Veeco Instruments Inc (VECO) 2005 Q2 法說會逐字稿

Good day, everyone, and welcome to this Veeco second quarter 2005 results conference call.

Today's call is being recorded.

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

Please go ahead.

Thank you, Operator.

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

With me this morning are Ed Braun, our Chairman and CEO, and Jack Rein, our Chief Financial Officer.

Today's news release was distributed and 7:00 Eastern time this morning.

If you haven't yet seen the press release, please get a copy from veeco.com, or you can call 516-677-0200 to get a printed copy.

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

It cannot be recorded or rebroadcast without Veeco's 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 forward-looking 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 in the analysis section of the Company's report on form 10K 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 group measures of performance is 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The Company does not plan to update the information on this webcast once it has been archived.

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

Thank you, Deb.

Good morning.

Today we reported our second quarter 2005 results and we are pleased to report that Veeco's second quarter revenue, orders, and earnings exceeded both the prior quarter and our guidance.

Veeco is benefiting from the combination of our market diversity strategy and significant growth in the consumer electronics sector, particularly the proliferation of embedded small format 1-inch diameter hard drives in new, high-growth consumer devices.

The multi-year growth opportunity for these wireless mobile consumer products is becoming more apparent and most importantly we are on track with our stated 2005 margin and profit improvement plan.

Revenues were $103.4 million, up 10% sequentially from 93.9 million in the first quarter of 2005 and up 4% from the 99.2 million in the second quarter of 2004, and above Veeco's guidance of 90 to 95 million.

Bookings were 118.6 million, up 20% from the 98.9 million in the first quarter and down 5% versus the prior year second quarter and above Veeco's guidance of 90 to 95 million.

The quarter included record data storage revenue of 47 million, up 85% sequentially, and record data storage orders of 60 million, up 33% sequentially.

Veeco achieved pre-tax GAAP earnings in the quarter.

Our net GAAP loss was $400,000.

Earnings excluding amortization were $0.09 per share, above our $0.04 to $0.07 guidance and above the one penny achieved in Q1 and above the street consensus of $0.06 per share for Q2.

EBITDA was 6.1 million, up 130% sequentially from Q1 and up 21%, year-over-year.

Sequentially, our gross margin increased to 42% from 40% in Q1 and EBITDA increased to 6% from 3% in Q1.

Both in line with our previously stated 2005 profit improvement plan calling for a 2% gross margin and 2% EBITDA improvement for each quarter of 2005, and both based on an outlook for flattish to slightly up 2005 revenue for this year, and supported by our current backlog growth.

We are reiterating our quarterly gross margin increase plan, calling for 2% improvement again in the Q3 quarter and 2% improvement again in the Q4 quarter to 44 and 46% projected gross margins.

I'll highlight the Q2 financials and our guidance for Q3.

I will comment on market sector conditions and our continued outlook for the year.

Jack will review financials and we will be pleased to answer questions.

First, the revenue again, Q2 revenue: 103 million, was up 10% sequentially -- sequentially by sector, data storage was 47.4 million, up 85%.

That's a record level.

Semiconductor was 16.9 million, down modestly, 3% in the quarter.

LED wireless, down 38% to 13.9 million.

I think we're reaching a bottom in LED wireless.

Scientific research was down 12% to 25.2 million.

Again, the total, 103 million, was up 10%.

The quarter reflected increased data storage demand for Veeco's broad product line, including ion beam process equipment, slider, saw, and lapping tools, as well as optical and AFM, atomic force microscope metrology.

As the hard drive growth continues and thin film head factory utilization rates are near 100%.

As a percent of revenue, data storage was 46%, semiconductor and LED wireless combined, 29%, and scientific research, 25%.

So, in keeping with our normal diverse market strategy percentages.

Second quarter orders, up 20% with Sprint, in both data storage and semiconductor.

Sequentially, data storage was up 33% to a record level of 60.4 million.

It was a book-to-bill of 1.3 to 1.

Very strong data storage performance.

Semiconductor was up 32% to 19 million with a book-to-bill of 1.1 to 1.

That number, 19 million, includes both the atomic force microscope activity and an Ion Beam deposition mask system for advanced masks.

LED wireless, down 5% to 13.3 million with a book-to-bill of .96 to 1.

Scientific research, up 3% to 25.9 million with a book-to-bill of 1.03 to 1.

So in total, the 118.6 million was up 20%.

We had a positive book-to-bill of 1.15 to 1 above the sector performance.

Our ending backlog increased to 155 million, supporting our revenue outlook for the year.

Again, record data storage orders as consumer electronic growth continues, data storage capacity ramp coupled to a technology investment in perpendicular head.

The new heads for higher aerial density, particularly important in smaller format drives.

Also notable in the quarter was Veeco's -- orders were 50 million in metrology bookings, a 15% sequential increase in our highest gross margin business.

In addition, inventory decreased 5.7 million, despite higher revenue.

