Veeco Instruments Inc (VECO) 2004 Q4 法說會逐字稿

Good day, everyone, and welcome to this Veeco fourth-quarter and year-end 2004 results conference call.

Today's call is being recorded.

For opening remarks and introductions, I would like to turn the call over to the Vice President of Corporate Communications and Investor Relations, Ms. Debra Wasser.

Please go ahead, ma'am.

Good morning, everyone, and thank you for joining today's call.

Joining me today are Ed Braun, our Chairman and CEO, and Jack Rein, our Chief Financial Officer.

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

It cannot be recorded or rebroadcast without express permission.

Your participation implies consent to our taping.

To the extent that this call discusses expectations about market conditions, market acceptance and future sales of the Company's products, future disclosures, 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 the statements made.

These factors are discussed in the business description and management's discussion and analysis sections of the Company's report on Form 10-K and annual report to shareholders.

During this call, management may address non-GAAP financial measures.

Information regarding such non-GAAP financial measures, including reconciliation to GAAP measures of performance, is available on our Web site.

This call is being webcast live at the Veeco.com Web site, and will be available for replay on archive for future reference.

The Company does not plan to update the information on this web-cast once it has been archived.

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

Thank you, Debbie.

Good afternoon.

Today, we reported financial results for the fourth quarter and year end 2004 after completing an internal investigation of the TurboDisc accounting and restatement of nine months of the 2004 results, and after completing the Ernst & Young year-end audit and filing our 2004 annual financials on Form 10-K.

First I will highlight the 2004 and Q4 financials, the result of the investigation and the nine-month restatement.

I will update our guidance for the first quarter of 2005 and our outlook by market sector and by Veeco's business segments going forward.

Q4 2004 revenue was 103 million, up 34 percent year-over-year and up 6 percent sequentially, above the original Q4 guidance range of 93 to 100 million.

And included increases in data storage, which was up 11 percent to 29.9 million.

Semiconductor, up 47 percent to 15.3 million.

Wireless, down 24 percent to 26.1 million.

And scientific research, up 24 percent to 31.7 million.

The year-end revenue was 390.4 million, up 40 percent year-over-year, with revenue growth in all of our core markets.

Data storage was up 37 percent to 124 million.

Semiconductor, up 35 percent to 54.4 million.

Wireless, up, including an acquisition, 152 percent to 98.4 million.

And scientific research, up 4 percent to 113.6 million.

Fourth-quarter orders were 99 million, up 2 percent from the prior year fourth quarter and up 24 percent sequentially from 79.5 million reported in Q3.

This was above our guidance of 85 to 95 million.

And Veeco's orders by market for the fourth quarter were 37 percent data storage; 18 percent semiconductor; and 18 percent LED wireless; and 27 percent for scientific research.

Business conditions improved during the fourth quarter, driven primarily by increased capital spending from our data storage and semiconductor customers, which have continued into Q1.

Again by market share for the quarter, data storage orders of 35.9 million were up 91 percent, with larger orders from two North American Drive companies who are increasing capacity.

Semi orders of 18.2 million were up 14 percent sequentially with continued acceptance of our auto AFM within wafer fab 490 and 70 nanometer feature sizes.

And wireless LED orders of 18.1 million were up 24 percent with increases in our MBE systems and ion sources but still weak but stable MOCVD orders.

Where excess capacity, particularly in APAC, still exists.

Scientific research orders of 26.8 million were down 11 percent sequentially, influenced by a shift to lower ASP product mix within Veeco.

Overall, a strong order quarter, stronger than we had originally forecasted with growth in three of our four markets.

The visibility for Q1 to get continued strength in data storage based on both capacity increases and investment in higher aerial density for continued growth of small format consumer electronics drives.

Indeed, new smaller format drives are being introduced weekly now, below 1.8 inches and now even below 1 inch diameter.

And we see continued technology buys of our auto AFM for 90 and 70 nanometers.

So our continued guidance is for Q1 orders to be at the higher end of the 85 to $90 million range.

(technical difficulty) earnings, were a disappointment in that Veeco's Q4 operating loss was 6.7 million, compared to 6 million in the prior year.

Our net loss was 56 million, including previously announced 54 million deferred tax valuation allowance.

Our Q4 earnings, excluding certain charges, were 3.4 million, which comes to a 3 cents per share, excluding certain charges, compared to 3 cents per share in the prior year, but below the 5 to 10 cents per share in our original guidance.

With TurboDisc negatively impacting our Q4 EPS by about 4 to 5 cents.

Addressing the internal accounting investigation and restatement, as previously reported, improper accounting entries were uncovered by Veeco's financial management and Veeco's internal audit staff and were limited to a single Veeco business unit, TurboDisc, in Somerset, New Jersey, which was acquired in November of 2003.

Actions have been taken to resolve these accounting issues, including the completion of an independent review, appropriate staffing changes, and transitioning TurboDisc to Veeco's SAP accounting system.

The investigation focused primarily on the value of inventory, accounts payable and certain liabilities.

As well as certain revenue transactions of TurboDisc.

The results led to an accounting adjustment,. including a restatement of revenue and EBITDA, for the nine-month period.

And the restatement includes 8.1 million in pre-tax earning adjustments related to inventory accruals and accounts payable, which previously was estimated on February 11 to be in the range of 5.5 to $7.5 million.

Plus some $2.1 million in pre-tax earnings related to revenue adjustments uncovered during the investigation, which were the result of TurboDisc not adhering to Veeco's standard established revenue recognition procedures.

While revenue adjustments impacted individual quarters, these adjustments in the aggregate do not reduce TurboDisc revenue recognized for the 2004 year.

The Jefferson Wells independent investigation report is complete.

We consider this matter closed.

Our year-end audit is complete.

We are filing the 10-K on time.

And we're committed to maintaining Veeco's long history of solid financial controls and reporting practices.

Going forward, our focus is to improve TurboDisc's profitability by lowering its cost of goods and the introduction of new products; a better supply chain management; and reduced warranty expenses and operating expenses.

We announced today that we've added a new Senior Vice President and General Manager to this division, Dick Wissenbach, who has strong industry experience.

I think it's important to take two messages away from the TurboDisc MOCVD occurrence.

First, the high-brightness LED opportunity has continued to be important to our growth.

It is clear to us that the future revenue growth opportunity for Veeco's TurboDisc business are significant.

As the penetration of high-brightness LED's evolve from handheld cell phones to PDAs, to large area LCD TVs, to automotive lighting and to general illumination in the future.

And then this worldwide LED device revenue is forecasted to nearly double from 4 billion this year to 7.5 billion in the next five years.

So a significant equipment opportunity for Veeco.

The steps we have taken to stabilize TurboDisc, the new financial and operating management; a new SAP accounting system, are important in providing profitable future revenues from this New Jersey site.

Second, we found the accounting errors for which we take very little comfort, and we've restated them correctly.

We've replaced the individuals responsible and the system responsible.

Our internal audit and SAP accounting system worked.

But our restated, higher TurboDisc cost structure must be significantly reduced.

