PDF Solutions Inc (PDFS) 2006 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the PDF Solutions, Inc. conference call to discuss its fiscal results for the first quarter ended Friday, March 31st, 2006.

At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session for which instructions will be given at that time. If you need assistance during the conference press star, then zero, on your touch-tone telephone. As a reminder, this conference is being recorded.

If you have not yet received a copy of the corresponding press releases they have been posted to PDF’s web site at www.pdf.com.

Some of the statements that will be made in the course of this conference are forward-looking, including statements regarding PDF’s future fiscal results and performance, growth rate, and demand for its solutions. PDF’s actual results could differ materially. You should refer to the section entitled ‘Risk Factors,’ on page 10 through 18 of PDF’s Annual Report on Form 10-K for the fiscal year ended December 31st, 2005 and similar disclosures subsequent SEC filings.

The forward-looking statements and risks stated in this conference call are based on information available to PDF today. PDF assumes no obligation to update them.

Now, I’d like to introduce John Kibarian, PDF’s President and Chief Executive Officer, and Keith Jones, PDF’s Chief Financial Officer.

Thank you, and welcome, everyone.

For the first quarter of 2006 PDF Solutions is reporting total revenue of $19.9 million and non-GAAP net profit of $0.12 per share. Gain share was a record $5 million. Earnings and gain share were at or above the ranges we provided. Revenue, while also a record high, is $600,000 below the range we’ve previously provided.

Steve will talk more about the financial details behind these results and discuss our guidance going forward in a few minutes.

Regarding the shortfall in total revenue, of the several new IYR engagements that we expected to close by the end of the first quarter, only one closed while others have not yet been executed. As a result, the revenue for those others is pushed out until they are executed.

While the industry need for our technology offering continues to be strong we attribute the difficulties of meeting our target numbers of new engagements in Q1 to a lack of effectiveness in driving these discussions to conclusion and contract.

As I will discuss in more detail in a few moments, we have a strategy in place that we believe will improve our execution on new engagements. We have revised our Q2 guidance and set Q3 guidance to reflect the updated sales outlook. While we are disappointed in the timing of closing these engagements, we remain confident about their outcome.

Looking at the business results in the first quarter, we had many notable accomplishments. First, we booked integrated [yield rep] engagement for the most advanced process notes in the industry, 45 nanometer and 32 nanometer. This is our first contract including 32 nanometer. We consider this a significant milestone in establishing our leadership at that node. The contract includes fixed fees spanning multiple years and gain share that will cover production well into the next decade. It is the largest fixed fee component in the history of PDF Solutions.

We executed two extensions with existing customers for 90-nanometer engagements. We realized gain share, the largest gain share revenue in the history of our Company, reaping the benefits of our 90-nanometer ramp begun in 2003 and 2004.

And, finally, we laid the groundwork to open an office in Shanghai. The initial purpose of this office will be a center of excellence for analysis of CV data. By centralizing our engineering services that can be standardized our clients will receive better results.

As I consider the accomplishments from the quarter, they reaffirm a continued positive future for PDF Solutions. Technology and manufacturing leaders continue to see our solution as critical for their leading edge production and process ramps. The benefits of their investments extend into the long run as our solutions are being validated on process technologies that will reach maturity well into the future.

Our record gain share performance proves that our solution and technologies are working. Our gain share revenue is a result of our clients’ success in applying our technology to their most leading edge products and process ramps. As a Company committed to the success of our clients we are particularly proud of the results our clients are achieving.

As we look at the client base, we continue to see semiconductor IBMs and fabs teaming up, and a concentration of wafer volumes at these alliances. We’ve structured ourselves to leverage this trend by having a strong account team focus. While this did not result in immediate impact in are closing new engagements in Q1, the impact of the strategy will be increasingly visible. In Q2 we will continue building on our account team focus. This will result in closing engagements and driving exceptional results with our leading clients.

Now, I will turn the call over to Keith, who will discuss in detail our financial results for the first quarter and our guidance going forward. Keith.

Thank you, John. And good afternoon to everyone.

First, let me again state that this presentation and our press releases issued earlier today makes references certain non-GAAP financial measures. The press release contains a reconciliation of such measures to the most directly comparable GAAP measures, and you may access the press releases and references in the Investor section of our web site, located at www.pdf.com.

