Photronics Inc (PLAB) 2015 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to Photronics' second-quarter earnings call.

(Operator Instructions)

As a reminder, this conference is being recorded today, Tuesday, May 19, 2015. I would now like to turn the conference over to Pete Broadbent, Vice President - Investor Relations and Marketing. Please go ahead, Mr. Broadbent.

Thank you, and good morning everyone. I'd like to thank you for joining our second-quarter 2015 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. Unless 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 and 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 third-quarter 2015 results. Joining us on the call today are Dr. Peter Kirlin, Chief Executive Officer; Sean T. Smith, Senior Vice President and Chief Financial Officer; Dr. Christopher Progler, Vice President, Chief Technology Officer and Strategic Planning.

During our remarks 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 Peter Kirlin. Peter?

Thank you Pete, and good morning everyone. Please turn to Slide 3 in our slide presentation. We reported a solid quarter, growing revenues to $127.3 million, which was the high end of our initial guidance range. This achievement was a result of strengthening demand at the high end and strong execution from our team.

High-end semiconductor revenues reached a new quarterly record of $41.7 million. Our high-end penetration also exceeded 40% of IC revenues for the first time. The mainstream IC business was down 5% sequentially due to slower foundry sales of mature nodes in Asia. Flat-panel display sales were up 7% sequentially.

Our high-end IC business was up solidly in the quarter with contributions from memory and 14-nanometer logic. We are clearly seeing the ramp in production for next-generation DRAM. While 14-nanometer logic has yet to enter high volume manufacturing, we are benefiting from mass demand for early stage production.

As we stated before, we are fully qualified with our key customers in next-generation logic and memory nodes, and we have more high-end capacity than all of our merchant competitors combined. So we are poised to benefit as our customers ramp into full production in each of the advanced nodes. These high-end reticle sets have ASPs on the order of $1 million to several million dollars, so it only takes a few sets to turn a routine quarter into an exceptional one.

Our FPD business was up on stronger demand for additional LCD panel masks. New high-end lithography and inspection equipment we are deploying in Korea is being qualified now, and is expected to come online during the quarter.

We continue to see increased demand for our customers for ultra high-definition LCD and AMOLED masks for both development and production. We are the first merchant or captive to have the next-generation of mask-making equipment, and we expect to capitalize quickly on this industry-leading position with our customers. As a result, we expect to see a ramp in high-end sales with full production as we exit the quarter.

With our strong operating leverage and our diligence on cost controls, we outperformed on our gross and operating margin. As Sean will discuss, the operating margin on incremental revenues was 87%. Discounting for one-time items, we exceeded our target of 50% this quarter, and we addition of $0.02 related to a tax valuation benefit, we generated earnings of $0.14 per share. Even without the tax valuation benefit, we exceeded our original guidance range.

Looking forward, 2015 looks progressively stronger for us. 20-nanometer DRAM is now in production. 28-nanometer foundry logic is gaining traction with our specific customers. And 14-nanometer foundry logic is progressing towards volume manufacturing. 16-nanometer NAND and 3D memory are on the horizon. And we expect to see the business start by the end of the year. Our capacity is online and we are fully qualified for all of these nodes, all of this business.

In FPD, with strong demand for AMOLED and ultra high-definition LCDs, we believe the high end market is expanding, and we will have the capacity to leverage this shortly, so we are optimistic that we will hit on all cylinders as our customers go to full production in the coming quarters.

Before I turn the call over to Sean, I would like to congratulate the team on their excellent execution this quarter. As they have been doing for some time now, and they demonstrated again this quarter, everyone is fully focused on delivering on the opportunities in front of us for the benefit of our customers and our shareholders. Now I will turn the call over to Sean. Sean?

Thanks Peter, and good morning everyone. I'll provide a brief analysis of our financial results for the second quarter of FY15, review our operating results, balance sheet, cash flows and our forecast going forward.

Please turn to Slides 5, 6 and 7 which show our sequential quarterly IC and FPD revenue performance. As Peter stated, second-quarter revenue was approximately $127.3 million, at the high end of our range -- guided range. Revenues for IC Photomasks were $103.8 million, up $2.3 million sequentially. As Peter mentioned, we saw solid demand for high-end memory masks, as well as increased FPD sales during the quarter.

