Veeco Instruments Inc (VECO) 2005 Q4 法說會逐字稿

Good day, everyone, and welcome to this fourth quarter 2005 results conference call. [OPERATOR INSTRUCTIONS]

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

Please go ahead.

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

I'm Debra Wasser.

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

Today's news release was distributed at 4:30 PM this afternoon.

If you haven't yet seen the press release, please visit the veeco.com website, or call 516-677-0200, extension 1403, to get a copy.

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

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

You're participation implies consent to or 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 earning expectations, or otherwise makes 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 factor are discussed in the business description in management's discussion and analysis section of Company's report on Form 10-K and the annual report to shareholders.

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

Information regarding such non-GAAP measures, including reconciliation to GAAP measures or performance, is available on our website.

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

The Company does not plan to update the information on this webcast once it has been archived.

I would now like to turn the call over to Ed.

Thank you, Deb.

Good afternoon.

Today we reported a positive Q4 2005 results, with revenue, orders and EBITDA all above prior year, pri -- above prior quarter and above our guidance.

Fourth quarter orders increased 22% sequentially from the third quarter of 2005, indicative of improved market conditions as we enter 2006.

Q4 revenue of $112.8 million was up 13% sequentially, and up 10% from prior year, and above our guidance of $100 to $105 million.

Q4 orders of $102.7 million were up 22% sequentially, up 4% from prior year, and above the $90 to $100 million guidance.

Book-to-bill for the quarter was .91 to one.

Revenues were up in Ion Beam , as data storage continues to ramp, and they were up in MOCVD, driven by the success of our GaNzilla® II MOCVD tool and the beginning of the LED back-lit LCD TV applications.

Orders were up in MOCVD, again driven by our GaNzilla® II acceptance, and orders were up in Metrology for data storage and for semiconductor applications.

EBITDA earnings of $11.9 million, or 10.5% of sales, were up 44% sequentially, up 246% from prior year, so that EPS, excluding amortization but fully taxed, was $0.22 per share above our $0.13 to $0.17 guidance.

While we exceeded our 10% EBITDA goal for the fourth quarter, our Q4 gross margin of 43.3%, while above last year's 38%, was down 1% from Q3, and below our 46% gross margin guidance for the fourth quarter.

This was mostly a result of stronger Equipment to Metrology mix of revenue in the quarter, compared to the prior quarter and to plan.

Equipment gross margin is currently running 38%, well above the 28% of a year ago.

But below our Metrology gross margin, which is currently 51% and is 1% above where it was a year ago, so that are blended gross margin of 43% is a result of the nearly 60%, 40% revenue mix of Equipment to Metrology that we experienced in Q4.

Our target gross margin model assumes something closer to a 55%, 45% Equipment to Metrology revenue mix.

It is important going forward that we forecast the Equipment and Metrology content of quarterly revenue and quarterly orders to give you better visibility into blended gross margins quarter-to-quarter, going forward.

For the year, we are pleased that our continued focus on operational improvements and cost control resulted in a doubling of EBITDA on a 5% increase in revenue for 2005, while gross margins increased significantly to 42.4% from the ye -- for the year from 39.4% in the prior year.

In addition, our focus on operational excellence has led to the generation of $44.9 million in cash from operations and $21.7 million reduction in inventory during 2005.

In the fourth quarter alone, we generated $13 million of cash from operations, and we reduced inventory by $11 million.

Our December cash balance increased to $124.5 million.

We will continue our initiatives in operational excellence and cash management to improve margins, balance sheet and cash performance, and to increase overall shareholder value.

As we enter 2006, we are witnessing improved market conditions in essentially all of our core markets, with high growth in data storage and High Brightness LED expected, and modest growth in semiconductor and nano-bio scientific research.

This better demand is coupled to a significant number of new Veeco products aligned to our customer's technology development and capacity requirements, and coming from both Veeco's process Equipment group and our Metrology business segment.

Based on this positive 2006 market environment, we expect Veeco's revenue to increase 8 to 10% this year in 2006, providing significant growth to earnings in this year 2006.

We currently expect revenues and earnings to be greater in the second half, due to a weaker backlog entering the year, caused by the modest $85 million booking quarter in September, and the flow of new products likely having a slightly higher revenue acceptance times, as we proceed through the year.

We expect the bookings, which increased in Q4, to continue increasing through the year, and to increase again in the first quarter.

From a revenue point of view, we expect about $200 million of revenue in the first half of the year and about $250 million of revenue in the second half of the year, concurrent with our guidance that the year will end up somewhere between $440 to $450 million in revenue, something up 8 to 10%.

We currently expect Q1 revenue to be in the $90 to $95 million range, with a 55 to 45% mix between Equipment and Metrology.

And we expect another quarter of increased orders in the first quarter to be in the range of $110 to $115 million, with a mix of 60%, 40% Equipment to Metrology, driven by a very strong data storage expansion.

We expect the first quarter book-to-bill to be 1.2 to one.

Operating expenses should be relatively flat, in the $36 to $37 million range, and EPS, excluding amortization, expected to be in the $0,05 to $0.08 range.

Through 2006, we will focus on operational excellence and cash generation, with a goal of achieving another annual increase of two to three percentage points to our annual gross margin and two to three percentage points to our EBITDA.

