Veeco Instruments Inc (VECO) 2004 Q3 法說會逐字稿

Good day everyone and welcome to the Veeco third quarter 2004 results conference call.

Today's call is being recorded.

At this time, for opening remarks and introductions, I'd like to turn the conference over to the Vice President of Corporate Communications and Investor Relations, Ms. Debra Wasser.

Please, go ahead, ma'am.

Thank you.

Welcome to our conference call this morning.

Veeco announced third quarter results at 7 a.m. eastern time this morning. (inaudible - audio difficulties) Joining me for today's call are Ed Braun, our Chairman and CEO, and Jack Rein, our Chief Financial Officer.

This call is being recorded by Veeco Instruments and is copywrited material.

It cannot be recorded or rebroadcast without Veeco's express permission.

Your participation (indiscernible).

To the extent of this call, discusses expectations about market conditions, market acceptance and future sales of the Company's product, future earnings expectations, or otherwise make statements about the future.

Such statements are forward looking and are subject to a number of risks and uncertainties that could cause actual results to differ materially from statements made.

These factors are discussed in the business description and management discussion and analysis section of the Company's report on form 10-K, and [annual report shareholders].

During this call management may address nonGAAP financial measures, information regarding such nonGAAP financial measures, including reconciliation to GAAP performance is included in the press release and financial [tables] distributed this morning.

This information is also available on our website.

This call is being webcast live at the Veeco.com website and will be available for replay and archived for future reference.

The Company does not plan to update this information on this webcast once it has been archived.

One last note before I turn the call over to Ed.

Veeco will be participating in several important investor conferences in the coming week, including this week's Prudential Technology conference in New York City, and next weeks (indiscernible) Hard Disk drive conference in Santa Clara.

Please visit us our website if you have any interest in attending or listening to webcasts of any of these conferences.

I'd now like to turn the call over to Ed.

Thank you, Deb.

Good morning.

We reported Veeco's third quarter financial results in line with our October 12th preannouncement, including revenue of 92.4 million, up 46% year over year, but down 10% sequentially.

Orders of 79.5 million, up 24% year over year, but down 36% sequentially.

Impacted by a large decline in wireless LED orders, particularly from Taiwan and China.

And weaker CapEx spending in data storage.

Our third quarter earnings, excluding certain charges, were 5 cents per share, GAAP loss was 5 cents per share.

Again, in line with our preannouncement.

Nine month revenues were 289.7 million, up 43% year over year.

Nine-month orders were 321.3 million, up 60% year over year.

Nine-month EBITA was $20.7 million, up 117% year over year.

Book to bill for the quarter was .86 to 1.

And, for the year to date 1.1 to 1.

Veeco's current backlog is $144 million.

The quarter was impacted by industry wide customer delays and postponements of capital spending.

Particularly, in wireless LED and data storage markets.

This is reflected in sequential order performance by market for the quarter.

Data storage sector orders were 18.8 million, down 29%.

Semiconductor sector orders were 15.9 million, down 29%.

This is slightly misleading as orderly [FM] orders to semiconductors were up from the second quarter and were a record 14.1 million in the third quarter.

The quarter reflects that there were no process equipment orders from the semiconductor sector.

Wireless LED sector orders of 14.7 million were down 71% with no order from Taiwan, China in the quarter.

While the larger tier one LED accounts continued to place orders.

Only scientific research orders were up.

They were up 21% to 30.1 million for the quarter.

For the quarter on Metrology orders of 45.2 million were up 8% sequentially.

While our process equipment orders of 34.3 million were down 59%, sequentially.

Geographic content of orders for the quarter, U.S. was 40% of the total.

Europe 22% of the total, Japan 16%, [Apack] 22% of the total, down from recent quarters.

Speaking to the order myths from the mid point of the original 125 to $130 million July order guidance, a miss of some $47 million from the mid point, consisting of 15 million, or 4, 5 system orders in data storage.

Which was delayed or postponed to Q4, Q1 timeframes.

And $32 million, or 10 to 15 LEDM or CDV system orders, which was delayed or postponed almost entirely from Taiwan and China.

And, that's due to a combination of overcapacity at Apack, LED manufacturers, a need to digest recent equipment deliveries, industry consolidation in that region, and customer intellectual property concerns.

