Nova Ltd (NVMI) 2017 Q2 法說會逐字稿

Good day, everyone, and welcome to the Nova Measuring Instruments Second Quarter 2017 Results Conference Call.

Today's conference is being recorded.

At this time, I would like to turn the conference over to Miri Segal.

Please go ahead.

Thank you, operator, and good day to everybody.

I would like to welcome all of you to Nova Measuring Instruments Second Quarter 2017 Financial Results Conference Call.

With us on the line today are Mr. Eitan Oppenheim, President and CEO; and Mr. Dror David, CFO.

Before we begin, may I remind our listeners that certain information provided on this call may contain forward-looking statements, and the safe harbor statement outlined in today's earnings release also pertains to this call.

If you have not received the copy of the release, please view it in the Investor Relations of the company's website.

Eitan will begin the call with a business update, followed by Dror with an overview of the financials.

We will then open the call for the question-and-answer session.

I'll now hand over the call to Mr. Eitan Oppenheim, Nova's President and CEO.

Eitan, please go ahead.

Thank you, Miri.

Let me add my welcome to everyone, and thank you all for joining our 2017 second quarter financial results conference call.

I will start the call today by speaking briefly to our June quarter results and performance highlights.

I will then provide guidance for the third quarter of 2017.

Following my commentary, Dror will review the financial results in detail.

Our 2017 second quarter business and financial results set sequential new quarterly record, reflecting robust growth in revenue and profitability that exceeded our quarterly guidance.

During the first half of 2017, we continued to exceed our targets and solidified Nova's competitive position in the market by offering an innovative and unique portfolio of metrology solution to a growing addressable market.

Our ability to differentiate our offering and attract customers in the most advanced technology nodes, increase our available market and create an environment reaching opportunities that will keep supporting our accelerated growth.

The outstanding results we announced today suggest that we are well on pace for another record year, reflecting growth potential of at least 25% in revenues, well above the forecasted industry growth rate and more than double than 2016 year-over-year growth rates.

Our 2017 achievement create for us the visible path to meet our goal of $300 million in revenues as part of our long-term strategic plan.

This aggressive plan is driven by both organic growth in the dimensional and materials product line as well as inorganic M&A activity, which are well supported by our growing cash reserve.

In the second quarter, we kept expanding our outperformance by delivering record high revenues of $56.1 million and record high GAAP and non-GAAP net income.

The strong quarterly profits demonstrates once again the value of our offering and operational efficiency we embedded into our financial model, which allows us to continue investing in our next-generation disruptive solution and pursue long-term targets.

Comparing our achievements in the first half of 2017 with the same period in 2016, we recorded revenue growth of approximately 60%.

The growth was achieved across all product lines, platforms and technologies.

While the fastest-growing segment in this period was optical CD with approximately 80% growth compared to the same period in 2016, our XPS sales grew also significantly towards a new record high in 2017, reflecting the progress we made to transform the XPS VeraFlex platform from in-fab solution with couple of tools per fab to in-line tool in production with growing attach rates in both memory and logic.

These solid results also validate the significant progress we have made in diversifying our customer base across the industry.

This quarter, 5 customers contributed more than 10% of our revenue, 2 of which are VNAND customers.

Our progress to expand our position within the memory space is well noted this quarter with several major achievements, including record revenue contribution from integrated metrology sales to 3D NAND customers.

Our progress is also supported by the quarterly customer mix that yielded a leading memory customer as the largest contributor with 24% of our revenues.

Overall, memory contribution to our revenue this quarter grew sequentially to 30% and was driven by a mix of DRAM and 3D NAND spending.

This memory trend will continue for the rest of the year as well while the leading-edge customers continue to invest with objective of reaching 96 vertical NAND memory curve and above in a reasonable price structure to continue replacing the traditional planar devices.

In DRAM, we see continuous growth as well in the next couple of quarters.

Spending in this segment is driven by favorable market supply-demand sensitivity and technical efforts to keep shrinking DRAM devices to sub-20 nanometer.

In the logic/foundry part, we continued to deliver solution to support multiple customers, which are building their 10 and 7 nanometer nodes.

Our attractive offering and leading position in the segment supported our wide delivery to multiple technology node ranging from 28 nanometer all the way down to 3 nanometer.

