萬機儀器 (MKSI) 2011 Q2 法說會逐字稿

Good morning, my name is Sarah and I will be your conference Operator today. At this time I would like to welcome everyone to the second quarter 2011 earnings call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session. (Operator Instructions). I would now like to turn the call over to Mr. Seth Bagshaw, Vice President and Chief Financial Officer. Mr. Bagshaw, you may begin your conference.

Great, thank you. Good morning, everyone. I am Seth Bagshaw, Vice President and Chief Financial Officer. I am joined this morning by Leo Berlinghieri, Chief Executive Officer and President. Thank you for joining our earnings conference call.

Yesterday, after market close, we released our financial results for the second quarter of 2011. You can access this release at our website at www.mksinstruments.com. As a reminder, various remarks that we may make about future expectations, plans and prospects for MKS constitute forward-looking statements. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors including those discussed in yesterday's press release, in the Company's most recent annual report on Form 10-K and most recent quarterly report on Form 10-Q which are on file with the SEC.

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 obligations 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. Now, I'll turn the call over to Leo.

Thanks Seth, good morning everyone and thank you for joining us on the call today. I will give an overview of the second quarter of 2011, as well as our outlook. Following me, Seth will review our financial results and guidance and then we'll open the call for your questions. Sales for the second quarter were $224.5 million down slightly from our record sales of $231.9 million in Q1 which included a large solar shipment. Second quarter sales to the semiconductor market were up 7% to $145.2 million representing 65% of revenue.

Sales to the solar market were $13.5 million compared to just over $30 million in the prior quarter. Sales to all other markets were $65.8 million in line with prior quarter and comprise 29% of total sales. In Q2, we achieved a new record in non-GAAP earnings of $38.8 million. This resulted in non-GAAP earnings of $0.73 per share. Our increased profitability was primarily a result of favorable product mix and foreign exchange, as well as lower compensation expenses. GAAP net income was $38.6 million or $0.73 per share.

Our cash and short and long-term investments, net-of-debt, increased $22 million to $501 million. Our growth objective for MKS is based on a two-pronged strategy. The first element of our growth strategy is to continue to outpace the growth of the semiconductor market by increasing our content per tool on existing applications and also by expanding our market penetration through design wins for new applications, new tools and new customers. As leading edge device designs and fabrication increase in complexity, more processing steps and tighter process control are required.

This has and is expected to continue to result in more MKS content in dollars per tool and per fab, as OEMs and device manufacturers rely on our technologies to enable these complex manufacturing processes. Throughout the design cycle we work closely with our customers as they develop and refine their tools and processes. This close collaboration results in design wins, which lead to volume sales when the tools are released. In the second quarter, we were awarded multiple new design wins for a variety of our technologies including Ozone, Pressure, Flow, and Custom Effluent Management systems for new CVD, Etch, RTP, Metal Deposition and Substrate Cleaning Tools and Modules.

In Q2, our sales to the semiconductor OEMs were up 4% from Q1 and sales to device makers were up nearly 22%, due in large part to the increasing acceptance of both our dissolved and dry ozone technologies for wafer cleaning by a number of leading semiconductor fabs. The semiconductor market began in 2011 with announcements of continued capacity expansions by several major chip makers worldwide. Recently, however these plans have been revised and some proposed CapEx additions have been delayed, as the record tool shipments of last few quarters are installed. Reports from the recently completed SEMICON West show confirmed a softening in demand from the underlying electronics market as the market adjusts to lower utilization rates, due to lower PC sales. And we anticipate this will result in softening of our semiconductor business.

This being said, it is becoming clear that the majority of the investments over the next 12 to 18 months will be to produce more advanced device structures and smaller geometries which will require more process control. This will continue to provide additional opportunities for more of our technologies.

The second element of our growth strategy is to continue to penetrate and gain share in other advanced and growing markets, where we leverage our technologies and our global brand recognition, as well as our sales and service infrastructure to drive further revenue growth. These additional markets are characterized by advanced manufacturing processes which, like semiconductor, require high precision, utilize vacuum and gases, and require sophisticated levels of instrumentation and process control.