Accounts receivable, days outstanding were reduce to 54 days.

Cash flow was a positive 8.7 million and our balance sheet remains strong with cash increasing to 109 million.

To comment on the revenue and gross margins in each of our three business segments, which are Ion Beam processing, which is heavily focused on data storage; second is epitaxial equipment, which is the combination of MOCVD and MBE equipment, mostly for LED wireless; and thirdly, our metrology group, which includes auto AFM, the semiconductor, as well as research AFM and optical profilers for scientific research.

We had significant growth in Ion Beam processing and mechanical equipment, where revenues increased 67% to 46.6 million and our gross margin improved from Q1 36% to Q2 43%.

We saw a decline in epitaxial revenue from 22.5 to 14.6 million in the quarter, accompanied by a proportional decline in gross margin from 22% to 18%.

And we continued to see profitable stability in our metrology segment, with flat revenue of 42.3 million in Q2 compared to 43.5 million in Q1 and gross margins remaining in the 50% area in Q2, down a little bit from the 52% in Q1, due to mix within metrology.

Again, the overall revenue increase from 93.9 million in Q1 to 103.4 million in Q2 and gross margins increased from 40 to 42%, in line with our plan.

I think it is encouraging to note that in 86% of our Q2 revenue -- that's the combination of Ion Beam and metrology segments -- our gross margins were in fact 46% in Q2 in those two combined business segments.

So we are making significant progress and we will continue our gross margin emphasis across all of Veeco in the coming quarters.

Commenting on our outlook for the September quarter, following a strong second quarter performance and our increased backlog, particularly in higher gross margin Ion Beam and metrology products, we maintain our position that 2005 will be a relatively flat to slightly up revenue year with significantly improved profitability compared to 2004.

Therefore, Veeco currently expects that the third quarter revenue and orders will each be in the range of 95 to 105 million, third quarter gross margins are expected to increase to 44%, on track with Veeco's previously announced quarterly gross margin improvement plan.

Veeco's profitability is expected to increase from the second quarter with earnings per share to be between a loss of $0.02 and a positive $0.05 per share on a GAAP basis and between $0.08 and $0.13 per share, excluding amortization.

September -- I would remind all that September, the Q3 orders have been traditionally light in each of the last four years, due to some seasonality.

I will pause here to allow Jack to review the Q2 financial results and I will return to comment on strategic market sectors.

Thank you, Ed.

For the three months ended June 30, 2005, sales were 103.4 million, an increase of 4% versus the 2004 second quarter.

The increase is attributable to a $4.2 million increase in process equipment products, including 8.7 million from Ion Beam and mechanical, offset by a $4.5 million decline in epitaxial.

Metrology sales remain flat at 42.3 million, while market sales were up compared to the prior year by 33% in data storage, 9% in semiconductor, and down 34% in LED wireless and 7% in research.

Sequentially, sales increased $9.6 million, 10%, primarily due to a $10.8 million increase in process equipment, attributable to an $18.8 million increase in Ion Beam and mechanical, partially offset by a decline of 8 million in epitaxial.

Second quarter 2005 orders were 118.6 million, down 5% from the second quarter of 2004, and web up orders were up 20% sequentially from the first quarter of 2005.

Gross profit was 43.4 million for the quarter or 42% of sales, compared to 37.5 million or 40% of sales for the first quarter of 2005 and 40.9 or 41.2% of sales for the second quarter of 2004.

This sequential increase is due to a 6.7% increase in gross margin of Ion Beam and mechanical to a 42.7% level as a result of increased volume as well as better price mix and cost reductions in this segment.

The increase in Ion Beam and mechanical gross margins was offset in part by a sequential decline of 4.4% to 17.8% in epitaxial gross margins as well as a 2.1% drop in metrology gross margins to 49.7%.

The decline in epitaxial gross margins is the result of a 35% decline in sales volume from the first quarter of 2005.

The metrology gross margin drop is due principally to unfavorable product mix within research AFM.

We anticipate metrology gross margins will improve in the third quarter of 2005 due to richer product mix as well as sales volume increase which is supported by our strong gross margin in the metrology backlog.

While we expect flat epitaxial sales, we believe that there will be gross margin improvement due to cost reductions and improvements in service and warranty spending.

We therefore believe that our gross margin improvement plan remains on track and that we will achieve a 44% gross margin in the third quarter.

SG&A was 21.4 million or 20% of sales compared to 21.7 million or 21.9% of sales in the second quarter of 2004.

The decrease in SG&A was mostly due to cost reduction initiatives.

SG&A was up $1.3 million sequentially, principally due to higher selling and commission expenses resulting from increase in sales as well as an increase in incentive compensation, accruals, and profitability rights.

In addition, the second quarter of 2005 reflects annual salary increases.

R&D expense totalled 15.9 million, an increase of 1.3 million from the second quarter of 2004, largely due to celebration of new product development in Ion Beam and MOCVD.