Both expected largely to occur in the second half of the year, with an expected annual increase to revenue of 8 to 10% for the 2006 year.

Margin progress will continue to come from a combination of activities including a focused Senior General Manager executive management now dedicated to all Equipment.

Bob Oates now runs all of our Equipment segments, and all of our Metrology activity is run by Jeannine Sargent, Executive General Manager of all Metrology.

And that will -- these will allow best practices to be put in place across all of Equipment and Metrology activities within Veeco, such as improved supplier management, more centralized material purchasing.

New products will be based on an increased use of common hardware and software platforms with increased outsourcing content, and that will bring shorter manufacturing cycles, less inventory and more cash.

And we will continue to implement installing SAP across all Veeco divisions.

I think I'll pause here for Jack's comments on the financials, and then I'll return to discuss market comments.

Thanks, Ed.

For the three months ending December 31, 2005, sales were $112.8 million, an increase of 10% versus fourth quarter of 2004.

The increase was attributable to an $18.6 million increase in Ion Beam and mechanical products, as well as an increase of $600,000 in Metrology products, which is partially offset by a decrease of $9.3 million in Epitaxial Process Equipment .

By market, sales were up compared to the prior year by 49% in semiconductor, 48% in data storage, down 35% in LED wireless and 9% in research.

Sequentially, sales increased $12.8 million or 13%, primarily due to a $17.6 million increase in Process Equipment, partially offset by a decrease of $4.8 million in Metrology products.

Fourth quarter, 2005, orders increased to $102.7 million, or 4% from the fourth quarter of 2004, were up 22% sequentially from the third quarter of 2005.

The fourth quarter '05, orders were made up of $33.7 million from scientific research, $26.8 million from data storage, $20.5 million from LED wireless, and $21.7 million from semiconductor.

The book-to-bill ratio was .91 to one for the quarter.

Gross profit improved to $48.9 million for the quarter, or 43.3% of sales, compared to $39.1 million, or 38% of sales, for the fourth quarter of 2004.

Ion Beam and Mechanical margins improved to 43%, up from 33% in the fourth quarter of '04, with 72% of this increase due to higher sales volume.

The balance of the improvement is attributable to product mix and cost reductions.

The Epitaxial Equipment business, which had better mix and realized cost reductions in the fourth quarter of '05, had gross margins of 24% in both the fourth quarter of '05 and the fourth quarter of '04, despite a 34% decrease in sales volumes in the fourth quarter of '05.

We had a 51.2% gross margin in Metrology, compared to 50.3% in the fourth quarter of '04, due to better mix in the research AFM business.

While we're pleased with our year-over- year gross margin progress, as Ed indicated, we did not achieve the 46% fourth quarter '05 target that we had established at the beginning of the year, due to the high concentration of Process Equipment sales.

We are continuing to focus on gross margin improvement in 2006, and expect the Company's 2006 gross margins to increase another two to three percentage points in the second half of 2006.

We expect gross margins for the first half of 2006 to be roughly equal to those achieved in the fourth quarter of '05, due to the current expected mix of Process Equipment versus Metrology sales.

Sequentially, gross margins decreased .9%, due to higher concentration of Process Equipment sales, which have the lower gross margins compared to Metrology products.

Process Equipment sales were 59% of total sales for the fourth quarter of '05 versus 49% for the third quarter of '05.

SG&A was $21.9 million or 19.4% of sales, compared to $21.3 million or 20.7% of sales in the fourth quarter of '04.

While SG&A declined 1.3% in percentage, the dollar increase was most due to higher bonus expense in 2005 related to the higher level of profitability.

SG&A was up $600,000 sequentially, principally due to higher selling commission expenses resulting from the increased sales volume.

R&D expense totaled $15.3 million, an increase of $500,000 from the fourth quarter of 2004, and a sequential increase of $900,000, which was largely due to spending increases in the Ion Beam division for new product development.

As a percentage of sales, R&D was 13.6%, compared to 14.4% in the fourth quarter of 2004 and the third quarter of 2005.

Overall operating expenses decreased as a percent of sales to 32.8% in the current quarter, compared to 34.6% in the fourth quarter's of '04, but increased in dollars by $1.3 million for the reasons noted above.

Fourth quarter EBITDA totaled $11.9 million, compared to $3.4 million in 2004's fourth quarter.

This improvement is principally a result of improved gross margins in our Ion Beam business.

Amortization expense totaled $4 in the fourth quarter of 2005, versus $4.7 million in the fourth quarter of 2004.

Merger, restructuring and other expenses of $1.2 million during the fourth quarter of 2005 consisted of personnel severance expenses related to consolidation and cost reduction actions.

Net interest expense was $1.6 million compared to $2.2 million in the comparable 2004 quarter, due to an increase in interest rates and higher cash balances invested.

Veeco achieved fourth quarter 2005 GAAP net income of $2.7 million or $0.09 per share, compared to a net loss of $56 million or $1.88 per share in the fourth quarter of 2004.

Earnings per share, excluding amortization expense, severance and 2004 acquisition costs, for the quarter was $0.22 compared to $0.03 for the 2004 fourth quarter, using a 35% tax rate. [Free] consensus was $0.16 for the fourth quarter of '05.