Revenue for the first quarter ending March 31st, 2006 totaled $19.9 million, another record for PDF in our 13th quarter of sequential revenue growth. This represents an increase in our revenue of 10 percent and 4 percent compared to the first quarter of last year, and last quarter, respectively.

However, these results were below the guidance we provided in January. The increases from the first quarter of last year and last quarter were due to increases in gain share, which more than offset a decline in design-to-silicon-yield solutions revenue.

Our Q1 results are a mix of good news and bad news. We are very pleased to report record gain share revenue for the quarter, which we believe is indicative of PDF’s core business. We are disappointed that slower bookings for the new IYR engagement was a decline in design silicon yield solutions revenue. To reiterate John’s comments, we believe our strategic account team focus is the right focus to address this issue that position us well for future business.

Design silicon yield solution revenue totaled $14.8 million for the fourth quarter, a 7 and 2 percent decrease from the comparable periods last year and last quarter, respectively.

Software license revenue declined 24 percent from the comparable period last year, but increased $1.5 million or 129 percent from last quarter.

The integrated solutions revenue declined slightly, 3 percent from the first quarter of 2005, but declined $1. million or 13 percent from last quarter. This quarter 13 integrated solution engagements from 8 customers each contributed approximately $150,000 or greater in revenue, which is a decrease of 3 engagements and 4 customers from last quarter, as certain customer contracts concluded and new engagements were delayed beyond Q1.

We did kick-off one new integrated yield ramp engagement for 45 nanometer and below process technology with an existing customer, which covers services to be delivered through 2009 and extending two existing engagements at 90 nanometers.

Absolute dollar bookings in Q1 were at record levels, however, given the number of gains that were delayed across multiple customers overall revenue for the next couple of quarters will be lower than we had expected, on our conference call in January.

Gain share revenue for the first quarter totaled a record $5 million, a 140 percent increase versus the comparable period last year, and a 31 percent increase from last quarter, and was above the upper end of the range we previously provided.

Gain share revenue was generated from 9 customers and 10 engagements, up 1 during the quarter. We stress, again, that we believe gain share is a meaningful reflection of the value our customers receive when they acquire technology and solutions. That is why it pleases us to report continued growth in gain share.

Before speaking to gross margins and operating expenses, I’d like to remind everyone that effective January 1st, 2006 we implemented SFAS 123R, the accounting pronouncement which requires companies to expense the fair value of options granted under their plan. Therefore, all comparisons of gross margin operating expenses will exclude related stock based compensation.

Gross margin for the first quarter excluding amortization of core technology and stock compensation was 71 percent of total revenue, an increase from 67 percent and 66 percent during the first quarter of last year and last quarter, respectively. Both increases reflect the leverage in our financial model, with higher margin gain share and software license revenue contributed 38 percent of total revenue.

Total operating expenses excluding amortization of stock based compensation and acquired intangible assets were $9.7 million for the quarter, up approximately $415,000 or 4 percent from the first quarter of 2005, while increasing only $59,000 or less than 1 percent from last quarter. A slight increase from Q4 of last year was indicative of the watchful eye we continued to keep over our expense level.

Research and development expenses, excluding stock compensation, totaled $5.6 million for the first quarter, an increase of approximately $302,000 or 6 percent from the first quarter of 2005. R&D expenses were flat from the last quarter. The increase from the comparable period last year was a primary result of increased personal related costs, partially offset by reduced subcontractor costs.

Selling, general and administrative expenses excluding stock compensation were $4 million during the first quarter of 2006, up approximately $113,000 or 3 percent from the first quarter of 2005. This increase was primarily due to increase in personnel related costs and in county and tax services, only partially offset by decreases in outside sales commission.

SG&A expenses compared to the fourth quarter of 2005 increased $62,000, or less than 1 percent.

Reiterating the statement made in our press release, in addition to using GAAP results in evaluating PDF’s business, Management also believes it is useful to measure its results using a non-GAAP measure of net income which excludes amortization of stock based compensation, including the affects of SFAS 123R and acquired intangible assets.

Non-GAAP net income for the first quarter ending March 31st, 2006 totaled approximately $3.3 million or $0.12 per share, within the range provided in January despite the shortfall in revenue, primarily due to our mix in revenue elements and tight control over expenses. This compares with non-GAAP net income of approximately $2.7 million or $0.10 pre share for the comparable period last year, and non-GAAP net income of $3.9 million or $0.14 per share during the fourth quarter of 2005, a period that included a tax benefit that contributed an additional $0.02 per share.

