Photronics Inc (PLAB) 2013 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Photronics fourth-quarter earnings call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded, Wednesday, December the 11th, 2013.

I would now like to turn the conference over to Pete Broadbent, Vice President, Investor Relations and Marketing. Please go ahead, Mr. Broadbent. You may begin.

Thank you, and good morning everyone. I'd like to thank you for joining our fourth-quarter 2013 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 this 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 first-quarter 2014 results.

Joining us on the call today are Constantine Deno Macricostas, Chairman and Chief Executive Officer; Dr. Peter Kirlin, President; Sean T. Smith, Senior Vice President and Chief Financial Officer; Dr. Christopher Progler, Vice President, Chief Technology Officer, and Strategic Planning. Also joining us on the call today is Dr. Frank Lee, President of PSMC.

During our remarks this morning, we will be referring to slides posted on our website under the Investor Relations link. And now, I'd like to turn the call over to Deno Macricostas. Deno?

Thank you, Pete, and good morning everyone. I would like to begin by highlighting a few of our major accomplishments this year. Then, I will turn the call over to Peter Kirlin, who was promoted to the position of President during the quarter. Peter will speak to our results in the fourth quarter and the trends we see in the market.

Since the beginning of 2013 and through today, we've completed a number of strategic moves that position us for future growth. We successfully completed our tender offer for the outstanding shares of PSMC. We entered in a JV agreement with DNP in Taiwan, which will give us access to high logic technology, a faster growth, and higher revenues. The JV immediately strengthens our network for serving key customers in the region, including Migler and Affiliates, UMC, SMIC, and GlobalFoundries.

We restructure our loan agreement, so it gives us more financial flexibility while reducing expenses. We successfully deploy additional capital equipment to serve our high-end customers globally. The result is our footprint now represent the largest install base of 14-nanometer cable equipment for quality merchants. We have invested more at this stage than our three largest competitors combined, and we invest in line with our customer roadmaps for maintaining a strong net cash position at balance sheet.

While fiscal 2013 wasn't a growth year we expected, we took significant strategic actions that position us well for future growth. So from that perspective, it was an excellent year for Photronics. We execute well operationally and performed well on the bottom line. We continue to use our cash strategically, while reducing our debt and building working capital. And finally, we put the key pieces of our strategic plan in place this year to capitalize on the expected ramp in the high end next year.

In summary, we are very optimistic about 2014. We have established strong partnership with key customers. Our JV will bring opportunities for accelerated high-end growth. We have a federal banking arrangement, and we are very well positioned in marketplace by investing high end. As a result, I'm very excited about the opportunities ahead for the Company.

Now, I would like to turn the call over to Peter. Peter?

Thank you, Deno, and good morning, everyone. Please turn to slide 3 in our slide presentation. In Q4 we achieved sales of $106 million, at the top of our revised guidance. Sean will provide a detailed breakdown of our financials, but first, a few highlights and some comments on the trends in our business.

The general trends in the semiconductor and flat panel display photomask markets are positives. During the quarter, we had solid momentum in our FPD and mainstream IC businesses. FPD sales of $26.2 million were up 3% sequentially, with 11% growth in the high end. IC mainstream sales grew $3 million, or 5% sequentially, which is a solid quarter for us. The $64.2 million of mainstream sales represent the highest quarter for us in two years.

Our challenge in Q4 was the high-end IC sales and reflects the transition we continue to face with two key customers. As we have discussed previously, in memory, the volume in radical demand linked to new designs for next-generation devices was light because the wafer fabs have been running essentially flat out with existing chip designs. In addition, we have yet to receive the boost from new demand that we expect from one of our largest customer's recent acquisition. Both of these factors contributed to this short-term delay in, but not a loss of some high-end photomask sales.

On the foundry side, we'd expected to start seeing revenues resulting from the qualification of one of our largest customers at the 28-nanometer node. We did not complete this qualification on schedule. As of today, we expect to qualify during the current quarter. Our relationship with this customer remains solid, and we have started to qualify at the 14-nanometer node. We expect to see sound demand at 28 nanometers as soon as the qualification is complete, and at 14-nanometer when this customer initiates that node migration. The high-end opportunities at these and other customers give us reason to be enthusiastic about our future.

On the operations side of the business, our Management Team is relentless on controlling costs. Even with the topline decrease, we were profitable and generated cash. We delivered gross and operating margins of 25.2% and 7%, respectively. We generated non-GAAP earnings of $0.09 per share, which exceeded our revised guidance. Non-GAAP EBITDA was $27 million, though we improved our net cash position by $18 million, sequentially.