For the full year 2005, sales totaled $410.2 million, or a 5% increase from 2004, due primarily to an increase of $28.9 million in Ion Beam and Mechanical Equipment sales and $19.4 million in Metrology sales, which were partially offset by a decrease in Epitaxial Equipment sales of $28.6 million.

Sales by market in 2005 were as follows: Data storage, 41%; scientific research, 27%; semiconductor, 17%;

LED wireless, 15%.

Orders for the full year 2005 were $404.8 million, and were comprised of 41% from data storage, 27% from scientific research, 17% from semiconductor, and 15% from LED wireless.

The book-to-bill ratio for the full year was .99 to one.

Gross margin for the 2005 year was 42.4%of sales, up from 39.4% in 2004, excluding the purchase accounting and other adjustments in 2004 of $2 million related to the MTI purchase and consolidation with our AII business.

During 2005, we made significant improvements in gross profit, due to cost reductions, outsourcing and new product introductions.

In particular, Ion Beam management team delivered gross margin improvement as a result of the above actions that yielded a 46.7% gross margin in the fourth quarter of '05 up from a 2004 average gross margin of 34.6%.

Obviously, this is excellent progress.

As a percent of sales, SG&A decreased to 20.6% from 21.1% in 2004, but was up $2.2 million when compared to 2004, due to higher bonus and profit sharing on the higher profitability levels.

R&D expense totaled $60.4 million, an increase of $2 million from 2004, due to product development in Ion Beam and Epitaxial Equipment, as well as the effect of the MTI acquisition in October, 2004.

As a percent of sales, R&D has decreased slightly to 14.7% in 2005 from 14.9% in 2004.

Operating profit before amortization was $28.8 million, compared to $13.9 million in 2004, which is a 108% increase.

This improvement was principally the result of the gross margins achieved in Ion Beam Equipment.

Amortization expense totaled $16.6 million in 2005 versus $18.5 in 2004, as a result of achieving full amortization in certain intangibles.

Net interest expense totaled $7.6 million compared with $8.5 million in 2004, due to the increase in interest rates and higher cash balances that were invested.

We had pretax GAAP income for 2005 of $3.5 million, compared to a pretax loss of $20 million in 2004.

Taxes in 2005 were $4.4 million, principally due to income at our international subsidiaries.

Accordingly, Veeco's 2005 GAAP net loss of $900,000 was, or $0.03 per share, is an improvement compared to the net loss of $62.6 million or $2.11 per share in 2004.

Earnings per diluted share, excluding certain charges for 2005, were $0,46 compared to $0.12 in 2004, which assumes the 35% tax rate.

Charges excluded from this calculation are amortization, severance and the 2004 acquisition costs.

Backlog at December 31, 2005, was approximately $114 million.

With regard to guidance, we are currently forecasting first quarter of 2006 revenues in the range of $90 to $95 million, with a gross margin of approximately 43%.

Loss per share is currently forecasted to be between $0,97and $0.03 per share on a GAAP basis, and earnings per share between $0.05 and $0.08, excluding amortization of $4 million, which utilizes a 35% tax rate.

Included in these forecasted amounts is the stock option expense for first quarter '06 of $0.01 per share, as required by FAS 123(R).

We currently expect the impact of stock option-related expense to total approximately $0.07 for the full year on an EBITDA basis, with a 35% tax rate.

We'll report the impact of each quarter, but will include the related expense of both our GAAP and non-GAAP numbers.

Our balance sheet for the year, cash and equivalents at year end, was $124.5 million.

We were pleased that we have generated $12.8 million in cash for the fourth quarter and $39.3 million year-to-date, exclusive of the $15 million of earn-out payments made in the first quarter of '05 for acquisitions.

While accounts receivable increased $3 million during the quarter, DSOs are at 71 days, lower than industry average of 77 days.

Inventory decreased by $10.6 million during the fourth quarter of '05 and by $21.7 million for the full year, to $88.9 million at December 31, 2005, which represents a turnover of 2.9 times.

Each business segment achieved sizeable reductions in inventory during 2005.

Significant improvement in 2005 was due to a as a variety of factors, including outsourcing, lean manufacturing initiatives, standardization of platforms, as well as determined continuous improvement efforts by our operational teams.

These operational excellence initiatives will continue in 2006, with a focus on inventory turns improvement.

Capital expenditures were $3.1 million for the fourth quarter of 2005, and $11.7 million for the year.

Depreciation expense totaled $3.4 million in the fourth quarter of 2005, and $13.2 million for the full year.

Balance sheet with our improved cash position of $124.5 million remains quite strong.

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

Thank you, Jack.

I'd like to comment first on market conditions.

We see continued double-digit annual growth in data storage, where industry hard drive growth continues at approximately 20% a year in thin film heads and units of hard drive, and pretty close to that in revenue per year.

The industry grew in excess of 9% in the fourth quarter, with high growth coming from consumer electronics and mobile laptop applications, particularly the combination of MP-3 players, digital video, TV recorders, TV's with drives, digital cameras, video gaming, home entertainment consoles, and wireless laptop growth have all remained strong.