Revenues for high-end IC photo masks, which are 45-nanometers and below, were $41.7 million, or 40% of total sales, a new record for Photronics. Sequentially, high-end IC revenue was up $5.3 million, or 15%, primarily related to increased high-end sales in the US and in Korea. Mainstream IC sales during the quarter were $62.1 million, a sequential decline of $3 million primarily related to softness in the foundry mainstream logic sales in Asia.

Revenues for FPD photo masks were $23.5 million, up 7%, or $1.5 million sequentially. Increase was related to higher mainstream FPD orders that Peter alluded to. High-end FPD revenue for the quarter was $15 million, which was down modestly, or $400,000 on a sequential basis.

Breaking Q2 sales out geographically. 67% of total sales were from Asia, 26% from North America, and 7% from Europe.

Now let's continue through the income statement. Gross margin for the second quarter was 26%, up 320 basis points sequentially.

The increase was primarily related to the following items. One, increased volume; two, reduced variable cost, primarily consumables and increased manufacturing efficiencies; three, reduced depreciation sequentially of $1.4 million; and four, certain manufacturing costs reallocated to R&D related to [qual] activity.

Selling, general and administrative expenses for the second quarter increased by a modest $400,000 to $12.4 million. R&D expenses, which consist principally of continued development for our global advanced process technologies and qualifications at advanced nodes were $5.8 million, up $1.1 million sequentially due principally to increased leading-edge foundry, logic and FPD development costs.

During the quarter, we generated operating income of $14.9 million, or 11.7%. This represents an increase of 230 basis points from the first quarter and amounts to an 87% incremental margin on a sequential basis.

Pad depreciation remains flat. The incremental margin would have been 51%. EBITDA, as defined in our credit agreement, for the quarter was $34.8 million, or $139 million on an annualized basis.

Other expense net for the second quarter was $1.5 million, up sequentially by $200,000. During the second quarter, we recorded a tax provision of $1.3 million, which includes the reduction of a foreign tax NOL valuation allowance of $1.5 million that was deemed to be no longer needed. Excluding the valuation allowance adjustment, income tax expense would have been $2.8 million, which was within our guided range.

Minority interest expense was $2.1 million for the quarter, and primarily related to our partners' share of PDMC's profits for the second quarter. Minority interest expense decreased $1.2 million during the quarter.

GAAP net income was $10.1 million, or $0.14 per diluted share, and includes $1.5 million, or $0.02 per diluted share related to the reduction of the tax valuation allowance I previously discussed. At the end of the second quarter we had 1,510 fulltime employees, which equates to annualized revenue per employee of $337,000.

Now turning to the balance sheet. Cash and cash equivalents at the end of the quarter amounted to $176 million. Our net cash, which is cash less debt, was $39 million at the end of the quarter, up $10 million sequentially.

Working capital at the end of the quarter was $151 million as compared to $144 million at the end of Q1. Accounts receivable at the end of the quarter were $97.6 million, down $1.6 million sequentially. And other current assets were $24.7 million, down $4.2 million sequentially, primarily as a result of reduced prepaid expenses.

Accounts payable and accrued current liabilities at quarter end amounted to $153 million, down $14 million sequentially, primarily as a result of reduced accrued CapEx. At the end of the quarter, $56 million of CapEx was accrued for, which was down $10 million sequentially.

Please turn to Slide 9 as we review our capitalization. Total debt at quarter end was $137 million. The principal components of outstanding debt include $115 million 3.25% senior unsecured notes, 50% of which are due April 2016 and 50% which are due April 2019, and approximately $22 million in capital lease obligations.

Our leverage ratio improved to 1.01 times during the quarter. During the quarter and through today we have not borrowed on our five-year $50 million credit agreement.

Taking a look at our cash flows. Cash provided by operations for the second quarter of 2015 was approximately $36 million. Depreciation and amortization was $19.5 million, down approximately $1.4 million sequentially.

Cash flow used in investing activities in Q2 2015 amounted to approximately $28 million, which is all primarily CapEx. And net cash used by financing activities during the quarter amounted to approximately $2 million.

Please turn to Slide 10 as we take a look ahead. Taking a look at CapEx, we expect our 2015 cash CapEx needs to be approximately $110 million. We do, however, have the flexibility to accelerate or decelerate our spend depending upon market conditions. And our 2015 investments were principally geared towards high-end leading-edge products for IC and FPD applications. And we do expect to continue to generate free cash flow once again in 2015.

