Nova Ltd (NVMI) 2006 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to be Nova Measuring Instruments third-quarter 2006 results conference call. All participants are at present in a listen-only mode. Following management's formal presentation, instructions will be given for the question and answer session. As a reminder, this conference is being recorded November 6, 2006.

With us on the line today are Mr. Gabi Seligsohn, President and CEO of Nova, and Mr. Dror David, CFO.

I would like to remind everyone that the Safe Harbor language contained in today's price release also contains to all content of this conference call. If you have not received a copy of today's release and would like to do so, please call [Ehud Helft], Investor Relations at 1-866-704-6710 or 972-3-607-4717.

Mr. Seligsohn, would you like to begin?

Yes, thank you very much. Welcome, all, to this Q3 earnings conference call and thank you for joining. This, of course, is an exciting event for me -- my first earnings conference call as CEO. As you know and understand, nine years in the Company, but still an exciting event and quite happy to be here and quite happy to finish the first quarter with the results that we have seen.

As you have seen this morning, we have announced some organizational structure changes. These changes with veterans of the Company primarily, with an addition of a couple of people into the Company -- one in the business side and Dave Kurtz that brings many years of experience in the area of x-ray diffraction. The changes, as demonstrated by the results, have gone quite smoothly and I am very happy to see that the Company continues to build on the traction, as will be discussed in a moment.

We have hit the ground running, I have to say, and as might be usually expected, you might see a decline after a significant management change, but we are actually continuing to grow and I am very pleased with that and that was the expectation.

The new organizational structure split the Company into business units. This will allow us to focus on growth and alignment of roadmap accurately with market needs. All this with better accountability and performance measurements, really, the idea behind the change is to make sure that the products are very much focused towards the financial aspects of the profitability and gaining market share.

We are transitioning and becoming a multi-product Company with diversifying revenue sources. This actually is the heart of the structural change. In order to support this process, we needed to change the way that we are actually structured. So with this kind of transition and already significant signs of a mix of revenue coming from a few sources, we believe we have an interesting plan going forward.

Business results and product mix -- I will talk a little bit about that. The product and service revenues have increased significantly, both sequentially and year over year. Bookings continued to increase for the fourth consecutive quarter, and actually we see a 20% increase quarter over quarter versus Q2. Visibility is also improving, and that is a key aspect for us in order for us to be able to forecast our activity and better utilize our manufacturing facility.

Strong demand for our new products -- the 3090, I'm glad to say, has been widely accepted and is the de-facto market leader of integrated metrology. We already market share away from our competition and we are relying on a combination of the 3090 and also our new state-of-the-art modeling software for optical CD measurement called the MARS. This product was showcased at Semicon earlier this year, and from the activity we have seen in the last several months, seems like a very promising platform.

Technology wins in the past 12 months have solidified orders from fabs as they move in phases of increased capacity. As you know, the cycle is such that [process to a] record decisions are made and then capacity increases follow, and that explains a lot of the improvement in bookings that we have seen.

New products represent a high percent of our revenues. Actually, as Dror will discuss later on, approximately 40% in Q3. Significant investment in the quality and reliability of our products in a focused effort to test and improve reliability during the release process with our OEMs has helped us to meet requirements of high-volume manufacturing, and that is one of the key reasons why the 3090 has been so successful in this time of ramp in the industry.

The memory market, both DRAM and Flash have become key markets for us, and we continue to gain market share away from our competition in that very critical area. We see increased bookings and revenues coming from our stand-alone optical CD products, and actually in the last quarter in Q3 had accounted for up to 10% of our revenues. We believe we now have a very competitive product offering and this is intrinsic and critical to our growth plan going forward.

Service revenues continue to grow, with most revenue coming from multi-year contracts with our customers and this signifies how much they have enjoyed the service team for many years. As you may well imagine, we leveraged that quite successfully for service provision but also for the introduction of our new products, be they the existing products or the acquired products coming from HyperNex. Service continues to be profitable and Dror will speak about that in some more detail as well.

On the gross margin levels, we present at 41%, but actually we are flat with the 43% of last quarter if you take into consideration an inventory write-offs of about $180,000 and also exclude the acquisition costs of HyperNex. The increase in volume of stand-alone optical CD will also be a key factor for growth, as mentioned. Furthermore, the addition of strong software capabilities will contribute both to the revenue and profitability of the Company. Our relationships with our key OEMs are excellent, and we have built partnerships over the years by continuously focusing on offering leading-edged capabilities, reliable products and an actual excellent field support infrastructure that our partners have learned to rely on.

