PDF Solutions Inc (PDFS) 2016 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the PDF Solutions Inc. conference call to discuss the financial results for the first fiscal quarter ended Thursday, March 31, 2016. (Operator Instructions)

As a reminder, this conference is being recorded. If you have not yet received a copy of the corresponding press release, it has been posted to the PDF's website at www.pdf.com.

Some of the statements that will be made in this course of this conference are forward-looking, including statements regarding PDF's future financial results and performance, growth rates, and demand for its solutions. PDF's actual results could differ materially. You should refer to the section entitled risk factors on pages 12 through 19 of the PDF's annual report on Form 10-K for the fiscal year ended December 31, 2015, and similar disclosures in subsequent SEC filings. The forward-looking statements and risks stated in this conference call are based on information available to the 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 Greg Walker, PDF's Chief Financial Officer. Mr. Kibarian, please go ahead.

Thank you, and welcome, everyone. Today I will start our discussion with a brief summary of our first-quarter results. Then I will provide some perspective on the semiconductor industry and PDF Solutions' performance towards its strategic objectives. Next, I will turn the call over to Greg, who will walk you through the financial results in detail. We will then take your questions.

In Q1 we continued the strong bookings and revenue performance for our solutions business that we have seen in the prior quarters. In fact, Q1 was our largest booking quarter in the history of the Company.

We brought in and extended several existing agreements with five major semiconductor companies. Q1 gainshare revenues of $6.5 million was a decrease of 34% when compared to a strong Q4 2015. As we have stated before, gainshare revenue is directly related to wafer production volumes shipped by our large customers and, as a result, can be highly volatile.

As we stated in last quarter's earnings call, we were very cautious about any recovery in 28 nanometer volumes. Clearly, our caution proved to be prudent. We did, however, see a 79% growth in gainshare related to 14 nanometer node compared to last quarter, which somewhat offset the decline in 28 nanometer.

Additionally, we expect continued 14 nanometer improvements in gainshare revenues in the second half of the year as additional capacity comes online. The net weakness in total gainshare revenue was offset by strength in the solutions revenue, which increased 27% over the prior quarter to $18.7 million.

From an overall spending standpoint, we saw continued step up in R&D expenses related to our design-for-inspection, or DFI, solution. The increase in spending reflects the accelerating activities around DFI as we are moving towards initial deployments and is consistent with our previous stated expectations.

Now, turning to the state of the industry, we are seeing industrywide weakness in demand for PCs and high-end mobile devices. While we believe this is currently impacting our 28 nanometer gainshare revenues, 14 nanometer gainshare should increase through the year to offset this impact. Depending on the magnitude of the 28 nanometer weakness, we expect total gainshare revenues to be flat or slightly up year over year.

With respect to solution revenues, we are seeing increased urgency at the foundries to deliver 10 and 7 nanometer capability to their customers. This is the fundamental driver of increased demand of our IYR and Exensio solutions. During the quarter we signed the following agreements: an expansion of a technology development contract at 10 and 7 nanometer to a full integrated yield ramp. This contract is expected to generate gain share revenues well into the late 2020s.

An expansion of a technology development contract at a 22 FDSOI engagement to a full-yield ramp. This contract is also expected to generate gainshare revenues well into the 2020s.

An amendment to an enterprise-level agreement with an existing customer across multiple nodes, which increases fixed fees and which extends the gainshare period throughout 2021.

And amendment to a 28 nanometer FDSOI agreement which extends the implementation period and related fixed fees. And finally, a new 28 nanometer YieldAware FDI/FDC agreement with an Asian foundry. YieldAware FDC combines our characterization vehicle infrastructure with our Exensio Big Data solution, so manufacturers can optimize production control. This contract also includes incremental solutions and gainshare revenues above our existing 28 nanometer agreement with this customer.

Additionally, China's push to develop its own semiconductor manufacturing capability continues to drive demand for our solutions business at both the 28 nanometer and 14 nanometer nodes. As we've stated before, large-scale investments by the Chinese government and private enterprises are fueling a rapid expansion of both local foundry and fabless businesses.