As meaningful process control partner in this sector, we are taking an active part in the development programs today with all major customers and research centers to commercialize the next 3 nanometer logic device, replacing FinFET with a vertical or horizontal nanowire.

The continuous growth in the last several quarters is a result of intensive efforts to transform Nova into an innovative and leading process control supplier that deliver a differentiated metrology portfolio appealing to customers across the entire industry.

In the period of 2014 to 2016, we spent over $150 million in disruptive expansion, and today, we are proudly bearing fruit with significant growth and market share gains.

Our offering evolved from a pure optical CD portfolio to a leading-edge elliptic metrology portfolio that offers significant process insights to our customers as they progress to their most advanced technology nodes.

The metrology market is going through rapid change to increase accuracy and reduce [signs of solution], and we are taking a leading position in that by offering the following unique benefits.

First, Nova today is the only metrology company that can provide both dimensional and material measurements for a complete structure analysis.

On top of that, our ability to couple hardware sensitivity with software capabilities in one bundled technical solution stretches the overall metrology envelope to meet the growing challenges and solve more applications.

Additionally, all of Nova's tools today are connected as one fleet in a client-server environment, providing a state-of-the-art infrastructure to handle Big Data of metrology information from several process steps to create a better controlling scheme.

Finally and as part of our recent share gains, our solutions today utilize the most sophisticated machine learning engine on the collected data to support the next generation of virtual and smart hybrid metrology, which can create predictive modes to manage efficiently customers' yields.

This direction is supported by our elevated investment to create disruptive techniques through complementary algorithm software development that exist in other data-loaded industries.

By taking this innovative direction, we have significantly expanded our addressable market, secured new customers and increased our presence with key players in each segment of the industry and in all key geographies.

The customer response to our disruptive elements is encouraging and exceeded our previous expectation with growing demand for all of our dimensional and materials products.

As a result from this solid vote of confidence, Nova plans to continue its elevated investments to aggressively launch multiple new disruptive products in the next 6 to 12 months, which will take each and every product line, including our software offering, to the next level.

Looking ahead and towards 2018, our main drivers for the quarters to come include the continued investment in 3D NAND, DRAM growth, continuous building of 10 and 7 nanometer lines by multiple customers and China contribution.

In all of this, we plan to increase our market share and create new applications that will extend our growth.

In summary, we are very encouraged with the strong first half of 2017 results and are increasingly confident that we will deliver another record year with at least 25% growth in sales, which outperforms the expected overall market growth.

We are achieving this consistent result due to a well-executed business plan with clear strategic initiatives, which are based upon innovative offering, tight partnership with our customers and efficient operational model to support our healthy growth.

With that, I would like to share with you our guidance for the third quarter of 2017.

We expect revenues in the range of $51 million to $56 million; diluted EPS on a GAAP basis in the range of $0.27 to $0.37 per share; and on a non-GAAP basis, diluted EPS in the range of $0.33 to $0.43 per share.

Now let me hand over the call to Dror to review our financial results in detail.

Dror?

Thanks, Eitan.

Good day, everyone.

In my following prepared remarks, I will refer to both GAAP and non-GAAP results.

You could find a detailed reconciliation between GAAP and non-GAAP results per item at the end of the earnings press release.

Total revenues in the second quarter of 2017 were $56.1 million, up 3% sequentially and up 68% year-over-year.

Products revenue distribution in the quarter was approximately 70% from the foundry segment and approximately 30% from the memory segment.

During the quarter, the company had five 10% customers.

Samsung accounted for 24% of product revenues; TSMC accounted for 23% of product revenues; SMIC accounted for 12% of the product revenues; and GLOBALFOUNDRIES and Hynix each accounted for 10% of product revenues.

Blended gross margin in the quarter was 59% on a GAAP basis and 60% on a non-GAAP basis.

The high blended gross margin in the last 2 quarters is attributed to several elements, including operational efficiencies related to high-volume manufacturing and improved product mix, including elevated software revenues.

In terms of the global infrastructure related to manufacturing and services, the company is in the midst of expanding its manufacturing capacity for optical CD in Israel.

The investment amount in this expansion is expected to be approximately $4 million and to conclude by the end of 2017.

This investment should provide the company with more than 20% additional manufacturing capacity in Israel, and combined with the existing manufacturing facility in the U.S., this should enable to support more than $250 million in annual revenues.