Although, some Asians customers are now receiving licenses from Nichia, which I think is important to their progress.

We expect 4 to 6 Taiwan MOCVD orders in Q4.

Increasing our Q4 MOCVD orders from 14.7 million in Q3 to, likely, over 20 million in Q4.

Probably a more sustainable forward looking quarterly rate.

Our Q4 order guidance is 85 to $95 million.

Including about $6 million of the Q3 MOCVD myths from Taiwan.

Plus 2 or $3 million increase in data storage and scientific research markets, and semi, possibly down $1 million from Q3 levels.

For the third quarter, orders by market were 24% data storage, 20% semi-conductor, 18% LED and wireless, quite a low number, and 38% scientific research.

Commenting again on the Q3 revenue of 92.4 million, up 46% year over year, but down 10% from Q2, including sequential revenue declines in all markets except LED/wireless, which was up 20%.

Our backlog remains strong at $144 million, and we are forecasting 93 to $100 million of revenue in Q4, with expected increases coming in Metrology, or order AFM and scientific research revenue when compared to Q3.

Commenting on the revenue myths from our original Q3 guidance of 105 to 110 million, approximately $14 million from the mid point, due to customer postponements and delayed acceptanceness of approximately $6 million in Data Storage 2 Systems, $6 million in LED/wireless 3 Systems, and $2 million Semi Auto AFM 1 Systems.

Almost all will fall into, either the Q4 or Q1 revenue.

Our revenue guidance for Q4 is 93 to 100 million, with earnings, excluding amortization and certain charges of 5 to 10 cents per share.

In response to current industry deceleration of capital equipment conditions, we will reduce our operating expenses and our head count by at least 10%, so as to improve our 2005 profitability.

While we expect our customers current capital spending reluctance to continue for several quarters, we believe that that will ultimately be out weighed by their need to fund their 2005 new product technology road maps and to invest in the expected high-growth of next generation consumer electronics.

Veeco remains well positioned to provide leadership technologies for growth applications in semiconductor, data storage, wireless, and scientific research.

Jack will review financial results and I will return with individual market comments.

Jack.

Thank you, Ed.

For the three months ended September 30, 2004, sales were 92.4 million, an increase of 46% versus the 2003 third quarter.

The increase is attributable to a $33.8 million increase in (indiscernible) equipment products.

Including a 9.7 million in (indiscernible) equipment, 21.1 million from compound semiconductor, including Turbo Disk, and 3 million from Aii.

A (indiscernible) businesses were acquired in the fourth quarter of 2003.

Metrology sales decreased 12% to 33.7 million, mostly due to a $4.7 million decrease in Optical Metrology.

Sequentially, sales decreased by 10.5 million, or 10%, primarily due to an $8.6 million decrease of Metrology, attributable to a 16% decline in (indiscernible) microscope sales and a 31% drop in Optical Metrology.

Cost of equipment sales were lower than our original guidance by approximately $12 million, due, primarily, to customer delays in (indiscernible) and to acceptance.

The Metrology sales were below original guidance because of the way third quarter '04 bookings that could not be shipped within the quarter.

By market, sales were up compared to the prior year by 283% in compound semiconductor, wireless, 40% in data storage, 19% in semiconductor, and down 7% in research.

Third quarter 2004 orders of 79.5 million were a 24% increase over the third quarter of 2003.

Due to 12.1 million increase from turbo disk business acquired in the fourth quarter of 2003.

An 8.4 million increase in Metrology orders.

Sequentially, orders decreased 36% in the second quarter, due to a 59% decrease in process equipment orders, particularly, a 71% reduction in Turbo Disk orders, due to spending freeze initiated by many Asian customers at the end of the quarter.

As they (indiscernible) to absorb the significant amount of (indiscernible) equipment purchased in the first half of 2004.

Gross profit was 38.7 million for the quarter, or 41.9% of sales, compared to 30.3 million or 48% sales for the 2003 third quarter.

The decrease is primarily due to sales mix shipped to process equipment tools for Metrology, which have lower average gross margins than the Metrology tools.

In the third quarter of 2003, Metrology represented 61% of overall sales with a gross margin of 54%.

In the current quarter, Metrology was only 36% of total sales for the 49.5% gross margin.

Metrology gross margins were impacted by both lower sales volume and a lower ratio of high margin research instruments.

