Photronics Inc (PLAB) 2012 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Photronics third-quarter fiscal year '12 earnings call. At this time, all participants are in a listen-only mode. And later we will conduct a question-and-answer session and instructions will follow at that time.

(Operator Instructions)

As a reminder, this call is being recorded. I would now like to introduce your host for today's conference, Mr. Pete Broadbent, Vice President of Investor Relations and Marketing. Sir, you may begin.

Thank you, and good morning, everyone. My name is Pete Broadbent, Vice President Investor Relations and Marketing of Photronics. We'd like to thank you for joining our third-quarter 2012 conference call.

Before we begin, I'd like to remind all participants about the Safe Harbor provision under the Private Securities Litigation Reform Act of 1995. And thus, any statement we make during the call, except for historical events, may be considered forward-looking. And, may be subject to certain risks and uncertainties that could cause actual events to differ materially from those projected. Including uncertainties that may affect the Company's operations, market, pricing, competition, procurement manufacturing efficiencies, and other risks detailed from time to time in the Company's SEC reports. These statements will contain words such as believe, anticipate, expect, or similar expressions.

This call will be archived on our website until we report our fourth-quarter 2012 results. Joining us on the call today are Constantine Deno Macricostas, Chairman and Chief Executive Officer; Dr. Christopher Progler, Vice President Chief Technology Officer and Strategic Planning; and Dr. Peter Kirlin, Senior Vice President, US and Europe.

Deno will first provide a brief review of market conditions and our strategic direction. Sean will then provide a comprehensive review of Photronics third-quarter performance. During Deno's and Sean's remarks they will be referring to slides posted on our website under the Investor Relations link. Deno?

Thank you, Pete, and good morning, everyone. Please turn to Slide 3 in our slide presentation. In Q3 we achieved sales of $116.6 million, ahead of our revised guidance. IC sales were $90.3 million. High end sales were $27.4 million, down $3.9 million sequentially. It was offset by an increase in mainstream sales which were $5.1 million or 9% sequentially.

We are pleased that the mainstream business picked up this quarter. We saw increased demand across many of our mainstream customers. That was expected, what was unexpected was the decline in demand from high end customers in the second half of July. This decline, however, was limited to a few customers, mainly memory companies, who scaled back orders.

Turning to the display side. Sales of FPD Photomasks were $26.3 million during the quarter, down $2 million sequentially. High end sales were $17.3 million, down $1.9 million sequentially. On the display side, we experienced softness at the leading edge. Demand for higher FPD declined late in the quarter. We believe this was related to economic uncertainty and slower demand for our advanced devices in mature markets. Due to strong cost control throughout the quarter, we improved our gross and operating margin sequentially by 230 and 190 basis points respectively. As a result, we generated earnings per share of $0.16, which was within our initial guidance.

EBITDA was $38 million, up $2 million sequentially. In summary, despite the current economic trends, we believe that we're in excellent position. We have strong global operations, leading edge technology, a strong balance sheet, and we believe we are the most cost efficient mature Photomask supplier in the market.

In the near term, we're focused on strengthening our competitive position in a cautious market. We are seeing momentum in our mainstream customers' orders and our high end customers have a strong node migration plans. [We find] this advance nodes across both memory and logic. Longer term, we believe these trends will yield continued growth and market share gain for Photronics. We remain disciplined in our approach of controlling costs.

Before I turn the call over to Sean, I would like to thank the entire Photronics global organization for their effort during the quarter. And now, I will turn the call over to Sean. Sean?

Thanks, Deno, and good morning, everyone. I'll provide a brief analysis of our financial results for the third quarter of fiscal year 2012, review our balance sheet and cash flows, and then provide our outlook going forward. Please refer to Slide 4 for our GAAP to non-GAAP net income and EPS reconciliation as we review the third quarter.

Slides 5, 6, and 7 show our sequential quarterly and year-to-date IC and FPD revenue performance. As Deno mentioned, third-quarter revenues decreased by about 1% sequentially to $116.6 million, due to a slowdown during the last few weeks of the quarter, principally in high end IC markets, principally related to memory and, to a lesser extent, reduced demand for FPD Photomasks. Revenues for IC and FPD Photomask were $90.3 million and $26.3 million respectively for the third quarter. Breaking out sales geographically, 61% of total sales were from Asia, 29% from North America, and 10% from Europe. High end global IC sales were $27.4 million or 30% of total IC sales for the quarter. This represents a sequential decrease of approximately 12%.