Sequentially, R&D was up $1 million at least, and as percentage of sales, R&D was 15.3% compared to 14.7% in the second quarter of 2004 and 15.8% in the first quarter of 2005.

Overall operating expenses declined slightly as a percentage of sales to 36.1% compared to 36.2% in the second quarter of 2004.

Amortization expense totaled $4 million in the second quarter of 2005 compared to 4.6 million in the second quarter of 2004.

Net interest expense totaled $2 million compared to 2.2 million in the comparable 2004 quarter.

The decrease in interest expense is attributable to the rise in interest rates over the past year which resulted in more interest income earned.

Second quarter EBITDA totaled 6.1 million compared with 5 million in 2004.

The accrued EBITDA is in part a result of Ion Beam higher gross margins.

Veeco's second quarter 2005 GAAP net loss was $400,000 or $0.02 per share compared to a net loss of 1.7 million or $0.06 per share in the second quarter of 2004.

Earnings per share excluding amortization expense for the quarter was $0.09 compared to $0.06 for the 2004 second quarter using a 35% tax rate.

For the first six months of 2005 sales totalled 197.3 million or 4% increase from 2004, due primarily to an increase of 5.2 million in products equipment sales and an increase in metrology sales of 1.9 million.

Gross margin for the first six months of 2005 was 41% of sales.

SG&A of 41.6 million was flat compared to the first half of 2004.

As a percentage of sales, SG&A has decreased to 21.1% from 21.9% in 2004.

R&D expense totaled $30.7 million, an increase of 2.1 from 2004, due to an increase in product development, and as previously noted for the quarter, in Ion Beam and epitaxial as well as the NTI acquisition in October 2004.

As a percentage of sales, R&D has increased to 15.6% in the first half of 2005 from 15.1% in 2004.

Amortization expense totaled $8.5 million in the first six months of 2005 versus 9.5 million in the first six months of 2004.

This decrease was a result of achieving full amortization of certain intangibles at our slider, turbo disc, and optical metrology businesses.

Net interest expense was 4.1 million compared to 4.4 million in the comparable 2004 period, due to the increase of interest rates on cash balances.

Earnings before interest, taxes, and amortization was 8.7 million compared to 9.7 million in the first half of 2004.

Veeco's first six months 2005 GAAP net loss was 5.2 million or $0.17 per share compared to a net loss of 4.4 million or $0.15 per share in the first half of 2004.

The 2005 GAAP net loss was impacted by income tax expense from foreign taxes of $1.2 million compared to an income tax benefit of 1.4 million in 2004.

Earnings per diluted share excluding certain charges for the first half of 2005 were $0.10 compared to $0.11 for the first half of 2004.

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

Backlog at June 30, 2005, was approximately $156 million.

With regard to guidance, we are currently forecasting third quarter revenues in the range of 95 to 105 million and earnings per share between a negative $0.02 and a positive $0.05 per share on a GAAP basis and earnings per share between 8 and $0.13 excluding amortization of $4 million, utilizing a 35% tax rate.

Third quarter gross margin is expected to increase to 44%, on track with Veeco's previously announced 2005 quarterly gross margin improvement plan.

Cash and equivalents totalled $109.4 million at June 30.

We are pleased that had we generated $8.7 million in cash for the second quarter due to excellent accounts receivable collections, low capital expenditures than planned, and reduced inventory levels.

DSOs were at a record low 54 days.

Inventory decreased by 5.7 million to 10.4 million at June 30, due to reduction of inventory throughout the process equipment businesses.

Year-to-date, inventory has been reduced by $10.2 million and each business segment has continued to reduce their inventory levels while we have increased our sales.

CapEx was $2.7 million for the second quarter of 2005 and 4.6 million for the six month 2005 period.

Depreciation expense totaled 3.3 million in the second quarter of 2005 and 6.6 million for the first half.

Our balance sheet cash position of 109.4 million remains quite strong.

At this point we will return to Ed for some additional comments and then questions.

Thank you, Jack.

I will make some comments on market sectors and then we would be pleased to take your questions.

I will start with data storage, where this was a strong order quarter, up 33%.

This was the third increase quarterly -- sequential quarterly performance.

We had strong orders in Q4 and again in Q1.

Drive manufacturers are reporting nearly 100% utilization rates, both in wafer and slider fabs.

Essentially, many of them selling every drive they can manufacture.

Many of our drive customers are reviewing their CapEx spending increases quarterly and appear to be aligning their increased capacity with their increased demand.

The industry shipments of PCs grew 15% in the June quarter.

That was unexpected.

And again, our record orders of 60 million included purchases of Veeco Ion Beams, slider, optical metrology, and auto AFM products, including multi-million dollar orders from all five of the world's leading hard drive head manufacturers.

I think the Q1/Q2 buys reflect increases to current capacity and investment in technology for the development of next generation perpendicular heads for higher aerial density.