Given the depreciation and ongoing costs to operate this expanded facility in future years combined with a competitive market environment, we are currently maintaining our blended gross margin target of 56%.

Operating expenses came in at approximately $18 million on a GAAP basis and $17 million on a non-GAAP basis.

The effective tax rate in the second quarter was 19% on a GAAP basis and 13% on a non-GAAP basis.

GAAP net income in the quarter was $13.3 million or $0.47 per diluted share.

Non-GAAP net income in the quarter was $15.2 million or $0.53 per diluted share, up 6% quarter-over-quarter and up 212% year-over-year on a per share basis.

During the second quarter of the year, the company generated positive cash flow of approximately $20 million from operating activities.

Before concluding my prepared remarks, I would like to give more details regarding the company's outlook for the third quarter of 2017.

As Eitan mentioned, revenues in the third quarter of 2017 are expected to be between $51 million and $56 million.

At the midpoint of this revenue range, we expect the following: blended gross margin is expected to be approximately 58%; operating expenses on a GAAP basis are expected to be approximately $19 million; operating expenses on a non-GAAP basis are expected to be approximately $17.7 million.

These expected amounts reflect approximately $1 million increase in operating expenses relative to the second quarter.

Most of this expected increase will be in R&D expenses as the company accelerates development programs toward introduction of new products.

Effective tax rate is expected to be approximately 25% on a GAAP basis and approximately 20% on a non-GAAP basis.

With that, I will move the call back to Eitan.

Thank you, Dror.

With that, we will be pleased to take your questions.

Operator?

(Operator Instructions) And your first question will come from Patrick Ho with Stifel.

This is actually Brian Chin on for Patrick.

First question.

I think you referenced strong quarter.

Congratulations.

I think you've referenced that in 2017 you might have at least 25% growth.

And so it looks like there's an upward bias to that.

But I think it still suggests you could see little bit of a sequential decline in Q4.

Can you maybe outline some of the puts and takes you're seeing in Q3 and Q4 in terms of market environment?

Yeah.

So Brian, thanks for joining.

I'll try to answer that by looking on the drivers for the third quarter and the fourth quarter, our growth.

I think that if you're looking right now on Nova's drivers in these couple of quarters, we're talking -- the first thing that we're talking about, of course, is the continuous spending by the leading memory providers.

I think that if you're looking right now on the leading provider, he will keep on spending both in logic as well as in DRAM and the vertical NAND.

And I think that the other memory customer will continue spending in vertical NAND in the next couple of quarters as well.

The second one is DRAM.

When we look on the market, we see that the favorable sensitivity right now for price from demand and supply perspective is such that we start to see an overdemand, and definitely, we start to see investment in the DRAM customers in expanding the DRAM capacity.

It started with conversion, and now it's moved into a real capacity.

The third element is the logic provider.

So while we definitely will see some pause in TSMC spending in the next couple of months, we definitely see the other logic providers starting to invest heavily in pilot lines and production lines in 10 and 7 nanometer.

We're also starting to see that customers that didn't spend in this area for years or more started to invest more.

It's definitely a growth area for us.

And the fourth element is China.

China is becoming a big story for Nova in the last couple of years, and we think it will continue in the next 2 quarters as well as at least in the same level in 2018.

So this is why we think that overall looking on those 4 elements, we will continue having good and solid results in the next 2 quarters.

We don't guide beyond the third quarter, but definitely if you're looking on the yearly growth rate, it's significant growth relative to 2016.

Okay, great.

I appreciate the color.

And not to get too specific but -- and certainly, clearly, but looking ahead to 2018, I think you said China could kind of be constant spending relative to what you're seeing in 2017.

But in terms of your specific business, where are the 1 to 2 areas maybe you can point us towards where you maybe have the highest confidence of driving continued momentum in growth in 2018?

So when I talked in my prepared remarks, I talked about several elements.

First, I think that the inroads that we made into the memory segments with definitely the progress that we had with Samsung and the other memory customers that brought us to diversification of 30%, and I hope it will materialize and grow.

So this is definitely one of the driver in the growth end.

Secondly, I think that today more than ever the integrated metrology is starting to become a tool of records in some of the customer that we didn't have market share, and it's definitely evident by the record that we see in the integrated part.