We will improve our epitaxial product gross margin quarter by quarter through '05 based on a number of actions which include better supplier management; more outsourcing; lowering the bill of materials on the TurboDisc content; less warranty expense; new product introduction, like GaNzilla 2; and a reduction in the manufacturing cycle time associated with TurboDisc.

This is part of an overall Veeco spending reduction and gross margin improvement program based both on headcount actions taken in the fourth quarter and planned material content reductions and new product introductions to be taken over the next two or three quarters.

This will impact all three Veeco business segments, which are the Ion Beam Equipment group, the Epitaxial group, which is the combination of St. Paul and New Jersey, and our Metrology product group, which is combination of Tucson and Santa Barbara.

With these segments, we expect gross margin improvements and some 2005 sales volume mix changes.

Although the total 2005 revenue is expected to be flat.

The concept of business segments was introduced in Q3 last year, giving you a little more visibility, and is included in our 2004 10-K, and has two positive impacts.

It provides more clarity.

It lets you track how our gross margin improvement quarter by quarter by product families within Veeco.

And secondly, it ties products closely to market sector trends and gives you an indication of gross margin by market.

It is something you've always asked for.

To help understand the gross margin steps we are taking, let me first remind you of the revenue for the three business segments I've described and the likely '05 sales volume changes and gross margin changes that we expect in 2005.

The '04 revenue by business segment includes, again, Ion Beam systems, Epitaxial systems, and Metrology.

Ion Beam systems is the combination of Ion Beam Etch and Ion Beam Deposition, mostly tied to data storage.

It had $134 million of revenue in '04.

The Epitaxial deposition systems are the combination of MOCVD and MBE, tied mostly to LED wireless, and had revenue of 93 million in '04.

And lastly, Metrology systems, the combination of AFM and optical metrology tools, tied to scientific research and auto AFM, had revenue of 163 million in '04.

So they, combined, are the $390 million of our reported '04 revenue.

In '05, we expect the following changes to mix and margin.

Ion Beam equipment with increased data storage backlog is expected to have higher '05 revenue, likely in the range of 15 to 18 percent higher than '04, with gross margins increasing from 35 percent in '04 to 43 percent expected in '05.

While Epitaxial equipment, the combination of MOCVD and MBE, after a strong 2004 growth, has excess industry capacity to contend with and is likely to have a decrease in revenue in the range of minus 20 to minus 24 percent for '05.

But with corrective actions on gross margin, that are the combination of reduced warranty expenses, building material cost reductions, and the introduction of the new GaNzilla 2 MOCVD, we expect the gross margins to improve from a disappointing 25 percent to 34 percent, in the '04 to '05 timeframe.

And Veeco Metrology, likely to have a 3 to 5 percent revenue increase, reflecting research spending, can see gross margin growth from 52 percent in '04 to an expected 54 percent in '05.

So in total, our plan calls for a blended total gross margin improvement from the 40 -- nearly 40 percent -- we reported in '04 to an expected 45 percent in '05, on the strength of a richer sales volume coming from the higher gross margin Metrology and Ion Beam segments and less content coming from Epitaxial systems within the '05 timeframe.

A pickup there expected in '06.

To repeat the Q1 guidance, we expect continued order strength in data storage and semi.

Continued weakness in LED and wireless.

A slight improvement in scientific research.

Again, we expect the orders to be at the higher end of the 85 to $90 million range.

We expect the Q1 revenue to be within the range of 85 to 90 million, unchanged from our February guidance.

And we expect the Q1 GAAP loss to be between 15 cents and 13 cents, and the EPS, excluding amortization, to be positive in the range of zero to 2 cents, using a 35 percent tax rate.

And we expect, going forward, to see significant margin and EBITDA improvement coming in Q2 and the quarters beyond in the rest of '05.

I think I will pause here for Jack's financial comments, and then return with market sector comments and to take your questions.

Jack.

Thank you, Ed.

As noted in our press release, Veeco has completed internal investigation of the improper accounting transactions recorded as TurboDisc division.

Jefferson Wells, the firm retained in the direction of Veeco's audit committee to conduct a forensic accounting investigation in conjunction with our outside counsel, Kaye Scholer, has recorded the findings of its forensic investigation to Veeco's audit committee.

Conclusions reached during the investigation included that the improper accounting entries were made by a single individual of TurboDisc, whose employment had been terminated prior to the commencement of the investigation.

That these activities were not directed by anyone other than the terminated employee.

That there was no evidence found of embezzlement or diversion of corporate assets.

And that the accounting errors involved inventory valuation, accounts payable, certain liabilities, as well as certain revenue transactions of TurboDisc.

Of the confluence of events that contributed to the problems of TurboDisc, these included the fact that it was a recent acquisition undergoing a rapid ramp of business.

The use of a legacy accounting system that was cumbersome and required manual adjustments.

Errors became apparent to our internal audit and corporate financial management in the course of a financial review and internal audit in transitioning the division to the Veeco's SAP accounting system in connection with the close of the fourth quarter of 2004.

We are pleased that the independent accounting investigation was completed in a thorough and expeditious manner and that these issues were isolated to one individual and a newly acquired business.

Veeco has made a number of personnel changes to help strengthen the management of the Epitaxial process equipment group and the TurboDisc business unit specifically as a result of these issues.

Included in these changes are a group operating executive.

The creation of the positions of site manager of the TurboDisc business unit.

A new site manager of the St. Paul MBE site.

A new group financial controller.

And the appointment of a new site controller of TurboDisc, as well as a new sales and marketing executive at TurboDisc.

Also, as Ed indicated, completed installation of our SAP business accounting system.

The result of the investigation have led to accounting adjustments requiring the restatement of financials previously issued for those three quarterly periods and nine months ended September 30, 2004.

The restatements consist of a $10.2 million adjustment to pre-tax earnings for the first nine months of 2004, including 8.1 million in adjustments of inventory accruals and accounts payable, as well as 2.1 million in adjustments in the gross profit related to recognition of revenues.

The adjustment to pre-tax earnings was higher than originally estimated by Veeco on February 11, principally as a result of the gross profit impact of revenue items adjusted and TurboDisc warranty accrual adjustments.

A press release provides a quarterly breakdown of the adjusted revenues as well as GAAP and non-GAAP earnings results.

We will provide additional quarterly details, including segment reporting in our restated 10-Qs, which we expect to file in the next few weeks.

What is particularly disturbing about these accounting errors in addition to the control problem at TurboDisc is that they prevented early awareness of the true profitability of the business.

The Epitaxial group had combined gross margins of 24 percent on revenues of 93.6 million for 2004.

These margin levels are completely unacceptable and we have an aggressive plan to attack the problems in coming quarters.

We intend to lower our TurboDisc cost of sales through a focus on design efficiencies through product introductions, better supply chain management, standardization of product offerings, and reduced warranty costs.

These are all fixable problems and we have the programs in place to address them.

There are currently eight cross functional teams led by the division's new operating and finance executives that are actively engaged in improving these operating results.

We expect to see significant progress over the coming quarters.