Our visibility, as always, continues to be limited as our backlog is typically only one to two weeks. We are projecting revenue for the third quarter 2015 to be in the range of $124 million to $133 million. We also expect our depreciation and amortization expense to increase this quarter to approximately $2 million to $2.7 million as additional tools come online.

During 2015 our tax rate will be affected by the flow of income from jurisdictions for which we may have credits, and upon our limited ability to recognize tax benefits in areas which we are taxed. For the third quarter of 2015, this will equate to a range of $2 million to $3 million, and for FY15 we estimate total taxes will range from $9 million to $11 million. As a result, based upon our current operating model, we estimate earnings per share for the third quarter of 2015 to be in the range of $0.06 to $0.13 per diluted share.

In summary, I'll leave you with a few key thoughts. First, we expect top- and bottom-line improvement in 2015. Second, we expect our EBITDA to continue to grow in 2015. Third, 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 known migration plans, and we have a strong financial position and excellent technology to capitalize on those plans. And finally, we expect to continue to build on the momentum that we have established over the past few years as a leader in advanced photo mask technology. Now I'd like to turn the call over to the operator for questions and answers.

(Operator Instructions)

Our first question comes from Edwin Mok with Needham.

Thanks for taking my question, and congrats on a great quarter. My first question actually on the guidance range. I noticed that the range is maybe a little bigger than what you historically guide for, the $9 million [range] from top to bottom. Any reason for bigger range?

Edwin, the principal reason for the wider range, as Peter alluded to, as our high-end business grows, a few orders could make or break a quarter. So we thought it would be prudent to widen the range. We expect, or we strive to hit the high end of the range. But obviously with the increased quarter-over-quarter 15% at the high end IC business, which ASPs are well in excess of $1 million, $2 million at times, that's the principal reason.

I see. Okay, that's helpful and clarifying. You mentioned on the prepared remarks that there's some slow business on the mainstream side, mostly due to the foundry business in Asia. Can you give us more color related to that? And is that more temporary, or do you expect improvement this quarter? Anything you can provide for that.

Edwin, if you look at the first half of the year, our mainstream sales year-over-year are up $8 million. Last quarter we basically had the full effect of Chinese New Years embedded in Q2. So we see that as a temporary, not a permanent, phenomenon.

I see, so some seasonality there. Okay, that's helpful. Peter, since you're answering. So I have a question regarding the memory foundry opportunity you guys are seeing. We saw a few of these Taiwan customers [to exact] is due more specialty memory that is using licensed technology from your partner -- or your JV partner there. Also wondering where we are on that opportunity? Do we expect to start seeing revenue from those, and how meaningful do you expect that to become?

Yes, well, where that stands for us today, for example, what I would almost call it legacy now. I mean, we have business at foundry memory for what is legacy. We call it 80 Series technology, which is 35-nanometers in Taiwan. I think it's common knowledge that Power Chip is right now working on ramping what we would call 90 Series which is 25-nanometer. And Nanya just broke ground for 100 Series, which is 20-nanometer.

So today it's legacy business, and the ramps we expect to see for 25- and 100-nanometer are 2016 event. So it's actually beyond any of the remarks that I alluded to in the script.

I see. Okay, that's helpful. So basically these guys are moving down the technology curve, and that's how you should expect to see some incremental benefit from that in 2016?

That's right. And I think the other point that's significant is the reticle intensivity of foundry memory is two to three times that on a memory revenue dollar of normal high volume memory because the product runs tend to be much smaller. So striking as it -- shocking as it might be, a customer like Power Chip could have reticle revenues approaching a customer like a [Interra], even though they're much smaller because of the reticle intensivity of the foundry memory business.

Okay, great. One last question and I'll let the other guys ask. If I take the midpoint of guidance, you kind of implied that either your costs go up or your margin is coming in a little bit. Am I understanding this correctly?

We did mention, Edwin, that we expect our depreciation cost to increase as tools come online, so that's a factor. We did have a number of tools during this past quarter come offline, and we have projected some of the tools come in sooner. So it's just a timing issue. There's no other cost increases basically built in with the model.

