萬機儀器 (MKSI) 2005 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the MKS Third Quarter Earnings Conference Call. [OPERATOR INSTRUCTIONS] As a reminder today's conference is being recorded Thursday, October 27, 2005. I would now like to turn the conference over to Ms. Jonna Manes, Director of Investor Relations. Please go ahead, ma'am.

Good morning and welcome to our third quarter earnings conference call. By now you should have received a copy of our earnings release. If you did not, please go to our website at www.mksinstruments.com or you can call 978-284-4045 after this call.

As a reminder, various remarks that we may make about future expectations, plans and prospects for MKS constitute forward looking statements for purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward looking statements as a result of various important factors, including those discussed in this morning's press release and in the Company's annual report on Form 10-K for the fiscal year ended December 31, 2004, and most recent quarterly report on Form 10-Q each of which is on file with the SEC. In addition, these forward looking statements represent the Company's expectations only as of today. While the Company may elect to update these forward looking statements, it specifically disclaims any obligation to do so. Any forward looking statements should not be relied upon as representing the Company's estimates or views as of any date subsequent to today.

Finally, I would like to remind everyone that during the Q&A period each person will be limited to two questions. We'll circle back for further questions as time allows. Now I would like to introduce Leo Berlinghieri, Chief Executive Officer and President of MKS.

Thanks, Jonna, and thanks to everyone for joining us this morning. With me is Ron Weigner, Chief Financial Officer. I'll give an overview, Ron will give a detail review of the third quarter results and then we'll answer your questions.

Today we reported higher than expected earnings on sales that were within our guidance. Third quarter sales totaled $122.5 million and non-GAAP operating earnings were $0.17 per share. Lower operating expenses and higher interest income contributed to our earnings performance in the quarter.

As we anticipated on our second quarter call, third quarter sales reflected cautious order patterns by semiconductor OEM customers. MKS as you know is a turns business with short lead times that range from one day up to a few weeks. Our sales to OEMs are more closely aligned to their production needs and shipment levels than their bookings. You may recall that some OEMs describe the environment as challenging last quarter. Our third quarter sales to semiconductor OEMs reflected this environment, were down 9% sequentially. At the same time, our sales to device manufacturer, thin film and other customers remained relatively stable in the quarter.

Despite current market conditions, our strategy has not changed. We remain focused on improving process performance and productivity in the semiconductor and other markets to continue to drive profitable growth.

In the third quarter, we continued to support our customers' technology transitions and identified opportunities in leading edge applications. I'm encouraged by our success in being selected for new applications. We also launched new products that are differentiated in the marketplace by delivering new levels of productivity. We expect these systems will generate new business based on positive responses during customer evaluations.

For an example, we achieved design wins in production orders with our next generation solutions for power, reactive gas generation, and ozone delivery. The new SurePower RF generator was selected for new Men's Tool in the quarter. SurePower, which provides high levels of reliability, is under evaluation at several key OEMs. The Revolution reactive gas generator continued to generate follow-on business from a key OEM in the quarter and is also under evaluation at key customers. Revolution is a remote plasma source that generates ultra clean reactive gas species and provides high efficiency on-wafer processing. It has produced process rates that are significantly higher than conventional sources.

MKS is the market leader in reactive gas generator products with our ASTRON product line. The favorable settlement earlier this month of patent infringement litigation that we brought against a competitor related to plasma generator products, protects our IP and market leadership and makes us a stronger supplier.

Our next generation ozone delivery systems have also been selected for cleaning applications in semiconductor, thin film and other markets. In the quarter, multiple OEMs ordered LIQUOZON liquid ozone cleaning systems for wafer cleaning applications at leading device manufacturers. LIQUOZON provides a new level of performance for wet cleaning and photo resist stripping in an ozone based system that is environmentally friendly.