Perpendicular heads are scheduled to reach production in most of our customers in the mid-'06 to mid- '07 time frame and with industry manufacturing utilization running at 100%, any new thin film head yield problem could create a component thin film head shortage in the '06 time frame.

Digital consumer electronics I think will continue to drive the hard drive industry growth over the next several years.

Consumer electronics continues to be forecasted to grow 39% per year through 2008.

That, of course, is a combination of set top boxes, visual cameras, cell phones, information appliances, pocket drives.

Both Nokia and Samsung have announced the introduction of cell phones with hard drives, and there will be. according to forecasters, 1.5 billion cell phones sold by the end of 2005 and 3 billion cell phones by the end of the decade.

Overall industry drive revenue is forecasted to grow more than 20% in 2005 and I think Veeco's breadth of technology provides strategic value to our customers and our planned introduction of new products, a combination of ALD, PVD, and DLC for next generation slider and wafer applications are set to be introduced in the 2006 time frame.

So we anticipate multi-year Veeco growth in data storage, although cyclicality, of course, is -- continues to be a concern in the data storage world.

In semiconductor, where our second quarter orders were 19 million, up 32% and included both AFM and an Ion Beam deposition system for advanced mask fabrication.

Despite our initial 2005 expectation of an industry-wide semi CapEx softening, we see continued worldwide acceptance of our auto AFM in wafer fabs for 90 and 70-nanometer applications.

Veeco's auto AFM 2005 revenue is expected to reach about 50 million this year, up 25% year-over-year.

This is a strong niche product for us which is likely to outgrow the broader semiconductor metrology market in terms of total growth.

In general, our atomic force microscope sales will be paced by 90 and 70-nanometer deployment in 2005 and 2006.

We have expanded our internal application support team in auto AFM to generate new applications beyond Etch, CMP, photo lithography, and mask applications and we are addressing tip -- quite critical tip development road map programs to get to leading edge 45-nanometer and 25-nanometer applications.

We're also finding some increased acceptance in data storage for our atomic force microscope as pole dimensions shrink in next generation heads and we could see two or three AFMs per data storage fab going forward.

In LED wireless, our orders of 13.3 million appear to have reached a market bottom.

As we had expected, 2005 revenue will decline as mobile cell phone growth slows after very high growth the last two years and Taiwan and China have excess capacity and there is some supplier consolidation going forward.

The next LED growth wave, we think, is connected with large-area, flat panel LCD TV, automotive lighting applications, and specialty architecture lighting expected in 2006.

So Veeco will use 2005 to improve our product reliability, to reduce our warranty costs, to introduce our GaNzilla 2, to be positioned for growth in 2006.

And lastly, in scientific research, where our orders were up 3% sequentially, we've seen, as we reported last quarter, some very positive market growth related to our new management focus in metrology within Veeco and our Q2 metrology business segment orders for research AFM and optical profilers totaled 40.5 million, increased some 28% sequentially as metrology for material science and data storage expands.

Our focus is to expand our offerings for nano material and life science instrument applications and to accelerate the growth of our profitable tabletop AFM and optical instrument business.

So overall, we think Veeco market diversity strategy, coupled to our technology leadership in segments critical to the growth of new digital wireless consumer electronics are positive and we will see applications including further embedded hard drives, wireless and high-brightness LED growth coming next year, continued expansion of 90 and 65 nanometer semiconductor applications and continued expansion of nano material.

All position us to benefit from high potential growth of new consumer electronics and these converged technologies in the years ahead and we think we have a growth opportunity likely to exceed that of pure silicon or PC semiconductor in the '05, '06 time frame.

Operator, we would be pleased to take questions.

Certainly. [OPERATOR INSTRUCTIONS] We'll take our first question from Timothy Arcuri with Smith Barney.

Hi, guys.

Actually, I have several questions.

I guess the first thing is, can you go into some details as to what the issues are with gross margins in the EPI division?

And I guess number one, what is the issue, and number two, is the target still to exit the year kind of around 33% gross margin?

Yes, Tim, the impact of the reduced gross margins in Q2 was largely the reduction in revenue.

We think that has kind of bottomed, but we did see some reduction in revenue in that sector.

The increased margins going forward continue to be based on the introduction of the GaNzilla 2.

We've shipped three GaNzilla 2 products that we think will be accepted by customers by December, the end of the year.

We're working on material cost reduction and putting more brightness process capability in the GaNzilla 2 tool, which will result in higher ASPs, lower warranty costs, so I think we're -- and yes, we are on plan to end the year at about I would say something in the range of 30 to 33% gross margin in that group.

Okay.

And then I guess the second question is, you have more backlog than most other equipment companies and I guess the trend pretty much everywhere else is for backlog to come down because manufacturing cycle times are actually coming down, yet your backlog seems to be going up.

Is that a decision by you?

Is that kind of a conscious decision by Veeco to carry more backlog?

Or is there something else going on there, is it customer driven?

I think the something else going on was the $119 million worth of orders in the second quarter.