PDF's long-term presence and unique technology offerings position the Company to benefit from this growing demand. In fact, this May we are celebrating our 10th anniversary in China with key customers, senior management, and members of our Board of Directors.

Finally, the pipeline for Exensio Big Data analytics business continues to expand on a worldwide basis. During the quarter we booked new or extension deals with more than 35 customers. Our fabless customers' adoption of Exensio for mature technologies is increasing.

Exensio's ability to combine data from a diverse manufacturing and test supplier base is becoming increasingly important to the consolidating fabless companies, for whom operations excellence is more critical as product innovation slows. This expansion in both the breadth and depth of Exensio engagements is aiding our efforts to rapidly diversify our customer base. We will be holding our annual Exensio users conference this June in San Jose.

Each quarter for the last year or so I have provided an update about our design-for-inspection project, referred to as our DFI solution. As a reminder, design-for-inspection solves the ever-increasing challenge of inspecting production chips for electrical defects. Conventional inspection allows you to see visual differences in patterns on a chip. However, many electrical faults are not visually detectable or indistinguishable from false positive signals. Design-for-inspection changes the entire paradigm for inspection by placing small, proprietary PDF on-chip characterization vehicle instruments in either the test chip or unused space within a product design.

As an example, typical product wafers will contain 5 billion to 10 billion of these CV instruments. To read the output from these on-chip CV instruments, PDF Solutions has developed a new e-beam-based machine, which we have named the eProbe series. These machines read the electrical responses from these CV instruments without wafer contact, which is nondestructive. Our Exensio Big Data analytics software then collects, classifies, and analyzes all of the data generated by the CV instruments for the purposes of rapidly detecting electrical failure mechanisms.

We are in active discussions with multiple customers for DFI system deployments during 2016. Development efforts on our next-generation DFI system, which includes an eProbe machine for in-line inspections, are taking place at an accelerated rate.

Finally, we continue to expand our collaborative efforts with fabless customers to place on-chip CV instruments within their test chips and product designs. To date, we have placed CV instruments on 34 tape-outs at five major foundries and have received back and inspected demoed wafers from three of these foundries.

In summary, we believe DFI will significantly expand both our market opportunities and our customer base. Our initial traction confirms our belief that noncontact electrical process control will become a critical solution for the increasing manufacturing challenges driven by advanced semiconductor technologies. We will continue to provide updates on our DFI progress.

Our progress on product development milestones, coupled with a great solutions bookings quarter across our customer base and solutions offerings, means that Q1 sets PDF Solutions up for a successful 2016 and beyond. Now I'll turn the call over to Greg to discuss in detail our financial results for the first quarter. Greg?

Thanks, John. As a reminder, in addition to using GAAP results when evaluating PDF's business, we believe it is also useful to consider our results using other non-GAAP measures. For internal purposes, the Company focuses on non-GAAP net income and EBITDAR. Non-GAAP net income excludes nonrecurring items, stock-based compensation expenses, and amortization of expenses required to acquire technology -- related to acquire technology, and other intangible assets and their related tax effects, as applicable. Additionally, the income tax provision has been adjusted in our non-GAAP net income to reflect cash tax expenses only.

EBITDAR is equal to earnings before income tax, adjusted to exclude nonrecurring items, depreciation, amortization, and stock-based compensation. You can access the earnings press release that contains a reconciliation of EBITDAR and non-GAAP income to GAAP results in the investors section of our website, located at pdf.com.

Now let's turn to review the financial results. Total GAAP revenues for the quarter were $25.1 million, resulting in net GAAP income of $2.1 million and GAAP EPS of $0.07 per fully diluted share. Revenues on a non-GAAP basis totaled $25.2 million, with non-GAAP net income of $5.4 million and $0.17 per fully diluted share. Cost of sales and operating expenses together were $21.8 million on a GAAP basis and $18.9 million on a non-GAAP basis.

