萬機儀器 (MKSI) 2016 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the MKS instruments second-quarter 2016 earnings conference call. (Operator Instructions) I would now like to turn the conference over to Seth Bagshaw, Vice President and Chief Financial Officer. You may begin.

Thank you. Good morning, everyone. So I'm Seth Bagshaw, Vice President and Chief Financial Officer. And I'm joined this morning by Gerry Colella, our 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 2016. You can access this release at our website, www.MKSInstruments.com.

As a reminder, various remarks that we make about future expectations, plans and prospects for MKS comprise forward-looking statements. Actual results may differ materially from those indicated by these statements as a result of various factors including those discussed in yesterday's press release and in the most recent annual reports on Form 10-K each of the Company and Newport Corporation and the most recent quarterly report on Form 10-Q, which are on file with the SEC.

These statements represent the Company's expectations only as of today and should not be relied upon as representing the Company's estimates or views as of any date subsequent today. And the Company disclaims any obligation to update these statements.

Today's call also includes non-GAAP adjusted financial measures. Reconciliations to GAAP measures are contained in yesterday's earnings release. In addition, we will refer to certain pro forma measures as if the acquisition of Newport, which closed on April 29, 2016, had occurred at the beginning of the first quarter of 2016.

Now I will turn the call over to Gerry.

Thanks, Seth. Good morning, everyone, and thank you for joining us on the call today. In my prepared remarks this morning I will review our results for the second quarter of 2016 including key business highlight in our integration of Newport Corporation. Following that I will provide an overview of our strategic goals for 2016 and our outlook for the third quarter of 2016. Seth will follow me with further details on our financial results, discuss our operating model with synergies, which includes Newport, and then we will open the call for your questions.

Our second-quarter results were strong across the board, achieving sales of $326 million, which included two months of Newport results.

Overall, business trends were very positive during the quarter. On a pro forma basis as if the acquisition of Newport closed at the beginning of the first quarter, total revenues increased 9% sequentially. Our standalone MKS business recorded a very strong performance with revenue increasing 13% from the first quarter to $207 million, above the high end of our guidance range, while Newport revenue increased 3% sequentially on a pro forma basis.

Our semiconductor business has strengthened and we attribute this to the increased adoption of 3D NAND devices as well as significant design wins in other areas. As I've said in prior calls, next generation lithography has seen significant delays and it appears that general introduction will not occur until the 5 nanometer node.

As a result, we believe 3D NAND will continue to rely on multi-patent production, which greatly benefits MKS, due to its increased need for deposition and etched processes, where MKS has a strong position.

In deposition there is an increasing shift towards atomic layer deposition or ALD. This quarter we received design wins on three new ALD tools including arc power and massive for advanced oxide and nitride ALD, remote plasma sources and valves for TiNitride ALD as well as remote plasma, ozone, pressure control, valves and integrated process solutions for other ALD applications. I am also pleased to report that in etch processing we were also ordered a design win from a Korean OEM for [fire up] generators and matches.

Our other advanced markets, which include industrial, life science and research customers, were up 10% sequentially on a pro forma basis and were $177 million. In these markets, applications and customers are diverse, so I'd like to pick just a few examples to share.

In life sciences, Newport received an OEM design win for a laser-based optical assembly for advanced blood analyzer. This win was a result of working closely with the customer who designed a revolutionary screening tool, and we anticipate continued business as the product goes into full production next year.

In the industrial market, our power generators were selected by the leading manufacturer of razors to coat blades to extend their life, and we continue to have follow-on business for numerous of the coating applications. These are just a couple of examples of the diversity of our business but they reflect the combined strength of the advanced technologies that MTS and Newport have to offer.

Moving on to our strategy, we remain focused on achieving sustainable, profitable growth through the business cycle. We plan to realize this by continuing to broaden our leadership position in all of our served markets and by using this technology leadership to actively help solve our customers' most critical problems.

Internally we refer to this as solve together, succeed together, which reflects our goal to provide customers with the critical technologies they need so we both prosper. As we discussed earlier, we are aggressively pursuing opportunities created by current technology inflections in our semiconductor segment, including 3D NAND, ALD and multipatenting.