Sequentially, gross margins declined 2.2% from 44.1% in the second quarter of 2004 partly due it to a mix shift to process equipment sales, as well as an unfavorable mix within Metrology, consisting of a lower research (indiscernible) content.

SG&A expense was 20.2 million or 21.8% of sales, compared to 15.2 or 24.4% of sales in the third quarter of 2003.

The dollar increase is principally due to the fourth quarter '03 acquisitions plus higher selling costs related to higher current for the sales levels.

SG&A expenses was down 1.7 million sequentially due to reduced selling and admin costs related to the reduced sales of a sequential base.

R&D expense totalled 14.5 million, an increase of 2.8 million from the third quarter of 2003. 2.1 million of this increase is due to Turbo Disk and Aii acquisitions, with a balance of the increase in data storage [process] equipment.

Sequentially, R&D was flat.

As a percentage of sales, R&D was 15.7%, compared to 18.4% in the third quarter of 2003, and 14.2% in the second quarter of 2004.

Operating expenses, as a whole, declined as a percentage of sales to 37.5% compared to 42.5 in the third quarter of 2003.

Exclusive of amortization and restructuring charges.

Amortization expense totaled 4.3 million in the third quarter of 2004, versus $3.3 million in the third quarter of 2003.

It was approximately 1.2 million of additional amortization related to the acquisition of Turbo Disk and Aii.

Sequentially, amortization expense is 200,000 less than (indiscernible) 04.

Net interest expense totalled 1.8 million compared to 2.1 million in the comparable 2003 quarter, due to a $400,000 interest income recorded on a federal tax refund season in the third quarter of '04.

Third quarter EBITA totaled 3.9 million, compared with 3.3 million in 2003.

Veeco's third quarter 2004 net loss was $1.5 million, or 5 cents per share, compared to a net loss of 2.1 million, or 7 cents per share in the third quarter of 2003.

Earnings per share excluding certain charges for the quarter was 5 cents, compared to 3 cents for the 2003 third quarter, using a 35% tax rate and excluding (indiscernible) and amortization expense.

The 9 months of 2004 sales totaled 289.7 million, of 43% increase from 2003.

Due, primarily, to an increase of 83.4 million of [process] equipment sales. 65.2 million of this increase was due to the fourth quarter '03 acquisitions of Turbo Disk and Aii.

Metrology sales increased 3.9 million for the first 9 months of 2003.

Gross margin for the 2004 first nine months was 42.8% of sales, $1.5 million of non-occuring purchase accounting, related charges taken in the first quarter of 2004, while the capitalization of manufacturing profit and inventory for the fourth quarter acquisitions.

Excluding this charge, gross margin was 43.3% for the first 9 months of 2004, compared to 46.6% 2003.

The decrease in 2004 margins is principally due to the sales mix shipped to process equipment tools from Metrology, which have lower gross margins than Metrology tools.

In 2004, process equipment represented 59% of the total sales versus 44% in the first 9 months of 2003.

SG&A was 62.1 million, up 12.1 million from 2003. 8.5 million of the increase in SG&A is due to the noted acquisitions, with the remaining 3.6 million due, primarily, to selling expenses increases related to the higher sales volume.

As a percentage of sales, SG&A is decreased to 21.4% from 24.7% in the 9 months of 2003.

R&D expenses totaled 43.1 million, an increase of 7.6 million from 2003. 6.1 million of the increase in R&D is related to acquisitions the remaining 1.5 million increase was for new product development, both (indiscernible) and Metrology.

As a percentage of sales R&D has decreased to 14.9% in the first 9 months of 2004 from 17.5% in 2003.

Amortization expense totalled 13.8 million in the first 9 months of 2004, versus 9.6 million in the 2003 comparable period, due to additional amortization expense related to the acquisitions.

Net interest expense totaled 6.2 million, compared to 5.7 million in the comparable 2003 period.

EBITA was 20.7 million, compared to 9.5 million in the first 9 months of 2003.

Veeco's 9 month 2004 net loss was $578,000 or 2 cents per share, compared to a net loss of 4.9 million, or 17 cents per share in the first 9 months of 2003.

Earning per diluted share, excluding certain charges for the 9 months of 2004 was 31 cents, compared to 8 cents in the first nine months of 2003.

The charges excluded from this calculation are amortization and acquisition and restructuring costs.

