessarily just run to the conclusion.

Got it. Got it. All right.

And then a follow-up for Martin. When you look at the 3D NAND, as you go into like 64, 96 layers and beyond, does the etching composition shift more towards dielectric etch for this conductor? Or do you think conductors still remains a major portion of the overall etch market and 3D NAND?

I don't think I have a segment message for you. More or less, because I think the productivity solution sets that will play out in high-volume manufacturing for the types of vertical scaling that you just described have still a lot of work from the entire supply chain and also from the customer. So, I would say watch this space, and if we see anything of value to communicate, we will.

Again, to reemphasize what I said in my prepared comments, the 2D to 3D transition for us was very strong. With a 7 to 10 percentage point share gain for the Company. Another couple of data points that I would give you on 3D NAND for the Company from a market share perspective, in general, the developmental record decisions that translated to production tool of record decisions actually got stronger for us.

And the other reference I would give you is that, obviously, our presence in critical applications, which is really a commentary on quality of earnings, is very, very strong. We are right at the center of enabling, and that puts pressure on us, but we feel really pleased about the position of the Company.

Got it. Thank you.

Thanks, Krish.

Patrick Ho, Stifel Nicolaus.

Thank you very much. Martin, first in terms of the growing adoption for applications for both atomic layer deposition and etch, what's the market opportunity as a whole that you see for those type of products?

You know, that's something that, if I may, I'd like to defer to our analyst meeting plans for November. Because to your point, atomic level processing, generally for us atomic level action, atomic level deposition is a very central part to the opportunity for growth in the Company and competitive differentiation and also quality of earnings. I would prefer to delay, if I may, until our November meeting on that point.

Fair enough. And then maybe for Doug, now that you are approaching record shipments, and obviously you've done a really good job up to this point with a high level of shipments and probably a lot of pulls and pushes, can you just discuss or give a little bit of color on some of the tactics, either whether it is the supply chain, manufacturing and how you're managing these record levels, especially as they keep growing?

As I talked about, we have added resources in the manufacturing organization. You've seen our inventory balances tick up a little bit in anticipation of very strong shipments. And I think, specifically, the reason Martin in his scripted remarks thanked our suppliers, is they've supported our ramps very, very well.

We've been talking to them well in advance of them needing to grow their volumes so that they are going to be ready for this. And I think we've executed extraordinarily well and will continue to manage the churn as it happens. We've got a great global operations group that is really good at what we do.

Great. Thank you.

Thanks, Patrick.

Sidney Ho, Deutsche Bank.

Thanks. And thanks for taking my questions. In terms of foundry spending, it looks like the 28 nm and 40 nm, and maybe 200 mm as well, seems to have a longer life cycle because of your low and mid-range films ended up things you've adjusted.

How do you think that changes your WFE forecast this year or next year? Or maybe it's just related to your service business? Any way you can quantify it?

I have some comments, I don't know if I will give you as much as you want. 28 nm looks to be a very long node. We are seeing even some 40 nm investments occurring.

I think it has somewhat to do with low and mid-end phones for sure. It's got equal amount to do with where IoT stuff is going, and that is how we monetize some of the installed base business as well. We're looking at that very differently in terms of that opportunity.

You're right, some of the stuff is even 200 mm equipment. We're very focused on it.

I don't know if that was what you were looking for. 28 nm is going to be around for a while.

Okay. My follow-up question is, curious about your thoughts on another deal in the space between litho company and the process control company. I guess from a KLA perspective, does that change in any way your thoughts on the combined companies [SAM] extension opportunity?

No, I don't think it changes our objectives or our strategy. I think in many respects, it probably validates the legitimacy of the vision to bring process and process control capability together at some level to innovate for the success of our customers. It's another data point.

There are others with other peer companies, and other competitors. Sometimes it's an inquisitive action, like the one you just referred to. Sometimes it's organic.

There are plenty of examples now in our industry where people are employing similar strategies. If your question maybe more relates to the competitive dynamic between e-beam and optical, our sense is that the industry consensus is very complementary technologies, we're not obviously in a position to speak to KLA's business. But from the seat that we have with limited knowledge of the details, the latest generation optical inspection capabilities that KLA has brought to the market appear very robust and getting pretty solid traction. No real change in how we think about it. Perhaps further validation of the vision, and to restate what I said before, we are targeting to close this thing and we're working diligently with agencies to get that done. We never have any guarantees, but we're working hard to do that a little later than the September timeframe, targeting right now mid-October.