Talk a little bit about HyperNex now. This quarter, as I said, marks the first quarter of our combined new company following the acquisition of HyperNex. Integration has gone quite smoothly, I have to say, and I am very pleased with how much people have gone, how far they have gone, in committing to the success of this integration from Nova and from the HyperNex side. Almost a full quarter of HyperNex costs in our report, and as reflected, they represent about $0.5 million, and the rate actually would be about $0.6 million going forward on a quarter-by-quarter basis.

We expect to see bookings coming early next year from this product, but of course, revenues will be demonstrated a couple of quarters after that. We are able to capitalize on the fact that the product is ready and able to support 300 mm manufacturing, and to us this is the beauty of this specific acquisition. This is a product, a product that has a roadmap for continued development, but that development is evolutionary, and actually we have a good, sellable product with an aggressive roadmap going forward.

Relying on our existing sales and marketing presence to roll out the product is another thing which is critical and a big portion of the plan for success with this acquisition. We are well-positioned in the market, with almost all 20 largest IC manufacturers being Nova customers, that not only have been our customers for quite a while but have also demonstrated repeat orders over the years. We intend to rely on that presence, of course, to leverage the growth of the new platform.

I find that our customers are quite delighted to find more products coming from us. Though it seems that we have the critical mass to bring more to the market and that is exactly what we intend to do.

On the financial side, Dror will give a more detailed dissertation, but a few points to mention here. Operating expenses, as stated, include the HyperNex acquisition costs as well as HyperNex operating expenses. The investment we have made in Asia-Pacific over the last eight months is also in there. Specifically, to talk about that for a moment, we've seen increases in headcount in Asia-Pacific in a few areas -- a few people in the field service organization, a couple of people in the application side and also strengthening of the sales force. As demonstrated by the results of last quarter and this quarter, this has shown a clear growth of revenue as a pattern, and it seems like the team there is quite solid right now and able to take what needs to be taken for further growth.

We do not see a requirement for additional major investment, and the focus really is on cost control and optimization of supply chain, and part of the organizational change is a big focus on the operation itself, with a key player position in that specific role.

Going forward, we expect higher unit volume was higher ASPs from several sources, and as stated, these will come from the HyperNex products from the stand-alone optical CD product, which is quite competitive, and then also from the MARS platform and overall demand for our product, which as stated, is growing as well.

So overall, quite a good quarter. We see a continuous increase in our revenues and also an improvement in the revenue mix, which we believe will continue as a trend. Our goal moving forward is to move into solid profitability, through a combination of higher demand, better ASPs and continued market share gains and strict cost controls.

With that, I'll turn it over to Dror to give a briefing on the financial results.

Thanks, Gabi, and good morning, everyone. Thanks for being with us.

As seen from the results, the major change in this quarter's results relative to the previous quarter is the increase in revenues, and of course the incorporation of HyperNex acquisition as of August 8, 2006.

So, I will start with the acquisition impact and then move to the other issues. On the balance sheet, the main impact of the acquisition was increase of $1.5 million in inventories that were purchased during the acquisition and an increase of $3.2 million in intangible assets. From these intangible assets, $0.9 million is related to goodwill, which will not be amortized over time to the P&L of Nova, and the rest, $2.3 million, represents purchased customer base and technology, which will be amortized to the P&L over an average period of four years, starting on the acquisition date in August.

On the P&L side, the impact of the acquisition was, as Gabi mentioned, $0.5 million operating expenses for actually the last two months of the quarter. These expenses include operating expenses, amortizations of the intangible assets and stock-based compensation expenses related to the acquisition. The acquisition operating expenses for full quarter are expected to be in the range of $0.6 million.

As can be seen from the financial results, the operating expenses of the acquisition are incremental. They do not adversely impact our financial performance while constituting an outside opportunity once revenues come in, due to higher average selling prices and higher gross margins, as Gabi described before.

On the balance sheet, the Company's cash has decreased by $1.8 million and the cash position is $60 million at the end of the quarter. On the revenue side, we're very much pleased that we have continued our revenue growth in the quarter, and total revenues increased to $12.5 million or 9% increase relative to the previous quarter.

Regarding [six and] sales, sales by territories have changed a bit, with U.S. accounting 50% of the sales, Asia-Pacific and Japan for most of the rest of the 50%. We expect this trend to return to the regular 50% to 70% from Asia and Japan in the following quarters.

Sales channels, 90% of the system sales were integrated metrology, 10% was stand-alone for optical CD. We expect optical CD stand-alone sales portion to increase in Q4, as more systems are expected to receive final acceptance at customer sites. Overall in 2006, we expect stand-alone revenues of optical CD to account overall 10% of total system revenues.

300 mm sales accounted for approximately 80% of system sales in the quarter, up from 70% in the previous quarter, and we expect this trend to continue as investment is shifting to 300 mm product line.