The worldwide industry manufacturing and data storage is running at 100% utilization at both Wafer and Slider level, requiring the combined investment in increased capacity ,while funding the technology switch to smaller form factors, perpendicular thin film heads, technology, larger wafer sizes, and thin film heads.

Our data storage growth last year in '05 was 35% in revenue, and we expect additional growth of 15 to 20% in 2006.

With significant growth coming from new Veeco products in Ion Beam Definition, Ion Beam Etch, Diamond-Like Carbon deposition, Atomic Layer Deposition, PVD, Sputtering, as well as precision saws and precision lathing products.

In Metrology for data storage, our optical profilers, along with Auto AFM's are now being used in -- increasingly in data storage, in wafer and slider applications.

Our Q4 data storage orders were $27 million, down 20% sequentially, as a large part of the data storage ramp has been booked in this current Q1 timeframe.

And so we expect quite a strong Q1 data storage order book, extending into Q2 for a very strong first half of the year in orders coming from data storage. n semiconductor and auto AFM Metrology, Auto AFM revenue increased 29% to -- in 2005 to $51 million.

And total semi was $69 million, also up 27% for the year, as we continue to provide AFM Metrology Wafer Fab solutions for Etch CMP, and Methography applications at 90 and 65 nanometer line widths.

Within the quarter, semi orders were $21.7 million, up 93% sequentially, and included a number of PVD Deposition tools for high-frequency specialty semiconductor devices.

We expect high single-digit semiconductor growth in 2000 sick.

In High Brightness LED, while our Epi Equipment revenue was down significantly through 2005 -- down about 35% from 2004 for the year -- and as we commented on previous calls, the market has appeared to have bottomed.

Our Epi Q4 orders double to $27 million and revenue was up 79% in the quarter to $18 million. o our book-to-bill ratio within High Brightness LED was 1.5 to one in the fourth quarter. e received multiple orders for our new GaNzilla® II MOCVD Deposition tool from Taiwanese and Korean customers, and we see early evidence of the start of the next production application for LED back lighting of LCD TVs, expected to reach production volumes in late '06 and early '07, starting with large screen LCD TVs being available in middle of next year.

We expect 20 to 30% growth in in our Epi Equipment revenue in the 2006 year, based on our continued successes of the GaNzilla® II MOCVD tool.

And lastly in scientific research and nano-bio markets, our scientific research orders for the quarter increased 35% to $33.7 million, based on strength in research Epi Equipment orders, as well as Metrology, research AFM and optical profiler orders.

We also received multiple orders for our new bio AFM product, as we broadened our interest in life science bio applications, and our AFM and optical Metrology products will be increasingly used in that sector.

Overall our scientific research revenue was down 2% for the year to $111 million, while scientific research orders were up 5% to $110 million, and we expect single-digit growth in 2006 in scientific research and nano-bio.

So in summary, from a 2000 market point-of-view, we expect double-digit market growth from data storage and from High Brightness LED and single-digit growth from semi and from scientific research.

From a product point of view -- that is looking at our Equipment and Metrology segments separately -- in 2005, Equipment revenue was R228 million, flat with the prior year, up in data storage and down in LED, while Metrology was $182 million, up 12% from the '05 year -- from the '04 year, I'm sorry, for a total Veeco revenue in '05 of $410 million, which was up 5% from the prior year.

In 2006, we expect revenue growth, as I stated, in the range of 8 to 10%, with Equipment growth of about 10% to approximately $250 million,and with Metrology growth of approximately 7% to about $195 million, which would be the mid-point of the 8 to 10% range, about $445 million in total revenue, from which we expect increased earnings.

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

[OPERATOR INSTRUCTIONS] We move first to Daniel [Barrenbaum] with Susquehanna Financial Group.

Please go ahead.

Yes, hi guys.

Thanks for the detail on all the different product segments.

But I was wondering if we could drill down a little bit more to the gross margin profile by product segment.

Where do you expect to see the improvements and how do you expect to see them develop throughout the year?

Okay.

Dan, as I said on the call, I think it's useful -- it's a very good question.

I think it's useful to model the Company looking at Equipment and Metrology separately, since they have such different margins.

So if you look at the current margin -- the Q4 margin, about 43% come on the strength of the Equipment group having about a 38% gross margin and Metrology about a 51% gross margin.

And when we talk about a 2 or 3% expected margin improvement for the year in '06, that's really based on Equipment ending up somewhere a little above 39% and Metrology ending up somewhere a little above 52%, which would be a blended margin of 45% for the '06 year.

So in that Equipment segment, could you maybe give a little more color on what that breaks down to between Epi and IMD?

The gross margin laggard, if you will, is clearly the improvement we're making in Epitaxial Equipment, mostly in MOCVD.

So, the margin in Epitaxial Equipment right now, as Jack mentioned, is about running about 20% gross margin.

And by the fourth quarter of next year, we would like to improve that to 30% gross margin, while maintaining what is about a 43, 45% margin in the rest of the Equipment group -- the combination of Ion Beam which is at about 47% and lower margin coming from the mechanical portion.

So, we will get 3 or 4% margin point improvement in Equipment and about 10% margin from the segment of Equipment that is the Epitaxial Equipment.

Okay, great.

Thanks very much.

It's very helpful.

Thank you, Dan.

We go next to Matt Petkun with Davidson and Company.