As Deno mentioned, while high end sales were down sequentially, mainstream sales rebounded with a sequential increase of $5.1 million or 9%. Advanced FPD sales were $17.3 million or 66% of total sales. As a reminder, high end IC revenues consist of revenue derived from Semi designs at and below 45-nanometers. And, high end FPD revenues consist of revenue at and above G8 as well as AMOLED based products.

Now, let's continue through the income statement. Gross margins for the third quarter was 27.7%, up 230 basis points sequentially even on the decreased sales. The improved margin related to improved manufacturing efficiencies, principally labor and materials, coupled with certain manufacturing expenses classified as R&D as a result of increased development and qualification activity at advanced nodes. The 27.7% margin was actually higher than our Q2 2011 margin when we had revenues nearly 10% higher at $133 million. Selling, general, and administrative expenses for the third quarter were $11.8 million, down sequentially by approximately $400,000, or 3%, due principally to reduced labor.

R&D expenses, which consist principally of continued development for our global advanced process technologies, were $5.2 million, or up $900,000 sequentially as a result of the increased process development called at advanced nodes during the quarter. It is important to note that we should begin benefiting from these advanced calls in calendar 2013. Non-cash stock comp for the quarter was approximately $900,000.

Please turn to Slide 8. During the quarter we generated operating income of $15.3 million or 13.1% of sales. Sequentially, operating income rose $2.1 million, or 16%, despite the $8,000 reduction in sales for the quarter as a result of the previously mentioned manufacturing expenses. EBITDA, as defined in our credit agreement, for the quarter was approximately $38 million. This equates to $145 million on a trailing 12 month basis. Also on a trailing 12 month basis, free cash flow was $55 million, EBITDA of $145 million less non-finance CapEx of $90 million. Other income and expense for the third quarter was expense of $800,000, down $200,000 sequentially due principally to favorable foreign currency exchange.

During the third quarter, we recorded a tax provision of $3.3 million which was within our guided range. GAAP net income and non-GAAP net income was approximately $11 million, and EPS per diluted share was $0.16 which was the midpoint of our original guidance of $0.14 to $0.18 per share. At the end of the third quarter we had 1,265 full-time employees. This equates to revenue per employee of $369,000 on an annualized basis.

Year-to-date, employee headcount is down approximately 6.3%. Now, turning to the balance sheet. Cash and cash equivalents amounted to $197 million. And, our net cash, which is cash less debt, was $19 million or up $7 million sequentially. Our working capital at the end of the quarter was $212 million which is down slightly from the end of Q2 at $221 million. Accounts payable and accrued liabilities at July 29 amounted to $91 million. And, at the end of the quarter we had approximately $5 million of CapEx accrued for.

Please turn to Slide 9 as we review our capitalization. Total debt at July 29 was $178 million. The principal components of outstanding debt include -- $22 million of 5.5% senior unsecured convertible notes which are due October 2014; $115 million, 3.25%, senior unsecured notes which are due in April of 2016; approximately $16 million for a capital lease obligation; $24 million, 2.5%, five year term loan related to the NanoFab building; and approximately $1 million related to an obligation with a customer who pro-funded a tool purchase.

At the end of the quarter, we did not have any outstanding borrowings on our $30 million revolving credit agreement which matures April of 2015. Taking a look at our cash flows, cash provided by operations for the third quarter of 2012 was approximately $45 million. Depreciation and amortization was $20.9 million for the quarter, and year-to-date cash provided by operations was $108 million. Cash flow used in investing activities during Q3 amounted to $32 million, includes $24 million for cash payments for capital expenditures, and $7 million for increased investments in our joint venture. Net cash used by financing activities during the quarter amounted to $5 million, and includes $4 million related to the repurchase of PSMC shares.

As we look ahead, please turn to Slide 10. We expect our CapEx needs on a cash basis, excluding the $25 million for the finance portion of the NanoFab building in 2012, to be in the range of $80 million to $85 million. Our initial outlook for CapEx in 2013 is projected to be in the $70 million to $90 million range. However, we do have the flexibility to accelerate or decelerate our spend depending upon market conditions. Our 2012 and 2013 investments will principally be geared towards high end, leading edge products for IC and FPD applications in the US, in Taiwan, and in Korea. The significant high end revenue increases in market share gains we have seen in 2011 thus far in 2012 have certainly validated our high end strategy.