Backlog as of September 30, 2004, with approximately 144 million.

The outlook, due to lower order levels that we are currently experiencing, will be taking cost reductions as Ed noted.

We are targeting a 10% annual expense reduction, which will initially reduce spending approximately $2 million per quarter by the first quarter of 2005.

We are currently forecasting fourth quarter revenues in a range of 93 to $100 million, with a forecasted GAAP loss per diluted share in the range of 10 to 15 cents, or earnings per share in the range of 5 to 10 cents, excluding amortization costs of approximately $4.4 million and acquisitions and restructuring charges of approximately 4.5 to $5.5 million.

These charges result from the action required to reduce spending and restructuring costs related to the acquisition of MTI including product line rationalization.

We expect gross margins to improve 1 to 2% in the fourth quarter of 2004.

Balance sheet cash and equivalence totaled 111 million as of September 30.

Cash uses of 6.4 million for the quarter was mostly due to the inventory bills, principally related to shipment delays and cost of equipment.

Inventory increased to 123.9 million as of September 30, up from 108 million at June of 2004.

Approximately 10 million of the increase resulted from delayed revenues noted earlier, with a balance related to compound semi equipment orders and backlog slated to ship in the fourth quarter and first quarter of 2005.

We expect inventories to reduce in the fourth quarter of '04 as the delayed shipments are delivered to customers.

Accounts receivables decreased by 11.7 million in the second quarter to 81.7 million, due to lower sales volumes and the timing of our sales.

ESOs were 69 days up from 62 days in the second quarter.

Capital expenditures were up 3.5 million for the third quarter of 2004, and 9.5 million for the 9 months 2004 period.

Depreciation expenses totaled 3.4 million of the third quarter of 2004, and 9.9 million for the 9 months of 2004.

Balance sheet and cash position of 111 million remains strong.

At this point we'll return to Ed for some additional comments and your questions.

Thank you, jack.

Let me comment on individual market sector conditions and semiconductor despite an overall sequential order decline largely based on a decline in process equipment for that sector.

We had record order AFM orders, including two important competitive multi-system wins against KLA for 90 nanometer 300 millimeter applications.

We anticipate a semiconductor industry-wide capital equipment decline over the next few quarters.

But, we expect the leading edge 90 and 70 nanometer AFM applications may be the last place to see these cut backs.

In data storage, hard drive manufactures have been reducing capital spending to improve their quarterly financial performance, despite their need to invest for new consumer 1-inch microdrive growth opportunities, and capacity expansion associated with continued hard drive unit growth.

In fact, factory utilization rates that most drive companies are in excess of 90%.

New consumer electronics with embedded storage continues to grow.

I-pod sales are now in excess of 2 million units per quarter.

And, Asian cell phone manufacturers are introducing new high end camera video cell phones with one-inch or smaller hard drives.

Veeco's data storage numbers will increase slightly in Q4, reflecting the completion of our acquisition of MTI, a California pencil and head precision saw company.

And the creation of a Veeco Integrated Slider Process Equipment Division.

Expanding our lapping and slicing products to broaden our technology offerings to slider manufacturing sites.

These new Veeco products help control critical slide heights for smaller dimension (indiscernible) thin film magnetic heads, and we expect MTI to add about 15 to 20 million in revenue in 2005.

In the emerging LED/wireless market where our Q3 orders -- order shortfall was most severe, new end applications continue to grow for high brightness, blue and white LED's, but, over capacity exists, particularly, at the low end, China, Taiwan sites where industry consolidation is occurring.

We see an industry market difference between the more volatile emerging Taiwan, China base of customers, and the larger tier one North American, Japanese, European customers, who tend to focus on higher ASP's, higher end, higher performance applications, with the benefit of stronger intellectual property and stronger balance sheets.

In all, multi-year growth coming coming from camera cell phones, PDA's, high resolution flat panel TV displays, automotive applications, and architectural lighting will continue.

But, we see (indiscernible) in Taiwan, China, CapEx spending, compared to a our very strong first half ordering.

Our Q4 orders are forecasted to be up slightly, as we likely capture some of the orders missed in Q3 from Taiwan and China in MOCVD.

And, lastly, in our scientific research market secretor, which represents a 38% of Q3 orders, or $30.1 million, an increase of 21% sequentially.