As processes become more complex, we are leveraging the power of information for process monitoring and control to improve our customers' productivity. In the quarter, we achieved record bookings for residual gas analyzers, including TOOLweb RGA sensors which are used to monitor advanced processes and prevent significant yield loss. We are seeing much greater reliance on RGAs to monitor 300mm processes compared to 200mm. We gained additional TOOLweb RGA orders for new PVD tools from a leading device manufacturer for the new 300mm fab in Europe. And major Asian foundries also placed orders. TOOLweb RGAs perform real time monitoring of process integrity, identifies process excursions, and generates alarms to minimize the cost and yield impact of tool downtime. Through the TOOLweb platform of process sensors and instruments, we are also providing digital connectivity for sensor integration and data collection to enable tool fingerprinting and fault detection for process consistency.

According to industry estimates, 300mm tools represent only 22% of the installed base of total wafer fab equipment in 2004. Our information management and process monitoring technologies primarily address 300mm fab needs for process analysis and yield improvement and we see opportunity for growth.

Outside of the semiconductor market, our information and monitoring products are being used by general industrial customers to web enable traditional analog instruments and to increase data availability and to monitor uptime. In the quarter, we gained design wins with new pressure manometers and transducers for pressure measurement, gained share with the new pendulum valves for pressure control, and more customers are evaluating our mass flow control products, and we are seeing opportunities for share gain in several markets that we serve. We are particularly pleased with the momentum our pressure insensitive piMFC is gaining in the semiconductor glass coatings, solar panel, and other industrial markets. piMFC is an integrated sub-system that integrates our pressure and flow control technology and our information management and technology into one compact device.

Looking at other markets business remains steady in thin film markets for flat panel display and data storage applications. I'm pleased to report that September was a record month for biopharmaceutical manufacturing bookings, which reflects our effort to diversify our markets. Although biopharm currently represents a small percentage of our business, I'm encouraged by our progress in leveraging semiconductor manufacturing technology to this growing market.

I would like to comment on success as we build on the platform of our global operations excellence. Our goal is to continually improve our processes and reduce our costs as we serve customers. One of our strategies is to maintain manufacturing centers of excellence in the U.S., China, Mexico and other regions.

As you know, we've been manufacturing in China since our acquisition of ENI in 2002. Our Shenzhen, China manufacturing facility, like all of our production facilities, has implemented comprehensive lean manufacturing practices. In the quarter, Shenzhen achieved high marks in an on-site audit by a major semiconductor OEM. In fact, this facility has passed all audits conducted by its customers on all products that require customer qualification have been qualified. We expect to continue to gradually transition products selectively to low cost regions to remain competitive. At the same time we plan to increase global material sourcing to reduce costs.

As the third quarter ended we converted one of our major business areas to a new ERP system that will provide us with more information to manage the business. This conversion sets the standard as the system is gradually rolled out across the Company. I want to thank all of the MKS team members who contributed to this significant effort which was accomplished with minimal disruption to our business.

Looking ahead to the fourth quarter, market conditions remain unclear. As you know, most wafer fab processes are controlled by MKS products and we have broad exposure to the equipment companies. Some major OEMs have guided for their bookings to increase 5 to 10% next quarter. While increased OEM bookings should represent increased production in future quarters, we expect customer order patterns to remain relatively stable in the fourth quarter. Looking long-term, we believe that there is significant opportunity for semiconductor capital equipment growth. We expect to continue to see more powerful and more portable consumer electronics become the latest must-have technologies. They will require semiconductor devices with smaller dimensions, new interconnect materials, and more thinner layers of material, which are all more challenging to manufacture. More complex processes require more process steps and more process control. We are well positioned to address these trends by leveraging our broad technology portfolio for higher process performance and productivity gains.

Now I'll turn it over to Ron to discuss our financial results.

Thank you, Leo, and good morning, everyone.

Third quarter 2005 sales totaled $122.5 million or 6% less than the $130.2 million in the second quarter and 12% less than $139.7 million in the prior year quarter. Third quarter 2005 GAAP net earnings totaled $7.2 million or $0.13 per diluted share compared to $9.8 million or $0.18 per diluted share in the second quarter and $12.2 million or $0.22 per diluted share in the year ago period. On an operating basis which excludes amortization of acquired intangible assets and special items, third quarter 2005 non-GAAP earnings totaled $9.2 million or $0.17 per share compared to $10.2 million or $0.19 per share in the second quarter and $15.8 million or $0.29 per share in the third quarter of 2004.