Moving on to revenue details, as stated earlier, total GAAP revenues for the quarter were $25.1 million. This was higher than the previous quarter by approximately $1 million. Total non-GAAP revenues of $25.2 million for the first quarter were approximately $700,000 higher than in Q4. Total non-GAAP revenues were comprised of design-to-silicon yield solutions or solutions revenue of $18.7 million and gainshare performance incentive or gainshare revenue of $6.5 million.

Our top 10 customers represented 88% of total revenues in the current quarter. Two of these customers contributed revenues of 10% or greater, for a total of 64% as compared to two customers and 66% in the prior quarter. Looking at solutions revenue in more detail, 13 project-based engagements contributed at least $100,000 of solutions revenue in the quarter, three less than in the previous quarter. This decrease in the number of project engagements was driven by the wind-down of three fabless projects that dropped below the $100,000 level.

Q1 solutions revenue at $18.7 million was $4 million higher than in Q4. If we look at the Q1 2016 year-over-year revenue growth in solutions revenue and adjust Q1 2015 for the one-time $6 million revenue impact related to the resolution of two solutions contracts, then year-over-year solutions revenue growth would have been 53% in the quarter.

Gainshare revenue for the quarter was $6.5 million, a decrease of $3.3 million from the prior quarter. The total number of node sites, which we define as an individual fab and process node combination, contributing to gainshare was 15.

On a geographic basis, North America accounted for 49% of total revenues, which is up 5% from the previous quarter. Europe accounted for 17% of total revenues, a decrease of 11% from the prior quarter. Asia accounted for the remaining 34% of total revenues, an increase of 6% over the prior quarter.

Moving to expenses: cost of sales for the quarter was $10.2 million on a GAAP basis, which was approximately $100,000 higher than in the previous quarter. This increase in GAAP cost of sales was primarily driven by shipping expenses incurred on testers and servers shipped to customers during the quarter. GAAP gross margin was 59% the quarter as compared to 58% in the previous quarter.

On a non-GAAP basis, cost of sales was $9 million, which was approximately $100,000 higher than the previous quarter. This increase in non-GAAP cost of sales was principally driven by the previously mentioned shipping expenses in Q1. Non-GAAP gross margin was 64%, the same as in the previous quarter.

Total GAAP operating expenses at $11.6 million were approximately $1 million higher than the rest -- than the last quarter and 46% of total revenues, up 2% from the last quarter. R&D expenses totaled $6.3 million, $900,000 higher than in the prior quarter. R&D expense as a percent of revenue was 25% in the quarter, up 3% from the prior quarter.

SG&A expenses totaled $5.2 million or 21% of total revenues compared to $5.2 million and 22% of total revenues in the prior quarter. The overall GAAP operating expense increase was primarily driven by a ramp-up in the development activities related to our DFI solution, which includes R&D hiring and increases in the use of third-party contractors.

On a non-GAAP basis, looking at operating expenses and cost of sales together, total spending was $18.9 million, which was $1.1 million higher when compared to the prior quarter. As previously mentioned, this increase was primarily driven by the development activities related to our DFI solution.

The GAAP income tax provision for the quarter was $1 million, which reflects an effective tax rate of 33% compared to 18% in the prior quarter. This rate increase is primarily due to the prior-quarter reinstatement of the federal R&D tax credit program, which allowed the company in Q4 to benefit from the credits related to the full-year 2015 qualifying R&D activities.

Cash tax liabilities for the quarter were approximately $700,000. This reflects an effective cash tax rate for the quarter of 24% of pretax GAAP income. As we have stated before, our cash taxes are primarily comprised of foreign withholding taxes.

GAAP net income of $2.1 million for the quarter resulted in GAAP EPS of $0.07 per fully diluted share compared to $2.8 million and $0.09 per fully diluted share in the prior quarter. This decrease in GAAP EPS and net income is primarily related to the gainshare -- decrease in gainshare revenues and the increase in R&D spending in Q1.

EBITDAR, which I defined earlier and is also defined in our press release, was $6.8 million in the quarter as compared to $7.5 million in the prior quarter. EBITDAR per fully diluted share was $0.22 compared to $0.23 in Q4. On a non-GAAP basis, net income was $5.4 million, and non-GAAP EPS was $0.17 for the quarter compared to $5.7 million and $0.18 in the prior quarter.