Sales from the NovaScan 3090 product series for stand-alone and integrated, as Gabi mentioned, accounted for approximately 40% of our system revenues, similar to the previous quarter, yet we do expect it to increase in the following quarters based on the end-quarter backlog, October bookings, and the general continuing demand for this product series.

Service revenues increased 15% relative to previous quarters, due to higher revenues from contracts and spare parts and accounted for 21% of total revenues.

Gross margins have reduced from 43% in the previous quarter to 41% in the current quarter. The decrease is related mainly to a $180,000 inventory write-off of previous generation's configurations. Excluding this write-off, the gross margin was flat relative to the previous quarter. As we are in a product transition phase, we expect following quarter gross margins to be within the last two quarter range, depending on the mixture of sales.

Operating expenses have increased sequentially by $0.6 million and the increase is mainly related to the acquisition -- additional operating expenses, as described before. The net loss in the quarter was $0.8 million, a sequential increase over $0.4 million in the last quarter. Just as a conclusion, if you were to note that excluding the acquisition costs and the inventory write-off mentioned, the Company would have presented breakeven results in the quarter.

Thank you very much, Dror. With that, we would welcome some questions.

(OPERATOR INSTRUCTIONS). David Fitzgerald.

Great results. Things are getting better and better. I have been recently listening to other companies within the industry talking about signs of weakness, cancellations, push-outs. Have you seen any evidence that this could potentially affect your business in the next six months?

Well, I won't say six months, but I do not see any clear signs -- actually, no signs at this point of any cancellations. If anything, in the past quarter, we have been asked to pull in some of our orders.

I think this very much has to do with the demand that continues to exist in those lines that I talk about, primarily in DRAM and in Flash. So actually the demand is continuing and no cancellations have taken place as of yet.

That's great. You said that HyperNex -- sales from the HyperNex product going forward will probably not be recognized until the middle of next year, bookings will start in the first quarter potentially and then maybe in -- by the end of the second quarter, maybe the beginning of third quarter, you'll be able to recognize some of that. Is that accurate?

That is roughly what we're talking about -- beginning of next year bookings, and actually a couple of quarter's delay in recognizing the revenues, depending on how expeditiously we bring the system into production and finish the acceptance process.

That sounds good. I think I asked this question last time, but could you refresh my memory? What, in your opinion, is the available market for that product? Do you have any figure for that?

Well, you know, this specific area of x-ray, as you probably know, is not covered as of yet. And x-ray is actually fragmented into a few areas. The area that we are occupying, which is called wide-angle XRD, also has cousins in the x-ray area such as XRF and XRR.

So the overall market at this point which I think is not utilized -- and I think that is the key thing that is making this kind of difficult to assess -- is probably around between the $50 million and $70 million. I think it's underutilized as of yet, because the number of production-worthy solutions out there is not significant enough to utilize that market opportunity.

Well, if it's investing for the future, I am glad about that. I have just a couple of housekeeping questions. Did you get any debt on your books this quarter associated with HyperNex? Is there any debt at all?

Nothing significant. Should be around $0.5 million.

Do you ever break out the non-cash items specifically, and how much total depreciation or amortization there was in the quarter?

No, we don't, but I can say that the depreciation of technology and stock-based compensation in general, capital depreciation was approximately $0.4 million.

Is that a reasonable level to model into the future quarters, around $400,000?

Yes.

Okay, great. I guess that's all my questions. Thanks a lot.

(OPERATOR INSTRUCTIONS). Thank you, there are no further questions at this time.

Before I asked Mr. Seligsohn to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available three hours after the call on Nova's web site at www.nova.co.il.

We seem to have another question by David Fitzgerald. I will open him up.

I think you said that there was $180,000 in a onetime inventory write-off included in the cost of sales for products?

Right.

If I take that out, I am still getting a gross margin a couple points below the previous quarter just for product sales -- product costs.

Yes.

Is there some other one-time item I am missing?

There is additional one item, but in general, it is mainly the cost of transition between products, including the impact of moving to clean rooms and manufacturing costs of the new product during the transition period. This is the main issues.

On the other hand, the service margin improved. That was because of spare parts and things like that?

Yes. Yes, and we expect our target for this year would be 15% overall gross margin and service, and for next year it should be around 20%. These are our targets.

What is your target gross model -- margin for products? Do you have one?

Yes. About 52%.

Did you say 52?

Yes.

I will just remind everyone with regard to the replay it will be on the Web site on www.nova.co.il within three hours. Mr. Seligsohn, any closing statement, sir?

No, I just want to thank everyone for attending the call, and we hope to see you in the next call next quarter. Thank you very much.

Thank you. This concludes Nova's third-quarter 2006 results conference call. Thank you for your participation. You may go ahead and disconnect.