As I had previously commented, during 2004, Veeco has, like most other public companies, spent a great deal of time and money documenting and reviewing our internal controls in anticipation of the acquired certification under Sarbanes-Oxley at December 31, 2004.

The TurboDisc situation was in fact uncovered in part as a result of evaluating and testing these controls, and we have addressed this problem head on and are comfortable that any accounting or control issues are behind us.

We have in fact assessed the effectiveness of the Company's internal controls at December 31, 2004 and believe the controls are effective.

We have received SOX 404 certification from our independent public accounting firm, which verifies that no material weaknesses in internal controls existed at December 31, 2004.

I will now turn to the audit financial results for 2004.

For purposes of the financial reporting of 2004, Veeco has broken out our products equipment business unit into two reported segments, Ion Beam and Mechanical Process equipment, which includes our Plainview, New York, Fort Collins, Colorado and Camarillo, California (inaudible) operations.

And Epitaxial process equipment, which includes the MOCVD business in Somerset, New Jersey and our MBE business and in St. Paul, Minnesota.

We will refer to those segment designations in our comments.

For the three months ended December 30, 2004, sales were 103 million, an increase of 34 percent versus the 2003 fourth quarter.

The increase is attributable to 16.2 million increase in process equipment products and 9.8 million increase in Metrology products.

In Metrology sales increases was due to $7.9 million increase in atomic force microscope sales, and a $1.9 million increase in optical metrology sales.

Sequentially, sales increased by $5.6 million, with 11.7 million increase in metrology partially offset by a $6.1 million decrease in process equipment.

The metrology increase was due to a $7.1 million increase in atomic force microscopes and a $4.6 million increase in optical metrology.

The products equipment sequential decrease is due to 6.3 million decrease in Epitaxial process equipment.

By market, fourth-quarter sales were up compared to the prior year by 102 percent in compounded semiconductor wireless; 7 percent in data storage; 62 percent in semiconductor; and 19 percent in research.

Fourth-quarter 2004 orders of 99 million were a 2 percent increase over the fourth quarter of 2003 due to a $14.3 million increase in Ion Beam and mechanical products, partially offset by declines of 5.6 million in axial products and 6.5 million in Metrology.

Sequentially, orders increases 24 percent in the third quarter, mostly due to a 129 percent increase in Ion Beam and mechanical process equipment orders.

It was a $21.6 million increase in New York equipment orders, partially offset by a $5.1 million decreased in Metrology orders.

Gross margin was 37.5 percent in the fourth quarter of 2004 versus 42.5 percent in the fourth quarter of 2003.

The 2004 gross margin included the impact of a (technical difficulty) million dollar write-off in inventory taken in conjunction for the consolidation of the MTI and Aii businesses.

In 2003, gross margin included $1.7 million of acquisition and purchase accounting costs.

Excluding these usual items, gross margin was 38 percent in the fourth quarter of 2004 versus 44.5 percent for the fourth quarter of 2003 on a no-GAAP basis.

This decline was the result of the Epitaxial process equipment gross margin decreasing from 41.8 percent to 23.9 percent due to the higher material content, warranty and service at the TurboDisc business.

We have previously noted the corrective steps underway at TurboDisc and we expect to see Epitaxial process equipment gross margin to improve each quarter in 2005.

Ion Beam and mechanical process equipment margins were 32.5 percent compared to 36.6 percent in the fourth quarter of 2003.

Due mostly to the higher overhead structure in the slider business that resulted from the combination of Aii with the newly acquired MTI business.

We're well underway in consolidating these businesses into one location, reducing overhead by 25 percent; and we have reduced employment levels by 18 percent, which will result in significant margin improvements.

Metrology margins -- gross margins -- were 50.3 percent down from 53.1 percent in the fourth quarter of 2003, due principally to an unfavorable mix shift in research atomic force microscopes, which we expect to improve in 2005.

SG&A expense for the fourth quarter 2004 was 21.3 million, or 20.7 percent of sales versus 17.9 million or 23.3 percent of sales in the fourth quarter of 2003.

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

Sequentially, SG&A expense was up $1.8 million, primarily due to the higher sales volumes.

R&D expense totaled 14.8 million or 14.4 percent of sales, an increase of 1.5 million from the fourth quarter of 2003.

The increase was again primarily due to the 1.7 million of additional costs attributable to the additions of TurboDisc and Aii, partially offset by cost decreases and other business units.

Amortization expense increased to 4.7 million in the fourth quarter of 2004 from 4.2 million in the comparable prior year period, resulting from the impact of TurboDisc, Aii and MTI acquisitions.

There were $5 million of merger related and reorganization charges recorded in the fourth quarter of 2004 consisting of merger and restructuring and other expenses of $3.6 million, which were comprised of 2.8 million of personnel severance expenses related to cost reduction programs, $800,000 of the internal investigation costs for the improper accounting transactions of the TurboDisc business unit, an asset impairment charge of $800,000 taken in the fourth quarter of 2004 relating to the consolidation of Aii and MTI, which pertain to certain long-lived assets that were classified as held for sale as of December 31, 2004.

A $600,000 write-off was taken in the fourth quarter of 2004 for in-process R&D at the MTI division acquired during the quarter.

Net interest expense was flat at $2.2 million, compared to the 2003 quarter.

Income tax expense of $47.1 million included a $54 million valuation allowance taken for domestic deferred tax assets.

As previously reported, Veeco has recorded a non-cash valuation allowance of approximately $54 million in the fourth quarter of 2004 related to its domestic deferred tax assets.

Based on Financial Accounting Standards No. 109 requires an assessment of a company's current and previous performance and other relevant factors when determining the need for such valuation allowance.

Under this pronouncement, factors such as current and previous domestic U.S. operating losses are given significantly greater weight than the outlook for future domestic profitability in determining deferred tax asset carrying value.

This whole allowance will have no impact on the Company's cash flow or future prospects, nor does it diminish the Company's ability to utilize the underlying tax assets in reducing future U.S. tax liabilities.

The earnings per share impact of this charge is $1.80 per share.

In the fourth-quarter earnings release, Veeco included a table showing the reconciliation of GAAP loss to earnings, excluding certain charges.

EBITDA is presented in these reconciliations since management of the Company evaluates and manages the performance of each of its business units based upon this measure and believes this presentation provides useful information.

Veeco's fourth-quarter 2004 net loss was $56 million or $1.88 per share versus a net loss of 4.8 million or 16 cents a share in the fourth quarter of 2003.

On a non-GAAP basis, fourth-quarter EBITDA totaled 3.4 million compared with income of 3.5 million in 2003.

EPS for the quarter using a 35 percent tax rate and excluding merger restructuring and amortization of other non-recurring expenses, were 3 cents in both the fourth quarter of 2004 and 2003.

For the full year of 2004, sales totaled 390.4 million, or a 39.8 percent increase from the 2003 sales of 279.3 million.

Ion Beam and mechanical process equipment sales increased to 38.1 million or 39.7 percent.

Epitaxial process equipment sales increased by 69.3 million or 173 percent.

Metrology sales increased 13.7 million or 9.2 percent.