The backlog of 155 million is about 4.5 months, not markedly higher than we've been running.

We are reducing, as you're indicating cycle times, cycle manufacturing times, in almost all of our products.

We'll obviously have I think good revenue because of this backlog in Q3 and Q4.

We were -- we did enjoy a much higher order rate in Q2 than we had imagined.

Okay.

And then last question, do you think that book-to-bill will be above 1 in September?

Well, my guidance of 95 to 105 for both orders and revenues sort of indicates a 1 book-to-bill.

I think it will be around 1.

Okay.

Thanks, Ed.

We'll go next to Robert Maire with Needham.

In terms of upgrade cycle for the data storage industry, obviously you've been through a whole bunch of upgrade cycles before as recording head technology has changed.

What's your view in terms of the length of the upgrade cycle and we're probably at the early stages of it -- but obviously you buy equipment before you peak in terms of production.

But where would you say we are in terms of the equipment purchase cycle and how many cycles of this do you think we have?

Excuse me, quarters of this do you think we have.

Robert, I think, unusual in this cycle is this nearly 40% growth in consumer electronics impacting the embedded small format hard drive, so you're seeing sort of a positive perfect storm here with a combination of capacity needing to be increased as even PC growth has surprised people to be higher than they thought, and the consumer products are requiring that I think perpendicular heads will have a long run, probably similar to the introduction of GMR two or three cycles ago in the ability of perpendicular recording to bring 1-inch drives to 20, 30 gigabytes and to bring desktop to 1 terabyte.

So, I think we're -- although there will be cyclicality, I think the trend line over the next two or three years will be quite positive in data storage and so I think we're looking at 4 to 6 quarters of a general up trend line, but still with some volatility quarter to quarter, won't be completely linear, but the trend line will be quite positive I think, for the next six quarters.

And that's sort of 4 to 6 quarter upside I would imagine is because we're really changing more fundamentally how recording is done as compared to just changing materials or the number of materials in a stack, where I guess getting more -- this is more of departure from previous head technology.

Yes, I think you're correct, Robert.

You're seeing the combination, simultaneous combination of perpendicular heads, smaller format, consumer electronic applications, and drives being sold with content.

The iPod was just the beginning of drive with music content and soon there will be drives with video content, TV content, so this is a significant change to the last five years of the drive industry.

Okay.

And one other question.

I didn't hear too much of it in your comments, but in terms of the LED market for I guess the holy grail of general illumination or higher brightness LEDs, we've heard a lot about LEDs for flash application, for cameras and things like that.

Your view on update for high brightness LEDs for illumination applications and where we are on that path.

We are very early in what will be I think a multi-year brightness road map improvement, and that's the -- the Moore's law of LED is really improving brightness, because all of the future applications that you speak of -- specialty lighting, automotive lighting, flash for cameras and general illumination, all require higher levels of brightness and color control, wave length control.

So the GaNzilla 2 that we're introducing now is the beginning of I think a series of products that let people control brightness, wave length, to have narrower binning.

There's still a lot of binning this industry, and I think '06, '07 will be quite positive years for us in LED.

Okay.

Thanks.

And we'll go to Matt Petkun with D.A.

Davidson & Co.

Hi.

Good morning.

Ed, could you give a breakout from both bookings and sales perspective from the slider division this quarter?

Of the -- slider, I think, in revenue -- in revenue, where the -- the revenue from the combination -- I will do it from the business segment point of view.

Ion Beam and slider together had revenue of 46 million and about 7 million of that was slider.

But I think their bookings were about 15 million.

Do you have that number?

Yes.

Are you starting to see the AII business progress into other customers outside of, really, one?

Yes.

They had sort of a recent record in terms of orders that were twice their revenue in this quarter and it was both a combination of saws and lapping equipment sold to four data storage and film head manufacturers.

So this business that, as you know, was previously sort of a captive business for one or two suppliers has now become a broader business for all five in-film [ph] head manufacturers.

Okay.

And then within your kind of compound semiconductor business, what are you seeing as a mix between MOCVD and MBE tools?

Well, in the quarter, it was in the 15 million of revenue, in this quarter, it was almost 2-1 turbo disk MOCVD to MBE.

So you're still seeing some MBE orders.

Yes.

In the LED market?

Or in more traditional ---

More high frequency power devices.

Okay.

And then just kind of looking at gross margin again, it is useful you provide all this data, but then we start holding you to it.

Looking at by group, you talk about an improvement coming in the telecom wireless business, the LED business, by the end of the year.

Would that require higher revenues to hit your target there?

Is that embedded in the assumptions?

Slightly higher.

We really think that revenue recovery occurs in '06.

I think it is mostly the GaNzilla 2 being introduced and continuing to see control in material costs, lower warranty costs, there will be some head count reduction while these revenues stay low, so we'll continue to see quarter to quarter improvement in gross margin there.

We'll see continued gross margin improvement in metrology because they had a good booking quarter in Q2, and as you mentioned, slider revenues will be increasing and so we'll see some gross margin improvement there.