Our visibility, as always, continues to be limited as our backlog is one to two weeks. For Q4, we do expect to experience some typical seasonality related to the US and European summer holiday vacation season. We also expect to continue to see a somewhat muted market for certain high end IC orders as we did during the month of July. Taking this all into consideration, we are projecting revenue for the fourth quarter to be in the range of $114 million to $118 million. Taking a look at taxes, for the fourth quarter we're estimating tax expense in the range of $3 million to $4 million. And, as a result, based upon our current operating model, we estimate that EPS for the fourth quarter of fiscal 2012 to be in the range of $0.14 to $0.17 per diluted share.

Please turn to Slide 11. In summary, I'll leave you with a few key thoughts. First, we continue to generate free cash flow and expect to do so in the near term. Second, we are confident about our business model and our ability to weather any short-term softness in the market while continuing to grow our market share at the high end.

In Q3 we were able to report improved growth in operating margins on sequentially -- on a sequential basis on lower revenues. We see continued opportunities in our customer business and node migration plans. And, we have a strong financial position and excellent technology to capitalize on those plans. Finally, we expect to continue to build on the momentum that we've established over the past few years as a leader in advanced Photomask technology. Although our visibility is limited, as always, we plan to match our operating infrastructure to the market environment.

Now, I'd like to turn the call over to the operator for questions-and-answers.

Hello? Operator?

(Operator Instructions)

Edwin Mok, Needham & Company.

Hello?

Pardon me, Edwin, please check to make sure your phone is not on mute.

Hi, can you guys hear me?

Yes, Edwin.

Sorry, about that. So, first question I have is just on the near term weakness. How much was that -- on the press release you guys talk about memory being the main contributor there. I guess two-part question. Can you be a little more specific, is it NAND or DRAM? Is it related to a specific customer, maybe because Micron is acquiring Elpida and therefore delaying some migration there? Or any color you can offer there.

Thanks, Edwin, this is Chris. I would say more DRAM specific on the memory side. And, we don't really want to comment on specific customers. But, a few of our strategic partners and larger customers are experiencing some weakness, as you know, and the segment is a little bit weak. Also, there are some changes in the manufacturing strategies for certain of our customers, as well. So, that could be part of the impact.

I see, great. And then, I noticed your mainstream IC revenue was actually up sequentially in the quarter, right, even though you had some weakness in high end. What drove the sequential improvement there?

Edwin, generally, our -- the buying patterns of our mainstream customers are driven by the size of their profits, and therefore their R&D budget. What we said last quarter was that going into the quarter our mainstream customers, although still tentative, were becoming more optimistic. I think that situation still is generally true, where on the margin they see their business improving, not as much as they'd like, of course.

But, overall there's momentum in the mainstream market, and their order patterns are reflective of that. In this quarter, generally, because of the vacation season in Europe, largely, but also in the US, designers go on summer holidays and the tape-out volume diminishes. So, our guidance contemplates that, which is something we see every year. But, on the margin, or just directionally, the point of view of our mainstream customer base is positive.

I see. So, [design due] cause [guide into] your guidance, is flattish sequentially. Are you expecting mainstream to come back and then you might have a slight better high end business in this quarter?

I think, generally, Edwin, the guidance is reflective of both our high end IC and FPD business and Mainstream business. And, we don't specifically give targets when we provide our guidance. But, generally as Peter stated, the environment, overall environment was better in the quarter for our Mainstream business than the previous quarter.

I see, great, that's fair. Quickly, moving on to -- on the logic customer, any progress you can report, especially in the 20-nanometer and beyond? Are you guys seeing any benefit from customers struggling with the positive TSMC and, therefore, moving to other customers.

I can make a few comments, and then Peter, others, can comment, as well. I think the short answer is yes. We are seeing I would say additional pressurization on quals, particularly more at the advanced nodes, because there are some concerns about both capacity and yields. So, that's generally been a positive trend.