These markets include the manufacture of solar cells, light emitting diodes or LEDs, thin film coatings and other critical processing applications. We have demonstrated in our long -- our goal going forward is to achieve a long-term compounded annual growth rate of at least 15% in these markets. Second quarter sales to the solar market were $13.5 million. As expected, this was down from Q1 largely due to a large solar order we shipped in the first quarter that drove Q1 solar revenues to more than $30 million.

Industry analysts are projecting that solar CapEx spending in the second half of 2011 will decline as the market absorbs the record shipments of the last 12 months. However, even with the uncertainty of the solar market in the second half of 2011, we believe MKS is unique in having the ability to grow our solar revenue this year due to our incremental market share gains at one of the largest solar panel manufacturers in China. For all other markets, our Q2 revenue was consistent with Q1, excuse me, at $64.8 million or 29% of our total sales. Sales in these markets were sustained by continued activity in biopharmaceutical, medical, life sciences, environmental and LED, as well as a number of other industrial markets as we continue to focus on market expansion.

In the life science area, we received an initial order for our dissolved ozone system for a new application from a major supplier of medical devices. They have selected our dissolved ozone to control microbial contamination in process water. Use of our ozonated water system has enabled this customer to achieve consistent cleans with fewer preventative maintenance interruptions, less downtime and lower water use. We anticipate additional orders as ozone is further deployed in their medical device production facility. We continue to achieve design wins in the LED market for many of our technologies with new and established MOCVD tool OEMs. These design wins resulted in another quarter of growth in our LED business in the second quarter as we received a significant order from a new customer in China, as well increasing sales to US, European and other Asian OEMs.

In the environmental monitoring market, we continue to have success with our emissions in gas purity monitors. In the third quarter, we gained new customers in the US and China for continuous emissions monitoring, as well as for hydrochloric acid monitoring in cement manufacturing. In past calls, I talked about another type of gas analyzer, our AIRGARD Analyzer which monitors the composition of ambient air to identify and alarm for hazardous gases in municipal and public spaces. I am pleased to report that in the second quarter, our AIRGARD monitoring technology was formally accepted by the US Department of Homeland Security for hazardous gas monitoring for public safety. Another step to successfully penetrating this market.

These represent just a few examples of our success in diverse applications in markets which validate our ability to execute our growth strategy. Looking ahead to the third quarter, we are seeing some softening in the semiconductor market, as high level of tool shipments of the last few quarters are assimilated and brought online. Given these conditions, we anticipate that sales in Q3 may range from $180 million to $210 million and at this volume, our non-GAAP net earnings could range from $0.40 to $0.60 per share. At this point, I will turn the call over to Seth to discuss our financial results and to expand on our guidance.

Thank you, Leo. Good morning again, everyone. Revenue was $224.5 million, up 2% from $220.6 million in the second quarter of 2010 and down 3% from a record $231.9 million in the first quarter of 2011. Gross margin during the quarter was 46.8% compared to 45.9% in the first quarter of 2011. The increasing gross margin percentage was primarily related to favorable product mix, lower variable compensation fringe costs, a higher portion of which are incurred in the first quarter of the year, and the favorable foreign exchange impact.

Operating expenses were $47.4 million, down from $49.6 million in the first quarter of 2011 primarily due to lower variable compensation fringe costs, lower legal expenses than in Q1, when we settled the long outstanding patent infringement case, and the timing of certain R&D and IT project spending, which has moved into the third quarter. Our net profit in the quarter was 25.5% of sales compared to 22.6% in the second quarter of 2010 and 24.4% in the first quarter of 2011. The further expansion of the sequential operating leverage of 110 basis points is due to the higher gross margin and improving operating expenses as a percentage of sales. Non-GAAP earnings were a new record at $38.8 million compared to $33.4 million in the second quarter of 2010 and $38.2 million in the first quarter of 2011. GAAP net income for the second quarter was $38.6 million or $0.73 per share and the tax rate was the same as the first quarter at 33%.

In the quarter, cash and investments net-of-debt increased by $22 million to $501 million and included the second quarter dividend payment of $7.9 million. In terms of working capital, days sales outstanding was 62 days, up slightly from 60 days in Q1, due to the geographical mix of customer receivables and inventory turns were constant at 3.1. Capital additions for the quarter primarily related to test and calibration equipment with $3.9 million and depreciation expense was $2.9 million. Second quarter sales to the semiconductor market were up 7% compared to the first quarter at $145 million, representing 65% of revenue.