Based on continued acceptance of our research AFM and optical profiler products in life science and material science nano-tech applications.

Operator, we'd be pleased to pause here and take questions.

Very good.

Thank you.

Our question and answer session is conducted electronically. (Operator instructions) Gentlemen, our first question is from Robert [Merry] of Needham and Company.

Yes, hi.

You'd mentioned that some of the orders are rolling out from the previous quarter into the current quarter.

That would bring orders somewhat in line with last quarter, which was down.

Is that -- do I interpret that correctly?

Is that without those rolled over orders?

It would have been down substantially further.

And, are there orders that you think are rolling our of the current quarter, sort of into the next quarter, or maybe, if you could give me a little more detail on that?

Robert, it's a little hard to quantify as you described it.

I think we're in a period of decelerating capital equipment buying, overall.

Just as orders moved from Q3 to Q4.

There will be other orders that are in the forecast that will likely move from Q4 to Q1.

I think the message we're trying to give is that, we expect to see order appreciation in this fourth quarter compared to Q3.

These are difficult times for CapEx spending.

But, we think, for the moment, that the Q4 order rate will be superior to Q3.

Okay.

In terms of cancellations or other pushouts, can you give us what you're seeing near term.

Have you seen any cancellations, or any talk of that?

And, in terms of pushouts, has it remained the same going into the first few weeks of October due to the pre-announcement?

There were about 7 million -- in the third quarter, there there were about $7 million of cancellations from the prior quarter and from the backlog, as we, you know, we always tune the backlog to reexamine it and take out those backlogged orders that we suspect won't fall in the right timeframe.

We did see some cancellations in the Q3 timeframe.

We've seen nothing, different -- no further cancellations in the October timeframe.

Okay.

Would you expect a similar amount or just unknown at this point?

I think just unknown.

Okay.

Thank you.

Our next will come from Mark Fitzgerald, Banc of America Securities.

Great.

I was wondering what the backlog number was at the end of the last quarter?

The June quarter?

Maybe Jack has it.

I remember a number like 164, Mark.

Hang on one second.

It should be 164, that came down by the combination of the difference of the shipments and orders of the quarter and about 7 million of cancellations.

Okay.

And then I was also curious this LED business.

I'm relatively new to it.

If you could, kind of, characterize this, in terms of how these guys add capacity, is this going to be like the disk drive industry, very lumpy, or is there a technology theme that underlies this?

Where they're going to have to do, continued some level of spending?

I think, you have a combination of factors.

Certainly the very -- you have waves of new applications going from blue, green to white LEDs for back lighting for cell phones, for TV displays, automotive, architectural lighting.

So, I think, if you look at the strategies unlimited in the market research people that cover this sector, forecast at this 3 or $4 billion industry will be 6 or 7 billion over the next 4 or 5 years.

But, at that size, I would expect it to be lumpy.

High growth, high double-digit growth over the next 3 or 4 years.

But, our quarter to quarter lumpiness, typical of a 3 or $4 billion industry, compared to a $200 billion silicon industry.

Just one last question.

The guidance that you've given us, does that include the acquisition of the Saw Company?

Yes, it does, Mark.

There, would, probably, will be 2 or $3 million in that number coming from the Saw Company.

So, that's for both revenues and backlog that you've included that?

Both revenues and orders.

We'll now go to Timothy Arcuri at Smith Barney.

Hi, guys.

This is actually Dan [Barrinbaum] for Tim.

Question on the cost reduction.

You'd mentioned, you'd be taking out about $2 million a quarter by Q1 '05.

So, does that, just sort of flow through for the rest of '05, or will there be more out per quarter by the end of '05?

I think it will increase -- two comments we made.

I said we would take out 10% of operating spending and head count.

Which is, and Jack said, expect 2 million of it in the first quarter, as a reduction.

Which means that you have to have 3 or $4 million per quarter reduction in Q2, 3, 4, of '05 to live up to that expectation.

So, a more modest spending reduction impacting Q1 and then heavier spending reduction for the rest of '05.

Do you guys have a target for break-even in mind, then?

We're currently targeting around $85 million break even.

And that's after these reductions?

Yes.

Okay.

One last question on the auto AFM.

I know you guys had a lot of competitive wins there recently.

How does that affect your gross margin, and what's your revenue recognition policy on that?