During our first quarter of 2006 our non-GAAP effective tax rate was 35 percent, 5 percent higher than expected due to the Federal Government’s delay in approving the 2006 R&D tax credit. For the full year we forecasted non-GAAP effective tax rate of approximately 25 percent, as additional tax credits will benefit us in later quarters.

On a GAAP basis including amortization of stock based compensation and acquired intangible assets, I’m pleased to report net income for the seventh sequential quarter of approximately $268,000 or $0.01 per share. This net income included $2.2 million of stock compensation expense related to our adoption of SFAS 123R.

Turning to the balance sheet, at March 31st, total cash increased to $65 million, an increase of approximately $4.6 million during the quarter. Operating activities generated positive cash flow of positive $3.1 million, while employee stock option exercises contributed $2.4 million.

Capital expenditures totaled approximately $877,000 partially offsetting the cash generated from operating and financing activities. Our accounts receivable decreased approximately $503,000 to $21.6 million, while our aging of receivables remained healthy.

Turning to our guidance, I will state again that some of our statements made in the course of this conference call, including the ones that we are about to make with regard to Q2 and Q3 2006, are forward-looking. These statements include expectations about our future financial results and performance growth rate, the success of any business objectives, product and service features and introductions, [point] products and demand for PDF provided design-to-silicon-yield solutions.

PDF’s actual results could differ materially. You should refer to our current SEC filings and understand that forward-looking statements made during this conference call are based upon information available to PDF today. We assume no obligation to update them.

Now, for the second quarter of 2006. We reiterate the guidance we provided in our outlook press releases earlier today. Revenue is expected in the range of $18.2 to $19.2 million, a decrease of approximately $3.6 million from the range provided in January, primarily the result of the aforementioned delay in the booking we expect in the IYR engagement.

Gains during the second quarter is expected in the range of 5.1 to 5.6 million and non-GAAP EPS is expected to be in the range of $0.10 to $0.12, down $0.03 from the guidance provided in January. Gains guidance for the third quarter of 2006 that was also provided earlier today in our outlook press release. Revenues projected in the range of $10.2 to $21.2 million, with non-GAAP EPS expected to be in the range of $0.12 to $0.14 per share.

We realize the guidance for Q2 and Q3 is lower than you may have expected given our recent financial performance and expectations stated in January. However, with gain share sending a very positive signals with regards to our customers’ success and in applying our technology and our continued success at controlling costs we believe we will remain increasingly profitable on a non-GAAP basis and will generate cash at projected short-term revenue levels.

With that, I’d like to turn the call back over to the operator to open the floor for questions.

[CALLER INSTRUCTIONS.]

Your first question comes from Dennis Wassung with Canaccord Adam.

Thank you. A few questions. First, John, if you could talk a little bit about the new engagement you signed in the quarter? It sounds like it’s a combination of 45 and 32-nanometer engagement here with a long-term fixed fee structure.

And you also mentioned an existing customer, and I think you made a comment around extending two 90-nanometer engagements with this customer. Was that all accurate? And can you give us any other info on this? The geography, what type of customer, perhaps?

Yes, so, the 45 and 32-nanometer contract is with an existing customer in Japan, and it doesn’t go off the gain share, it will go out into the next decade.

The two extensions on 90 nanometer were not with that customer, with other customers, one in Japan and one in the U.S., I believe.

The combination of 45 and 32 is really a reflection of, I think, as you’re getting down to those nodes the definitions of each node is becoming, I think, a little bit more blurred, so some of the high performance features in 45 show-up in the low power or the low cost versions of 32.

And we’re seeing, I think you’re going to see kind of a blend of 45 and very product specific versions of 32 nanometer because of the power considerations that people are starting to bump-up into. That’s a collection of those two nodes.

Okay, that sounds cool. And in terms of extending these two 90-nanometer engagements, just separate from that new engagement you signed, what does that mean ‘extend,’ is that just extending the gain share period or is that additional fixed fee business, as well?

Yes, that’s an extension of the fixed fee period for both of those engagements.

And your next question comes from [Stewart Mueder] with RBC Capital.

Yes, good afternoon. Thanks for taking my question. Actually, I have a couple.

I guess, first for John, the strategic changes you talk about in terms of your account, structuring your ability to close these engagements, at what point do you think the changes are going to be complete? And could you talk a little bit about the changes that you’re making? Will there be changes in personnel, for example?