So, despite a softer-than-expected quarter, we continue to generate profits and improve our cash position. Also, with our deployment of capital in strategic markets, under our agreement to form a joint venture in Taiwan with DNP, we strengthen our position in the marketplace and are poised for growth. In the near term, the Team is laser focused on executing on a number of customer qualifications. We have significant opportunities in front of us with our key customers, and we are working intensely to capitalize on them. We will continue to execute our strategy in mainstream IC and FPD to extend our share gains, and we will maintain our vigilance in controlling expenses.

Looking forward, we expect 2014 to be a strong year for us. As Deno mentioned, we've achieved key milestones in our strategic plan, our customers are making progress in node transitions, and we are focused on delivering growth and value for our shareholders.

And now, I will turn the call over to Sean.

Thanks, Peter, and good morning, everyone. I will provide a brief analysis of our financial results for the fourth quarter, review our balance sheet and cash flows, discuss our forecast, and also provide additional information on the recently-announced Taiwan JV.

Please refer to slide 4 for our GAAP to non-GAAP net income and EPS reconciliation as we review the fourth quarter. For purposes of our discussions, I will be primarily comparing our non-GAAP operating results to the revised fourth-quarter guidance we published in our November 13 press release.

Slides 5, 6, and 7 show our sequential quarterly and year-to-date IC and FPD revenue performance. Fourth-quarter revenue decreased by 3.3% sequentially to $106 million for the reasons Peter discussed. Revenues for IC photomask were $79.8 million, down $4.3 million sequentially for the fourth quarter, while FPD photomask revenue increased $700,000 sequentially to $26.2 million. Breaking out sales geographically, 62% of total sales were from Asia, 27% from North America, and 11% from Europe.

High-end global IC sales were $15.6 million, or 20% of total IC sales for the quarter. This represents a sequential decrease of $7.3 million. Global mainstream sales increased sequentially by $2.9 million or 5%. Advanced FPD sales increased by $1.8 million to $18.5 million, or 71% of total FPD sales. As a reminder, high-end IC revenues consisted of revenue derived from semi designs at and below 45 nanometer, and high-end FPD revenue consists of revenue at and above G8 as well as AMOLED-based products.

Now, let's continue through the income statement. Gross margin for the fourth quarter was 25.2%, up 50 basis points sequentially. The increase was primarily related to certain manufacturing costs reallocated to R&D as a result of the increased qualification activity. Selling, general, and administrative expenses for the fourth quarter were $12.9 million, up sequentially by $900,000, primarily as a result of approximately $800,000 of expenses directly related to the JV.

R&D expenses, which consist principally of continued development for our global advanced process technologies and qualifications at advanced nodes, were $6.4 million, up $1.4 million sequentially, primarily as a result of increased qualification activity, including the Asian foundry qual that Peter discussed. During the quarter, we generated operating income of $7.4 million, or 7% of sales. Excluding the cost related to the JV, operating income was $8.2 million, or 7.7% of sales. Sequentially, operating margin was down 50% of the decreased sales for the quarter.

Please turn to slide 8. EBITDA as defined in our credit agreement for the quarter was $26.6 million, and for the year, it was $110 million. Also for the year, free cash flow was $46 million, which is EBITDA of $110 million, less our non-financed cash CapEx of $64 million. Other income and expense for the fourth quarter was expense of $1.4 million, up $400,000 sequentially. And during the fourth quarter, we recorded a tax provision of $1.1 million.

GAAP net income was $4.8 million, or $0.08 per diluted share, and non-GAAP net income excluding the JV transaction expenses, was $5.6 million, or $0.09 per diluted share, higher than our revised guidance of $0.06 to $0.07 per share. At the end of the fourth quarter, we have 1,300 full-time employees, which was essentially flat with the end of 2012. This equates to revenue per employee of $326,000 on an annualized basis.

Now, turning to the balance sheet. Despite missing our initial guidance and decreased sequential operating results, our balance sheet actually improved sequentially. Cash and cash equivalents at year end amounted to $216 million, and our net cash, which is cash less debt, was $22 million, or up $18 million sequentially. Our working capital at the end of the quarter was $214 million, which was up $22 million sequentially compared to Q3. Accounts payable accrued current liabilities at year end amounted to $93 million, and at the end of the quarter, $19 million of CapEx was accrued for, down $11 million from the third quarter of 2013.