Total cash at the end of the quarter was $129.4 million, an increase of $3.2 million when compared to cash on December 31. Cash generated from operations during the quarter was $3.7 million. This cash generation was offset by approximately $1.8 million of fixed asset purchases, mainly related to our DFI solution.

Trade accounts receivable DSO was 72 days for the quarter compared to 83 days in the previous quarter. The trade accounts receivable balance at the end of the quarter was $19.9 million, a decrease of approximately $2 million from the previous quarter.

The unbilled accounts receivable balance, including long-term unbilled accounts receivable, was $15.7 million, an increase of approximately $4.1 million over the prior quarter. Of the $35.6 million of total current and long-term receivables, approximately $1.5 million or 4% was aged greater than 30 days. Since the end of the quarter, an additional $3.5 million has been collected.

Total DSO for the quarter, including unbilled receivables, was 129 days compared to 127 days in the prior quarter. Headcount at the end of the quarter was 395 compared to 390 at the end of last year.

Now let's discuss the remainder of 2016. Given this quarter's gainshare performance and overall industry weakness, we remain very cautious with regards to 28 nanometer volumes for the year and are not expecting a significant recovery until 2017. As a result, we expect overall gainshare to be flat to slightly higher than 2015.

While 14 nanometer volumes are continuing to ramp up, these increases are being offset by the lag in recovery in the 28 nanometer node. In respect to total revenue for 2016, due to the incremental strength of our solutions business, our overall revenue outlook remains unchanged. Finally, if we continue to book new solutions business at the pace we experienced during Q1, we may well have to step up spending across our delivery organizations to match this growing demand.

Now I will turn the call back over to the operator for Q&A. Operator?

(Operator Instructions) Jon Tanwanteng.

Nice job on the solutions business.

Thank you.

Could you first comment just on the trajectory of the solutions revenue going forward, especially given the positive commentary on 10 and 7, China and DFI. Should we see sequential increases by quarter?

It's hard to say quarter to quarter; as we've talked about, the number can be quite volatile quarter to quarter. But overall we are expecting a fairly substantial step-up in the year-over-year number. And if you recall, I think at the last quarter we said we expected it to be in the low double-digits growth.

Okay, got it. And then in the solutions business overall, what is expected mix of DFI versus your traditional yield business?

Well, for 2016, what we said about DFI was we may see our first revenues out of DFI in 2016, but it would be immaterial.

Okay, got it. And just where do we stand on the 28 nanometer utilization at your current customer? Do you expect that to turn around any later than you did previously? Or is it still the same outlook, given the caution and weakness in the smartphone markets that we see?

Yes, it's about roughly the same as what we said before. You know, we had a very good Q4 -- Q3, we said we thought it was going to be bad; Q4 -- that ended up popping up significantly over Q3 and we think it was somewhat a pull-forward of volumes. And then Q1, as a result, suffered a little bit from that. So we -- the caution level that we saw in Q3 we maintain.

Got you. And just going back to your comments on potential for increased spending, is that with revenue in line with your outlook? Or is that revenue growth beyond what you already stated -- or supplied in your outlook, I guess?

Yes, I think if we continue to book business -- new business at the rate we saw in Q1, then that would be expenses related to growing revenues faster than our current outlook.

Okay, got it. Great, thank you very much.

Tom Diffely.

So I guess, first, on the 28 nanometer business, are you seeing -- is most of the decline just from absolute less production? Or is it some of these customers moving to 14 and just transferring their products to 14 nanometers?

This is John. I think in general, the uptick on 14 nanometer volumes and even 16 across the world wouldn't fully replace what's been the (technical difficulty) in number of wafer volumes on 28 nanometer. So I think it's a little bit of softness overall. Just a shade.

And then the, I guess, call them second-tier foundries that are building up 28 nanometers -- that has yet to hit you as far as the royalty stream goes?