Moreover, we intend to measurably improve our profitability while efficiently deploying capital to increase shareholder value. As we successfully execute on these strategic initiatives we also find ourselves at an inflection point in our business strategy, similar to when we went public.

At that time, the Company decided to grow the business and evolve from a component company to an integrated subsystem provider. This drove our surround the chamber initiative and resulted in MKS being the first consolidator in the critical subsystem portion of the semiconductor industry.

We acquired companies with differentiated technology to become the lead critical subsystem company in our served markets.

With the Newport acquisition, we are setting a path to grow our semiconductor business with both OEMs and end-users in the front end, and increase our exposure and growth in the backend as well, which we see as an opportunity to further accelerate our growth potential.

Additionally, we plan to accelerate growth in our other end markets. MKS is proud of our 13-year history of an almost 8% CAGR in these markets and we see significant prospects for growth and market share gains continuing outside of semiconductor markets. Our multidisciplinary team is well on their way with integration activities and we remain confident in our ability to achieve our synergy target of $35 million within 18 to 36 months after closing.

Furthermore, we are identifying and will always continue to drive synergy opportunities across the combined Company. To ensure we achieve these strategic goals, we have made a number of organizational changes including establishment of two business units within the Company. The original MKS products are now within vacuum and analysis business unit, while the Newport products are now within the light and motion business unit.

We have pointed new leadership team within light and motion and have centralized many of the corporate support functions. Moreover, we have expanded our Board and added Bob Philippi, Newport's former CEO, to sift through the integration process as well as ensure continuity.

To further leverage our strong semiconductor we have moved Newport's semiconductor integrated solutions business group to report to vacuum analysis. This will leverage our key strength in the semiconductor market to provide superior customer solutions and support with a goal of driving higher level of profitable and sustainable growth. We believe you have the right team in place to ensure a smooth integration and anticipate that these changes will streamline the organization and improve efficiency.

We have conducted a number of very positive senior-level meetings with leading customers to communicate our promise of partnership and technical collaboration. We plan to attack our expanded SAM by aggressively pursuing opportunities in both the semiconductor front end and back end.

We have an integrated sales team and now have joint engagements with key semiconductor accounts including Applied Materials, ASML, KLA-Tencor, Lam Research and [CEMIS]. In fact, as a result of this combined activity, we have already received an order for residual gas analyzers from a Newport customer, who is a new major key account for MKS.

We are keenly focused on accelerating revenue growth across non-semi end markets by leveraging key account relationships, accelerating end-user engagement, identifying cross-selling opportunities as well as product integration efforts. We have completed the first phase of our sales restructuring, the focused growth in non-semi markets. The initial targets include analytical instrumentation, industrial processes, and other areas will follow. I am happy with our initial efforts and I look forward to updating you on our integration process and future calls.

Lastly, our capital deployment strategy remains centered on de-levering the balance sheet over the next 24 months while maintaining our strong commitment to our dividend.

At this point I would like to turn to our outlook for the third quarter. We are very encouraged by the trends we have seen across our business and expect these to continue in the third quarter.

In the semiconductor market, demand for 3D NAND is strong. Foundry and logic features are expected to begin to ramp 10-nanometer production in the second half of the year. We are also very pleased with the growth in our [OLED] business for displays and believe our momentum in this segment will continue to expand over the course of the year.

In our other markets we expect to capitalize on selling cross-selling opportunities, and moreover we expect these strong demand trends to continue into 2017. Based on these factors and looking at current business levels, we anticipate combined Company sales in the third quarter may range from $345 million to $385 million and at these volumes our non-GAAP earnings could range from $0.64 to $0.86 per share.

With that I'll turn the call over to Seth to discuss our financial results and expand upon our guidance.

Thank you, Gerry. I will cover the second-quarter financial results that (technical difficulty) operating model that we recently published as well as the positive impact of the principal repayment, successful repricing of our term loan debt. And lastly we will cover our Q3 2013 guidance.

GAAP and non-GAAP results for the second quarter include the combined results of the Newport back position for two months in the quarter and pro forma financial metrics include Newport as if the acquisition occurred at the beginning of the first quarter of 2016.