Please turn to slide 9 as we review our capitalization. As Deno mentioned, on December 5, we announced we entered into a five-year, $50 million revolving credit facility and the repayment of a $21-million term loan which was previously due in 2017. The new credit facility provides for increased financial flexibility, reduced interest rates, and relaxed financial covenants.

Total debt at the end of the year was $194 million, of which $21 million was paid on December 5 as part of the new revolving agreement. The principal components of outstanding pro forma debt include $22 million of a 5.5% senior unsecured convertible note due in October 2014, $115 million 3.75% senior unsecured notes due at April 2016, approximately $11 million for a capital lease obligation, and approximately $25 million related to a capital lease for an e-beam tool. As of today, we do not have any borrowings outstanding on our new 5-year, $50 million credit agreement.

Taking a look at our cash flows, cash provided by operations for the fourth quarter was approximately $32 million. Depreciation and amortization was $17.9 million for the quarter, and for fiscal 2013, cash provided by operations was $99 million. Cash flow used in investing activities during [2013] amounted to $16 million and $66 million for 2013. In Fiscal 2013, cash used in investing activities includes $64 million of cash CapEx. Net cash used by financing activities during the quarter amounted to $4 million and $40 million for fiscal 2013, of which $32 million related to the TSMC take-private transaction that Deno discussed and $8 million related to repayment of debt.

Please refer to slide 10 and 11. On November 20, we announced the formation of a non-cash joint venture with DNP in Taiwan. In essence, TSMC will be merged with DNP's Taiwan subsidiary DPTT. The joint venture is subject to regulatory approvals and closing conditions, and is projected to be finalized in the first half of Fiscal 2014.

Let me highlight some of the key provisions of the JV. Photronics will own 50.01% and consolidate the JV on our financial statements. Photronics will manage and control the JV. This is absolutely critical to our ability to be successful with our high-end strategy.

We estimate that our top line will grow by at least $80 million annually, with the vast majority of the revenue being comprised of high-end IC products. The JV will have a well-capitalized balance sheet and should be self-sufficient. During the quarter, we did incur approximately $800,000 in expenses related to the transaction, and we expect to incur $1 million to $2 million in additional expenses related to the JV prior to the closure. We do expect to extract annual cash synergies of at least $5 million to $7 million beginning within 2 quarters of the JV formation, and we expect the JV to have an accretive impact of the bottom line in EBITDA in Fiscal year 2015, if not sooner.

Please turn to slide 12 as we take a look ahead. We expect our cash CapEx needs for 2014 to be in the range of $70 million to $90 million. We do, however, have the flexibility to accelerate or decelerate our spend depending on market conditions. We expect to continue to generate free cash flow once again in 2014, and our 2014 investments will principally be geared towards high-end, leading-edge products for IC and FPD applications.

Our visibility, as always, continues to be limited, as our backlog is typically one to two weeks. For Q1 2014, we do expect to experience some reduced orders related to the typical year-end holiday seasonality. So taking this all into consideration, we are projecting revenue for the first quarter of 2014 to be in the range of $103 million to $107 million.

During 2014, our tax rate will be affected by the flow of income from jurisdictions for which we may have tax credits and upon our limited ability to recognize tax benefits in areas in which we are taxable. For the first quarter of fiscal 2014, this will equate to a range of $1 million to $2.5 million. For fiscal 2014, we estimate total taxes will range from $12 million to $15 million. As a result, based upon our current operating model, we estimate earnings per share, exclusive of any JV transaction costs, for the first quarter of 2014 to be in the range of $0.06 to $0.10 per diluted share.

In summary, I will leave you with a few key thoughts. First, we expect top and bottom-line improvement in 2014 and to continue to expect to generate free cash flow. Second, we are confident about our business model and our ability to grow market share at the high end. We see continued opportunities in our customers' businesses 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 have established over the past few years as a leader in advanced photomask technology.

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

(Operator Instructions)

Edwin Mok of Needham & Company.

Thanks for taking my question. So, Sean, first question I actually have for you is how do we think about -- given that you guys will be completing the joint venture probably -- maybe in the April quarter according to your commentary, right? How do you think about what impact or benefit you expect to gain from the joint venture in terms of effect on your gross margin and operating expenses?

I think initially, Edwin, depending upon when the JV closes, certainly the top line will grow immediately. And then as we extract synergies, we would expect our operating growth and operating margins to improve. So the timing of the closure of the JV will have an impact on 2014.

Right. I understand. Maybe a different way to say it -- ask that is, if I look at the back of 2014 when you expect to have the joint venture closed, right, do we expect gross margin to be a higher level than where we are at right now, and also our free margins?