Orders were up 41.2 percent or 420.3 million in 2004 from 297.7 million in the prior year.

Excluding the adjustments previously discussed, gross margin was 39.4 percent in 2004 compared to 46.1 percent in 2003. 2.5 percent of this decrease is due to sales mix shift from metrology to process equipment.

And 4.2 percent of the decrease is the result of the low gross margins in process equipment, principally the Epitaxial process equipment.

In 2004, Metrology represented 41.7 percent of overall sales versus 53.4 percent in 2003.

Metrology gross margin in 2004 was 52 percent.

SG&A expense was 82.5 million, up 14.5 million from 2003. 12 million of this increase is attributable to the operations of the companies acquired during 2003 with the remainder due to higher selling expenses related to sales volumes and the cost of the Sarbanes-Oxley compliance.

R&D expense totaled 58.3 million or 14.9 percent of sales in 2004, compared to 48.9 million or 17.5 percent of sales in 2003.

This $9.4 million increase is mostly due to an incremental cost, again attributed to the 2003 acquisitions.

Amortization expense totaled 18.5 million in the 12 months of 2004 versus 13.8 million in 2003.

This $4.7 million increase is due principally to the additions of the acquisition-related intangible assets in 2004.

As noted in our quarterly discussion, there were $5.5 million of merger-related and reorganization charges, reflected -- that impacted both the fourth quarter and the full year 2004.

Net interest expense totaled 8.5 million compared to 7.8 million in the comparable 2003 period increases, mostly due to lower cash balances throughout the year since the acquisitions made in 2003.

EBITDA, excluding certain charges previously discussed, was 13.9 million for 2004 compared to 13 million in 2003.

Veeco's 2004 net loss was 62.6 million, or $2.11 loss per share compared to a net loss of 9.7 million or 33 cents loss per share in 2003.

The loss for 2004 is significantly impacted by the $54 million tax valuation allowance we had in Q4.

And, as I noted earlier, the (indiscernible) impact of this decrease was $1.80 per share.

Excluding acquisition, restructuring and amortization charges, non-GAAP earnings had a 35 percent tax rate for 2004, or 12 cents per share compared to 11 cents per share in 2003.

Backlog at December 31, 2004 was approximately 142 million, which positions us well for the 2005 earnings.

The outlook, we are currently forecasting first quarter '05 revenues in the range of 85 to 90 million, with forecasted GAAP loss in the range of 13 to 15 cents per share.

Excluding amortization expense of 4.5 million for the first quarter of 2005, we are forecasting earnings per share in the range of zero to 2 cents per share on a non-GAAP basis.

This assumes a 35 percent tax rate.

We expect gross margins in the first quarter to improve to 40 percent, up from the fourth quarter '04 gross margins of 37.5 percent.

Cash and cash equivalents totaled 100.3 million at December 31, 2004.

From a cash flow perspective, Veeco used approximately $10.5 million of cash in the fourth quarter, principally on the MTI acquisition.

Cash flow, exclusive of acquisitions, was a positive 3.9 million for the full year 2004.

We expect to pay a total of approximately $15 million in cash in the next month as a result of earnout formulas on two of the acquisitions that we made in 2003.

Accounts receivable were 85.9 million, an increase of $16 million from December 2003 and 79.1 at September 2004.

DSOs were 64.8 days, a 6.9 day improvement from December 2003.

Inventory was 110.6 million at December 31, 2004, down 7.1 million from the 117.7 million at September 2004.

Inventory turnover was 2 times.

Capital expenditures were 6 million for the fourth quarter and 15.5 million for the full year.

Depreciation expense totaled 2.9 million in the fourth quarter, and 12.8 million for the full year.

Shareholders' equity totaled 252 million at December 31, 2004.

As we look to 2005, we look at it as a year of single-minded focus on profitability.

While we're attacking all areas and all businesses for improved profitability, we will focus in particular on gross margin improvement.

Specifically in Ion Beam and mechanical process equipment, we expect gross margin to improve from 34.5 percent in 2004 to 41 percent by the second quarter of 2005.

The cost reductions are already in place and we expect the 20 percent growth in data storage to help us achieve this goal.

We will target another 1 percent improvement in each of the third and fourth quarters of 2005.

In Epitaxial equipment, as noted, we have a multiple-step approach to gross margin improvement, which includes a focus on design efficiencies, better supply chain management, standardization of product offerings, reduced warranty expense, improved pricing policies and new product introductions.

While some of these actions require three to six months to achieve, we expect gross margins for this segment to improve from the 24.4 percent in 2004 to 26.4 percent by the second quarter.

For the second half of 2005, we would expect more dramatic improvement as programs take effect and new product orders are received.

Our goal is to have gross margin improve 10 percent for this segment to the 36 to 37 percent range by the fourth quarter of 2005.

Our Metrology gross margin for 2004 were 52 percent, which is quite respectable.

With new product introductions and continued acceptance of our automated atomic force microscope in semiconductor fab applications, the Metrology gross margins are targeted as 54 percent by the second quarter of 2005.

Our aggregate margin goal is to go from 2004's gross margin of 39.4 percent to 43 percent by the second quarter of 2005 and to improve 1 percent each in the third and fourth quarter.

These targets require execution but are necessary and are achievable.

We have already reduced our headcount by 10 percent in the fourth quarter of 2004, but we continue to target additional cost reductions each quarter.

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

Thank you, Jack.

Let me comment on our view of current market conditions by sector and then we'll be pleased to take your questions.

We see flattish overall 2005 Veeco revenue but with significant market mix changes, in that data storage is likely to have a 15 to 18 percent increase during the '05 year.

LED wireless likely to have a 20 to 24 percent decline after a quite strong 2004.

Semi, mostly our auto AFM, likely to have a 5 to 10 percent increase as we see continued strength in our AFM product.

And Metrology is likely to have a 2 to 4 percent increase over the year.

And these reflect current industry market forecasts for those sectors.

In data storage, where the Q4 orders were up 91 percent, and drive manufacturers reported big increases in shipments and desktop and notebook and consumer electronics sectors, with consumer electronics accounting for about 15 percent of the total drive units shipped in the fourth quarter, and expected to increase to 20 percent for consumer electronics in '05, and 30 percent for consumer electronics in '06.

With smaller 1 inch and now 0.85-inch drives set to penetrate new consumer markets -- cameras, cell phones, PDAs, cars, trend focus reports and expected 24 percent hard drive unit growth in '05.

And we're seeing growth in both aerial density and capacity expansion and in the advanced development of perpendicular recording required in '06, '07 timeframe.

Some hard drive manufacturers are actually reporting selling every drive they produce.

Some are using the Magic Word allocation; it's a rare phrase in hard drives.

Apple has announced four new iPods -- 4, 6, 30 and 60 GB capacity for digital photo display to full-color media.

Apple, I remind you, sold 5 million iPods at Christmas.

So a very strong industry growth story in data storage.

The risk of course is that this volatile consumer electronics segment is being added to an inherently dynamic hard drive business, making quarter to quarter projections more difficult but a strong story going forward.