Within the semiconductor market, sales to semiconductor OEMs were 52% of total sales and sales to semiconductor fabs were 13% of total sales. Sales to the [other advanced] markets decreased 17.5% from the first quarter of 2011 to $79 million, representing 35% of total revenue. This decrease was, as expected, due to the Q1 shipment of an initial large solar order we announced late last year. Sales to all other markets were consistent with the first quarter at $66 million.

Geographically, sales in the US were 49% of total sales, sales in Asia were 37%, and sales in Europe were 14%. Sales to our top 10 customers represented 41% of total sales. Sales to our largest customer, Applied Materials, represented 14% of second quarter sales. And our headcount, as of June 30, increased slightly to 2,740 compared to 2,726 as of March 31, primarily reflecting an increase of headcount due to our summer intern program.

Based upon current business levels, we estimate that our sales of third quarter could range from $180 million to $210 million. Based upon this expected sales range, our Q3 gross margin could range from 44.5% to 45.5% reflecting the lower volume and expected product mix. Q3 operating expenses are expected to range from $47.6 million to $48.9 million. In the third quarter, R&D expenses could range from $15.6 million to $16.1 million and SG&A expenses could range from $32 million to $32.8 million. The range of operating expenses reflect lower revenue volumes but also include additional investments in Research and Development and IT projects, which were originally planned in the second quarter. As I mentioned previously, the timing of these projects are dependent upon a variety of factors and could vary from quarter to quarter.

As always, we continue to monitor expenses as business levels fluctuate and we have the ability to adjust discretionary and variable costs accordingly. Amortization of intangible assets and net interest income for the third quarter are both estimated to be approximately $300,000. And for the remainder of 2011, we expect our normalized non-GAAP tax rate could be approximately 33%, reflecting geographic mix of taxable income. Given these assumptions, third quarter non-GAAP net earnings could range from $21.5 million to $31.9 million or $0.40 to $0.60 per share on approximately 53.2 million shares outstanding. GAAP net income in the third quarter could range from $21.3 million to $31.7 million or $0.40 to $0.60 per share. This concludes our discussion. We will now take your questions.

(Operator Instructions) Your first question comes from the line of Krish Sankar from The Bank of America Merrill Lynch.

Yes, thanks a lot. Hey, Leo, a couple of questions. Can you just give us the composition of your sales mix in Q3 and what did you think semis would be down, what do you think about solar and all the other components?

Sure, Krish. We would think that most of the decrease would be in semi, we are expecting, while there's still uncertainty, I think just in general in some of the economic activities, both in the US and Europe. We believe that probably the non-semi business will be pretty consistent and that most of the decrease would be in the semi business.

If we just do like a quick back of the envelope math, it looks like semi might be down 25% or more. Your customers like Novellus are tracking almost 35% to 40% down. So, should we assume that the weakness should continue into December quarter on the semi side?

I don't know. Novellus is a customer of ours, but one of hundreds of semi customers. So, some of our business is with the end users. I don't know, really -- we will have to see what happens into the fourth quarter as we get close to that. With the turns business, it is [difficult] too well to see that.

Got you. On the Solar business, you guys shipped a part -- you said a part of the shipment would happen in the second half of the year from the big Chinese solar customer. When do you think it is going to happen? Is it going to be a Q4 occurrence or you think it's going to take place in Q3?

We don't have it in the Q3 number.

You do not have it, okay.

Correct.

What is the reason for the SG&A going up in Q3?

Sequentially you mean, quarter over quarter?

Yes.

We had some -- let's see here.

We had some reduced spending in Engineering, which Seth talked about earlier as well as some of the R&D. The R&D piece, as well as project spend for IT.

Yes, we had some costs in Q2 move into Q3.

Yes, we also had some favorable variable compensation adjustments which also wouldn't occur again typically.

Got you. Finally, are you guys doing any shutdowns in Q3?

Nothing is planned.

Got you. Thank you.

Thanks.

Your next question comes from the line of Jim Covello from Goldman Sachs.

Hi, this is Mark Delaney calling for Jim Covello. Thanks for taking the question. I guess to start, could you guys, maybe, talk about any end markets that unlike semis, are currently perhaps at a cyclical trough and might be picking up as you go through the year and potentially offsetting some of the semi equipment weakness?