So with this backlog we feel pretty good about this next 2% to 44% gross margin in Q3 and a 46% gross margin projection for Q4.

Okay.

Thanks.

Okay.

We'll go next to David Duley with Merriman.

Congratulations on a nice quarter, guys.

Thank you, David.

Could you help us understand in the disk drive business -- are your lead times stretching out there and are you booked to the end of year at this point?

Well, we're -- as Tim mentioned earlier, we're working on keeping lead times to sort of 12 to 14 weeks, which means a little reduction in lead time.

We are heavily -- we are now booked into the fourth quarter.

I think our Ion Beam process equipment probably now is almost fully booked for the year on a single shift basis, but we are looking at the ability to start a second shift if orders continue at this high rate.

That will help keep the cycle times down and we've done more and more outsourcing in data storage, also to help reduce cycle times.

I would like the cycle times to stay at sort of a 12, 13 week lead time.

Okay.

And typically when you look at your order number of, I think was 118 million, and then you look at your revenue guidance of 95 to 105, I thought historically you might take an average of the last two quarters in orders and that would be your revenue guide, and it seems that your revenue guidance is a little bit below that.

Is there an explanation this time?

Is it the longer lead time stuff in this sector or just being conservative?

Well, we have -- I think it is a little of both.

It's a longer lead time, there maybe is some conservatism there, but we're also experiencing 70% of our revenue overseas and so acceptance from overseas customers doesn't occur as quickly as from domestic customers and so there is a little conservatism built into that.

But it does speak to the fact that we'll probably have a pretty decent Q4 in revenue as well.

Have any of your disk drive customers announced they're actually going to build a new factory yet?

Well, for the first time in recent memory there are conversations about new fabs.

There are conversations about wafer size changes, and I think if their growth continues in the '06/ '07 time frame we will see both new fabs and you'll see some people considering larger diameter wafers.

One final question from me, the guidance of 44% gross margins in this current quarter: that doesn't require any improvement in the LED business or is this just blocking the tackling in the core business?

It requires a little bit of improvement in gross margin in LEDs.

There will be also, I think, marked gross margin improvement coming in metrology following the backlog that they built.

Thank you.

We'll go next to Mike O'Brien with Bear Stearns.

Hi, Ed.

Hi, Jack.

Hi, Mike.

Just a quick question with regard to the data storage, just general feeling.

This industry has been worse at over spending and it does look like it is different this time in terms of other demand, but what signs are you looking for that they're adding too much capacity?

Mike, what I am encouraged by is that unlike previous cycles where often they increase their CapEx mid-year for the entire year, many of them now, almost all of them, are sort of reviewing CapEx on a quarterly basis, and clearly we get a sense that they're watching their increased projected demand and their increased capacity and aligning them better than they seem to have done in previous cycles, and so -- and they still feel quite strongly that they're going to get a 20% increase in revenue in units and it doesn't look like the capacity that's being added, Mike, is stronger than that.

So it looks to be very much aligned, and we're encouraged by that.

Great.

And just -- I apologize if I missed this.

Your bookings, down a little bit, maybe it's conservative for next quarter -- is that across all segments or maybe can you give an outlook on the September quarter: up, down, flat, by your main segments?

I think -- that's a good question, Mike.

I think data storage, we certainly expect somewhere a bit of a pause in this multi-year growth in data storage on a quarterly basis, so I think data storage would be down a little bit sequentially.

In semi we had an Ion Beam deposition order for masks in Q2, that doesn't occur every quarter, so semis could be down a little bit also in the September quarter.

I think LED will be flat and I think scientific research will be up.

Great.

Okay.

Thanks a lot.

And we'll go next to Mark Miller with Hoefer and Arnett.

Congratulations on continued progress.

Questions again on the data storage issue and when that market, how long this run is going to continue.

Zyrotech [ph] reported some order push-outs.

I'm wondering if you've seen either order push-outs or pull-ins from any of your data storage customers.

Well, they've been all pull-ins.

The-- data storage orders of 60 million.

It reflected a lot of buys that came in earlier than we thought.

We continue to see a pull-ins on shipments as well.

I think I mentioned last call that we probably expedited our customers' requests probably some 60 or 70 days that we have taken off the build cycle to ship equipment earlier than it was originally contracted for.

So we're not seeing delays in orders and we're not seeing delays in shipment.

We're seeing a lot of pressure from the data storage world to -- and I think it is because they're utilization is at 100%, both in wafer fab and in slider, and I really -- I think you know they've had some material and component shortages in the last six months in glass and media, and I wouldn't be surprised if they start bringing some new heads into manufacturing at a time when utilization is 100%.

They're going to have head shortages in the next six months.

So I think we'll continue to see sort of a positive outlook from data storage for these next two or three quarters.