Please go ahead.

Hi, Ed.

Thanks.

Just to follow up on Dan's question a little bit more, then.

So if -- is it correct. then. that the gross margin in the Epi business grew from about 14% last quarter to roughly 20% this quarter?

Yes, it had -- you know, it bottomed in '05 in the teens, 14 to 15%, and it's running about 20%, and we need to get it to about 30% in the second half of the year.

Okay.

And then, to back in into a blended margin for the equip -- Ion beam and Mechanical Equipment, is that roughly 45% this most recent quarter?

If you take out Epi, you mean?

Yes, just the Ion Beam, Equipment and mechanical.

Yes, yes, yes.

In fact, if you have -- if I look at the last six months of the year -- to give you some comfort. if I look at the last six months of '05, something like 85% of our revenue had a 47% gross margin.

So the laggard is really the -- is the MOCVD product, which we're working on, and have seen some improvement from, but needs another ten points in margin, just as Ion Beam did a year and a half ago

Okay, and then the backlogs, $114 million, I think Jack said.

Were there any debookings because that's a little bit lower than what I would've anticipated?

Yes, it was about $5 million in push outs or cancellations, and we took the opportunity to clean the backlog.

You know, if people started to schedule bookings revenue shipments out more than 12 months, we took out of backlog.

What was market was that primarily from?

It was, I think, a combination of MOCVD and -- I'm not sure where else that was, Jack.

MOCVD and --

It's principally MOCVD.

Yes, I think mostly MOCVD, where we had some blanket orders on the books from a prior year period.

And then my final question, Ed.

You'd mentioned talking about shift in wafer size here in the data storage thin film head market, have you actually received orders for larger wafer sizes and what would your expectations be for that transition in '06?

Well, there are two or three -- I mean, we said that -- the answer is no.

We had said that at 100% utilization, a number of our key customers in data storage, rather than build factories, are looking at increasing their wafer sizes.

As I think you know, wafer size is not uniform across the industry, but it's five inch and six inch.

And so, there are people at five inches who could go to six inch and there are people at six inch who could go to eight inch, and I think that will occur.

What we are doing is running data for a number of people at larger wafer sizes to show them performance -- Ion Beam and PVD performance at larger wafer sizes and price and delivery availability.

And a number of people have said they would at least like by using to have sort of a larger wafer size cell operating.

Okay.

Thank you.

We go next to Timothy Arcuri with Citigroup.

Please go ahead.

Hi, I have a couple things.

I guess the first thing is I didn't quite catch what the gross margin guidance was exiting the year?

It sounded like you're saying you're going to see a pop in the back half of the year, but I wasn't sure if that was just the fourth quarter, or if that was for the full year?

You heard correctly.

We said the gross margin improvement of two to three margin points and two to three EBITDA points would occur in the second half of the year.

We didn't pin that down to which month that would be.

Okay, so --

It would be in the second half of the year, and we said it would be both in Equipment and in Metrology.

Okay.

I guess, as I look at the product breakdown by division, we're at roughly the same revenue -- you know, if I just compare it to kind of early '04, we're at the same sort of revenue level in Epi that we were back in Q2 '04, and the margins are about 500 basis points lower now.

I know that you're ramping new products, which obviously impacts that, but what's the -- what's the biggest issue that continues to hold the Epi margins back here?

Well, also please remember that -- you know, I hesitate to remind us that we had a restatement of margin at the end of '04.

From looking at '04 year, MOCVD had a 17% margin the second quarter of '04.

It had a 22% margin the third quarter.

It had a 17 -- so, we're probably three or four margin points better than where we were in '04, and we need to be ten margin points improved by this time next year.

Okay.

So what do you think if I -- if we kind of super imposed equivalent revenue exiting '06, so if you just took on a point-to-point, what do you think that the equivalent gross margin number would be?

Would it be as high as 30, if we super imposed the same revenue level?

Yes, it would be above 30.

Above 30, okay.

And then --

I didn't answer -- your other question was what's holding it back.

So, we already [cleared[ that we produced the GaNzilla® II Deposition tool that has much more reliability, higher throughput.

So the burden that we were face a year ago on warranty cost and replacing filaments and operational difficulties is all behind us.

There are no operational problems associated with the Equipment.

The throughput is meeting its spec.

We're getting brighter films, and as we get brighter films, we're able to increase the average selling price to reflect that.

So you will see some bump up in gross margin going forward coming from brighter films, and you will see some coming from cost reduction.

We have a new general manager in New Jersey, who is working feverishly on looking at the bill of materials of the GaNzilla® II, and bringing -- this is a gentlemen, Piero Sferlazzo, who did very similar activity in Plainview, and he's bringing outsource mentality and modular building of sorts to the GaNzilla® II tool.

So it will be improved in margin, both through material reduction, higher degree of outsourcing, greater modularity, using common hardware and software with the rest of the Veeco Equipment division, and higher selling price.

Okay, great.

And then I guess there's one quick one for Jack.

You know, Jack, the tax rate's been kind of bouncing around this year.

What should we model or what should we think about in terms of taxes next year -- or, sorry, in '06?

Well, we -- when we give our EBITDA version of the EPS, we use the 35% tax rate, and that's been consistent.