Yes, that's why we said -- you know, part of the reason why we feel more comfortable about 2017 volumes is -- on 28 nanometer -- is we expect recovery at the customers that are in gainshare right now on 20 nanometer, as well as we see a fair amount of demand, in Asia, primarily, both at the designer level and the foundry level in those markets. And we expected that to come online really as you get into and through 2017.

Okay. And then the 14 nanometer ramp right now -- is that still just one customer, or have you moved to the second customer yet?

In Q1's production, it was one customer. So this is why, again, we -- I think in my prepared comments, we talked about increased amount of capacity coming online, as we expect another customer to come online this year that will drive incrementally more volume.

Okay, great. And then when you look at the DFI, what type of model are you going to have with that business? Is it going to be equipment sales with a heavy service component? Or is it going to be more like a software with royalty model?

That's a good question, Tom, and we have deferred answering that for quite a while. Now that we're starting to have more dialogue with the customers about this, really we see two ways this goes forward.

With some of our yield ramps, we are going to include early use of the eProbe system and design-for-inspection for part of that ramp and for incremental improved fixed fees and wafer fees. So that will be some amount of capacity. That's really kind of with an existing customer. But we see a lot of activity at companies that are not our customers today.

And in those customer situations, we are really treating it like a software-as-a-service or TVL. So it will be a ratable usage model where they pay for usage. Because the value is not just the machine, but the software and on-chip instructors. It's kind of an overall solution.

So we have been having discussions with customers around this being basically a ratable business model, with margins that are very typical for a software company -- gross margins that are very typical for a software company. Because so much of the value and cost is in the software and the IP, not so much the piece of hardware.

This is where it's very different than a conventional inspection business, where your costs are so much in the hardware. For us, it's really not that way.

So ultimately, will this be folded into your two line item revenue model? Or will it be separate line item?

It will be -- Greg can find something better than me, but my vote would be it just falls in the design for yield solutions until -- you know --.

We are forced to --.

Yes, unless we have to bring it on to something else in the future.

Yes.

Okay.

But it's not all that different than the Exensio software from a ratable -- it looks a lot like Exensio.

Okay, great. And then Greg, you mentioned that is a little uptick in the COGS from shipping costs.

Yes.

I would have thought that the actual cost of the servers and the testers would have been a bigger cost than the actual shipping portion of it.

Remember the server and tester deployments, particularly the testers, doesn't flow through cost of goods sold; it flows through depreciation expense. And you know, it's relatively small. And those are amortized over a large number of years.

But the thing that's hard to predict is: where are those testers going to be deployed to? When they get deployed overseas, then we pay a pretty substantial shipping cost.

Yes. Okay, I understand. And then when you look at just the operating expenses going forward, if we assume that you don't have additional growth in the design-to-silicon, they are just flat here. Do you need to invest more for the DFI roll-out? Or are you at a level now that supports it?

No, the DFI expenses will continue to ramp. You know, I think we said at the year-end call that we would expect growth in that expense by about 30%, if I remember correctly. But I can double-check that for you.

Okay. So then additional growth in the design-to-silicon would be on top of that?

That's correct. And that would primarily be something you would see in the cost of goods sold line as the projects come online, and also some expenses (technical difficulty) the sales and marketing line, too.

Okay. And then, finally, the tax rate of 24%. Does it look like that holds for the year? And then would it change as you edge up a little bit in the out year?

Yes, so I think we guided at the end of last year to 24% to 26% range for the year. So we'll be in that range, bouncing up and down, probably, quarter to quarter -- depending on what the mix of gainshare is in any given quarter, the geographic mix. Because the primary driving factor is really how much withholding tax on foreign royalties do we have.

Okay. And does ramping business in China affect that long-term?

Yes, long-term as the China comes online, mainly in 2017, and becomes a larger portion of the overall gainshare number, that will have an impact on the cash tax rate.

Okay, all right. Thank you.

And you have no further questions at this time.

All right.

Thank you very much, everyone.

Take care. Bye.

Ladies and gentlemen, this concludes the program. Thank you for joining us today.