Okay. Thank you very much.

Thanks, Sidney.

Weston Twigg, Pacific Crest.

Hi. Yes, thanks. I had a similar question on the ASML HerMES deal, but from a different angle.

I was looking at it as an opportunity for Lam potentially, given that you have a pretty tight relationship with ASML already, and they're talking about doing pre and post-etch measurements and creating a holistic litho loop that extends into the process arena. I was just wondering if you could maybe tell us how closely you are collaborating with ASML on this type of application, and if you think there's an opportunity to maybe gain market share if you can drive customers to use more Lam tools in a holistic litho loop?

I think -- it's kind of premature for me to start talking about collaboration when we haven't actually closed our deal yet. But obviously, to your point, the relationship between the companies is good and strong. We work diligently, both to support the long-term success of our customers and I see that trend continuing.

We all have some version of the same vision, I think, to deliver more predictable process to our customers, to open up process windows, to deliver their roadmaps with higher-quality, lower-cost IC devices. Whether we call that holistic litho or holistic etch or holistic dep or holistic process, we've all got our own nomenclature, but I think that the strategy and the model of collaboration for our Company is set to continue, I hope, for many years.

Got it. And then, as a follow-up, looking at the model guidance implies that Opex should increase meaningfully next quarter. Just wondering if most of that falls into R&D and if you could give us an idea of what level of R&D increase you're looking at throughout the rest of the next fiscal year?

Yes, a decent amount of it, Wes, is R&D. And, again, the right way to think about how we're going to spend money is pinned on that financial model. Obviously, as we grow, we need to invest more to continue to grow. And that's part of how we think about it. In the back half of the year, given a little bit stronger P&L, there's also a general increase in that variable compensation piece that varies with the P&L.

That's helpful.

Just extending that answer a little bit further. I don't think we've ever invested more in the future of this company than we are today. I feel really good about the distribution of operating expenses to R&D and SG&A.

I think we kind of set a tone, and whether we are the best in the industry or one of the best, I'm sure you guys can figure out, but the 63% references something we've worked hard for. If you look at the last several years, since 2013, we've increased our investments in R&D by more than 30%. And in that same timeframe, the increase in investments in SG&A is about 10%. Investing in the future of the Company to prepare us for the inflections that we're describing, today's inflections getting bigger, and the next generation inflections central to long-term success of the Company.

Operator, we'll take one more question.

Amit Daryanani, RBC Capital Markets.

Thanks. Glad I snuck in over there. I guess first off, on the KT transaction, could you just talk about what are the concerns you're hearing from regulators?

Because the deal seems fairly complementary in the [real overlaps] (inaudible), so what's the feedback you're getting? And is there anyone other than the DOJ that's giving you negative feedback or concerns on the deal?

Yes. We are not really in a position to talk about the conversations we're having with regulators. I mean, the essence of this deal, as I said a couple of times, is no product overlaps.

We believe a compelling and pro-competitive value proposition for the benefit of our customers. We have made broad commitments to the ecosystem relative to supply and availability and support of process control equipment.

And the protocols around intellectual property protection are well established in this industry and the Company. I mean, those are the qualitative statements I can make around your questions. But the specifics of our dialect with agencies, unfortunately, we are not at liberty to dialogue about.

Understood. Just follow up. If I get your comments on the back-half shipments right, you're implying December could be down modestly. Is that essentially just a pause that you're seeing maybe on the 3D NAND side?

Or is something else driving that shipment down in December? It could be lumpy, but I'm curious, what's the driver this time around in December?

Yes. I wouldn't describe it as a pause. Every customer has their own cycle of investments.

And they can't continue to jam tons of capacity into their fat like forever, so they add and then they pause a little bit. But there's no generic kind of industry cycle type pause commentary that we can make.

And, frankly, I don't think we'll ever be able to make. I think the industry is very different today as a result of consolidation.

It's just timing of projects, Amit. It's nothing more than that.

Perfect. Thank you.

Thank you.

And that does conclude our question-and-answer session. I will now have the program back over to Satya Kumar for any additional or closing remarks.

Yes. Thank you, everyone, for joining our conference call.

Our Analyst Day is scheduled for November 2016, do make a note of that, we'll issue a press release on that. Thanks, once again.

And that does conclude today's program. We'd like to thank you for your participation. Have a wonderful day, and you may disconnect at any time.