In terms of the actual GAAP tax values, the tough one to calculate, it's really between $3 and $5 million annually that we will be incurring in terms of taxes.

So, depending whether you're looking at it from a purely GAAP perspective or more pro forma basis, that that would be the guidance.

Okay, so you still think it's going to be between three and five on an absolute basis this year?

Yes, $3 and $5 million.

Thanks.

So in effect there's kind of a nice pick up where Veeco finally starts reporting on a GAAP basis it's a benefit to our net income compared to tax EBITDA because we have a very low actual tax rate.

Alright, thanks.

So in effect, this is kind of a nice pick-up, when Veeco finally starts reporting on a GAAP basis, it's a benefit to our net income, compared to tax EBITDA, because we'll have -- we have a very low actual tax rate.

We'll go next, David Duley with Merriman.

Please go ahead.

Yes, could you guys talk about where you expect the disc drive orders to be in the first quarter?

And I think they were probably below what I would've expected in Q4, and sounds like things have moved into Q1.

Given the high utilization rates, maybe give us more detail on what you thought might have happened there?

Yes.

That's a correct observation, Dave.

So the order rates that -- let me finds the actual number -- the order rate for the fourth quarter, which was about $27 million, we probably all would have thought that was going to be something like $40 or $45 million, and all of those orders have come into Q1.

And I think they've come into Q1 -- they didn't delay because of a difficulty in the industry from a negative sense.

I think what we're seeing from a number of customers is such a sizeable ramp that people are having some difficulty wrapping their arms around the expansion.

And there are -- and you're going to see it both the Q1 and the Q2 orders.

You're going to see very significant expected orders in Q1 and Q2 that were sort of right-sized, if you will, the combination of Q4, Q1 and Q2.

So wher -- just so we kind of get an idea, what would you think the Q1 order rates might be?

A guess in same storage?

It would be a quite significant number.

Okay.

And can you just give an idea of what you think cash flow might be in the first quarter?

And then, Jack, real quickly, with the inventory being down last quarter, is it going to be down again in the first quarter and does that impact -- did lower production levels impact the margins?

We expect inventory, actually, to be up slightly in the first quarter, but down -- our forecast is inventory will be down in 2006 as a whole, but in the first quarter, it will increase, Dave.

I think the first part of your question is what do we expect in terms of cash flow?

Yes.

In Q1 --bear with me a second, I'll get to cash flow -- looking at --

Dave, while Jack is looking for that, just to go back to your earlier question, '06 is going to be quite similar to the last two or three years, where the data storage orders -- you and others have commented repeatedly that this is a sector that seems to do a lot of its CapEx activity in the first half of the year.

And we're going to see that again this year, because the quote book from data storage right now -- and even the orders that have already occurred in Q1 are significant.

Did you have an idea, or do you have a sense of how many new factories there're going to be built, or it just sounds like they will be expanding lines in current factories, or maybe an idea of what total percentage capacity addition will be?

It sounds like the growth rate drive is pretty robust.

Yes, I think almost across the industry, if you sum up all the heads being made and all the drives being shipped, they're 100% utilization, both in wafer and slider.

So, they're going to see a 20% -- which has been the ru rate recently --a 20% increase in the number of heads, the units of heads required.

They're going to have to have -- we are saying 15 to 20% in our 10% growth year, but it could be well over 25 or 30% again in '06.

Okay, then Jack, on the --

Cash flow looks about, between $5 and $6 million in the first quarter.

Okay.

And with the inventory being down in Q4, does that have an impact on the gross margins in the quarter?

Inventory being down, did it have an impact -- no, it didn't really have impact.

Okay, thanks.

We go next to Brett Hodess with Merrill Lynch.

Please go ahead.

Good afternoon.

Ed, I was wondering if we could explore some of the pattern of revenues a bit?

It sounds like the dip in 1Q is a dip because of revenue recognition, as you start to ship some of the new products, and that will be giving you a build in deferred revenue that gives you more confidence for that second half hockey stick, if you will.

Is that the correct interpretation?

That's partially correct, Brett, but I think what one doesn't want to ignore is that we had a September booking quarter of $85 million, so in the last six months of '05 we took a lot of money out of backlog.

Bookings went from $85 million to $103 million, and now we're saying they're going to be over $110, so we're rebuilding some of that backlog.

So I think sort of half of the shift in revenue, if you will, is as you've stated.

It's new products being shipped that'll have a later recognition.

But it's also the fact that that pipeline has had to suffer the $85 million bookings flowing through the pipeline.

So, got it.

And then, if I look at the -- but if you look at the guidance for 1Q, you're going to rebuild quite a bit of that backlog.

You'll be back to the level you were at back last September, let's say.

That's right.

We're going to rebuild in -- right now we have fairly decent visibility for certainly the orders for Q1 and also, I think, the orders for Q2.

And you're right, we're going to rebuild backlog that shoots somewhere probably $25 to $35 million in each of the next quarters.

So your visibility'll really be built up, as you roll over into the second half of the year given that?

Yes.

Alright.

And then the next thing I wanted was, if you look at your guidance for the four segments, the one that stuck out to me was the single-digit growth guidance for the semi business this year.