Yes, thanks, Stewart. So, as we got into the middle of last year and actually the fall of last year we recognized that more and more of the customers were partnering across geographies, and we were struggling with basically both the separate sales team and a client delivery team, and those teams really being separated by geographies.

And when we looked at it it didn’t line-up well with our customers and clients, and we felt it was actually having an impact on our ability to close the business because many of them, of the contracts ended up having things that run across multiple customers.

So, we restructured, starting in Q1, combining the sales and service function and having a account general managers who we both at service and the sales function. And we set those up around the alliances, so we have folks that are focusing on our customers that each have a piece of the alliance. Both, you know, outside of Japan, as well as inside Japan there are alliances, where things started taking hold in Q4, you probably noticed NECs joint development with Toshiba, as well. Partnering with Toshiba and Sony.

So, we started setting that up primarily in Q1 and expected that to have, I think, an impact. That did re-define a number of people’s jobs. We’ve also hired a number of people for that, a contract manager in Europe, a new executive in Japan, et cetera, to basically align our management structure around that operating plan.

And I think we expected to see benefits from that in Q1, and I think materially in terms of the rate at which we sign contracts it did not make the change, the speed that we expected. However, we do see at the kind of detail level the results that we expect to see. And we do expect as we see in Q2 and Q3, basically, that function or that operation working more effectively.

So do you expect the design-to-silicon-yield to begin to grow again in Q3?

That is correct.

And would you expect gain share to continue to grow through the quarter of the year?

We will always have up and down quarters, but over the year on average we expect it to grow.

Okay. And if I could state one more question, please? 65-nanometer engagements, do you see anything fundamentally going on with 65 nanometers? Do you see a kind of cautiousness out there with customers? Is that contributing to it?

And perhaps with the real tightness we’re seeing in some of the foundries at some of the trailing edge capacities, do you think that could help spill some new business over into maybe .13, getting people out of .18 or .15, maybe in the second half of this year?

Yes, as far as the 65 nanometer, we do see a concentration in volumes of 65 nanometer. We have, you know, as we’ve gone through and looked at our account, we have a couple of accounts that disproportionately when we look on a projected wafer fee basis, will contribute more of the expected wafer fees than many of the others just because of the volumes that they represent. And we see some of our customers and some of you in our IBM customers shifting some of the volume, some of this 65-nanometer volume to those customers. So, we do see some concentration going on in the volumes at 65 nanometer.

As far as your comments around the 180 and quarter micron capacity limitations and the impact that may have at 130 or 150, you know, in Q4 we did try to contract at 130, which was actually an image sensor contract.

We do see still activity at 130 nanometer, as well as at 90. The 130-nanometer activity now that we see in terms of interest in customers primarily centers around derivative technologies, like image sensor display drivers, which were migrated to those nodes and represent substantial volume.

There is some interest in standard logic at 130-nanometer, as well, but we don’t think that represents the volume opportunity that image sensors and drivers do at this time.

All right. That’s helpful. Thank you.

Your next question comes from Tim Fox with Deutsche Bank.

Thank you. Good afternoon.

John, if I could just follow-up on the previous question around the change in the strategy? Can you talk a little bit about what was the strategy before from an engagement perspective and what exactly are the changes that you’re making affecting going forward?

Sure, Tim, I’ll say it again. So, we’ve – primarily in the past we were set-up around geographies, and within each geography we had a separate sales function, as well as a separate client and service delivery function.

And as we’ve started in the latter part of 2005 and actually the beginning of 2006 we found more and more contracts that basically span multiple geographies, and really once we found the contracts we found the effectiveness in terms of our ability to drive to the results of the customer was very much a function of keeping our teams consistent with what the customers’ business objectives were.

So, we started seeing good reason to reorganize ourselves around alliances and around key accounts and key account focuses. Most of that means that some of that spans across multiple geographies.

So, in the past where we’d have someone responsible for sales in southeast Asia and someone responsible for delivery in southeast Asia, and someone else responsible for sales and delivery in North America, if it’s the case that the North American account and the southeast Asian account really are actually an alliance, we now have a single team focused on that alliance.

Okay, so, I guess despite the fact that the manufacturing facility may be located in one place, what you’re saying is the alliance headquarters, the people you’re engaging with from a sales perspective are geographically diverse?