Some of the manufacturing utilization we lost on a little bit of the memory work, we took full advantage of that. We did accelerate actually a few of our high end logic quals using that capability and that capacity. So, that's was also a positive outcome of some of the quarterly activities. So, short answer is yes, more activity there. The four largest foundries definitely seem fully committed to stay on road maps, 20-nanometer production and they all have road maps down to 14. So, a pretty good situation there right now.

The only thing I would - I would just add two things. One is, we have a very demanding logic customer which is, I think, very good for us. Because when the foundries come looking for advanced technology nodes, we already have it really with a bow wrapped around it. So, our logic quals are going along in the foundry space very nicely. So, that's the good news.

I think just from a revenue perspective, those quals which are well under way right now are -- we see them as 2013, given the length of the qual, as 2013 revenue upside. So, the good news is, there's more of it. I would just -- as you think about our Business, it's a nine-month process that we're in the first third of the process right now, is how I would describe it.

Great, that was extremely helpful. Last question I have is, I guess, a question on margins, right? So, when you spend a lot, it sounds like you got some benefit from the Singapore restructuring there. Just to clarify that, if that's -- [are meshed] in the model already. And then, the second thing is, I think Sean you previously talked about incremental margin you can generate from incremental revenue.

Assuming that your business improved beyond October quarter and get back to that $130 million you've done previously a few quarters ago, right, do we expect similar incremental margin which, according to my calculation, would bring gross margin of 30%. Am I correct in that?

Sure, Edwin, to speak to the margin expansion during the quarter, certainly we have benefited from a couple of activities earlier in the year. One is Singapore, which is baked into our guidance going forward, plus the nanoFab building. Additionally, with a lot of other incremental items that we continue to work on, cost controls and minimizing our exposure to any downturn.

We do believe, still continue to believe and have demonstrated, when we have incremental revenue, we should have at least -- our target is at least a 50% drop-through. We are poised for that. As we do that, we'll continue to work on extracting costs, improving our manufacturing efficiency and staying as lean as possible.

Great, that's all I had. Thank you.

Krish Sankar, Bank of America-Merrill Lynch.

Yes, hi, thanks for taking my question. I had two of them. Either Sean or Deno, when I look at your October guidance which is roughly flattish, what is the trend between IC and FPD? Does one grow sequentially or are they all flat?

Krish, without providing specific guidance, because it's -- FPD's a little bit more -- tends to be, as some people refer to, a little bit more lumpy. But, our guidance is reflective of where we think the flat panel market will be and the IC market going forward. To the extent some of our certain applications snap back, i.e., high end IC or high end FPD, we certainly have the capacity to handle those orders.

All right. And then, the guidance range of roughly $4 million, is it fair to assume the difference between the upper end to the lower end is going to be a function of high end IC?

If we come in at the lower end, not necessarily. It's a combination of our entire book of business. But, our goal, obviously, is to achieve -- is to get closer to the high end or exceed it. But, that's what we see today.

All right, and then, the final question, thanks for the guidance on -- or color on 2013 CapEx, $70 million to $90 million. It just seems like -- I understand the argument in the rest of the business. How do you think of the long-term CapEx either as a percentage of your sales, or how do you look at it? Because it seems like the CapEx run rate is at a pretty high level. And, it doesn't seem to be easing off anytime soon.

I think our target is, as we spoke about in the past, our goal is to try to have it less than 20%, closer to 15% of sales. That said, some of the items that Chris and Peter referred to with respect to advanced quals, the tools related to those advanced quals and that capacity is very expensive. And, because we have the opportunity for the future in the near term, without providing guidance to 2014, we will match our infrastructure to the opportunity in the marketplace.

Unfortunately, this is Deno, it's a capital intensive business and to stay competitive you have to invest. That's why you have so much depreciation also, too, and EBITDA is so high. Definitely, we have free cash flow, always going to have free cash flow at the end.

Thank you, very much. That's very helpful.

Thank you. You're welcome.

Patrick Ho, Stifel Nicolaus.

All right, thank you, very much. Sean, first for you, in terms of the margin profile, you guys did a really good job there. First, do you believe a lot of the efforts there are sustainable where you can keep it at these type of levels, again, at this revenue range? And, secondly, you mentioned some of the manufacturing efficiencies and improvements there. Can you give like one specific example of what type of actions have helped the margin profile, at least on that front?