In early June we published a new combined Company fully synergized operating model which included an investor presentation located in the Investor Relations section of our website. This model demonstrates the potential fully synergize operating leverage from the creation of MKS and Newport. At an illustrative annual revenue level, the model shows a 35% accretion in non-GAAP EPS or $0.81 The model also demonstrates the potential cash flow strength of the combined Company with non-GAAP adjusted EBITDA of approximately $340 million or 66% increase as compared to our MKS standalone operating model.

As Gerry mentioned, integration is going very well. We have already begun to realize cost synergies, which in the third quarter are expected to be approximately $3 million or $12 million on an annualized basis. We are on schedule to realize the $35 million of total cost synergies announced within 18 to 36 months subsequent to the transaction closing.

Turning to Q2, we are very pleased with our strong financial results. Pro forma sales for the quarter were $359 million, an increase of 9% sequentially. On a pro forma basis, approximately 51% of our sales were to semiconductor customers and 49% to customers in the other advanced markets we serve.

The increase in pro forma sales was driven by continued strength in semiconductor markets, which increased 8% sequentially. And pro forma sales in other advanced markets also increased 10% sequentially, driven by positive business trends across a number of those markets.

Now, moving to GAAP and non-GAAP results for the quarter, revenue for the quarter was $326 million and non-GAAP gross margin was 44.8%. Non-GAAP operating expenses and non-GAAP operating margin were $87 million and 18%, respectively. GAAP gross margin was 41%, including the impact of $10.1 million of inventory purchase accounting charges. GAAP operating expenses were $117 million, included $8.9 million of amortization of intangible assets, $20 million in transaction and integration costs and $700,000 in transaction fees associated with successful repricing of our term loan debt.

GAAP net interest expense was $7.9 million and non-GAAP net interest expense was $6.3 million. Our GAAP tax rate was 25.5% and our non-GAAP tax rate was 28%. The GAAP net income was $9.2 million or $0.17 per share, and non-GAAP net earnings were $38.7 million or $0.72 per share.

As already mentioned, in conjunction with the access of Newport, we are now reporting our combined results in two business segments, a vacuum analysis, which generally coincides with historical MKS business, and light and motion, which generally tracks Newport's historical business.

With respect to MKS results on a stand-alone basis, revenue was $207 million, an increase of 13% compared to Q1 revenue of $184 million. Revenue for the quarter was above the high end of our guidance range due to strong demand from our semiconductor customers as well as an increase in sales into the other advanced markets we serve.

Sales to the semiconductor market were $147 million, an increase of 9% compared to the first quarter. And sales to other advanced markets increased by $11 million or 23% from the first quarter and were $60 million.

MKS standalone gross margin was 44%. Non-GAAP operating expenses were $53 million and our non-GAAP operating margin was 18% of sales.

For Newport on a stand-alone basis, assuming a full quarter of results, revenue was $151 million, an increase of 3% sequentially, and both non-GAAP gross margin and non-GAAP operating income were within our expectations compared to a new target operating model. It is worth noting that the revenue for the quarter for Newport was more heavily concentrated to the latter part of the quarter, which also positively impacted the consolidated GAAP and non-GAAP results for the quarter.

Now turning to the balance sheet, we closed the new transaction on April 29 and finance the acquisition with $780 million institutional term loan B and approximately $240 million of cash and investments. The term loan was rated BB by S&P and BA2 by Moody's, and at origination the term loan had an interest rate of LIBOR plus a 400-basis point spread with a 75-basis point LIBOR floor.

As we announced on June 9, we took advantage of favorable market conditions and repriced the term loan to reduce interest expense by 50 basis points.

In addition, immediately prior to this repricing we transferred $50 million from international operations and utilized these proceeds to repay $50 million principal on the term loan. Combined, these two actions resulted in annual interest cost savings of approximately $6 million. The current rate on the term loan is LIBOR plus 350 basis points with a 75-basis-point floor. Our goal -- continue to delever the balance sheet in this $50 million voluntary principal repayment demonstrates the first step in accomplishing this objective.

At the end of the second quarter, we had net cash and investments of $426 million, of which approximately 20% is in the US and the remainder in our international operations.

Capital additions for the quarter were $5 million. Depreciation and amortization expenses were $16.4 million and stock compensation was $10.5 million. Stock compensation in Q2 included $3.3 million of charges for acceleration of stock compensation related to change of control provisions. These stock compensation charges have been excluded from our non-GAAP results that are included in integration costs in the quarter.