Additionally to that, we start to see that the XPS, as I said, move from a in-fab measurement tool that you had couple of them in the fab to actually an in-line attach rate tool would significantly increase the revenue.

I think that the stand-alone itself, if we're looking right now as a latecomer, will achieve a growth in the next couple of quarters as well.

And I think that the last one that is coupling everything together and combine into one unique solution, I think that our ability right now to take engine from other industry or machine learning and Big Data and effectively install it as part of the metrology to control better the process nodes is something that definitely increase the intention of our customers to increase Nova's market share.

So I think that, Brian, overall, those are the triggers for 2018.

We definitely look on 2018 as a growth year.

So maybe customer mix will be different, but definitely it is a growth year.

Great.

Just one last one from me, just to quickly follow up on the XPS dynamics.

Are you seeing the move to more in-line attach rate happening both at foundry and memory NAND right now?

Correct.

So you know that one of the core competency of Nova is move tools from lab environment into a production environment.

This is what we did with the optical CD and part of the elements.

And when we acquired ReVera, we took it as -- in the first initial steps when they moved from the lab to -- into the fab, and we took it in the last 2 years an extra mile and actually put it in production.

So today, the XPS tool is being deployed in several application, actually on the same mechanism as the OCD.

So it's not any more 1 or 2 per fab.

It's actually part of the customizing spare capacity.

So definitely, this is why I said in my prepared remarks that we are going to have a record revenue from XPS this year after the acquisition.

From Needham & Company, we'll hear from Edwin Mok.

First, actually let me just give some question to Dror since Eitan is talking for a while.

So Dror, what happened to service gross margin?

How come it declined this quarter?

And can you tell us what's your -- what's the percentage of sales coming from software this quarter?

And what do you expect in the second half of the year?

Yes.

So the decline in the current quarter in the blended gross margin was attributed mainly to services.

This was 1% decline because we increased actually the expenses and investments in the infrastructure of the service organization in the second quarter.

We do expect that to improve in the second half.

So that's one thing.

In terms of the software element, as we discussed in the conference call in the first quarter, in the second quarter, we did see some reduction in software revenues, and we expect another slight reduction towards the second half of the year.

And this is part of the elements that has impact on our guidance, which is lower in terms of gross margins in the third quarter.

And you're still pretty healthy even with lower software you still expect, what, 58%, right so.

All right.

Okay, great.

That's helpful.

And then -- yes.

Sorry, go ahead.

Okay.

So my next question is actually on 3D NAND.

Eitan, you mentioned that some of the customers looking to thicker layer 3D NAND, right?

To the extent customer convert 3D NAND line from, I don't know, let's say, 64 to 96 layer, right, how does that benefit your business?

Or is there a way to kind of think about that conversion versus greenfield installation in terms of how much revenue you can generate from those 3D NAND customers?

Yes.

So as I said, we look in 2 levels.

One level is the integrated metrology.

So you can see from the result that actually the integrated metrology is becoming a huge contributor in the 3D NAND space, and definitely it's coming from 2 areas.

You have an increasing investment in CMP and also increasing investment in etch.

And integrated is part of integrated metrology on CMP and etch.

We're benefiting from that clearly because specifically in vertical NAND when you add layers, you want to have more control in wafer-to-wafer than lot-to-lot if it's done in stand-alone.

So we see both increase in the attach rate, both increase in the CMP process and the etch process tools itself as well as move of some applications from stand-alone to integrated.

So there's definitely a growing market.

Secondly, the only environment, as I said, of trying to take Big Data of metrology measurement on a fleet of tools and try to predict and learn the patterns of the process in order to improve on the process tool itself is something that we pioneered, and the memory customer that has issues of controlling process along the time are enjoying the benefits.

And that's the second.

The third one in regard to stand-alone.

So of course, there's conversion from phase-to-phase.

Definitely also there's the attach rates in the latest phase, the Phase 3, and moving into other layers, the attach rate will increase.

We are the smallest player in the stand-alone, and we're increasing our market share.

So it's difficult for me to say how the conversion is done on the installed base.

But entering into the stand-alone market in the VNAND, we definitely see that increasing from a phase-to-phase, it's around 20% growth in attach rates.

Great.

Actually, that's very, very helpful on that end.