As you know, some of the markets we have talked about are the solar market, the LED market, medical which includes pharmaceutical, biotech, gas analysis markets and LCD. I think that from some of the reports at SEMICON West, one of the large LCD equipment companies talked about not so strong a second half. Although LCD has not been strong at all this year to start with so we did not see any major change there. Solar we already talked about there's some expectation that it would be down in the second half although we should have a good year-over-year number. LED I think is a question mark. So far, it has held up nicely. It could continue, as we pick up new customers, to remain strong. Medical has been pretty consistent in terms of we don't see any changes on the horizon for the medical market in terms of that. Gas analysis, although a smaller piece of our overall revenue, continues to have no signs of weakening.

That's really helpful, thank you. Seth, I was wondering if you could give us a little bit more insight into your cost of goods sold. I was just wondering if your revenues fall off, how we should think about the COGS line in terms of what part of that is fixed and then how much of it is variable and would it decline along with the sales?

Yes, so you look at the Q3 guidance, the decrease in the margin percentage is really just due to volume. That will give you an idea of the variable piece of it. Q2 to Q3 the mix is roughly the same, we think, in Q3. Kind of at a high level, I would expect the variable margin to be about 50% quarter over quarter, roughly speaking. Multiple quarters.

Okay, great, that's helpful. Then just one more on the use of cash, obviously the dividend is something new and I think pretty unique for a small cap tech company. I was wondering if the stock does get impacted by what appear to be slowing top line sales, if you guys would consider doing a buyback as well? Thanks very much.

To answer that, I guess, we have been opportunistic with cash and we have done buybacks in the past. We have used cash for M&A and more recently the dividend. So I think all of those options remain open. Thank you for the questions.

Your next question comes from the line of C.J. Muse from Barclays Capital. Your line is open.

Yes, good morning. Thank you for taking my question. First question, as I look at the variability in your top line guide, is it safe to assume that almost all of that $30 million comes from uncertainty on the semi side or are there other levers that could push out, maybe, into the December quarter that we should be thinking about?

C.J., there is really nothing we'd see that would change. There's the other advanced markets have many, many customers. So there's nothing obvious that would change. Most of what we are expecting would be in the semi.

Okay.

I think that changes about 20%.

Sure. Makes sense. If we were to assume that this kind of mix in Q3 embedded in the guide were to continue, what kind of impact would that have on gross margins?

When you say continue, the mix?

Meaning higher mix of other.

Other markets, you mean?

Yes.

It might give a slightly favorable gross margin, but then there would probably be less reduction in sales expense because we don't have as large of customers typically in those other markets. From an operating margin standpoint, I'm not sure we'd expect to see much difference.

Okay. Makes sense. On the solar front, I think you did roughly $44 million in the first half of 2011. You talked about gains at one particular China fab. Curious if you could, kind of, put a range on what solar could look like in the second half of the year?

Good question. I think it could be similar in Q3 as what we saw in Q2. Right now there's not a lot that tells us it would be different again. Over 300 customers, the timing on when they actually place orders and when you get into this environment, it gets more unpredictable. I would say that probably the safest thing is to use a number similar to what we saw without the large China order in it and see how things go.

Okay. Last question for me, not asking whether you are going to increase dividends or buy back stock, but I guess you have $500 million plus of cash and the stock is indicated down at roughly 1.2, 1.3 times book. I'm curious, what kind of cash level you need to run the business and what you consider as potentially free for being opportunistic?

So obviously we built quite a bit of cash this year because of a robust operating model. I would say there's no real bright line in terms of what excess cash we have. There's a lot of opportunities on the M&A front. I think it is safe to say we probably have between maybe $100 million to $150 million of excess cash at this point for other M&A activities. The board looks at alternatives on share buyback. And again, we, you know, look at all the factors that will drive our use of cash going forward.

That's helpful. Just to clarify, the $100 million, $150 million that is inclusive of the cash that you want to keep on hand to support the ongoing dividend?

No, I would say just to run the business today, that is the kind of cash we would necessarily need to meet the current requirements to fund the business.

That includes the buffer in cash that you'd want to have just to sustain the dividend?

That would be enough cash to run the business with the dividend and the current operating levels.

Okay.