Right. And, also, actually we see more and more sharing across multiple manufacturing sites. So, even when – you’ll see cases where there’s multiple manufacturing at different sites. And one of the values the customer or the clients want to see is using our infrastructure to make sure they matched and bring-up the technology in both those sites simultaneously with similar results.

Okay, that’s helpful. And then just want a clarification from Keith. I think you stated previously that your absolute bookings were solid in the quarter, but revenues were going to be down for the next couple of quarters. Can you just talk about – repeat that, maybe? And then just talk about what the dynamics are around that?

Sure. This quarter we did have record bookings in terms of value contracts that we signed. But, as John spoke to, that was below what we were expecting. And, as you know, Tim, in how we recognize revenue there were long duration contracts in the revenue for that spillover for multiple quarters, multiple years in some instances.

So, in this particular case, the lack of closing the business in Q1 has had an affect on the outward look that we have for Q2 and having some residual affects in Q3, as well.

Okay, it was a record quarter but just below expectations, so?

It’s a lack of breadth of signing those contracts.

Okay, thank you. Appreciate it.

Your next question comes from [Wendell Ladley] with RF Investment.

Maybe I need to repeat what was on the conference call transcript last quarter? It seems like three months goes by, and we don’t really learn that much. I have two questions.

One if you assume that the gain share business is basically 100 percent royalty, why is it taking so long and why aren’t you more disciplined about running a business that is not making money excluding gain share? That’s question number one.

And then the second question is what is the gain share assumption inherent in the September quarter guidance?

I’ll take those two. Wendell, this is John. So, in our business while the base business and the gain share piece are reported as two separate lines, they’re not in the minds of the customer two separate contracts.

So, whereas we design the portion of business to achieve a certain margin, when we look at the value of the contract we do look at the total value of the expected gain share as well as the fixed fee against our investment, and have a target gross margin that we expect to achieve for an engagement with a specific customer or client.

When you roll those all up in aggregate, which is how we look at it, we look at the aggregate of the business, and you have to look at that over a longer time horizon because those specific contract the fixed fees, let’s say, will be recognized in 2004 and 2005 and the gain shares will be recognized in ’06, ’07, and ’08.

So, what we look at is the overall profitability of a specific piece of business, and we can’t really separate out the fixed fee portion and the gain share portion because in the minds of the client and in the minds of us that’s one overall piece of business.

Then I guess, John, we haven’t gotten the tradeoff yet where the non-gain share business is sucking wind, and we’re not exactly making up for it in spades with a gain share ramp.

You know, one part of the business is ramping nicely but the other part of the business is, you know, I’m wondering how long it’s going take for you to fix it? And why it took three quarters of not hitting the numbers on that side of the business to realize that something had to change on the sales side? It’s a fair question, right, John?

Certainly, Wendell. I think when you look at it, we signed what amounts to a few contracts a quarter, correct?

Yes.

And when you look at the trends in our business we have a lot of things that we’re balancing across looking, looking at a specific quarter. So, when you look at this quarter per se, for sure we’ve booked actually dollar amount, that which exceeded any of the previous quarters. And we booked gain share which recognizes what we’ve been able to achieve in the past in terms of our execution with the clients, that was a record by a handy amount.

So, the question you asked really is, well, when do I get all of these things to hit on, when do I get it to all hit on all cylinders? And when is the case that all cylinders are hitting? Is that correct?

I guess what I’m frustrated about is, well, first of all, you can’t even keep the non-gain share business to be flat. And if it’s an accurate predictor of what should be future engagements downstream what kind of a leading indicator is it that the non-gain share business is in such bad shape?

It overshadows, unfortunately, the success that you’ve had in gain share, which everyone gets excited about. But the non-gain share business, you know, feels like you could have come to the same conclusion a year ago about what you needed to do to fix it.

Well, I think, Wendell, I appreciate the comment. I don’t see it that way. When you look at the performance of any given contract the total value of the contract tends to be proportional to the wafer volume the client ships. And when you look at the wafer volumes that we have under contract, under gain share contract today versus the wafer volumes that we’ve had under gain share contract in the past, in other words, fix the executions, I don’t believe that there is a material difference to them.

Okay, well, we can take the rest offline. What’s the assumption for gain share in the September quarter?

Well, we expect to see continued strength in gain share in the September quarter.

Which means that it’s up sequentially at what, the same rate as the March to June assumption?