I guess going back to Brian's question around China, I think you expect -- you said that you expect to be robust in 2018.

How do you kind of think about -- what are you seeing in terms of the customer, especially the kind of local Chinese customer?

Where they are in terms of the investment plan cycle?

We've heard from some of the -- your competitors or peers that talk about they start to get orders from those.

Is that just Chinese local chip makers?

Have you started to see that, and do you expect that to become more meaningful as you go into 2018?

Yes.

So I'll start by discarding our situation in China and I'll talk on the overall investment.

I think that looking on the (inaudible) comments referring only to YMTC is the major contributor in China.

It's definitely not the biggest thing happening in China.

So when I'm looking right now on the groups of investment in China and we see it continue in 2017 and '18 as well, we need to talk about growth of spending.

The first one is the Korean customer.

So we see that both Samsung by their plan in Xi'an fab to increase within another 100k wafer start capacity, and also Hynix in Wuxi, we definitely see plans in that direction.

Then we have the Taiwanese group.

So we definitely saw in 2016, '17, investment by UMC in Xiamen, and definitely we'll see the move of TSMC into Nanjing this year, which in my mind will have some capacity improvement and some spending in that beyond just conversion and transfer of line.

And then we have the foreign fabs that are investing as well.

We have Intel with the second shell being built in the second phase of memory capacity coming in Dalian.

And the last one is the local investment.

So the local investment we have the Shanghai area, where we have SMIC and Huali, which continue moderately spending, and we see both of them spending also in the third quarter and the fourth quarter.

And the third one is what everybody is excited with is the 2 recent news, which one of them is YMTC, which is a government-owned fab or majority of the government, which they declared for the next couple of years to build a mega fab of 300k capacity for memory, which is unique in China.

But I'm cautious about when this investment will take place because it's hard enough to expand the memory line, now we're talking about doing everything from scratch, and I think that they took several tools only for note of pilot line and development lines.

And the last recent news that it was also announced that GLOBALFOUNDRIES is going to add another mega fab in China, which is a significant investment.

Now looking right now on a Nova's position, we are in China for couple of years with existing organization, and we are established BKM in all of those establishments and expansion that I just briefed about.

Great.

Actually last question I have on the foundry side.

I think in your prepared remarks you were talking about starting to work on 3 nanometer nanowire.

Maybe not going so far down to 3 nanometer, but at 5 nanometer, where are those foundry customers right now in terms of 5 nanometer development?

And how do you guys think to position 5 nanometer versus, let's say, 10, 7?

Well, I think that's looking on all those foundry logic players, all of them are contemplating in establishing a pilot line or development line in 5 nanometer, and this is going to be shrinking the FinFET.

So the big question in the 5 nanometer is how the overall fabrication scheme will look like because of the UV.

But definitely this is achievable.

We measure today 5 nanometer on a FinFET structure, which has a lot of benefit.

I think the big move right now will happen on the 5 to 3 because from performance perspective you'll need to change or modify the structure in order to increase performance.

And today, we are part of the development in several places that actually have nanowires in place with new materials because materials is becoming noncontrollable issue as well.

So we have invested in those programs to be part of those, either horizontal or vertical nanowires, which is a totally new structure and a totally new materials for the next-generation logic devices.

Next from The Benchmark Company, Mark Miller.

Just wondering the Pyeongtaek plant at Samsung is just starting power production and give us some feeling for the opportunities there in terms of how they roll out over the next year.

So what percent of the equipment have they bought that it's going to go into the plant?

What percent is coming and what's the time frame?

So when we're talking about Samsung, we look right now on 3 investments.

The condensed one that all of us saw right now in the results is the VNAND investment in the next phases of the 3D NAND devices.

And there are 2 investments in place.

One is in Pyeongtaek fab and the other one is in Xi'an in China.

It was declared by Samsung.

And the majority of the delivery that we had into the memory in Samsung was to the Pyeongtaek fab in Korea.

As long as -- sorry, addition to that, we had some capacity moving also to the existing lines that are developed to do the next phase VNAND.

So this is the majority of the investment currently.

The second one is the logic.

Samsung is investing both in 10 nanometer as well as in 7 nanometer, both in existing lines as well as new lines.

Korea and the U.S., S3 in Austin, and we are having equipment sold and delivered there as well.