We continue to demonstrate a balanced approach to capital deployment. And in the quarter, in addition to the $50 million debt repayment, we paid a cash dividend of $9.1 million or $0.17 per-share and made a strategic investment in a private company, Reno Subsystems, for $9.3 million.

In terms of working capital for comparison purposes, I'll provide the metrics on the form of basis, as if the companies have been combined at the beginning of Q1 2016. Day sales outstanding were 59 days at the end of the second quarter compared to 61 days at the end of the first quarter. Inventory turns were 2.9 times compared to 2.7 times in the first quarter.

Finally, I will discuss our Q3 2016 guidance, which includes a full quarter of Newport results. Based upon current business levels, we estimate that our sales in the third quarter could range from $345 million to $385 million. This expected sales range -- our Q3 non-GAAP goes margin could range from 44.5% to 45.5%, reflecting these volumes in expected product mix.

Q3 non-GAAP operating expenses could range from $98 million to $103 million. In the third quarter, R&D expenses could range from $32 million to $34 million and SG&A expenses could range from $66 million to $69 million. Non-GAAP net interest expense is estimated to be approximately $8 million and our non-GAAP tax rate to be approximately 28%. In the third quarter amortization of intangible assets is expected to be approximately $12.5 million. Inventory-related purchase accounting charges estimated to be approximately $4.5 million, integration costs expected to be approximately $3 million and GAAP net interest expense is estimated to be approximately $9.3 million.

The result of these transaction-related charge in GAAP net income is expected to range from $19.6 million to $32.2 million or $0.36 to $0.60 per share, and non-GAAP net earnings could range from $34.2 million to $46.1 million or $0.04 to $0.86 a share of approximately 54 million shares outstanding.

This concludes our remarks and we will open the call for questions.

(Operator Instructions) Patrick Ho, Stifel Nicolaus.

Thank you very much and congratulations, guys, on a very nice quarter and a good start to the Newport acquisition.

Gerry, looking at the semiconductor business, and I know in general your visibility tends to be pretty short on that front -- however, given some of the sustained strength and commentary by some of your leading customers to date, are you seeing any extended visibility that gives you a little bit more color than you usually get, say into the December quarter as well and what those trends might be?

Yes. Thank you, Patrick. We do have short visibility but we have long conversations with our customers. And I can just tell you that I had a number of analysts and investors meetings at Semicon but I also had a number of customer meetings, and all preparing us for increased business based on their projections.

So all the commentary was positive, people asking us to make sure that we have ample capacity in place, which is never an issue for MKS. And that's just not only US but throughout Asia as well.

We also see in what we read about the increasing need for production of 3D NAND, the fabs that are continuing to be built and populated. Certainly, our position, our strength and power due to our high aspect ratio etching and enabling ALD. We are hearing better things about 10-nanometer.

And so I'd say, from what I've read in conversations I've had with customers, and continuing to see the improvement of the business which we just showed in the results, that we would expect to see continued strength in the business for the foreseeable future. We are excited about [it]. People have been saying, hey, 2017, we've got to get ready for it -- like we are always ready.

Great. Maybe a follow-up question for you, Gerry, also on some of the industrial markets, which was part of the rationale for the Newport acquisition. Given that the industrial market tends to be a lot more fragmented relative to the semiconductor market, where are some of the emerging opportunities you see early on, following the close of the acquisition, where you believe you can potentially grow the topline in some of those industrial markets?

Sure. Well, there is an opportunity, as an example, in the industrial for our coatings. We've seen strength in China, as an example, for our mass flow business for our coating applications. If you want to include -- [especially for] razor blades, whether it's light and health science or industrial. Again, there's another opportunity.

We've talked about [tracks] for production in the aerospace industry. And the Newport opportunity, which is now light and motion, has interesting opportunities for thermal imaging, laser metrology, laser processing, 3D printing. And one of the things that we did, and I mentioned it in the script, is we have actually segmented our sales team now. (inaudible) if you look at analytical instruments in the (technical difficulty) and life science and industrial.

So we now have sales team that are actually focused (technical difficulty) [myopically] on those industries, whereas before we had generalists approaching.