Third quarter sales to semiconductor OEMs were down 9% sequentially while sales to semiconductor device manufacturers, thin film and other markets were relatively flat. Semiconductor OEMs represented 58% of total sales compared to 60% in the second quarter and sales to device manufacturers were 11% compared to 10% in the second quarter. Thin film sales, which include flat panel display and data storage, were 9% of sales compared to 8% in the second quarter. Sales to other markets remained at 22%.

Looking at the geographic mix, sales to U.S. customers represented 64% of third quarter sales, sales to Asia represented 26%, and sales to Europe represented 10%, compared to 62%, 28%, and 10%, respectively, in the second quarter. Geographic mix reflects lower sales to U.S. and Asian semiconductor OEMs. Sales to Applied Materials, our largest customer, were essentially flat on a dollar basis and represented 17% of third quarter sales compared to 16% in the second quarter. Sales to subcontractors of semiconductor OEMs remained at 5% of total sales in the third quarter. Our top ten customers represented 47% of third quarter sales compared to 49% in the second quarter.

Gross margin was 38.9% in the third quarter compared to 39.8% in the second quarter primarily as a result of fixed overhead being a higher percent of a lower volume. Operating expenses, including amortization and special items were $1.7 million lower, quarter over quarter. R&D spending was $1 million lower at $13.7 million or 11.2% of sales and reflected lower project costs due to completed projects and rescheduled projects and hiring. SG&A expense was $700,000 lower at $22.3 million or 18.2% of sales and primarily reflected a net reduction in a variety of expense areas. In the quarter, we recorded a favorable restructuring item of $300,000 related to a lease settlement on a vacated facility in Connecticut. Interest income increased by $500,000, primarily as a result of higher interest rates.

The tax rate of 30% reflects an adjustment of the 2004 tax provision to actual. Excluding that adjustment, the tax rate would have been 32%.

Our worldwide work force remains stable at 2,268 compared to 2,270 in the second quarter.

Now I'll look at the balance sheet. Our strong capital structure provides strategic flexibility to grow the Company. We continue to maintain a strong cash position. Cash and investments increased by approximately $7 million to $273 million, cash investments net of debt increased by $10 million to $245 million, and cash from operations totaled approximately $9 million. Days sales outstanding total 56 days.

Inventory increased slightly and inventory turns were 3.1 in the quarter. The inventory increase primarily reflected a one time adjustment of an OEM's inventory of power products as a result of our shorter lead times.

Capital expenditures of $2.59 million in the third quarter were primarily for on going investment in our new ERP system and manufacturing and test equipment. We expect the capital expenditures could range from 10 to $12 million in 2005. Depreciation in third quarter was $2.9 million, we expect depreciation could total $12 million in 2005.

Looking ahead to the fourth quarter, based on current customer order patterns, we expect sales could remain relatively stable and range from 120 to $126 million. At these revenue levels and depending on product mix and other factors, fourth quarter gross margin could range from 38 to 39%. Looking forward to 2006, we continue to see opportunities for margin improvement.

For example, we have announced plans to vacate our Methuen, Massachusetts facility by the end of the second quarter of 2006. We will consolidate Methuen activities into our other Massachusetts facilities, which will enable closer cooperation between the pressure and flow management and control organizations. This consolidation supports our on going focus on integrated subsystems while allowing us to better utilize existing space and lower our operating costs.

We continue to target higher sales of integrated subsystems, which provide higher value to customers and typically provide somewhat higher margins. We see opportunities to lower our costs by gradually increasing global material sourcing, continue to tradition products to low cost regions, consolidating certain facilities and reducing warranty costs. As a result of all of these initiatives, gross margin could increase by several percent on a constant sales volume by the end of 2006.