And the last spending that we started to see (inaudible) in the last couple of quarters and it's growing, it's the DRAM investment that started with conversion and will continue with some expansion.

I hope, Mark, this is sounding a bit like about Samsung.

What about TSMC?

I mean, traditionally, they have had some seasonality in their ordering pattern, usually at the end of the year or early in the first part of next year.

Do your think that continues?

So looking on TSMC's spending this year, we had a different cycle from what we used to in the previous year.

So we -- 2017 was weighted more to H1 versus the second half.

We're definitely seeing in TSMC, and I think that's something that they discuss by themselves, that 70% of their CapEx would be invested in the first half and 30% will be invested in the second half.

We see some capacity in the third quarter.

But I think that TSMC spending in the second half will decline.

Looking on Q4 and next year, TSMC declared by themselves and we see the magnitude of spending and the magnitude of customers that are waiting to the 7 nanometer, I think that next year spending will be at least the same as this year.

The big question that we still have and its visibility -- from the visibility perspective is how 2018 will be balanced.

Will it be balanced towards H1 or H2?

Looking right now on the challenges and the things happening in the 7 nanometer and the 10 nanometer, I think we'll see another increase in the first quarter, which will continue to increase towards the end of the year in 2018.

Okay.

You then speak to on prior calls you talked about interest in acquisitions.

Anything new there in terms of your thinking?

So when we look on the acquisition, we're looking on 2 main areas that we would like to invest in.

One is technology direction.

I think that in process control today where it goes with the investments in the software algorithms and some [strategic] schemes, there are interesting technology investments that we can make.

And the second one is, we're looking on other companies that can leverage our position and technology and extend our markets in companies like ReVera size or even bigger.

So we are definitely heavily -- all of us heavily invested in making it happen.

As part of our plan, we declared publicly that we want to grow also by M&A.

So now that we know that the organic part is increasing well, we're investing in doing the other parts as well.

Looking on our results in 2017, we definitely have more resources to make it happen.

(Operator Instructions) Next we'll go to David Wu with Indaba Global Research.

I got -- since many questions have been asked, I have one, which is the -- if you look at your memory customers, they have been spending with everybody at a very rapid pace in the first half of this year.

Do you see that this pace of spending will continue into the second half?

Or do you expect a drop off towards the end of the year?

The 2 major customers that we are exposed to are obviously Samsung and Hynix, and these 2 customers are expected to continue to invest in the second half of the year, at least at the same pace, even higher.

And we did see that our penetration into Samsung was very strong in the first half of the year.

So this should have positive impact on our results in the second half.

Obviously, we are also exposed to Micron, Toshiba and Intel.

And in general, these customers in terms of memory and except Intel, which is also expected to increase investments in China as I mentioned, the other 2 are expected to be at the same levels.

Approximately, what percent of revenue in Q2 came out of China, either multinational or local?

I would assume it's around 20%.

Oh, I see.

Still about 20%.

Last question I have is really if you look at GLOBALFOUNDRIES, they have been absent for a while.

I guess, they entered the ramp of 7 nanometer for calendar '18 volume production.

And I was wondering besides them I see UMC stepping in starting production on 14 nanometers.

Would those be incremental demand for you late this year into the first half of calendar '18?

So David, there are 2 levels of spending in the (inaudible) in advanced node.

So you have UMC and SMIC that probably will go into the 16 and 14, which probably will happen in 2018 as well.

And you have the second group, which is TSMC, Samsung and GLOBALFOUNDRIES and, of course, Intel that will continue investing in 7 nanometer.

We believe that the move from 10 to 7 is actually bigger or more significant than the move from 20 to 16.

So if you're looking right now on the 7 nanometer, all of us believe it's a huge investment.

Customers are waiting.

There are multiple customers that are waiting for this device.

It's supposed to be a long and big device with a longer time in the market.

I see.

And then the bulk of that will happen in calendar '18, right?

Correct.

(Operator Instructions) And seeing no other questions at this time, I would like to turn the conference back over to Eitan Offerman, President and CEO.

Thank you, operator, and thank you all for joining our call today.

By that, we conclude our quarterly earning conference call.

Have a nice day.

Ladies and gentlemen, that does conclude today's presentation.

We do thank everyone for your presentation.