And then if you add in the light and motion, the number of sales people we have on the ground, we see a huge opportunity for cross-selling across those industries in particular, Patrick. And we have grown 8% CAGR for 13 years. And frankly, I think we put more effort strategically into it in the last year or two, which I'm very proud of the fact that that should accelerate the growth further. And it's nice to have such a broad base portfolio that light and motion or Newport have to be able to arm our sales people on the ground with a huge portfolio, as we are doing with the Newport light and motion team.

Great. And final question for maybe Seth, in terms of the model and some of the integration efforts that are undergoing, you guys -- obviously, probably the easiest way to get some of the integration costs we saw in the OpEx side initially. However, your gross margin is probably a little bit better than I thought.

Are you already getting some cost synergies on the COGS line? Or are there still -- or is that still ahead of it, or is you are getting a lot of synergies initially on the OpEx line?

Yes. The $3 million for the quarter, Patrick, the lion's share, the vast majority is in OpEx, not so much at the gross margin line at this point. There is some traction in the COGS area, but the $3 million is mostly in OpEx at this point.

Although we have already had -- one of the things we talked about was reducing the cost of materials and capturing the volume and value of that volume. So we are seeing -- although not triggered yet, we are seeing commitment from the international supply chain already to lower the cost of materials over a period of time. So the action is in place but not necessarily hit the cost of materials yet.

You said it well.

Great. Thanks a lot, guys.

Tom Diffely, D.A. Davidson.

Seth, first to you, you gave us a very nice target model. However, your revenue is already high-end if not above that target model.

Right.

So what kind of increment margins would you expect or how could you guide us to what happens beyond the model?

Yes. Great question, Tom. So you are right; we are actually running north of that model at this point, given the strong growth we had in Q2 and on a pro forma basis in Q3 guidance. So obviously exceeding that model.

Typically, what we see on a combined basis is the variable gross margin of about 50%. And so for every dollar above the model [to see] $0.50 fall down to the gross margin line. And on the operating income line it's probably north of 40%, maybe even 45%. So there's a lot of leverage going forward.

So when we grow the topline, obviously there will be a much more multiplier effect on earnings per share for that dynamic.

Okay, that's very helpful. And the tax rate of 28% -- is that a pretty good long-term tax rate?

Yes. That's the rate we are seeing this year, for sure. It depends on the mix of where the income resides, offshore or in the US.

So for this year 28% is, I think, pretty good rate. And then in our model we have 27% in the model. We think that's achievable more long term. And that really depends, Tom, where some of the mix of income resides. But we think 27% is more of a long-term rate. For this year I think 28% is a pretty good assumption.

Okay. Great. And then you gave the $35 million synergy [bogie] before the deal closed. Now that you have been in there a couple months, do you think that bogie is going to be easier or harder to get to than you initially thought?

I think we feel very comfortable that's quite achievable. So we felt comfortable when we announced the transaction.

Obviously, you are right. We have been working with the team at Newport that's been very, very supportive and helpful and really have helped us drive integration efforts. And I think we feel comfortable with the synergy number we announced. I think that is what is achievable of 18 to 36 months. We feel very good about that.

And we have mentioned many times we always look at continuous improvements on both the Newport side as well as the MKS side. So, we always seek to be efficient and lean as we possibly can. But at this point those synergies feel quite achievable in the timeline we announced.

Okay, that's great. And Gerry, looking at some of the design wins, if you look at ALD, was that also for power? And was that for one or more than one vendor?

That was for three different opportunities that we had, and it was across multiple product lines -- power, primarily. But on ALD there's also opportunity on pressure and pressure control. There's three wins across -- three different wins.

Okay. And it's still early. When you look at the Korean OEM for the etch side, you talked about power. But I assume there's other surrounded chamber opportunities you have?

There is, actually. It's just that we noted that was an interesting win. And I had a lot of Korean meetings in Semicon with customers. I actually had not intended to meet with customers because we had such a full plate with investors and analysts here to talk about Newport.

But they were wanting to talk to me about the commitment they were making to MKS and our commitment to them. And it was across the spectrum, whether it's power supplies or matches or chamber cleaning, a new product, the Paragon.

So we are very excited about the confidence of Korea. Our Korean strategy [years ago] to acquire a company called [Plasma]. Our strategy to become localized has really paid off typically, and we are grateful that our Korean customers are recognizing the technology and the commitment. So it's across the whole [continent] right now.