Great. That's all I have, thank you. Appreciate it.

Thanks Edwin.

Our next question comes from Patrick Ho with Stifel Nicolaus.

Thank you very much, and also congratulations on the nice quarter. Peter, maybe first off in terms of the mix ahead for 3Q. How do you see high-end IC? Do you see similar mix, or do you see shifts in terms of logic and memory for the current quarter?

Really, the 20-nanometer DRAM has pegged the business at a higher level where we are presently sitting. One of the interesting things about last quarter was that high-end logic was almost flat quarter-over-quarter. There was a mix shift from 28-nanometers to 14-nanometers. We don't see that as being permanent. So next quarter, particularly if we reach the high end of our guidance, we would expect that the growth in the revenues would come from logic. Harder to call whether it's going to be 28-nanometers or 14-nanometers. If I had to guess, I would guess that 28-nanometer's going to be sequentially up.

Great, that's helpful. And maybe Sean, in terms of the capacity that you have online, you've mentioned in the past about the flexibility to shift capacity depending on regions of the demand. Have you seen any shifts over the past few quarters has necessitated these type of changes, or has it been pretty much where you've expected, I guess, where you've placed a new high-end capacity?

I think its been as expected. And perhaps I'll ask Chris to allude to that, but we're set up pretty well in Boise, in Taiwan and in Korea for leading-edge or high-end logic and memory. And we're putting the precision tool FPD tool online this quarter in Korea. So we believe the choices that the team has made where to deploy the capital continue to prove fruitful for us as we move forward. Chris, do you have any color?

No, not too much more to add. Just say we have good amount of qualified capacity. The other thing we're doing, Patrick, is matching capacity across sites, particularly the high-end riders, so we can move work around a little more effectively and not impact cycle time. That helps us on our global utilization of our high-end tools. So we think we're in good shape with capacity and also with qualified capacity and intersite matching as well.

Great. And a final question for me. With a lot of different leading-edge opportunities, particularly in IC [photo] whether it's DRAM, as you mentioned NAND and logic, how are the qualification time for customers? Do they become a little more extended, or are they still at the normal kind of track rates you guys have seen in the past in terms of the qualifications?

This is Chris. Yes, Patrick, we're not seeing big trends in those getting shorter or longer. They're still taking a good amount of time, but actually it varies pretty widely. If, for example, we're matching to an existing process, say at a captive, things can go a little bit more quickly because we have a cooperative situation there and we can get qualified a little more rapidly.

If we're doing process of record-type development in collaboration with a new customer, that tends to take a little bit longer because the customer themselves are also finding their way on process technologies. But they are long complicated calls, but I'd say that's not stretching out. It's still three, six months on the short side and could be a year or longer on the long side. So it's a wide gap and it really depends on the scenario.

Great. Thank you very much.

One thing I want to add to Chris' comment, because I think he's being a little too modest. As we're emerging as the technology leader, we have a higher number of qualifications underway now where the customer doesn't have an internal captive. And as Chris did say, those take longer because they're trying to, quote -- find their way. So we're actively engaged and Chris is leading that activity with a higher number of non-captive customers, which we need to be as the industry leader.

Great, thank you very much.

Thanks, Patrick.

(Operator Instructions)

Our next question comes from Tom Diffely with D.A. Davidson.

Yes, good morning. So when you look at the four or five big drivers you have for revenue going forward, I was wondering if you could look at the differences between them and maybe give us a feel for what you think are the biggest drivers this year, and then what are the biggest drivers on a long-term basis? And these are the 20-nanometer ramp in Taiwan, 14-nanometer in Korea, flat panel and the memory. So just between those drivers, what are kind of the near-term versus the long-term opportunities?

Well I think Tom, starting with FPD, that one is right in front of us. And we're -- we work -- the Korean team did a very good job in getting those tools installed without -- as you saw in the quarter, disruption to revenue. That's not easy, because there's a disruption in the clean room. So the high-end, the next-generation of capacity is installed. We're qualifying customers, and there's a lot of market suction for that capability, which is capacity too. But it's the next wave for the FPD industry. So that one, as soon as we're qualified, literally which we expect to complete maybe mid-quarter, we expect to load that capability quickly. So that one is here.

Does that come with the expenses of some of the [older] tools, though?