In semiconductor, where our Q4 orders were up 14 percent.

Despite our earlier expectation of an industrywide semi CapEx softening, we see continued worldwide acceptance of our auto AFM and wafer fabs at 90 and 70 nanometer feature sizes, where utilization rates are still high.

Q4 semi orders included a purchase of a Veeco Ion Beam deposition system for an advanced EUB mask application.

But in general, we will be paced by the leading-edge 90 and 70 nanometer deployment in the '05 timeframe.

In LED, wireless orders were up from a weak Q3.

But we see a definite pause.

We expect a weaker '05, as high-end cell phone growth slows.

Growth for cell phones was 60 percent last year to nearly 680 million cell phones being sold.

And we see Taiwan, China having access MOCVD capacity.

And we're sort of between major new LED penetrations.

We are sort of at the maturity point in cell phones and approaching high area TV and automotive applications.

But we do see a continuous growth in blue, green, and white LED penetrations going forward.

And including dramatic architectural lighting for buildings, bridges, museums, airports and high-resolution signs.

And eventually will lead to general illumination, as energy-efficient long-lived LED's have an opportunity to replace incandescent and fluorescent lights to penetrate a $12 billion worldwide market.

And in scientific research, Q4 orders declined 11 percent, influenced by a shift to lower product mix ASPs.

But we have a schedule of new product releases throughout '05 in material science, life science and nanotech applications.

And we've introduced a new high-performance, high-speed AFM head, as well as a new longer-lived high-resolution AFM Protech product.

And we received an important (indiscernible) with Dow to develop metrology for emerging nanomaterial applications in the future.

So in line with all of these opportunities, our primary 2005 goal, as Jack has stated, is to improve our quarterly operating profit by 2 to $3 million per quarter, starting in Q2 and our gross margin by 2 percent per quarter.

Veeco must be more profitable and our challenge is not really revenue; it's margin. 2004 was a growth year for Veeco with revenues and orders both up 40 percent from the prior year.

Revenues increased in all of our core markets.

We are well-positioned to benefit from the growth of new wireless digital consumer electronic products based on the convergence of embedded data storage, high-brightness LEDs, and semiconductor technology.

Our opportunity is significant.

Veeco has leadership technology.

Veeco has a strong market strategy.

Our dominant product positions give us very high market share.

Our strong strategic customer relationships are important across multiple growth markets.

Our task for '05 is clearly to increase our profitability.

Operator, I think we'd be pleased to take questions at this point.

(OPERATOR INSTRUCTIONS).

Tim Arcuri with Smith Barney.

This is actually Dan Birnbaum (ph) for Tim.

You've thrown a lot of detail on gross margin at us, and I guess I need to go back through and digest that a little bit.

But maybe you can also help us out with in addition to the gross margin improvement or sort of in line with that, where do you expect to take breakeven to?

You had mentioned I think $86 million breakeven by Q3 previously.

Is that still a good number to work with?

And then also, where is your sort of target model?

You had mentioned I think previously 130 million at 18 percent operating margin?

Are those still valid or are those restructured a little bit and what's the timing on those?

I think the breakeven is unchanged.

And of course breakeven will be influenced by mix in that -- as our Metrology.

In a perfect world where Metrology is nearly 50 percent of our revenue and has itself a 53 percent gross margin, you know, it influences the breakeven point.

Equipment has a 30 percent gross margin.

So I think the guidance we have always given is that as we grow the margin, both in process equipment up to a 40, 42, 43 percent gross margin, and as we slightly increase the metrology gross margins from 52 to 54 percent, you get to a blended -- first you get to a blended 45, 46 percent gross margin somewhere near the end of '05, and into '06, you start to approach what has always been our target 48 to 49 percent gross margin at revenues that are probably around 120 million per quarter.

Okay.

And what happens to SG&A and R&D as this is all happening?

And is there any guidance you can give for next quarter or moving forward?

Well, we've made a Q4 headcount reduction really to be able to get -- well let we talk about operating spending in combination, selling, marketing, marketing, R&D and admin, which had been running in the high 30s, need to be reduced to about 35 percent.

So the model for the '05 year would be that all of the operating spending combined is 35 percent against a gross margin opportunity of let me call it 45 percent.

Okay.

I will stop there.

Thanks.

JoAnne Feeney with Punk Ziegel & Co.

Congratulations on getting this done by today.

I just had a couple of questions.

First of all, can you provide a breakdown of the backlog figure that you reported?

142 million.

Which is -- can you wait a second, JoAnne?

Sure.

And then I guess another question is while you're looking for that, can you give us some hint of what your installed base is of the MOCVD systems?

How you achieved over last year and that was already in place from its sales out of Emcore?

It is probably 300, 300 to 500 MOCVD systems in the field and we shipped nearly 50 last year.

The backlog, the $142 million backlog -- let me try to identify the big peaces, if you will -- has probably 50 million in Epitaxial equipment.

That's MOCVD and MBE.

And it has probably 50 million in data storage.

And 20 million in auto AFM.

And the rest is in research AFM.

Okay.

And then getting back to the issue of trying to achieve better profitability for the TurboDisc operation, how do you intend to try to reduce for example your warranty expenses?

Is this a combination of reducing people in the field?

Or is there a separate control you have over charging for parts?

And can you imagine improving prices on those?

I mean could you give us some more detail on how you --?

That's a very good question.

The TurboDisc mishap includes within it a very high warranty cost.

Typically, in our equipment business, warranty runs 2 to 3 percent of revenue.

The TurboDisc -- as TurboDisc started to work on a new configuration of some of the major elements, their warranty costs in these last quarters has been as high as 8 percent.

And that is part of the hurt in the TurboDisc margin.

And so just fixing two or three elements in the bill of materials will get the 8 percent down to 4 percent.

And the norm should be 3 or 4 percent.

So we've identified two or three -- I won't bore you with the items -- but two or three critical components that are being fixed as we speak that will cut the warranty expense in half.

But in general as one looks at the sort of crummy gross margin at sort of 25 percent, and looks at a road map to get it to let me call it 35 to 40 percent, about half of the improvement is really low-hanging fruit that I wish we had uncovered earlier.

Like high warranty, like inappropriate pricing of spares, like not going out after supplier management and outsourcing.

So we expect the first, let me call it 5 to 7 percent gross margin improvement, to come from low-hanging fruit.

And the rest to come from more difficult, longer-term actions like the introduction of the new GaNzilla.

So are you assuming then that you have some control over the prices that you are able to get from your suppliers?

What makes you think that you can all of a sudden get a better deal from your suppliers than you could before?

And why should we -- how do we understand why you would be able to sell these spare parts at a higher price and still maintain the pace of sales that you achieved last year in the TurboDisc division?

Well, I'm not saying that we're going to dramatically increase short of a new product introduction, the system selling price.

But you certainly can adjust the spare parts and the service parts price, which aren't so sensitive to customer reaction.

And we certainly could do a better job, again, in the area of low-hanging fruit.