Okay. And I know you are a pretty valuable partner to a lot of the OEMs to help develop some of this technology. So how do you walk that fine line between working with a customer, then going in and supplying his competitor with a similar product?

It's an interesting -- well, a lot of, number of the people that we are supplying to are not competing with our customers. That's the first thing. They are sub tier suppliers to the fabs that even our larger customers are not.

Secondly, we have a very, very strong veil that we put between the technology we are sharing with our largest customers compared to some of the smaller customers or larger customers at the fabs side. So we are very careful about how we share.

And then more orderly, if they are going to be -- if other customers are going to be creating equipment, they would be using somebody else if they weren't using us. And MKS is only stronger for our largest customers, that we remain the number one subsystem provider for technology in the industry. And so I think making sure we have exclusivity for our large customers, making sure there's a strong veil, not sharing any secrets, being very dedicated to them first and foremost and then making sure, however, that we maintain our position without creating competition, which would make it difficult for our customers to be able to enable the technology.

Okay, that makes sense. And then just a couple questions on the Newport side of the business. What is the seasonality in the lights and motion business? (multiple speakers) Is there normal seasonality?

Not particularly. They have a little bit. They have a fair amount of business with research.

So depending on funding for universities and research labs, maybe get a little bit of waxing and waning. They have a decent amount of business in defense, so it depends on how the defense and government spending goes. Microelectronics is [about], itself, 25% of the business.

So I think it's actually more of a steady state business than the base MKS business would be, which is one of the things that was attractive to us, although I don't -- I personally don't see -- and I may be wrong -- the crazy cycles that MKS used to see in past decades, based on the semi industry. I think a widespread adoption of semiconductors in everyday life, a smaller number of end-users, a smaller number of OEMs, shorter lead times, more rational thinking and more of a consumer-driven industry versus enterprise-driven leads us to be more methodical, predictable and maybe smaller cycles within a quarter.

But it's still attractive to have a company like Newport life and motion that has a steady-state business to it.

So I wouldn't say there's a lot of seasonality. We will get to know it more, understand the business more. And if my view changes, I will certainly make sure to let you guys know that.

And do you view it longer-term as a mid-single digit grower?

Well, they have been a slow-growth company. Our target for other advanced markets outside of Semi is double digits. So if we can get them to high single digits, at a minimum, then I would be really happy about that. And we think there's opportunity for discussion with end-users. There are situations where they could be involved that are not in conflict with their customers and end-users for lasers, as an example, or perhaps something to do with some mining or sensing technology with their OpEx capability.

And one of the things we're also going to do is really, besides looking at synergies and all that, we really are really focused on their growth. And we are going to bring the same strategic planning and execution process to the light and motion group that we have used for MKS to facilitate the type of growth we've seen in these other advanced markets.

We will focus on competition. I think there's an opportunity to take competition out, which I'm a big proponent of, which we have done as a company. We continue to increase our market share in semi. I expect we will do the same for them. So we will be laser-focused, which I hate to use that word, on the growth of the business through the type of techniques that use the last [view] of the Company.

So it's not a financial play. It's great. It helps us. It's accretive. We know we can't improve their profitability. But I am really focused on the growth. Anybody can change someone's profitability. Anybody can do that. We are the type of people that can (technical difficulty) pace of growth, and I'm really focused on that as well.

Okay, great. And then finally, no surprise, semiconductor business was up 8%. But I was a little surprised that the other business was up 10%. Was there a specific sector group inside that there was the big driver?

No. I think it was across the board. If you recall, on our Q1 we had mentioned we get very strong orders as, again, the legacy MKS business. We announced the results three months ago. And the revenue was -- for the time of the orders revenue lagged a little bit in Q1. And so that caught up in the second quarter. So that's why we had a very strong sequential quarterly growth rate. And the order rates also trended up as well.

So that's the major factor for Q2. And again, as Gerry mentioned, there's a lot of activity here within MKS to do systematic driving of additional orders and penetrate new markets and conditions. So, I think some traction is being gained there as well. But primarily it was the MKS side; we had a very good uptick in the revenue in the quarter as the orders flowed in more of a rational level in the quarter.

Okay. Well, thanks for your time.