We expect that R&D spending will increase as a result of increased spending for scheduled products that focus on specific customer and market opportunities. R&D spending could range from 14.6 to $14.8 million. We expect that SG&A expenses will include initial depreciation expense from putting our ERP system into service in the quarter. SG&A expense could increase slightly and range from 22.4 to $23 million in the fourth quarter. Amortization of acquired intangible assets is estimated to be approximately $3.3 million.

Fourth quarter earnings will include other income of $3 million, resulting from the October 3rd settlement of patent infringement litigation related to our plasma generator products. We estimate that our tax rate could be approximately 32%. Based on these assumptions, fourth quarter GAAP net earnings could range from 7.2 to $9.4 million or $0.13 to $0.17 per diluted shares on 55 million shares outstanding. As you know, operating or non-GAAP earnings exclude amortization of intangible assets and special items such as other income. These excluded items could essentially offset each other in the fourth quarter and therefore non-GAAP earnings could also range from 7.2 to $9.4 million or $0.13 to $0.17 per diluted share.

That concludes our financial discussion and now I'll turn the call back to Leo.

Thank you, Ron. And we'll now take your questions.

Thank you, sir. Ladies and gentlemen, at this time we will begin the question and answer session. [OPERATOR INSTRUCTIONS] First question comes from Brett Hodess. Please state your company name followed by your question.

Good morning, Merrill Lynch. Leo, I'm wondering -- you commented on the -- some of the new market opportunities biopharma and what's going on in data storage and flat panel and whatnot. As you move into the new markets, are you able to do that with the same products you sell into the semi market and are the margins similar? And does that provide any benefit as you move forward in the margin improvement in '06 that Ron was talking about?

Thanks for your question, Brett, good morning. In the other markets we often are able to utilize either the same products or similar products with modifications, so I would say we leverage the existing technology in most of those markets with slight modifications in some cases. And gross margins should be at least similar to what we experienced.

And a quick follow on for Ron. Ron, can you just give us an idea of what you think your option expense was in the quarter?

Yes, right now, Brett, our option expense is running about $0.02 a quarter.

Do you expect it to stay in that range?

That's what's running presently, obviously, if we grant other options or restricted stock going forward, there would be some increase to that.

Thank you.

A small increase.

Great, thank you.

Thank you. Next question comes from Jay Deahna, please state your company name followed by your question.

Thank you. Good morning, J.P. Morgan. Two questions. The first one is, [Lamm] provided guidance for shipments to be up about 30% sequentially in the fourth quarter, Mattson up about 15%. Is -- you're guiding kind of flat; I was kind of wondering how those two jive. And then, secondly, did you experience any meaningful design wins on the power side in the quarter that could move the market share needle to power in 2006. Thank you.

Thanks for your question, Jay. As far as market share gains that would pin the needle quickly some other direction, most of the market share gains usually happen over time. So not going to report anything that would change anything significantly but we're always working on market share gains. As far as our guidance for flat, I think just our -- as you know, we provide products to all of the OEMs and so as we look at that landscape we feel comfortable that the guidance should be relatively flat.

Great, thanks.

Our next question comes from Robert Maire. Please state your company name followed by your question. Hello, Robert, are you on line?

Yes, do you hear me.

Please go ahead.

Your guidance going forward calls for sort of flattish behavior from the semi equipment companies. Are there any particular sub-sectors within semi equipment that are doing better than others? Following onto Jay's question, I sort of have noticed a similar discrepancy between the equipment companies. Is there some variation there that you're seeing?

I think we always see that variation, Robert. In terms of every company is in with different fabs and different opportunities and activities, so I don't think there's anything unusual there from our prospective.

In terms of direct end user sales, is there any change in your model in terms of more sales going directly to end user bypassing equipment companies or other such changes in the model?

No changes to the model.

Okay, thank you.

We've always sold to all of the industry.

Okay, very good.

Thank you, next question comes from Jim Covello. Please state your company name followed by your question.

Good morning. This is Amanda Hindlian for Jim Covello. You've done a really good job so far of controlling expenses and I know you talked a little bit about improvements you think you can make next year on the gross margin line. I'm curious, especially with CapEx looking like it will be flattish next year, what you think you can do on R&D and SG&A. And then my second question is what percentage of sales you got from Integrated Subsystems this quarter and where that fits in based on your long-term targets?