I think we expect it to be in the high 5s in the out quarter.

Okay, thanks.

Your next question comes from August Richard with First Albany Capital.

Good afternoon, thanks for taking the question. Just a quick housekeeping question first. Keith, what was the tax rate, and I’m assuming that’s on GAAP, right?

So, the GAAP tax rate, it’s a little bit difficult, Gus, and a little bit – it’s not as easy to compare as we have from last year’s because we’ve adopted SFAS 123R.

So, if you take a look at what our GAAP net income was and then you apply the tax rate, you know, we get a fairly high rate – I believe approximately 80 percent or so. However, if you strip-out what SFAS 123R, the expense, which is basically not a deductible expense, but for tax purposes you see a more normalized rate around 35 percent.

So, going, so, all right, the last quarter was 35 percent, and then the go-forward tax rate was, is going to be?

Well, what we’re projecting for the rest of the year is about 25 percent.

Got it, okay. You’ve given me enough so I can figure it out.

And then, John, on the two 90-nanometer extensions was that just moving into new fabs?

No, existing fabs, continued working with our engagement teams to make better use of the infrastructure.

So, is it the 90-naonmeter contracts were coming to an end and they extended the time period? Is that the way of thinking about it?

Yes, they signed a contract, that’s correct.

Okay, and then, I apologize for beating a dead horse, John, if you could just talk a little bit about the mechanism as to the difficulty in closing? Is it the fact that you’re not addressing all the appropriate levels of the organization? Or is it the fact that the decision makers are geographically dispersed or dispersed across different companies? Sort of what is it that’s causing you headaches within your customers to close the business?

Thank you, Gus. So, what we saw was lack, you know, in the latter part of ’05 was the lack of coordination on selling for things that ended up having to get approved by let’s say multiple companies that were spanned across different parts of the world.

And so what we wanted to do and put in place in Q1, and saw actually progress, was having a single set of folks responsible for selling to each of those companies, hence, the coordination of selling, the business model, talking to those companies, the pricing across each of those companies, and the way that we coordinate the execution once we get the contract.

We found that had an improvement in our ability to move the discussion along with the customers and get to more meaningful discussions and closer to contract, although we did not complete the contracts in the quarter.

Okay, and so, I would take this to mean that these contracts that didn’t close were for multiple different companies?

In a – yes, the contracts, a significant number of them, often resulted in activities that span multiple companies.

Okay, and were these 65-nanometer contracts?

Some were, some were at other [nodes].

Okay, and so 65 and 90, primarily?

Yes.

Okay, got it.

Maybe one at 45, as I think about it.

Okay, all right. I think that’s it for me. Thanks.

And your next question is a follow-up question from Dennis Wassung with Canaccord Adam.

Thanks. There are a couple more quick ones here. Sort of on the contracts that really haven’t gotten signed here, you talked in prior quarters about customers tending to delay their move to 65-nanometer. Is there any of that activity happening here or, I guess, I’m just trying to get a handle on how much of the lack of new business signed is a result of kind of execution and kind of strategic account team focus you’re talking about on geographies, multiple company issues, versus just delays in 65 nanometer moving forward? Is there any of that, or is it primarily just the ability to coordinate all this stuff?

And I guess the other question here is as a result of not being able to coordinate all of this have you lost any business in the process?

Good questions, Dennis. As far as the 65-nanometer push-out, we’ve asked ourselves that question a lot. You know, we do see at customers a number of takes on that 65-nanometers. And we do see progression to the 65 nanometers. I think it will be, there will be a number of [accounts] that will go on 65 nanometers at some of our existing accounts. As we get out into ’07. So, I still think we’re three to four quarters out from some of the meaningful, you know, initial volumes. Of course, there’s samples at 65 nanometers today, but from even the accounts that we do have under contract we don’t expect much gain share until ’07 as we look at it.

And for some of the customers, yes, I think that there’s a question about when they need to build-up their capacity at 65 nanometer. I don’t know, or at least we looked first at what we were doing and the impact it was having on our business. The macroeconomic, how quickly people move into 65 nanometer, we can’t really control, what we can control is the affect on the businesses at hand. And I think we would have been able to or should have been able to do better than we did, and that is our fault more than it is I think a macro issue.

Your second question, actually, can you repeat it?

Sure, and just – sorry. As a result of sort of the internal issues here and just a strategy in coordinating – have you lost any business as a result?