Okay, I think to the extent that our revenue is flat, we would still maintain the margin profile going forward. We do not expect our costs to increase. We have a series, and I'll turn it over to Peter, he can get into more detail, we have a series of cost containment operational efficiency projects ongoing. There's a lot of nickels and dimes without minimizing the process. But, it's a daily effort. Peter, do you want to provide --?

Yes, in high level, Patrick, the efforts we work on daily to take cost out of our products, one type is the traditional, you manage the supply chain. You continue to put the same pressure on our suppliers as we feel from our customers to maintain competitiveness. That's traditional.

The other thing we do day in and day out is small activities, take content out of what we produce. Shifting certain parts of the business mix onto more fully depreciated tools, all the way to small steps like, for example, when we ship a product in the old days every product you ship went with a paper copy of an electronic CFC. Today, more and more of our customer base, for example, that's done electronically. So, there's an active effort day in and day out to move every customer to paperless transactions. I could give you a long list, all the way to the cardboard boxes we ship the product out in and how do you find an incrementally lower cost way to ship a product? Anyway, it's a very long list of small activities where you eat the elephant one bite at a time.

Patrick, the biggest item in our business is labor costs, material, depreciation. [With that aside], like a nanoFab, has high depreciation. Mature business, very little depreciation and high material cost and labor cost. Being able to, as Sean said many times, three years ago we had about 1,300 employees. Today, we have less employees and we're doing 43% more business. So, our labor costs, we're controlling very well.

Material costs, improving yields, use the right place for the right technology. The focus very much on energy costs because our electric bill is about $50 million a year, so being able to reduce it significantly. Sean did a great job of course, refinancing the nanoFab. I can go on and it's a punch list, pages. But, anyway, I don't want to bore you with all the details, but I give you a little cross section.

Got it, that's helpful. Maybe my next question in terms of the overall environment and I guess what you're seeing out there. I understand some of the weakness in the memory market. I don't think that's a tremendous surprise at this point in the game. But, as the quarter results and potentially the outlook highlight, the mainstream business has actually increased and held up pretty well.

Given there's a lot of uncertainties in the overall Semi market, I guess what are you seeing out there from your customers? Is it potentially share gains that are giving you this boost? Because if you look at some of the other customers out there, there's clearly a high level of caution still as we enter normally this seasonally strong period.

Patrick, certainly in the mainstream market quarter-over-quarter the revenue uplift was driven by an increase in units. And, I think there's little doubt if you look at our performance of our mainstream business over the last three years, we've been on a systematic upward unit volume trend in a market that is down in units.

So, without a doubt, we're gaining market share. And, we're doing it the old fashioned way, which is to provide a better product at a competitive price. That's what we do. That's historically what we've done.

Okay, great. Final question from me. Sean, you talked about the CapEx for next year. I know it's, obviously, a very fluid situation as you enter the following year. But, at this point, do you think more of the CapEx is going to be focused towards? Is it going to be advanced ICs, or potentially even advanced FPD, given that you're doing more work on the AMOLED side? At this point of the game, where do you see some of the CapEx being targeted?

I think generally our CapEx needs to track towards -- the bulk of the CapEx requirements for the near term is related to high end IC, primarily in three locations, Boise, Idaho, Taiwan, and Korea, and to a lesser extent to FPD. But, as we see the opportunity, we may get back to more of a 75%/25% split down the road. Right now, in the near term, it's certainly on advanced quals and product opportunities for high end IC.

Right. Thanks, a lot, guys.

Thanks, Patrick.

Christopher Blansett, JPMorgan.

Good morning, guys. This is Bill Peterson calling in for Chris. I guess one question I have is are you seeing any in-sourcing from some of the major memory or foundry players given they're not selling their own mask houses as much as they perhaps thought they would?

In-sourcing, do you mean larger utilization of internal captives or maybe just clarify.

Outsourcing, I think.

Increased outsourcing?

No, my question -- yes, Chris hit the nail on the head the first time. Are the captive guys bringing more of their own tape-outs internally, given the relatively weaker outlook?

Not right now. We've seen probably a disproportionate investment in capability in the few highest end captives. That's for sure. Over the last year or two, compared to the merchants. And, I'll say the weaker captives, the few strongest have disproportionately invested more.