So the piece above that could be used for M&A or other use of cash. That is a rough idea, just kind of rough magnitude. Again, a lot factors driving, kind of, how we allocate capital. So just give you a rough idea.

That's very helpful. Thank you.

Yes.

(Operator Instructions) And your next question comes from the line of Edwin Mok from Needham & Company. Your line is open.

Hi, thanks for taking my question. Just to clarify on the solar side in the second quarter, did you ship to that large contract that you talked about on the Chinese customer? And is the decline just from that customer not taking a shipment (inaudible)?

Edwin, yes. There was no shipment to that large customer and I believe we shipped close to 19 million in the second quarter to that customer. And we were slightly over 30. So, actually solar, if you remove that, solar was up a little to all other customers in general.

I see, so you don't expect shipments to that customer in the fourth quarter and that's why in the third quarter you expect to be running at a similar run rate as our second quarter.

Yes, we have nothing in the plan for shipments to that -- we don't have any additional shipments planned in the Q3 guidance for that customer.

Great. Very, very helpful for clarifying that. And then, on the semi side, just curious, maybe Leo you can walk through about what you guys have experienced over the last maybe, let's say, 6 weeks or so? Given the large guide down, I would suspect that a lot -- some of your customer -- a lot of your semi customers come back and they tell you that they only need components right now or they don't need any of these from parts that you sold them, right now. Are you worried that maybe their inventory is still too high and that there will be more reduction or burn throughout the inventory until they come back to buy from you?

Yes, I would say a few things. We probably got more out of the announcements they made during SEMICON West. Obviously, we can see the run rates and we saw them deteriorate towards the end of the first quarter and hence we talked about that we would likely be on the lower end of the guidance back on June 15, I think.

And no one has come back and said they have too much inventory, don't expect any pulls. I think they like to have a robust supply chain with capacity available. As you know this business turns around. There have been some discussions in some of these meetings publicly at SEMICON West that fourth-quarter may be better.

On the other hand, I think the inventory between our equipment companies' customers and us are tighter than they had been in previous business levels. And I think, I don't anticipate any huge swing in inventory change although if rates were to go down for several quarters, then usually the WIP goes down a little on their floor.

The good news is typically, if you look at our track record, we don't seem to go down below the shipping rates that they have. I think part of that is, typically what they are shipping is latest kind of technology tools, so they are shipping against the newest generation of devices, device structures, geometries, and so probably our mix gets to be a higher content per tool on what is shipping.

So, it is not typically the old tools that ship when things soften a bit, it is the latest generation that keeps shipping and the older tools slow down a bit. That may be why we continue to see better results than what you might expect with some adjustment in their WIP. But, with this kind of softening I don't expect a huge adjustment and even WIP.

I see but, I would suspect that these order rates start to come down even over the last few weeks you know, for you to provide a 20% plus decline in terms of your semi cap side of your business, is that correct?

Our guidance was -- if you look at it our -- with the expectation that all -- most, if not all, of the decline would be in semi. That would be roughly 20% reduction in semi business.

I see. Okay. Very helpful. Lastly, let's assume that things continue to trend a little bit worse on the semi side, right? Can you update us what would be your baseline break even model that you guys are thinking about or at least in terms of breakeven revenue level and what kind of [margin risk] (inaudible) in that kind of model?

What was the last part of that question, Edwin, after the breakeven level?

Basically, just breakeven model which is what revenue and (inaudible)[margins] in such type of model.

Yes, Edwin, so on a breakeven level, on a quarterly basis it's about $135 million give or take a few million. On the cash it is less that obviously. I don't have handy what the gross margin would be on that. I would have to kind of look into it. But breakeven would be $135 million maybe, let me try to come back to you on that, on the gross margin --

No problem. That's all I have. Thank you.

Okay.

And this concludes the Q&A portion of today's call. I turn the call back over to the presenters for any closing remarks.

Thank you, Sarah. We continue to demonstrate our commitment and ability to provide value to both new and existing customers, to grow our semiconductor market faster than the industry itself and to identify and penetrate new customers and applications in a variety of diverse and growing markets. Our strength is in identifying new trends and applications in these high other growth markets where we can leverage our technology and infrastructure. We look forward to many growth opportunities in the future. Thank you again for joining us on the call today.

And this concludes today's conference call. You may now disconnect.