Well, Amanda, I've already discussed what our -- we expect our improvements could be in gross margin next year, but certainly our goal is to continue to look at our operating expenses and look at opportunities where we can more effectively leverage those costs or reduce those costs. So that's just an on going process and we're going to continue to look at that.

Amanda, I missed the last part of your question.

I wanted to knew what percentage of sales you got from Integrated Subsystems this quarter and what your long-term target is there.

We normally report that on an annual basis and it was 25% for the past previous year and our target was moved up to 40%.

Great, thank you.

Amanda, one more thing.

Yes.

Did want to mention on the operating expenses going into next year I did allude to it going into the fourth quarter that beginning next year we'll have full year of depreciation on our new ERP system, so that would increase the operating expenses by about $1.2 million. So that needs to be considered as well.

Thank you.

Thank you, our next question comes from Dave Eagan. Please state your company name.

Lehman Brothers. Could you clarify, in the ERP system that's $1.2 million for the entire year, right?

Pardon.

The $1.2 million for the ERP.

Excuse me $1.6 million.

1.6 million, that is annual cost?

Annual depreciation.

Great.

You're looking at noncash charge going into the operating expenses next year of that.

Okay. In terms of the TOOLweb, what kind of growth rates do you guys think are reasonable to achieve over the next several years? And thinking about that in terms of just service in general, what kind of opportunities do you see in terms of service directly to the OEMs -- I mean to the chipmakers?

Well, I think what we've talked about is TOOLweb is predominantly utilized in 300mm, so the rates of 300mm adoption should be consistent with our opportunities for TOOLweb growth. And could you repeat the second part of the question, if there was a second question there?

Let me just clarify. So you think that a good metric for thinking about how fast TOOLweb will grow will the growth rate in 300mm.

I think that's the best metric at this point in time, yes.

In terms of service, what -- do you see that your opportunities in service are increasing and your ability to get into the device manufacturers and work with them to provide service are increasing or -- could you just talk about that a little bit?

First, Dave, I'll let you know that certainly as the device manufacturers get into more complex devices in next generation, there is just an opportunity to work closely with them on those product areas. And if you look at what we've done, really the install base continues to increase and as a result of that there is also service opportunities continue to increase. So, there's more opportunity, but that has been always the trend, as the install base increases as they have more complexity there's more opportunities.

Great, thank you very much.

You're welcome.

Thank you, our next questions comes from Stuart Muter. Please state your company name followed by your question.

This is [Majer Sangenaya] for Stuart Muter at RBC Capital Markets. I know you don't guide beyond one quarter but can you talk about how do you see Q1 trending, upward or downward or what's the general trend? Thanks.

As you said, Majer, we don't guide beyond the quarter, we're such a short turns business it's very difficult to see beyond that point. I think as we stated and I stated we were encouraged by some of the OEMs announcing higher bookings potential for the fourth quarter and we hope that that would help going forward, but can't comment further on that, unfortunately.

And ask another question, on your process control and monitoring, what percent of your sales is that and how do expect -- is that growing much faster than the overall top line growth?

It's a relatively -- it's a smaller percentage as we talked about. It's a smaller percentage of the business because it really is focused on 300mm, it's new process monitoring technology for 300mm and we expect it to grow the way 300mm will grow in general.

What do you include when you say process monitoring and control, it's RGA?

It's a combination of information management that we provide. It's a combination of sensors like RGAs and it's also a combination of software for fault detection as well as many of our individual sensors that provide web enabled information. Okay, thank you.

Our next question comes from Tim Summers. Please state your company name followed by your question.

Hi, Stanford Financial Group. I was curious if you could tell us in the fourth calendar quarter, do you anticipate any shutdown days and within the quarter, are you expecting shipments to be linear on a month over month basis? Thanks.

Tim, as you know in this industry, holiday shutdown is becoming the norm so we anticipate that to be the case throughout the industry, including ourselves. And as far as predicting a month within the quarter or how things will go. For us I think we look for things to be more linear generally, only because we are a turns business, but we can't predict that.