Given that the auto AFM is continuing to be adopted on a production basis -- you know, multi-units in a fab if you will -- and that a lot of other companies are talking about teens-type of [inaudible] this year for their segments, does that -- that particular line seems to be awful conservative to me?

It is conservative, and if you remember in '05, we had sort of the same Veeco that we felt we would be up high single-digits or just about 10% and, in fact, our semiconductor growth was 27%.

There's nothing happening in the product line or certainly with competition, or with 90 or 65 nanometer that would say we were going to change that a lot.

I just -- I think the semiconductor industry, in general, I wouldn't be surprised if it grew 8 to 10% in the year.

I think we'll gro -- I think you're right.

Our growth will be higher than that because we'e so narrowing focused on 90 and 65 nanometers.

But it is an act of conservatism.

Yes, and then -- but if that business grows stronger because of the high margins in it, that would also potentially lift the margin relative to your guidance this year, so it has a lot of impact if it --

Yes, yes.

And I promise we won't refuse any business in that sector.

And you're absolutely right that, even with the bookings that we see now, it looks likely that we would end the year with kind of a 55, 45 mix of Equipment to Metrology, and that's a mix that's favorable to margin.

But you're right, if you had higher growth than that and you had another repeat quarter as you did in Q3 of a 50/50% mix within Veeco between Metrology and Equipment, you'd have sort of an automatic gain of a couple of margin points.

nd then my last question was on the HB LED side, you commented that the customer decided to look at the technology change to come into play, and that would -- and maybe they'd be in production by year end.

What's the lead times on your delivery of the MOCVD tools for that at this point?

And what do you think the acceptances for those systems as well?

When would that hit revenue --

With some new general management in place in New Jersey, the lead time on the GaNzilla® II is being reduced to, I would say, three or four months.

And so, the orders -- we had from almost a doubling of orders in Q4.

Now some of those were a multiple orders where the customer dictated Q2 and Q3 deliveries.

But orders that we booked this quarter, we certainly could ship some of in Q2 and Q3.

We're structuring the business for it to have a three-month build cycle.

But in any case, It sounds like that the major orders for the GaNzilla® II -- the major revenues, even given the shorter cycle time, some start to hit in Q2, but it's really Q3 for a step up in that revenue range.

Yes, because you not only have the delivery -- the shipment and delivery that we spoke of, but you have a lot of that now in China, Taiwan and Korea, where you just have a naturally longer acceptance cycle.

Okay.

So another reason for the more surety on the second half pick up?

Yes.

Very good Thanks, Ed.

Thank you.

We go next to Mark Miller with Hoefer and Arnett.

Please go ahead.

Just wondering about -- Seagate announced a pending merger with Maxtor.

Maxtor, as you know, it does -- buys all its heads from [inaudible].

Seagate does all its heads in-house.

I know they're all customers of you, plus some people are anticipating Western Digital will pick up a significant share for the merger, and they do about 70% of their heads in-house.

Does that mean any big changes for you in terms of, it sounds like less business for [inaudible] and maybe more for Seagate?

Well, I think a net positive for Veeco because, as you correctly stated, because Seagate's our largest customer, A., and, B., they are entirely vertically integrated.

Maxtor was not at customer at all, and was not vertically integrated.

So, if one assumes that Seagate will manufacture all of the heads required to take the Maxtor customer base that's, I think, a nice win.

As you know, Seagate already has stated already that they will -- their intention is to increase their CapEx for the '06 year from about $700 million to $900 million.

I think they are actually up to $1 billion now.

But Western Digital is a little more split, isn't it?

They bought some ANOVA Equipment in the past?

No, the place where ANOVA has multi-shares is entirely in PVD.

In Ion Beam, [inaudible] deposition, ANOVA has some PVD business in each of these accounts, but we have a new product line in PVD that's being received very well.

You posted real good growth over the last two years.

You were in the $80 million range for data storage customers in '02 and '03.

You're up to at least $160 for this year.

It sounds like next year's off to a good start.

How long can this continue on terms of the ramp up?

We've seen three strong years -- what looks like they'll be three strong years of growth.

Any feelings about '07, especially as we cut into [fentos] slider, you mention larger wafers, but as you know, when we go to fentos slider, they're going to be more -- 25, 30% more heads per wafer.

Any feelings about '07, can this string continue here?

I think '06 and early part of '07 continue to be growth, because the utilization is so high and there is a need to -- and also the perpendicular -- the switch to perpendicular is very early in its existence in manufacturing.

And by the end of '06, I don't think that 15 to 20% of the total number of heads will be perpendicular.

Thank you.

Go next, JoAnne Feeney with Punk Ziegel and Company.

Good evening, folks.

Congratulations on some good numbers there.

Thank you, Joanne.

Just a couple of questions.

Everyone else has done a very thorough job.

I have a question, again, what was the backlog figure all together?

$114 million.

Okay.

And then how much order of history is in that backlog?

That is to say, can you give us an estimate of sort of the average time it would take for an order to leave backlog and hit revenues?

Well, first thing, the ceiling on the backlog is that it all has to become revenue in 12 months.

Right.

Do you have sense on given that weak quarter in Q3, it sounds like we're expecting most of that to hit in Q1 in terms of revenue.

That's why I was trying to ask you sort of an average length of revenue.