Is that considered a mature product now, or is that still recognized revenue on acceptance?

And, how long are those acceptances taking?

In the semiconductor area, automated semi-conductor tools where they are relatively new technologies, we would wait for acceptance on those as the tools mature and as you have 5 or 6 that have been accepted, we then would take, either a (indiscernible) approach.

We'd take a (indiscernible) approach.

There is an installation aspect to that tool.

Most of those sales have [vicrocated] revenue attached to them.

Gross margin for auto AFM runs, probably just short of 50%, 48, 49% gross margin.

Okay.

Great.

Thanks.

So, increases in that area are helpful to our blended gross margin.

Okay.

Thank you.

Next question goes to Michael O'Brien at Bear Stearns.

Good morning, Ed, Jack.

Can you just talk a little more about the data storage business?

And, whether we could get any positive surprises, given it seems like the utilization rates are quite high?

Clearly, we are receiving mixed signals, if I may call it that, from data storage senior management.

Who really want to keep CapEx down for some number of quarters to benefit their quarterly financials in terms of lower depreciation rates.

But, just beneath that, we're seeing at the factory level, there very high utilization rates, over 90%, a ramp of one-inch format micro-drives for the consumer applications, and unit growth in even computer drive sales.

So, I would expect that in the next two to three quarters they would not be able to constrain investment.

And do you think it's just, if their end markets that they sell into, are better than seasonal?

They get a little more confidence?

Or, just a matter of having to work through the next couple quarters?

I think the former.

I think they'll look at their own order rates.

They're already reflecting in our monthly revenues that the major data storage houses a little more bullishness, in terms of the order rates and declining inventory of hard drives, better channel position.

But, also very serious growth in the number -- in the microdrives.

And, they're all now shipping these one-inches drives to new consumer applications.

Although we're forecasting, sort of, you know, flat data storage conditions, I think there is a potential for an upside surprise in the next 2 or 3 quarters.

Thank you.

We'll now go to Brett [Hodus] at Merrill Lynch.

Good morning, Ed.

Couple questions.

First, on the [HB/LED]side, given that the Chinese, and Taiwanese, the sort of second-tier companies, as you've said, have seen such a deep drop off in over supply.

Why doesn't that spill into the top tier companies, potentially in the next few quarters?

Well, I think -- I don't think the top tier companies go unscathed, Brett.

I think that the CapEx spending reduction that we're now seeing across data storage, semiconductor, and LED is fairly broad.

But, there were no orders from the China, Taiwanese customers in the third quarter.

There is also the difference that the tier one customers aim at a different demand.

They aim at higher ASP, flat panel screens, larger displays, automotive applications, architectural applications.

So, they seem to be more living up to their blanket orders for MOCVD.

Deliveries.

They, clearly, seem to have stronger intellectual property, higher balance sheets.

And, I think they're healthier by comparison, and have not -- we don't see any evidence there of overcapacity.

So, the top tier guys, you think, have a big enough technical differentiation from the guys that are swamped with capacity to be able to, sort of, maintain that as a different market, and, thereby have a more stable order pattern to you?

I think that's absolutely correct.

Secondly, on the data storage side, you mentioned earlier that now you're setting up a slider division, it sounds like, of all the products that would sell into that.

Can you sort of tell us -- obviously, MTI products.

Can you give us a run down of all the different products that are encompassed in that?

So we can get an idea of how big a piece of the business that will be?

The slider service part of the business.

What we've done is we've integrated, with the addition MTI saws, we've integrated under one general manager in California, the lapping and slicing and dicing activity, and, asked him also to reach out across Veeco's Metrology, so as to have unified road map, integrated Veeco road map, for all of the aspects that control fly height in sliders, slicing, lapping, dicing, some etch and Metrology applications as well.

So, this is important because the -- as unit growth continues in the drive industry, and as they migrate towards these (indiscernible) smaller dimension heads, more capital equipment and automation will be required in those factories.

Veeco will have, probably, a $50 million a year opportunity to serve these slider factories going forward.

Will that become the major part of the data storage?

Or will the deposition and etch technologies that you sell there continue to be the largest part of the data storage?

Well, they are right now the larger, but, wafer, you know, we're very broad in our equipment offerings for data storage.

So, it extends from wafer to slider to head [gimble] assembly.

Wafer has always been the dominant part of the Veeco order book.