You know, that’s something that we also measure closely. We still have ongoing discussions with all the accounts, so we don’t believe we’ve lost business. We also know that there’s always a time window that you need to get things done, all right? Then move on at some point. And so, you know, the discussions continue with the accounts, but I think at some point we need to make sure we close them or we do, or it does impact or it does become lost business.

Okay. And a last question here on the customer side, last couple of conference – I think the last conference call, in general, you seemed very optimistic about the ability to sign new logos in the near term, new customers. What is the outlook on that side of the business? I’m assuming a lot of what you’ve been working on here is signing up the existing customers to the next node, what is the outlook on the new customer generation side of the equation?

Yes, we still feel confident about new customers. And, you know, the mix of discussions include both new and existing customers. Some of that. of course. is what complicates some of the activity.

Okay, thank you.

And your next question comes from [Matt Pecune] with Davidson and Company.

Hi, good afternoon. Just approaching the same question from one more angle here, John, and so correct me if I’m wrong, it sounds like what you’re saying is that there’s known engagements that you have, in many cases they span multiple customers and multiple geographies, and that you’ve missed out on known engagements rather than your structure failing you to actually sign the business in the first place, is that correct?

Yes, I think, we know what business is out there, and we’ve had discussions with customers that, you know, they recognize opportunity. And, you know, it has brought about our feeling to close that business than it is about signing it.

Okay, so maybe – sorry to interrupt – to ask the question a step further, are the customers looking at your structure and determining that you’re structurally unable to support them, or does it maybe have something to do with your offerings?

We don’t believe it has to do with our offerings, as we’ve, you know, we’re usually well past the technical selling points. Our ability to get into a discussion with them about the value and set-up the parameters of the contracts and what they mean is actually a pretty detailed activity, and that’s not a small undertaking. As we changed or moved around people that have been involved in different accounts that does take a re-introduction time.

Okay. And then one more question, kind of to follow-up on Wendell’s question earlier, you sort of addressed it but not directly. You did note that you felt that to a certain extent signing up these new engagements and recording revenue on IYR contracts was a leading indicator for your gain share business out for a couple of years. To what extent should we then, you know, assume there could, indeed, be a soft patch in gain share at some point in ’07, based on the last two quarters, but the March and June quarter here?

Yes, the customers that we’ve signed up in the leading edge nodes tend to be the ones that have the most substantial volume, and some of the lagers end up having some of the smaller pieces of volume. So, on a volume basis I don’t think there’s a significance difference. That’s what I was trying to say to Wendell.

The contract length on the 90s are actually, you know, typically 12 quarters. So, there’s quite a long collection length on the 90s, and we’re really just getting into the meat of a lot of that.

When you look at the transitions to the nodes, I don’t suspect that the transition from 90 to 65 is going to go quickly. I think there will be production at 90 for a fair amount of time. And as we’ve discussed with customers we continue to see that.

So, of course, you always need to sign-up new engagements and execute them, and they do build in the overall basis of contracts, but I think we’re, you know, I wouldn’t be expecting in the beginning part of ’07 to see the 65, 90 transition as having a significant impact on our business.

Okay, thank you.

And your next question comes from Joan Tong with Sidoti and Company.

Good afternoon. I think most of my questions are being answered. I just have one housekeeping one for Keith. I figure option expense for the quarter is $0.08, and what do you expect for the rest of the year?

Joan, we expect it to be around the same levels as we saw in Q1, so that $0.08, the trend is moving, will carry out for at least through 2006.

Okay, what’s your strategy for future grants?

We’re evaluating that, and we’re looking at how to maximize the grants and to kind of help to get a little better impact and to, one, to reduce our expense exposure, and then try to have that follow-through to our bottom lines, so there’s different initiatives that we’re currently taking a look at right now.

All right, thank you.

And your next question comes from [Tom Kertow] with Pacific Asset Partners.

I think my question has basically been answered. But it’s the same theme that keeps coming up is how long your software business, your kind of body shop business, can remain flat or even be declining before it starts to impact gain share? And I know I’m basically asking the same question that’s been asked, but do you want to try another shot at that?

Well, this is John, again. So, Tom, theoretically we can work off the exercise on how many quarters would we need that to happen. I guess I spend more of my time focusing on how to build business with the accounts than I do spend working out the scenario of when would it be the case that if we sold no initial [IYRs], how many quarters would we have to go until we saw that the gain share on the, the gain share business no longer grew? So, I understand why you ask the question, and I appreciate Wendell and everyone asking the question.