They did -- despite the ramp -- they did a terrible job of going out to suppliers at these higher volumes and getting from them volume price breaks on critical components and simplifying the bill of materials.

And we see an opportunity there.

David Duley with Merriman.

I would say congratulations on setting a record time with the forensic accountants.

I guess my first question is when you look at the restatements over the last few quarters, it seems like starting in Q1 and moving forward that the differential restatements on the gross margin line got bigger.

Could you help us understand that?

And then, just drill home once again Q1, where exactly -- you mentioned where the margins are going to go.

Help us understand in Q1 the segments that will improve on the margin front?

I know you gave that to us, but I was writing furiously.

I just want to make sure I got it right.

I apologize to all.

Jack and I struggled with giving you an enormous amount of information, sort of drinking from a fire hose.

We will work with you individually to help you in your models and (indiscernible).

The margin improvement, if I look at Q4 versus Q1, Dave, your question is -- there will be a couple of percent in the Ion Beam equipment group along with some revenue increase.

There will be a couple of percent in compound semiconductor as some of these problems that are low-hanging fruit that I referred to, can be corrected.

And the metrology will sort of remain at the levels we've described.

So overall, we are looking -- I think Jack said and I agree -- kind of 2 percent per quarter in total Veeco gross margin improvement.

So by the end of the year, you should be back -- 2 percent per quarter, so we start off at --?

You'd start off at 40 so you'd have a 46 percent gross margin in Q4.

And the -- just so we understand -- going from 40 to 46, is it this similar breakout to the improvement between Q4 and Q1, kind of higher volumes in your disk drive business brings higher margins and then the continued correction and introduction of new products in your MOCVD business?

Yes, David.

And frankly the mix helps us here, because this is going to be a year where LED wireless sales will decline because of market conditions.

And so their total content within Veeco's let me call it 390 million, if we are flat, will be less.

And fortunately, data storage is strong and semi is strong and so we are able to go to those two strengths within Veeco and ask for some margin points that frankly are above the original plan that we put together for '05, but will help us get the entire corporation to a 46 percent run rate in gross margin by Q4.

Because you have now volume strength and margin capability in the two stronger areas, data storage and auto AFM.

Okay.

And then back to my original question about throughout this year, the restatements, the delta on margins got larger with each quarter.

What was behind that?

And that is part of this warranty problem.

That in addition, as we dug deeply into TurboDisc in the forensic accounting, we -- one ends up using a high-pressure hose to cleanse the place.

And so one discovered not only accounting entries, but warranty costs that were very high and being unattended to and appeared in Q3 and Q4 and will be corrected in Q1 and Q2.

Okay.

So there was just more of warranty -- more unexpected warranty expenses in the Q3 and 2?

Unrecorded -- as part of the unrecorded adjustments that were hidden from us.

Right.

And was there a rationale for that particular maneuver by -- is it more than one person or just one person?

One individual.

Primarily one-person.

The forensic accounting conclusion was that no motive was found.

There was no -- there's no provable embezzlement.

No assets left the building.

Nobody seems to have individually prospered because of this.

So -- and no one was coerced by management or by the company to follow this incorrect accounting.

So we've found the problem.

We have fixed the problem.

One will argue for a long time what the motive was.

I guess one final question on this area and then I'll move to another subject.

But the reason that this investigation was so to speak wrapped up, I guess, what I would call record time, is that you've already done all your Sarbanes-Oxley testing with all your other sites.

And so the forensic guys didn't need to jump to those other places?

Also we were very active.

Management and our outside counsel and our audit committee and the forensic accountant worked long -- long hours and very diligently in this last month.

And we escalated some of the forensic accounting steps ourselves.

We asked that, for example, every job that they shipped this year be examined for revenue recognition.

So we increased the pace of discovery so as to have a shorter ending.

Jack may want to --

But I would also comment, Dave, that, in fact, your comment is correct that we had completed Sarbanes-Oxley throughout the rest of the Company that Ernst & Young was comfortable with.

They did in fact, as a result of these transactions, expand testing in all other parts of the Company in certain areas just as a precaution and found no -- nothing to warrant any further examination or expansion of search.

So it was totally limited to one individual at one site, and very much contained there.

Onto another subject.

On the disk drive business, was the reason that your Q1 orders were going to be at the high end of your range -- are you seeing continued follow through from your disk drive customers?

And I guess the way I think about this business is every several years, you go through a period in which your business goes from a 20 or $25 million run rate to a 35 or $40 million run rate for maybe four or six quarters.

Is there any reason to think that after getting off to a false start last year that we wouldn't see a complete upgrade cycle here?

No, there is every reason to believe, David, those numbers you're using are correct.

We are seeing -- first we're seeing the strength of Q4 continuing into Q1.

We are seeing multiple customers now (technical difficulty) what I would call multiple quarter expansion plans that they're bringing to their own boards in the April, May timeframe.

And we are seeing multi-year projections from the hard drive manufacturers that speak about literally doubling the number of drives produced over the next three or four years.

Largely on the strength of the smaller format consumer electronic drive.

So while one approaches those comments with the skepticism that you're reflecting, I think you're right.

We're going to see some number of quarters, hopefully more than two, at these 35, $40 million levels.

Just remind me, in the fourth quarter, what was the revenue in disk drive and what was the order rate in disk drive?

In data storage, the revenue in the fourth quarter was 30 million.

And the orders were 36 million.

And would you say that the order number will continue to be at this level or slightly higher for the disk drive guys?

It will be around -- when I model -- if I use my own guidance of 85 to 90 million for this quarter in orders, that model happens to use a 32 or $33 million data storage content.

Matt Petkun with D.A. Davidson.

Can you comment a little bit more specifically on data storage and what you're seeing from the slider fads and from your dicing and lapping business, and then along with that, are you including those businesses in the Ion Beam equipment gross margin?

Yes, to your last question, they are combined.

Ion Beam and the slider slicing, dicing California operations are combined in what is called Ion Beam and slider process -- mechanical process equipment.

Deb help me with the name.

We are seeing the growth in the last couple of quarters has been primarily in the front end and in metrology, but with a lot of conversation about slider.

And I think the slider orders are yet to come and will be Q2, Q3 events.

That's good to know.

And then just one final question.

Jack, you had mentioned that you expected gross margin within the Ion Beam business in Q2 to be I think you said 41 percent within an additional 1 percent gross margin improvement in the last two quarters.

Does that assume increasing volumes in that business, or do think you can generate those gross margin improvements on flat or slightly down business in data storage?

I indicated that, sort of assumed that data storage would get there by 20 percent, so that sort of packed it in there.

Right.

But you could see the bulk of that strength at the front half of this year.

We have seen as we saw last year data storage definitely picked up at the beginning of year and then fell back off, although the cycle hopefully is a little bit different this time.

Yes, we think the margins are still sustainable.

There is a big difference already -- you are correct about last year.

We had a very strong first quarter order rate, and then by September the data storage world was telling us they might not buy anything for nine months, if you remember their forecast.

Then not two quarters later, they're telling us whoops, what we really meant to say is we're going to double the number of drives we're building.