Yes, JoAnne, that's not a bad observing.

I would say that the backlog probably represents the next four or five months of revenue.

Okay.

And then in terms of the auto ASM, you had some, I recall, success with that in the data storage industry.

I'm wondering how that's o going?

That's continued.

In fact, when I say that auto AFM was up some 29% for the year, some of that was the sale of the first two or three auto AFMs for wafer applications and data storage, and they are continuing every quarter now.

I think there are three fabs, data storage fabs, that already have at least one auto AFM in them, and we expect that as they shrink the line width, they've said they would each need two or three AFMs in the fab.

Okay, and then any reason to think this might also go into memory fabs, D-RAM or flash?

Yes, it's more a matter of line width than application.

So any line width -- and certainly flash requires 90 and 65 nanometer features sizes, so they also would be candidates for auto AFM.

But so far no nibbles there?

There are some nibbles.

There are.

There are some orders?

Yes.

From DRAM or from flash.

From both.

And then, finally, just on your operating costs, are you expecting SG&A and R&D to remain in absolute terms relatively flat, or do you see that going up over the year?

Well, we -- one thing we did discuss is that we have option expense, so just by virtue of the option expense, we'll see some increase in our operating spending for the year.

And we do expect it to go up a couple million dollars a quarter.

Are you going to put option expense -- are you spreading that around between COGS, SG&A and R&D, or is it primarily falling into R&D?

No, it's wherever the-- wherever the underlying compensation of the individual is, that's where it finds it's way.

So it's all line items in our income statement.

Which is why Jack is sort of identifying it as a bucket item, because there isn't a single line that you can look for on the expenses to see.

It's everywhere.

But it was the equivalent of $0.01 in the first quarter and it will be the equivalent of $0.07 for the year.

Okay, okay.

And then finally on the tax issue, is there a time when we might expect you to be able to return to reporting that would lower your tax rate?

Yes.

We're thinking about the appropriate time to do that, but we will be --in fact we do report on a GAAP basis right now, but it's more what the Street reports.

So we're considering that right now, JoAnne.

But, if you run -- JoAnne, if you run through your own model, you kind of see that by the second half of the year, the GAAP earnings are significant enough that I don't think people would be solely looking at Veeco's non-GAAP earnings.

They'd be looking at Veeco's GAAP earnings.

Okay.

And finally on the amortization charges, how long -- just remind me how long we expect those to continue?

The average of our amortization life is about seven years, so there's probably another three or four years to go.

Okay, great.

Thanks a lot.

Thank you,JoAnne.

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

And we'll go next -- we'll take our last question from Chong Kim with Eaton Vance.

Please go ahead.

Hi, guys, good quarter.

Just a couple of housekeeping issues.

What did you guys say in terms of operating expenses exiting the fiscal year will be?

I don't think we did.

We said that the operating expenses in this first quarter would be -- I think I said $36 to $37 million, which is kind of the runrate of the fourth quarter.

Right.

We didn't give guidance above that for the year.

Okay.

So --

Other than to say the margins would be up two or three percentage points for the year and EBITDA would be up two or three percentage points for the year.

So there'd be some increase in operating expenses, as well.

Got it.

We'll give that to you, though, on a quarter-to-quarter basis.

Okay.

And then is just in terms of the guidance with regards to the margins increasing in the back half of the year, I'm just wondering, given some of the feedback that you've given us with regards to the bookings activity and how much you expect backlog to increase in the first quarter and second quarter of this year, I'm just wondering what gives you the confidence that this, in fact, is sustainable?

And if you could just add some more color as to what your customers are kind of doing and saying to you guys that would kind of give us more confidence that you guys can go ahead and execute according to this plan?

Well, there's two -- the two areas where we have stated that we expect double-digit growth in the year, data storage and High Brightness LED's, are both areas where the existing customers are lobbying pretty aggressively right now for a ramp in production and a change in technology and trying to fit those into a slot plan.

So the orders that we are closing on right now for Q1 and Q2 order books have delivery dates associated with them, and slot plan positions in our manufacturing.

So we have -- we will have built in Q1 and Q2 not only $30 to $35 million worth of backlog, but we will have built it with a very well defined slot plan of where in Q3 and where in Q4 it needs to be revenued.

So, because their ramp is well defined, they're able to define for us delivery dates on that product, and then we're now in the process of just garnering those orders at the right prices and write delivery dates, and you'll see them being reported in the first quarter and second quarter.

Right.

And are our customers giving you any more visibility into '07, or is that pretty much the extent of it?

I think that -- other than to say that consumer electronics and some of these hard drive applications are long lived -- and we believe that as well -- this rather significant activity in an increase in order is all delivery in the Q -- some in the Q2, but mostly in the Q3, Q4 time frame.

And they're pretty insistent that they be delivered in Q3 and Q4.

So the build up isn't something that they're planning -- they haven't really given us visibility to '07 slot plans.

It's really '06.

Got you.

Okay.

Thanks, guys.

Thank you.

Operator, thank you and thank you all for your attention.

We look forward to sharing with you the results of the first quarter in a few months.

Thank you all.

Bye, bye.

Ladies and gentlemen, this does conclude today's conference.

We thank you for your participation and you may now disconnect your lines.