It's mostly been capability and road map enablement sorts of investments. How that translates into the future outsourcing strategies remains a little bit unclear. But, for sure they still have active merchant programs. We work with all the large captives. And, we don't see any large dynamic change in that situation right now.

Okay. And then, I guess if you consider the CapEx outlook for the rest of this year and into next year, what would you say a quarterly revenue run rate would be, considered to be at full capacity?

Certainly, I would say as we look at, Bill, our model today, we certainly have the installed capacity to do well in excess of $145 million, depending upon the mix. And, as we bring higher end tools online, that capacity should go up. It's a market driven, it's mix dependent. But, we certainly believe if there was a, quote, unquote, snapback at any time in the quarter, we should have the installed capacity to handle whether it's high end and/or [additional] mainstream product flow.

Okay, final question. This R&D expense, we should view that as a one-time -- this 20% increase in the quarter was just a one-time event?

No, I think what you will see from an R&D perspective, we, as Chris mentioned earlier, we have some I think -- we have some pretty exciting work going on in the high end logic space. And, that's not a single quarter event. So, what I'm expecting is those quals to wrap over, up over the next one to two quarters.

I think just to add to Peter's comment, Bill, looking forward our R&D expense should be between $4 million and $5 million. Some of those costs are just, as I mentioned, we mentioned in the prepared text, is just reallocation of installed capacity that was formerly in the COGS line. So, it doesn't really change too much of our operating income. But it provides us -- another way to look at it, to the extent that number's up, it should bode well for us in the future.

Okay. Thanks a lot, guys. That's all I have.

Thanks, Bill.

Thank you.

(Operator Instructions)

Stephen Chin, UBS.

Hi, thanks for taking my question. This is Mahavir Sanghavi for Stephen Chin. Hi, Deno and Sean.

Hi, Mahavir.

Good morning.

Hi there. Good morning. Just a question about AMOLEDs. You have you a leading position at the number one AMOLED supplier. I'm wondering if you could share with us when we could see some your other customers that are perhaps sampling with you could start to ramp up on AMOLED side? Could you give us any color on that?

Chris, do you have any color?

Yes, specifically it's difficult to provide input on some of the customers' option road maps. You could only say that the users or the companies wanting to put AMOLED display into mass production definitely has gone beyond the leader today. There are probably three or four different companies now that are looking at various versions of AMOLED displays types. Now, when that would be in a production mode we really -- some of it we don't know and the rest we probably should not comment right now.

Got it, okay. And then, second question about the EBITDA target. Sean, if I remember correctly, you had targeted something around $175 million earlier in the year. I'm wondering if that's the number that is the management incentives tied to.

That's our goal to get back to that level, Mahavir. Obviously, we had down quarter in Q1 which was our 12th quarter and this quarter was down a bit. But, we don't believe the EBITDA, based upon what we're forecasting, will go down on a trailing 12 month basis significantly from where we're at today.

Our goal is to get that back up. And, to the extent that we're generating the targets that we're looking at, we certainly should be at a minimum of $140 million on a trailing 12-month basis. But, our goal it to get it back over $150 million, and then up to the $175 million level. We're not backing off on that.

Got it. And then, one last question, just a clarification. You said that the fourth quarter, fiscal fourth quarter is typically seasonally weak for you guys, and you're guiding flat Q over Q. I'm just trying to get a sense whether you think some of your memory weakness in the third quarter comes back in the fourth quarter? Or am I reading too much into that?

I think the comments that we made, as Peter alluded to, typically we see it slow down in European sales and, to a lesser extent, in the US sales. And, because we saw mainstream pickup we just had to caution everyone about that. We do have a significant toe hold in mainstream business in US and Europe.

We didn't provide any granularity about the mix with respect to memory, high end, or FPD. We believe, based upon what we see today, that the range that we provided we should be able to hit, and we'll keep our eye on it. We have number of different customer and revenue opportunities. We work on it on a lot of different areas.

All right. Thanks, guys.

Thank you.

At this time, I am showing no further questions. I would like to turn the call back to Deno Macricostas for any closing remarks.

On behalf of the management, I'd like to thank all the participants for your participation in this conference. Thank you, guys. Have a good day. Thank you.

Ladies and gentlemen, this does conclude today's conference. You all may disconnect and have a good day.