And they are pretty much already filling up the slot plan for Plainview into Q3.

I was thinking the next number of weeks Plainview's Veeco, IBD, IV slot plan will be booked for the rest of year.

And then one more question, just on the lapping and dicing business.

Historically that has been with just one customer, and you said you have had conversations.

Do you expect to penetrate other slider fads with other customers?

Yes.

The good news even in this quarter where we expect about $7 million of orders from slider and the good news is that it is not -- it is actually three drive manufacturers.

But we have made it multi customer already.

Shendom Sharkar (ph), Felicity Capital Management (ph).

Can you just review based on the finishing of your inquiry here what your payments to Emcore are going to be this year?

We indicated that we're going to get $15 million, make a payment of $15 million for two.

We haven't disclosed that yet.

We need to send a statement to Emcore before we disclose it publicly.

If you remember the original deal, which was 60 million with an earnout, that is still --

That is still in effect.

That is still in effect.

Peter Kim with Deutsche Bank.

I just want to follow-up on that last question.

You're not rethinking the purchase price and the earnout feature based on the TurboDisc accounting issue?

No.

Okay.

No, I mean we have closed the accounting issue.

The accounting issue was limited to the conclusion that we described.

This was a single individual acting on a single system, and we had no reason to involve Emcore in that discussion.

The next question is, what are you seeing from KLA-Tencor's AFM tools?

Any updates from last time?

Yes, I took it out of my notes here.

I think as you know KLA-Tencor has withdrawn their AFM product at the beginning of last quarter I think, beginning of this quarter.

There were some beta sites in the field.

Those beta sites seem to have been returned to KLA.

We have won now a number of competitive situations against the original tools.

I think they made -- they have taken off their Website.

I don't think they have made a formal announcement, but my own inkling is that this is still a very attractive market, the auto AFM market, and I would expect in six to 12 months that KLA -- I wouldn't be surprised if in six to 12 months, they fixed the problem on that tool and come back to the market as a competitor.

But they certainly were not able to compete with the tool as introduced either from a throughput or a resolution point of view.

So just to following up, that 65 nanometers, you guys think that there is going to be a lot more increase in in-line metrology, AFM metrology?

Yes, that's correct.

I think if nothing else, KLA's attempt at a productline was, in fact, an endorsement of their belief that when you go beyond 90 to 70 and 65 and 45 nanometers, the number of auto AFMs required for CMP, etch and lithography inside a fab probably increased to six to eight machines.

So when are we going to see that kind of figures being reflected in your AFM revenue numbers?

Well, you are seeing it.

The AFM revenue increased 30 or 40 percent last year.

It is going to increase another, even though we think CapEx and semi is challenged, it will increase again this year.

So there are already a number of fabs that have three or four AFMs in them, and I think by this time next year you'll see fabs that have six or eight AFMs per fab, 90 and 70 nanometers.

We probably have over 250 tools installed right now in fabs.

Tom Diffley with Merrill Lynch.

Could you quantify the earnings dilution from TurboDisc in 2004?

You gave us a 4 to 5 cent in Q4?

I was wondering what it was for the entire year?

You know you could kind of take the 10.2 million --

Take the write-down.

Take the write-down and add the fourth quarter to it.

Okay.

And just to confirm there was a note change or restatement for Q4 of '03?

That is correct.

And then at this point, is the SAP accounting system, is it companywide?

It is being installed companywide.

It is not completed yet.

We expect to have it essentially complete in 2005.

There are SAP-like systems in all Veeco factories, but we're converting to SAP as a standard.

So there are some factories that are up and running on quite a solid system or another system, but they will all be replaced by the end of the year by SAP.

And just real quickly, in your data storage business, is there still about a two quarter time delay between the receipt of order and the revenue recognition?

Yes, that's correct.

That is why I am commenting that we are seeing pressure right now on slot plans, the people who are -- drive manufacturers who are planning capacity increases are getting into this slot plan as early as possible.

You can say I have already described Q3 and Q4 equipment requirements to us on orders they have not yet booked.

So we're going to be at capacity in data storage somewhere in the next six to eight weeks.

Peter Wright with PAW Partners.

I just wanted to clarify -- I didn't know if I heard you correctly or incorrectly when you talked about your operating margin objectives of gross margin at 45 percent and operating expenses of 35 percent.

Is that by the end of the year or for the year?

That's the fourth quarter.

That's the fourth quarter.

So you want to exit the year at 10 percent operating margin?

That's correct.

And do you have a perspective on what you can do longer term?

Is there any -- what is a longer --?

We have not changed the target model that Jack and I have always presented that we really want to be much closer to a 15 to 19 percent EBITDA in maybe the three or four quarters beyond the end of '05.

Then a), how would that look?

Would that be higher gross margin or lower operating expense?

And b), what would the revenue have to be in order to accomplish that?

I think the revenue would be somewhere around 120 million and (multiple speakers) would be a stronger metrology versus equipment combination where metrology was running at 55 percent gross margins and equipment was running at sort of let me call it 44 percent gross margins.

And the blend was probably 48 or 49 percent. 120 million in revenue.

And operating expense would decrease as the revenues went up.

And --

To the low 30.

Yes.

So basically it would be something like a 48, 33 kind of concept?

And then finally, just trying to understand the operating model, if you -- this is based on 90 to 100 million in revenue.

Even at 90 million, you are going to be able to deliver on this?

I would use the range you just offered.

The quarters are sort of 90 to 100 million.

At the 90 to 100 million, you think by the end of the year you will be able to exit at a 10 percent operating margin rate?

That's right.

Great.

Remembering that last quarter's orders were 99 million, so.

You could do better if business were to accelerate?

Right.

But at 90 to 100 --

I was just giving you comfort that 100 million isn't out of reach.

Is not a crazy thing.

But I did want to make sure that you are saying that you will -- your concept is at basically flat revenues, at this $90 to $100 million rate, you'll run this business to have a 10 percent operating margin by the fourth quarter?

That's correct.

And that reflects the movement within the sectors that I've described, that although we're flat in total revenue, data storage will be up, semi will be up slightly, compound semi, (indiscernible) will be down significantly and metrology will be up a little bit.

But the total will be around that same 390 to 400 million.

Right.

But basically the product mix towards your metrology isn't increasing because your biggest action is in your storage area?

Right.

So with an unfavorable product mix, you're still able to deliver -- that is what your goals and objectives is, is to deliver that even with a less favorable product mix?

That's right.

Because, in fact, the weakest gross margin product for the moment is the one with the largest sales decline in '05.

So you are data storage rich and metrology rich relative to compound semi.

So the market blend is enhanced.

Gretchen Tiguard (ph) with (inaudible) Research.

On the IMI (ph) market, you have had great success there selling your AFM products, and I keep hearing that the corporate market and not including semis but like chemical, petrochem, etc. is looking to step up their nanotech research efforts, and I know you signed a deal with Dow for their -- for your AFM products sold into their nano group.

Where are you big picture in terms of addressing the corporate market for AFMs, excluding semis, and when could see that showing up significantly in your AFM numbers?