Thank you. Great questions, by the way.

(Operator Instructions)

Dick Ryan, Dougherty.

I'm not sure if you provided it or if I didn't catch it. But did you give Newport's gross or operating non-GAAP margins in the second quarter?

Yes. I didn't get it specifically, Dick, but it follows the model we published. So 10% operating margin, stand-alone basis before any synergies, and gross margin around the 45% range.

Okay.

But for the model we published, that has a Newport piece that's delineated, we are right on that model before synergy.

And the 33% guidance or $33 million guide for non-GAAP R&D, where are you going to focus that R&D now with the combination?

Well, I think right now in the short term, in the third quarter that's going to run pretty much the way it has been running between the two businesses. It's probably a 50-50 split. So that will be in the short term, just because we don't want to change any R&D projects in the pipeline and we want to really understand where best to allocate the R&D funds.

I think, over time, you will see us be obviously looking to see where we would get the biggest return for the consolidated R&D spend. And so over time, we will definitely migrate to more the high-growth areas. It could be on the Newport side or MKS side or, obviously, both.

But I think in the short term you will see us run pretty much along the same as we have done historically for Q2 and Q1.

And that's why we use the strategic learning process, and that is driven on investments we have made in engineering and technical localization. We don't demographically just spread R&D as it [also] has been historically through our business unit. The R&D will shift each year, every couple of years, depending on high-growth areas we have determined in our strategic markets.

So as an example, a strong emphasis on power or remote chamber cleaning the last few years, which has pay dividends in places like Korea, as an example. And we are going through the process with light and motion Newport right now to look at their strategic growth areas. And at that point, then we will look at how we allocate those R&D dollars for them as well. So it's not just one pot that we get to share in; it's really the pot is weighted towards high-growth areas based on strategic marketing and planning.

Okay. And then, Gerry, the guide for Q3 -- can you dissect what your expectations are for the vacuum and the light side to come up with that $345 million to $385 million range?

Yes, I can take that, Dick. So obviously we guide total Company, but a rough [neg] to a split is Newport should be relatively consistent Q3 versus Q2 on a pro forma basis. So the $150 million-$150 million plus range. And then MKS at just that midpoint, obviously, at about $215 million in revenue, in Q3, midpoint guidance.

Okay. And one last one -- Gerry, you mentioned backend opportunities in OLEDs. Can you quantify what kind of contribution those sectors are providing now and what your expectations are?

Sure, yes. So our -- the base MKS business for backend has been a fast-growing -- modest fast-growing business. It has actually grown 20% year over year. And with the acquisition of Newport, we basically doubled the size of the backend business. And we now have capabilities in customers, in areas like dicing or dice singulation (inaudible) and inspection. We already got one of our first cross-selling opportunities in the [backing] for inspection.

So as you think about it, 3D NAND is a wonderful opportunity. There is progress on and we continue to be the point where you wanted to go into creating subsystems with chips like chip stacking. So we think things like inspection, metrology, advanced packaging will continue to grow and we create technical challenges where a company like MKS with light and motion and backing analysis should be able to benefit from integrated subsystem development.

So it's a fast-growing area for us. It's not necessarily the largest part of our business. But it certainly is a fast-growing area for the Company.

And on display OLED?

Yes. There's the OLED business. We have pretty good strength across all of Asia and as well as in the US. So we have opportunities for our customers in places like China. We continue to see that business grow and have strength. It's a little difficult in some of the places to assign all the revenue directly to OLED because with some of our large customers we ship things to them that are used for chip production of OLED, but it is a growing area. Certainly, in Korea we are involved in cleaning through our liposome system for OLED. We have looked at some really interesting projections through 2020 that OLED will be the technology of choice for smart phones. So we continue to see that as a high-growth area for the Company.

Great, thank you.

And this does conclude our Q&A session. I would now like to turn the call back to Gerry Colella for any concluding remarks.

Thank you. We are excited about the future of the combined new Company and are looking forward to executing on our goal of profitable and sustainable growth. We have the vision, the technology platform, the experienced team and the will to drive MKS to new heights. And I am very excited about the opportunity ahead of us.

Thanks for joining us on the call today and for your continued interest in MKS. We look forward to updating you on our continued progress and we will report our third-quarter results in October. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day.

Thank you.