And, I think it will continue to be larger than slider.

But, slider will grow in relative importance within the total.

Okay.

And then, finally, just on the cost reductions which you went through a minute ago.

The charge will be taken in the fourth quarter.

So, for the fourth quarter itself, we won't see too much of an impact.

It's really 1Q that you'll see the first impact?

Yes.

That's correct.

Next question from Graham Tanaka, Tanaka Capital Management.

I wondered if you guys could explain a little bit more about the China, Taiwan slow down?

How that caught you by surprise?

We're seeing, you know, some similar things from other companies but not zero orders.

I'm wondering how -- why the difference there?

And what kind of condition the customers are in?

Graham, that was, -- in fact, it happen quite late in the quarter.

We went to the quarter with a forecasted, prospect list from China, Taiwan that had some $30 million worth of activity.

Named by customer, by system, you know, we knew -- who was having board meetings and when the capital review processes were occurring.

Literally, in the last 2 or 3 weeks of the quarter, collectively, they slammed the breaks on any new orders being placed and pushed them out of the quarter.

Some of that will fall into Q4.

I think it also occurred simultaneously with some consolidation that's occurring among those companies.

Some licensees that are being sought by Nichia and others, so that they have firmer intellectual property going forward.

And, they had big overcapacity.

You remember, the order book for the order rate for us and MOCVD for the first half of the year was $90 million.

And, probably, a third of that was Taiwan, China.

So, they're installing that equipment, their digesting all this new equipment.

There's some consolidation.

I think they'll be, maybe instead of 20 firms in china, Taiwan, there will be 10 who will be stronger after consolidation.

And, who will have the benefit of intellectual property, licensees from people, licenses from people like Nichia.

What do you think, guess that the operating rate is, utilization?

Is that impossible?

Is there kind of a rough idea?

I think it's very low right now because of the overcapacity.

I think there will be a sustainable 10 to $15 million of orders per quarter, as opposed to 25 or 30 million per quarter going forward.

It's not -- these customers won't disappear.

There'll be fewer of them.

They'll have better balance sheets.

They'll be responsible for 10 to $15 million of quarterly orders of revenue within Veeco.

Thank you.

Now we'll go to Mark Miller at Hoefer Arnett.

I'd like to clarify something.

You mentioned that a few of the data storage customers pulled back on their orders late in the quarter.

Was this an official freeze?

And, if it is a freeze, is it continuing?

Was it just to make their numbers?

I think more of the latter.

It's not really a freeze.

Although, they've all -- a number of them have commented they want their CapEx spending to be less.

A couple of them pushed orders and revenue out of the quarter by a week or 2 and expected them in the first couple of days of October.

Some of the people who supply components, media suppliers, suspension suppliers are reporting the extreme pricing pressures from the major drive companies to improve their margins.

Are you seeing some of that same pressure, in terms of your equipment pricing?

No, we're not.

I'm heartened by the fact that some of the component manufacturers have been seeing some nice increases, suspension arms and others, as these utilization rates at the factories increase.

In fact, our discounts, on the equipment side, have reduced, because they're now operating -- they're now at lower volume points in the discount schedule.

So, in fact, our ASP's in equipment to data storage are increasing.

But, the total amount of the size of the activity is down.

Final question.

One-inch is a growing area.

The equipment that's being added for one-inch, is this more capacity adds, or do they require some new equipment they don't previously own in the data storage head fabs?

It's mostly capacity, but aerial density increases continue.

What most drive manufacturers are trying to do, is to ship their initial one-inch product with the older heads, just to make a market penetration in 1 inch.

And then, as quickly as possible, upgrade the future one-inch drives with the more advanced heads having higher aerial density.

So, that they'd be able to say, today, we're shipping 4 or 5 gigabyte one-inch drives.

But, a year from now, we could be shipping 15 to 25 gigabyte one-inch drives when they swap to a more advanced (indiscernible) head.

So, we'll see both capacity, and we'll see aerial density increase in technology.

So, most of the older -- one-inch is with 80 gigs per platter type?

Yes.

But, I think that's going to be short lived, because it sort of sets the opportunity for one of them to put a more advanced head in the drive, and double or triple the capacity.

Thank you.

We'll now go to Matt Petkun at D.A.

Davidson and Company.

Yeah, hi, Jack.