We're using FEI market terms.

I am trying to actively interpret them to the world.

We describe our scientific research as being material science and life science.

Separate from an industrial -- material science, life science and industrial and government, and we expect in '05 to see industrial and material science to grow a little stronger than GMT, maybe 5 percent.

Life science is probably the big win in the next three or four years with genomics and proteomics and a bio-AFM opportunity could be big growth areas for Veeco over the next few years.

The salesforce that focuses on the academic research market, are those the same people that are going to be sent out to address the corporate market, or what is the internal staffing set up for that?

I don't know what -- I don't use those phrases, so I don't know when you say the corporate market --?

I mean like you signed a deal for the nanotech council within Dow.

We have a dedicated sales pool, a quite large, dedicated salesforce that sells our research AFM and our research optical products through the combination of life science, University, material science applications.

They call on every University, every nanoscience and the Fortune 100 nanotech centers.

So that is a dedicated salesforce.

Okay, too, because I'm excluding the academic side.

Well, they cover both.

So they are calling on Fortune 100 and universities?

Right.

And are you seeing an -- (multiple speakers)

(multiple speakers) similarity there because if one -- is about 100 to 200 nanotech centers at university sites worldwide from University of Beijing to Rensselaer to Albany, and that same salesforce calls on that same nanotech center if it is at Xerox or 3M or Dow.

I see.

But are you saying -- because the university obviously has been spending money, and there is even talk that maybe that university market is approaching saturation at the end '06.

So I'm just curious about whether or not there is a tailwind on the horizon on purely the corporate side?

I think there is.

Because we said this some time ago, we had a two or three year very high growth, 20 or 30 percent per year for a couple of years, from the nanotech -- the academic nanotech centers.

And you are correct because that has now shifted to the Fortune 100 are observing nano materials and nanoscience and are themselves no longer just funding universities but starting nanotech centers in their own companies like Xerox and 3M and Dow.

The shift that you are describing as a tailwind I think is correct.

And you are seeing that in the mix of business?

Yes.

If you had to guess for '05 or maybe '06, is a more relevant way of looking at it, because it seems to me like that corporate market is so much bigger.

Yes I think -- (multiple speakers)

I mean if you had to guess, sorry.

Yes, I'm sorry.

I think you are correct.

The Dow grant is an indicator of that.

You now have from corporate America, as you are describing it, an understanding of the importance of lightweight nano materials for cars, airplanes, and they are funding research on the nano metrology tools necessary for nano materials.

And I think you'll see that in the late '05, '06 timeframe accelerate.

More of a percentage of your metrology tools sold into the directly not via grant universities, but directly into the corporate buyer.

That is correct.

But the other opportunity I think of like size or maybe a little further out is in the bio AFM area where not for strictly nano materials, but for genomic and bio AFM opportunities there is another emerging market that is '06, '07 that is sizable.

And would that flow through the academic wave and then backup into corporate like --?

Yes, I think so.

Mark Miller with Hoefer & Arnett.

Ed, was there any evidence that TurboDisc was inflating its margins to make it look like a better acquisition candidate, or had this just started to occur, these accounting problems --?

I would say no.

So these accounting problems occurred after the takeover by the Veeco.

Yes.

Second question, does it strike you as odd -- or actually the question would be, what percent of the head fabs or what is the capacity utilization right now on the head fabs?

It was going through that.

Is it 90, 95, 100 --?

Yes, they don't -- that is not a number.

Unlike semiconductor where those numbers are nicely published by market research firms, they are not published within data storage.

But within data storage, we're hearing very high anecdotal evidence of very high utilization rates because they are booked.

They really are selling every drive that they can manufacture right now, and with particular shortage in the smaller than 1.8 inch drive.

So I would say utilization rates -- if they calculated them the same way that semi does, they are probably over 90 percent.

With the long leadtimes to build a new fab, I've not heard -- maybe you have heard -- any talk about building completely new fabs.

Does it strike you odd, though, or at least it strikes me odd that we have not heard about it seems like incremental capacities being added by these guys, but no one with the large productions for growth are willing to stick their neck out in terms of building a completely new fab.

I think the last ones were the C8 expansion in Minneapolis, which was a number of years ago.

Maybe there is some talk to that.

I have asked that question a lot.

And the answer I get is that they all see an ability within the current bricks and mortar to have a significant increase in the number of drives per quarter.

Like you, I think that if their capacity uplift went on for four to six quarters, I think what they mean to say is maybe on the current campuses, but not in the current bricks and mortar.

I think they're going to need to build some fabs.

Final question.

What makes you confident -- two questions.

First of all, could you tell us where high-brightness LED pricing, is that starting to stabilize?

Is it still dropping?

And what makes you optimistic we're going to see a rebound in that market next year?

Really because of applications.

Because I think it is on the -- it has done a tremendous expansion into cell phones.

You know there are some 30 to 40 gallium nitride LEDs per cell phone.

And last year they sold 680 million cell phones.

And there is still growth there in larger screen displays and flash on the camera.

But when you call on the customers, it becomes clear that there is a movement now from cell phone concentration to flat-panel TV, LCD, TV, 40 inch 20 inch screens introduced by Samsung and Phillips and others that has LED backlighting that are expected to be in production at the end of '05, and you have five or six foreign motor manufacturers putting headlights, taillights, turn signals and interior lighting using LED into late '05 cars.

So I think we're going to see a shift that the market for LEDs, which is probably now 80 percent cell phones, will start to see the penetration of these other applications TVs, cars, and architectural lighting.

What about pricing?

Is that still going down at a precipitous rate?

I think more declining in the China, APAC area, China, Taiwan than it is in the Tier 1 accounts in the United States and Europe where they are still aiming at higher ASP, higher performance applications.

Thank you.

We will take our final question from Jerry Fleming with WR Hambrecht.

This is Ray Kukreja for Jerry Fleming.

I have two questions.

The first one was given only two weeks to go in this Q1, are you able to provide us your order outlook for Q2, and perhaps do that by segment?

And my second question was around inventory (technical difficulty).

You had around .5 -million of that in Q4.

Can we expect more of that in the next two quarters, or have you wiped the slate clean for now?

I will let Jack discuss inventory, and then I will come back.

The inventory that was written off in Q4 related to we purchased two businesses -- well, one business in the recent quarter -- and there was a duplication of productline.

So that was the reason for that write-off.

We evaluate our inventory every quarter, and we don't anticipate that there will be write-offs of that nature.

And to your first question, we're not giving Q2 guidance, but we currently don't see market conditions that would currently cause us to feel there would be a decline in the order rate going forward.

We don't see a decline in the order rate going forward.

And can you sort of elaborate on the segments at all?

Just use the comments I made on Q1 to reflect that they really refer to our current belief of what is going to happen across the Q1/Q2 period.

Operator, there being no more questions, I want to thank the audience for listening to a great deal of information.

I wish we could have condensed it for you.

Thank you for your attention.

We look forward to talking to you prior to the next quarter.

Thank you.

This does conclude today's conference.

We thank you for your participation.

You may disconnect at this time.