We expect on a standalone basis our growth and operating margins to be higher year over year, certainly, in 2014. To the extent the JV closes earlier in the year, we would expect them to be higher as well for 2014. It's all in the timing of the closure of the JV.

I see. Okay. That's helpful. And then, I guess, a question on the marketplace. So for the quarter, you guys have kind of a light high-end. Then you mentioned that memory was a contributing factor beyond the qualification into a customer, right? And January, the seasonal still quarter, how do you think about memory's spending on photomask as we go beyond the January quarter? Specifically, on the high end, do we expect that to come back and contribute and bring a high-end revenue, excluding the JVs, bring you higher-end revenue back to a $20 million-plus range that you had reported previously?

Yes, Edwin, we expect as we enter the new calendar year to start to see our memory business benefit on the significant node transition. So towards the end of the first quarter and then moving forward in the year, the memory business, we expect to improve sequentially. By the time we get into the third quarter, it should be quite strong.

Is that largely due to one -- your joint venture customer (inaudible) doing this another transaction on the DRAM side, or is it some other factor that you guys are looking at?

I think you understand it correctly.

Okay. That's helpful. Then, lastly, any kind of additional that you can provide in terms of qualification in the customer -- on the logic customer you guys have talked about? Do you guys -- is it the equipment install? Are you still going through a qualification? When do you kind of expect that to be completed? Is any timing of customer investment or spending -- would that have an impact on when you expect the January revenue updated or qualified?

I think in the past, what we have demonstrated, is once we get qualified, we ramp quite quickly on a node regardless of the customer. In this particular case, there's no customer issues that would, in any way, impact our ability to do that. So once the qual completes, we expect to ramp business with them immediately.

In terms of timing of qualification, you have any hard target for that?

Yes. What we said is, it didn't occur this quarter as we'd expected. What we didn't say is we understand why it didn't work. We fixed it, and we are expecting that the qual is going to conclude by the end of the quarter.

Great. That's all I have. Thank you.

Patrick Ho of Stifel Nicolaus.

Maybe just going back to the foundry qualification situation. As you move from 28 nanometers to 14 nanometers, are there any additional, quote, toolsets or any additional changes that need to be made there that could change the dynamics of that qualification process going forward?

At the 14-nanometer node, we have customers in various stages of what I would describe as material on their wafer process flow. So, for example, our most leading customer, their toolset is fully stable, and we are far beyond the midway point on that particular qual. In that case, it's basically locked down, bulletproof, don't expect any changes. We have other customers that are -- where we are early in -- some haven't started. The ones that haven't started, obviously, a toolset is not solidified. The ones that are early in could still change. So right now, the 14-nanometer logic node is bulletproof in some cases, fluid in others.

Okay. Great. Maybe question for Chris in terms of the technology, and especially as we look at 2014 on the NAND flash side of things. As the industry begins to transition to 3D NAND and you're hearing more chatter from not only the first player involved but others now potentially bringing on their capabilities as 2014 progresses, what are some of the mask implications of that transition given that there's going to be an increase of layers as you basically flip them over? Maybe if you could just give me a little bit in terms of both, I guess, the technology process and what some of the potential opportunities are going forward?

Sure. Thanks, Patrick. We are qualifying and actually qualify for some of the vertical NAND devices already, the so-called 3D NAND, so we know this flows very well. There are more mask layers per device. Generally more non-critical layers, as well. There are some specifications for the mask that actually get a little tighter than the previous floating-gate planar NAND, and then some of them are lax as well. We've analyzed it pretty closely.

In total, there's not that much of a difference from a total mask perspective between scaling with standard planar floating-gate NAND and 3D NAND. We should see more layers, but some of the layers will be a little easier to manufacture. So in total, we don't see big differences between these. The most important thing is the roadmap continues to scale, and those transitions continue to happen in NAND, which we believe will -- is occurring, and on also a pretty aggressive basis. So I would say it's business as usual for the most part for masks, and perhaps some upside from the point of view of units as the 3D transition unfolds in 2014.

Great. Final question for me, in terms of your high-end opportunity, primarily on the IC side of things, given that this joint venture allows you to get even greater penetration on the high end, have you seen any changes on the competitive landscape because of your increasing share at the high end? Or have things kind of been pretty, I guess, rational at this point?

The marketplace is -- to use your words -- rational. The opportunities that we have seen -- the fact that we are starting to separate ourselves is now becoming very clear. So in the business opportunities that we are actively engaged in, what we really see is more willingness of the customers to work with us to accelerate what we are currently doing because they see that now, even more than before, as time well spent.