Certainly, I don’t think that, you know, that a handful of quarters actually would drive that. Sure, if you maintain not signing up enough new customers for an extended period of time the conclusion that you’re all drawing is the one that would happen.

You know, we spend more of our time working on how to actually build-up the number of IYR engagements and the initial engagements on dataPOWER, as well, than we do kind of working out when is, you know, when is there a bad scenario on gain share as a result.

Okay. I think we’d all feel better if we see the software business growing, but I understand it’s very hard to predict.

Agreed.

And your next question is a follow-up question from Gus Richard with First Albany Capital.

Hi, John. Just one quick follow-on. Could you quantify sort of how much revenue you generated from say the 180, 130, and then 90-nanometer node? And where do you think the market opportunity is going at 65? Either [SAM] or [TAM]?

So, you know, actually I don’t have the numbers with me. I know for sure, well, we’ve generated 90s, we’ve generated off of 130 or 180.

In terms of the SAM or TAM service from available market or total addressable market, you know, we’ve always added that up by total wafer capacity at fabs and total fixed fee revenues available at those fabs. And not by node, because we know customers tend to mix a couple of nodes in the fab. So, you know, you’ll have a fab that’s built at 90, it’s good for 90, 65, and potentially with upgrades, 45.

And the market opportunity for the business is in, you know, for the logic fabs, flash, and image sensors, et cetera, you know, it’s in the – when you work that all out, you know, if you exclude a few of the accounts, we look at what would be the SAM, we estimate it to be in the low couple hundreds of millions of dollars, or a few hundreds of millions of dollars, between 200 and 400 million.

Between 200 and 400 million, and what period of time and spanning what nodes?

You know, for a year.

Okay.

And basically all the nodes that would fit into those fabs, known fabs today, 300 millimeter, some 200s, that are serviceable at, you know, 130, 90, 65. How that grows over time, right, because the overall capacity tends to grow-up, and where it is in terms of the revenue, each of the nodes, we’ve never gone back to model.

Got it. And in sort of that number you’re giving me includes advanced logic, imaging processors, or [inaudible] sensors, rather, and flash?

It doesn’t include [fully] flash, it has some of it in there.

The main portion of flash?

Only part of it. I think we didn’t fully have it modeled correctly.

Okay, I think I understand. All right, thanks a lot.

And your next question is a follow-up question from Dennis Wassung with Canaccord Adam.

Thanks. Two more quick ones here. First, on the software revenue line item, here, obviously up in the quarter pretty significantly. What is your expectation for that as you look into June? I know it’s been a tougher business to predict for you, but how do you – how does that fit into the guidance picture right now?

Well, Dennis, I’d like to say overall we would expect our software business to be up in 2006. And kind of how to take a look at it is that it’s a fairly cyclical business, it’s kind of up and kind of down and what-not. But overall we do see an upward trend and we do see some growth in the bookings and in the pipeline there. So, you know, we would expect a strong performance, but throughout the year you’re going to see some volatility in that revenue number.

So the 2006 software revenue greater than 2005 software revenue?

That would be our expectation, correct.

Okay. And then the last question here, when you look at the June guidance and September guidance at this point, what kind of new engagement activity do you need to achieve those numbers? Obviously, you look at June even assuming a down tick in the software license revenue, you’re still looking at a solution line item that’s below where March was. So, does that mean you don’t need to sign any new engagements to hit that number? What’s the net assumption?

Our overall assumption is really consistent from what we have always discussed before, that it is our goal to sign two and possibly three, if we can, engagements per quarter. And that is what we see in our pipeline, that’s what we see in our forecast, and that general assumption is what takes us to those revenue numbers.

All right, but you still have some fixed fee sort of revenue from prior contracts that are starting to roll-off?

Correct, yes.

Okay, thank you.

At this time, there are no further questions.

Thank you.

In summary, in Q1 we started to see performance in our high margin gain share and we extended our technology into 32 nanometer. We continue to find growing demand for our solutions across the industry and remain confident in the long-term value of PDF Solutions to our clients. While all of these signs are an indication that our strategy is on track, and we are focused on executing our strategy to reap the benefits of those opportunities.

Thank you for joining our first quarter 2006 conference call. Good-bye.

Ladies and gentlemen, this concludes the program. Thank you.