Just looking at the cost reductions for next year.

Do you have any assessment as to what portion will come from reduction in facilities overhead?

What will come from OpEx?

Well, I think the majority is being targeted in OpEx.

We do have some facilities we're looking at.

As mentioned, we just purchased MTI which is in the same geographic area as Aii.

And, certainly, there's a (indiscernible) that makes sense there.

So, we'll be looking at facilities, but, I think, predominant would be operating spending.

We do have an opportunity, I think -- Jack is absolutely right, we do have an opportunity to look at some common functional resources, purchasing, material control, ERP, sales, admin, service, that would allow us to cut the spending beyond the 10% level.

Which, I think is important in improving profitability next year.

Okay.

And then, Ed, I know you were commenting on pricing in your relative markets.

But, are you seeing -- especially in the bright LED market, did orders just fall off, or did you see a phase where you saw some highly competitive pricing of (indiscernible)?

Orders just fell off.

They did -- Taiwan, Chinese customers themselves reported a decline of 20 or 30% in ASP's for the low-end LED's.

Whereas, the larger tier one accounts, who were seeing some pressure, didn't report anything of that magnitude for their ASP's.

The Taiwanese people really just slammed the brakes on cap and spending, and, some of that would return in Q4.

Thanks.

We'll now go to Barry [Freed] at A.G. Edwards.

Hi, Ed.

Hi, Jack.

Regarding services and consulting strategies.

Is this slider service, Ed, that you described, a way to help improve and consolidate the functions of service and the offerings of service that Veeco has?

It's really product oriented.

Our newly announced slider integrated process division is an opportunity for us to combine hardware sales of lapping, slicing, dicing, Metrology, and perhaps even etch to make the factory more efficient.

There are some couple of hundreds steps, maybe 200 steps, in a slider fab.

And, by combining Veeco integrated equipment, and some automation, we, perhaps, can reduce 10 or to 20% of those steps and make those factory, slider fabs more efficient.

That's very important because, if, in fact, the consumer electronics continues its growth, you'll go from 3 or 400 million drives a year, to 7 or 800 million drives per year.

In an effort not to have to build new factories, increasing the efficiency of those fabs becomes very important.

Associated with that, and your other product lines, would there be any consideration in future plans to offer, maybe like what, like IBM has an integrated services and consulting division, where, perhaps, you can have more predictably in terms of your revenue and, perhaps, improve profitability?

To the extent that we will increase the service content of our revenue, absolutely.

We're already seeing a hard drive people paying us to come in and audit their factories to improve their wafer and slider productivity.

So, that will become a more, higher part of our total revenue content.

Service revenue.

In terms of, just a status in terms of your academic research and other joint R&D efforts that Veeco has been pursuing worldwide.

Can you give us an update on that?

We did announce in Q3 a grant from -- in conjunction with Dow on our [common force], microscope research.

We do continue to extend our AFM research and life science and material science and nano-tech applications.

It has been a bit of an increase in the last months, both in California state spending and some government grants for AFM applications going forward.

Thanks, Ed.

And once again if you would like to ask a question, please press the star key followed by the digit 1 on your touch tone phone.

We have another question.

This is a follow-up from Mark Fitzgerald, Banc of America.

Jack, on the gross margin guidance, 2 percentage points up, what's driving that?

Well, a couple things.

I stated, the third quarter, Mark, we had unusually low Metrology sales.

And, a poor mix within the Metrology that we see recovering in the fourth quarter.

It would be one of the major drivers.

Of course, with the improved volume that we have forecasted as well in the fourth quarter.

So, those two (indiscernible)

And then expenses, including the amortization, would remain around the $39 million level for the fourth quarter?

Yes.

Okay.

Thank you.

One against, star one to signal.

We'll pause for a moment.

And, we have no other questions at this time.

So, Mr. Braun, I'll turn it back to you for any closing comments, sir.

Mark, this is a follow up to that comment, as Jack indicated, the Q3 Metrology content, which was 33, $34 million, likely increases by as much as $10 million in Q4.

So, that's a very good assist to the gross margins.

The blended gross margins.

Thank you all for your questions, we look forward to speaking to you at the conclusion of Q4.

Thank you.

Thank you.

That does conclude our call, we do appreciate your participation.

At this time you may disconnect.

Thank you.