Great. Thank you very much.

Yes, one thing I might add, Patrick, on the competitive side, as Deno mentioned in his comments, from an investment point of view, when you look at the high-end 14-nanometer, as far as the capacity and the technology to service that node, for sure, we're best positioned. So there's always competition, and that won't change. But on the other hand, we have a very strong position in our infrastructure, and the JV adds to that. So we're fairly confident we are well-positioned there.

Great. Thank you very much.

(Operator Instructions)

Tom Diffely of D.A. Davidson.

So, first, Sean, a question on your capital spending of $70 million to $90 million. Is that earmarked initially for high-end IC like it has been the last couple of years?

I think what we've stated in the past, the revenue differential between IC and FPD is sometimes 75%, 25%. So we generally, I believe, stated that. Our CapEx spend is roughly about that split. Certainly, we do expect to see some significant growth on the high-end IC side. We've actually invested, as you -- most people are well aware, on some leading-edge lithography and inspection tools that were installed in 2013, and we expect to benefit from a revenue ramp in 2014.

Okay. So as revenue ramps over the next few quarters, what is the capacity that is currently in place, the type of revenue that would make that support?

Certainly, well in excess of what we ended the quarter in. We have high goals, without giving specific guidance for the full-year, but we do expect to see substantial growth as we move out into Q2, Q3. I think Peter mentioned that in his remarks.

As far as the growth that you are seeing for 2014, is that already accounted for with your capital in place? Or do you need to spend more to get that capacity in place? I guess what I'm getting at, is the $70 million to $90 million for this-year capacity, or is it for out-year capacity?

It's a combination of both.

Okay. Also, this morning, you talked about some strength -- or relative strength in the mainstream business. Do you think that's sustainable going forward? Or what are the dynamics there?

The strength in the mainstream business is, I think, a bright spot for us year over year. We actually saw a slight increase in revenues in a market where the units are clearly decreasing. So we are picking up market share there, and our objective is to continue to do that.

Having said that, as everyone on the phone knows, our business really sings when we execute on all cylinders, and that's our focus in the coming year -- not one or two, but all. (multiple speakers)

Yes, okay.

(Inaudible) something that's on the mainstream side. The improvement, certainly in the balance sheet of the cash flow generation, is driven quite a bit by the mainstream business, which is a cash cow that allows us to invest in leading-edge capacity.

Okay. I guess on those slides, too -- what does 2014 look like from a flat-panel business point of view, both mainstream and high-end flat panel?

This is Chris. I can make a few comments on the high-end part of it. 2013 was a strong year for flat panel, high end in particular. That includes the AMOLED work. Our largest customer there seems to be very intensely working on new designs for AMOLED. Still mostly in the mobile space, but a lot of new design work on tablets, some new curve display things coming out that are based off AMOLED technology. So to the extent all of those things go into mass production, then it should be also 2014 quite a strong year on the high-end display side.

On the mainstream side, Sean maybe has some comments.

Yes. Where we saw the growth this year was, as Chris alluded to, is on the high-end side, particularly centered with our two Korean-based customers. Mainstream business is primarily centered in Taiwan, and to a lesser extent Korea, and that's a little bit more, as we've talked about in the past, a competitive and commodity-type pricing.

Okay. The last question, Sean. Does the joint venture impact long-term tax -- have any long-term tax implications?

Actually, we expect the JV to have some preferential tax benefits when it closes, so it should only improve the overall effective rate.

Okay. Thank you.

You're welcome.

(Operator Instructions)

Edwin Mok of Needham & Company.

Thanks for taking my follow-up. Sean, I have a question about the R&D. What happened the last quarter, how come it went up so much?

We had some increased qualification activity that caused it to increase.

Is it something that you expect to moderate? I mean, obviously, excluding the factory financing, is this something you expect to moderate after the qualifications are completed?

I would expect it to go back to the levels that it had previously, but to the extent it stays where it's at and it's with other new applications, it bodes well for our future, as well.

Yes, but to add to Sean's commentary, there is a great effort to fix the problem that we had, and to some extent, the spend reflects that.

Great. That's all I have. Thank you.

Thank you. Ladies and gentlemen, there are no further questions at this time. I will turn the call back over to Mr. Macricostas for closing remarks.

Thank you for participating on this morning's call, and I would like to thank Photronics' employees for their dedication and hard work this past year. I'd like to wish everyone happy holidays and a prosperous New Year. Thank you.

Ladies and gentlemen, that does conclude our conference call for today. We thank you for your participation, and we ask that you please disconnect your line at this time.