It really isn't, because if you look at our revenues in the FPD space, we've been basically flat because we're capacity constrained. But we didn't want to add capacity when we saw new capability really right on the horizon. So we waited to add capacity in the FPD space until the next generation of capability was available to be purchased. And that also fits with -- our largest customer there historically has been Samsung, and they've just installed and ramped, or are ramping a new line based on the next generation of lithography and FPD. So they have new steppers, they have enhanced resolution.

And we're the first, whether it be merchant or captive, to bring mass to that market that can really exploit the capability of that new tool set for AMOLED in particular. So as you know, we tried to time our capacity to market need. And I think in this case we got it exactly right. So that's right in front of us. And then stepping back from that, it's quite hard to predict exactly which IC driver impacts a quarter. DRAM now is well in hand, and we're comfortable with it. It's engaged, right, the gears are spinning. And it puts the business at a different revenue level.

As far as the other transitions are concerned, 14-nanometer clicked up nicely for us in the quarter, but surprisingly 28-nanometer clicked down, and it was no loss of market share, I assure you that. With the advanced IC nodes we're now in a realm where our customers are struggling with yields. And as they make progress, they order more reticles. And as they step backwards, they order fewer.

So the key for us is we have a lot of drivers, and they're all sort of saw-toothed in the IC space and all pointed upwards. So I think over a quarter we can expect to see an uplift, but it's very difficult to predict exactly where it's going to come from because it's really gated by wafer yield.

All right. And then when you look at the mainstream business being a little bit softer than normal, at what point do you think that business stabilizes and starts to grow with the whole Internet of Things transition we expect over the next few years?

Yes. Well as I said, the mainstream for the first six months is up $8 million year-over-year. And we continue to see that the price of finished eight-inch wafers rise. So we are pretty bullish on the mainstream market. So what we saw this quarter, we see as temporary. We don't see it as permanent. Again, I'll just say year-over-year, our mainstream business is performing well.

And then Sean, when you look at the R&D line, it sounds like there's more and more qualifications going on. Would you expect the R&D line to grow over the next few quarters with these engagements?

Tom, it's hard to say, but I don't think -- I think this past quarter was the highest R&D line, or amount, that we've had in a long time. And I don't think it will go much higher than that. I think as we turn some of these tools on, those costs will come down. So I don't think so. I think it will get back to a more normalized level.

Okay. And then when you look at the qualifications of 14-nanometer FinFET, if you have to qualify a second customer with the same process, is that a quicker procedure qualification time frame, or because it's a new customer does that take an equally long period of time?

If it's a similar -- Tom, if we can use a similar mask process, it's definitely quicker. It doesn't mean it's fast, but for sure it's quicker because we can come in with a initial data set, initial processes that are qualified at a different customer.

We do some modifications to those in all cases. Very few of these processes are plug-and-play for multiple customers. But if it is a modification of an existing process flow, it's definitely faster and more cost effective to do the next qual.

All right. And then Sean, when you look at just overall capacity, can you quantify that on a quarterly basis? Are you at $150 million quarter run rate with capacity, or -- obviously it's mix dependent, but is there some kind of rule of thumb we use?

Yes, Tom, depending upon the mix we certainly can do in excess of $150 million. We want to also be careful about giving too much detail to the outside world with respect to our competition, but we certainly have, with the high end FPD tool coming online and the leading-edge [litho] tools that we already have in place and the call activity, we're very optimistic about our ability to grow the top line.

Okay. And it sounds like in the out year, you expect CapEx to come down after the kind of high level this year. So would you need to see revenue -- or business above that $150 million mark to be more aggressive on CapEx for the out year versus current expectations?

We stated in our analyst meeting that we did expect as of right now our 2016 CapEx to come down in comparison to what we spent this year. If we do see an opportunity, and depending upon the mix, to increase that because we want to grow the top line even more, and we have a customer engagement we'll do so. But we haven't had any firm plans as of yet for 2016.

Okay. And then finally, what is your cash CapEx to date so far this year? Out of the $110 million, what have you spent so far?

Bear with me one second. It'll be in our cash flow statement. $68 million.

Great. Okay, thank you.

Thank you.

Ladies and gentlemen, there are no further questions at this time.

Okay. Thank you, everyone, for participating in this mornings call.

We thank you for your participation and ask that you disconnect your lines.