Sir, do you have any further questions.

No.

Thank you. Next question comes from Krish Shankar. Please state your company name followed by your question.

Banc of America Securities. I have two questions. One is, in terms of your target financial model, assuming a constant volume for 2006, an increase in gross margin [INAUDIBLE] levels you spoke about, is it still possible to get operating margins in the 20 to 24% range?

Not at the same volume. As you know, our goal is to achieve gross margins in the 44% range at a volume of 155 to $160 million. That would be achievable with these improvements in gross margin that we expect to achieve. And then we would have to have a little bit lower operating expense at that volume to meet around a 20%, 22% operating income.

Okay. In terms of pricing environment particularly in the power supply, can you comment a little bit on it and how the environment, you think, is going to go heading into 2006.

The pricing environment remains unchanged. There's always price pressures in this industry, and it doesn't seem any different.

Are there pricing pressures more in certain products versus others or is it more standard all your product divisions?

I don't think there's anything unique about any product or product area.

Thank you.

Thank you. Our next question comes from Steven Pelayo. Please state your company name followed by your question.

Great. Couple questions on -- I'm with Fulcrum Global. Couple of questions on your guidance for flat revenues. What does that imply from a bottoms up look? I assume your end user business is up with rising utilization rates. Your semi OEMs are, I don't know, flat down, flat panel up, other markets. Could you give us color where your guidance implies and then I have one more question?

Steve, I think, as you know, we're involved with so many of all of those sub pieces that you mentioned. I don't think there's anything specifically that we can point to in terms of up or down. We really don't get to that level of comment.

Okay.

And the second part of your question, Steve?

One of your competitors had mentioned that their customers are giving a little bit longer visibility, Advanced Energy's backlog was up 30%, quarter over quarter. A little bit of a surprise to me. Could you talk a little bit about that? Are customers finally giving you a little bit more visibility, allowing you to run your business a little more efficiently or is there anything really behind that?

One of the things we have said is we're a turns business so we have short lead times and continue to provide shorter lead times, and we just try to work and become efficient in a relatively short lead time environment. I'm not sure that having more visibility necessarily would make us more efficient.

Okay, fair enough. And actually if I could just sneak just one more in here. Everybody keeps talking about pricing pressures and you guys seem to continue to answer this the same -- that's it's the same as it's all been for the last few years or so. I guess the relatively resiliency of your gross margins appear and actually a pretty good performance, I would argue. Is that just more primarily a function of your guys continued cost controls on that level then? Or is pricing actually now somewhat more stable to, who knows, mix improving with 300mm getting better.

I think our strategy of -- we talked about integrated products bringing higher value. Ron and I have both talked about our cost initiatives and continuing to charge forward on those things. I think the combination of all of those is what gives us the results that we get.

Excellent, thanks.

Thanks for your comment.

[OPERATOR INSTRUCTIONS] Our next question is a follow-up question from Tim Summers. Please go ahead.

Housekeeping question. Your R&D expense was down about $1 million quarter-over-quarter. And your guidance on the second quarter call suggested it was going to be up, and I'm wondering what happened during the quarter to cause you to reduce the R&D fairly significantly from guidance?

What happened, Tim, as I said is certain projects get completed and that affects the project spending for certain types of material and so forth, and it would reduce that expense in the quarter that those projects are completed. In addition to that, we rescheduled some projects to begin later into the fourth quarter so that also reduced the spending on project materials and we also deferred some hiring into the fourth quarter, but most of it was project materials.

Ron, was there an executive decision to to do this, and if so what prompted --

No it's just the timing of when these projects were completed, Tim. It had nothing to do with a planned reduction. It's just when these projects happened to be completed.

Okay, thanks Ron.

Thank you, at this time I show no further questions. I would like to turn the conference back over for any concluding comments.

Thank you very much. That concludes our comments and thank you for joining us on the call today and for your continued interest in MKS.

Thank you. Ladies and gentlemen, this concludes the MKS third quarter earnings conference call. Thank you for participating in today's conference. At this time you may now disconnect.