Of the equipment that's been ordered in the last couple quarters, what percent in your estimate is for perpendicular versus longitudinal and is there a significant overlap between the equipment that's currently being ordered -- can we use the equipment for the advanced longitudinal also for perpendicular?

There is -- as the dimensions in a number of the perpendicular heads shrink and some new materials are added, they have to buy some new Ion Beam, etch, PBD, ALD equipment.

I think currently, if I look at the order book, we're seeing probably three quarters of it having to do with capacity and maybe one quarter of it is the early work being done on perpendicular heads.

Okay.

What's your estimate -- I asked Bill Watkins this, I'm just wondering -- what's your estimate, the percent of head shipped in '07 by the whole industry that will be perpendicular?

Well, I would guess a number like 20 or 30%.

Okay.

That was my guess.

Bill was a lot higher.

He said if people aren't believing that, they're going to be in trouble.

So I was surprised by that, too.

All right.

Thank you.

He's been pretty aggressive in perpendicular recording and I think that's a positive in terms of bringing higher capacity to these small drives.

Thank you.

Next to JoAnne Feeney with Punk Ziegel.

Good morning, everyone.

I just have a couple of quick questions.

One is, could you please repeat the total amount of capital expenditures and then also perhaps give us a bit of a breakdown on where those expenditures are primarily focused across your different market areas.

JoAnne, I will let Jack do that.

Sure.

CapEx was 2.7 million for the second quarter and 4.6 for the six month period and principally, their laboratory tools [inaudible] our new product.

So it's tools that we capitalized for internal use and development of new products.

Let me add to that, JoAnne.

We have a pretty rich pipeline of new products coming out in the next two or three quarters that require two or three of each of those tools being built for application support, for sales support, for iron man testing, and so we'll see some CapEx expansion in that regard.

I am just wondering in that CapEx is skewed towards one area or another.

Is it primarily process tools or the metrology or is it epitaxy?

It is kind spread around to be honest with you, JoAnne.

Everybody gets their fair share of it.

It is -- we've had a reasonable investment in atomic force microscope.

Particularly we've got a new facility, a lease facility, for our probe business and we've been outfitting some capital equipment for the probes for advanced development there, which is very important for our AFM roadmap [ph] as well as the Ion Beam and epitaxial -- we've got investments in those areas as well.

So you'll see in the next three quarters, certainly GaNzilla 2, an epi -- an new epi tool that's being introduced now.

You'll see a new PVD tool, a new ALD tool, a new diamond-like carbon tool for data storage coming from Plainview, you'll see new metrology tools as Jack has described in scientific research and in auto AFM.

So a pretty full list of new products that can impact '06 revenue.

Okay.

And you also said you shipped a couple of those GaNzilla tools.

Yes, we shipped two and I think there's one more to be shipped and we had promised that we would have customer acceptance of the GaNzilla 2 by December.

Okay.

And so those GaNzilla 2 tools that have shipped and you're expecting acceptance by December.

Yes.

That's correct, JoAnne.

And then final question: in gross margins across the board, it sounds like it is hopefully more than just product mix that's driving up your margins.

Sounds like you're moving to more outsourcing.

And I am wondering if in the LED part of the business if more outsourcing or other business procedures might help to you to reduce the structural costs and switch to something a bit more flexible.

Are there any plans in the works for that?

Yes, that's a great comment.

In fact, if you look at -- Plainview is probably leading the initiative in outsourcing and their gross margins increased some 5 percentage points in this last quarter, and I think a lot of that work is -- can be duplicated in compound semiconductor.

We just hired a new materials supply chain manager in that group with that thought in mind, JoAnne.

And we did make an announcement I think in the last weeks that we signed an agreement with Brooks, so we're doing more outsourcing in terms of automation, we've identified gas boxes and electronics that we can outsource and so I think that is important to the gross margin improvement plan in the next couple quarters.

Great.

Thanks.

And we'll go to Mark Fitzgerald with Banc of America Securities.

Thanks.

Is the equipment orders for the data storage, is that seasonal?

Is that why your September quarter in the last four years has been weaker?

I looked -- Jack pointed this out last week.

It is actually down in each and it wasn't just data storage.

It was actually the orders in total were down in the September quarter in each of the last four years.

Now, in last year, Mark, you're absolutely right.

Data storage was kind of a horror show.

It went down to like 19 or 20 million.

But across a four-year period it wasn't just data storage.

It was some seasonality in all the businesses and I think it is because more and more of our business in each of these years has been overseas.

Vacations are taken pretty seriously in Europe and in parts of Asia and there were some plant shut downs.

So, we haven't spoken about seasonality, but now that we look at the numbers, clearly there has been a September seasonality impact on orders in multiple years.

Okay.

And then, if you look at the mix of data storage, it's pretty high at this point, 44 or 45% or so of the mix revenues.

Is that a permanent shift, given what's going on in the data storage business for your own company?

I think it will stay in the -- let's say 40 to 45% for the next number of quarters, probably is not unlikely.

Okay.

But you don't view that as a permanent shift?

No, because LED -- I think we're working on the other businesses as well and I think the GaNzilla 2 and the high brightness LEDs will have a big impact in '06 and as you know, when that business grows, it grows by 20 or 30%.

It will re-establish itself and I think we're doing a lot of work in scientific research to move new products into applications having to do with life science and bio-AFM and so we'll see some growth there as well.

So I don't think we'll totally abandon sort of what's always been one third data storage, one third compound semi combination, and one third scientific research, although at any moment when one of the sectors is heated, it could be 40 or 45%.

Okay.

Then just lastly here, any sort of visibility on anything turning more positive in semis?

Or is it still kind of bouncing along the bottom?

I think I am kind of a believer in your forecast.

I think semis are overall kind of a low single digit growth opportunity because of the maturity of PCs and silicon applications and I think Veeco's niche markets in compound semiconductor, LED, and data storage will provide it double-digit growth at a time when semis I think will struggle to have double-digit growth.

Okay.

Thank you.

We'll go next to Brett Hodess with Merrill Lynch.

Yes.

Good morning.

This is Tom Diffely with Merrill Lynch.

On the expense side, can you talk a bit more about the uptick in R&D and where you expect that to go the next couple quarters?

The uptick in spending in this quarter was forecasted, if you remember.

Right.

We said that this was the quarter that some annual merit increases occurred and we're starting to be a little more profitable, so bonus accruals are a reality.

Right.

I would say that R&D will probably tend to be down slightly in the third and fourth quarter in terms of absolute dollars and certainly as a percentage of sales as well, so rather than the current 15.9, it will probably be in the $15.45 million range.

That's unusual expenditures as we're trying to bring several products Ed noted to market and so we'll have some easing of R&D spending in the third and fourth quarter.

Right.

Okay, thanks.

Can you talk a bit about the ALD opportunity over the next couple years?

Yes, we signed an agreement with ASMI in terms of using some of their process technology in our tool for -- primarily for data storage, and so we're beginning to ship our new ALD tools to the data storage industry, both for stand-alone ALD and more importantly for atomic layer deposition clustered with our Ion Beam and PVD tools.

So I think we'll probably ship 10 or 15 tools next year to the data storage world and ALD.

Okay.

And that's all designed for the perpendicular heads?

Yes.

Okay.

Thank you.

I'll go next to Stad Strovac with Quattro Global Capital.

Hi, guys.

Is there any change in terms of your thoughts in terms of addressing the other convertible, just given the current results and how well you guys are doing.

Have you thought about addressing those earlier than the '08 maturity or any sort of change in that perspective?

Thank you.

Well, we continue to look at our options as we go forward.

We're obviously mindful that the -- that we have a December '08 maturity and we've had various discussions, as you can imagine, lots of investment bankers are talking to us and we talk about it at the board level, but there's no specific plans in the immediate future.

Okay.

Thank you.

We would certainly like to deal with it during the '06 time frame, I would say.

And we do have a follow up question from Timothy Arcuri with Smith Barney.

Hi, guys, actually two things.

Number one, first the easy one: can you give us any data on the cancelations this quarter?

Yes, they were about a million and a half dollars.

Adjustments to backlog were probably another million and a half to $2 million.

So, pretty modest numbers compared to the 119 million.

Great.

And then, as I look at the orders by product and I looked last year and I tried to determine where order growth might come from the next few quarters.

It looks like there is maybe $40 million worth of downside to your data storage orders if you go back to your recent trough, and it looks like in the LED world, if you go back up to the prior peak, there's kind of $40 million worth of upside to your LED orders.

So, is that kind of the wrong way to look at it?

It is somewhat difficult to see orders growing significantly from here maybe over the next two or three quarters.

Is that the wrong way to look at it?

Tim, that's not crazy.

I think I would temper your numbers a little bit on the data storage side.

I think data storage doesn't fall to its previous trough because of consumer electronics.

But there will be a quarter where data storage does decline somewhat.

I think -- but it is not wildly wrong to think that the data storage decline and the LED increase are probably the same order of magnitude.

I'd like to see our metrology business, which increased quite nicely this quarter, continue to increase over the next two or three quarters because it's a 50% gross margin buffer to the quarter-to-quarter displacement in data storage and LED.

So I think overall, you're right.

Data storage, at some point, will pause.

LED will start to grow.

But I would not think of metrology as being flat.

I would ask metrology to grow because it has such a nice margin impact.

Great, Ed.

Thanks a lot.

Operator, I think we'll take one last question, if there is one.

And it appears we have no other questions.

I'll turn it back over to Mr. Braun for any additional or closing remarks.

Okay.

I want to thank you all for you participation.

We're very pleased with the quarter, very pleased with our progress in gross margins, which we continue to -- will impact -- feel that they will impact positively Q3 and Q4 and we look forward to speaking with you again to report September's results.

Thank you all.

And this does conclude today's conference.

We thank you for your participation.

You may now disconnect.