Veeco Instruments Inc (VECO) 2007 Q2 法說會逐字稿

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  • Operator

  • Good day, everyone, and welcome to Veeco Instruments second quarter 2007 results conference call.

  • Today's call is being recorded.

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

  • Debra Wasser.

  • Ms.

  • Wasser, please go ahead.

  • Debra Wasser - SVP, Investor Relations & Corporate Communications

  • Thank you, operator, and thank you all for joining today's second quarter 2007 results conference call.

  • I am Debra Wasser, Veeco's Senior Vice President of Investor Relations.

  • Joining me on today's call, Ed Braun, our Chairman; our new Chief Executive Officer, John Peeler; and Jack Rein, our Chief Financial Officer.

  • Today's earnings release was distributed at 7:00 a.m.

  • this morning.

  • If you haven't yet seen the release, please visit our web site at www.veeco.com, or call 516-677-0200, extension 1305 to get a copy.

  • A presentation reviewing our results and guidance is posted for your reference on the same web site.

  • 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.

  • This call is being web cast live at the Veeco web site and will be available for replay and archived for future reference.

  • To the extent that we discuss expectations about market conditions, market acceptance and future sales of the Company's products, future disclosures and future earnings expectations or otherwise make statements about the future, such statements are forward-looking and are subject to a number risks and uncertainties that could cause actual results to differ materially from the statements made.

  • These factors are discussed in the business description in management's discussion and analysis sections of the Company's report on Form 10-K and Annual Report to shareholders and in our subsequent quarterly reports on Form 10-Q, current reports on Form 8-K and press releases.

  • Veeco does not undertake any obligation to update forward-looking statements, including those made on this call, to reflect future events or circumstances after the date of such statements.

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

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

  • I would now like to turn the call over to John for opening remarks.

  • John Peeler - CEO

  • Thanks, Deb.

  • I am pleased to join Veeco and talk to you today.

  • I have learned a lot in the first couple of weeks on the job, which I will review in a few minutes, but first I would like to start by having Ed review Veeco's second quarter 2007 results.

  • Ed?

  • Edward Braun - Chairman

  • Thank you, John.

  • Today we reported our Q2 results, reflecting mixed performance in orders, revenue and EBITDA.

  • On the positive side, our orders increase sequentially and new product order acceptance for our Ion Beam, PVD, and MOCVD new systems showed improvement and were in-line with our order guidance.

  • New products benefited the Q2 order rates both in High-Brightness LED and data storage markets, while revenue was impacted by a slowly recovering data storage market.

  • Our Q2 revenue was $98.8 million, slightly below our guidance range of $100 million to $105 million and was flat sequentially, and down 12% versus prior year.

  • The Q2 revenue miss to guidance was a result of a delayed customer field acceptance of one new $4.8 million PVD tool in data storage, and about $1.5 million of parts revenue loss due to some data storage end-of-quarter plant shutdowns throughout the industry.

  • By market, High-Brightness LED revenue was up about $4 million sequentially and data storage was down about $4 million sequentially, while semi and scientific research were relatively flat.

  • Q2 bookings were $112.5 million, in-line with our guidance and up 6% sequentially, but down 21% from prior year.

  • Order activity for new products remains strong and data storage orders have clearly stabilized with quarterly orders of $41.4 million, up 41% sequentially although down from a very strong first-half 2006 level.

  • LED/wireless orders of $34.5 million show continued strength in market demand for both blue/green and red/orange/yellow MOCVD tools.

  • The LED/wireless sector orders were down 11% sequentially from a strong Q1, due largely to a decline in MBE.

  • MOCVD itself was up 9% sequentially and up 57% from prior year.

  • The sector was up 26% from prior year and the six-month LED sector orders are up 42%.

  • Scientific Research and Industrial orders of $28.2 million were up sequentially 9% and up 16% year-over-year due to increases in Research AFM and Research MBE orders.

  • Semiconductor orders of $8.3 million reflect weak industry-wide semiconductor market conditions, but excludes recognition of our initial auto AFM Hawk order which is expected to be recognized in Q4.

  • Our semi orders were down 29% sequentially.

  • The semiconductor sector is now only 10% of our total and influenced largely by single-order placement in any quarter.

  • For the six-month period, Veeco's total orders exceeded revenue by $20.5 million and shipments of new products exceeded revenue by approximately $9 million.

  • Our backlog at the end of Q2 is $161 million, the highest level in three years, supporting an expected second-half revenue increase.

  • Q2 EBITDA EPS of $0.05 was below our guidance of $0.07 to $0.10 per share, impacted by trough level revenue and weak metrology results, particularly poor auto AFM results and very, very low revenue levels.

  • Overall, we are clearly in a new product technology transition mode, marked by a significant ramp of product introductions in both LED and data storage markets, and we are seeing positive order acceptance in both of these markets for our new Ion Beam, PVD, ALD and MOCVD products.

  • While tools are largely shipping on time, file customer acceptance and, therefore, the timing of new product revenue is less predictable, causing another quarter of trough revenue before revenue increases to match current levels of orders and backlogs.

  • We remain encouraged by our strong position in our major end markets, and permit me to comment on the individual markets.

  • In LED/wireless, we see continued strength in current lighting applications, which are small screen LCD backlighting, automotive, signage, and specialty lighting.

  • Our six-month revenue was up 39%.

  • Our six-month orders are up 42% in this sector.

  • And we have experienced 40% revenue growth over the last 18 months.

  • We see favorable order acceptance of our new "K-series" MOCVD tool, with first revenue expected in the first quarter.

  • Six-month MOCVD orders and revenue are both up over 55% compared to last year.

  • Q2 gross margin in MOCVD improved to 40% versus 22% a year prior.

  • And we are seeing multiple system orders from five accounts in this quarter, similar to last quarter, and we are gaining market share in orders being placed.

  • Q2 orders of $35 million and revenue of $26 million in the LED/wireless sector show a book-to-bill of 1.35-to-1.

  • Six-month orders of $73 million and revenue of $47 million give us a book-to-bill of 1.55-to-1 in this sector.

  • Additional new market opportunities like growth of large-area LCD backlighting for 30", 40", and 50" TV are probably one year away, and general illumination is occurring in steps with final illumination being two to five years away.

  • The steps will be outdoor lighting, architectural, corporate and then in the last growth area, home lighting.

  • Solar panel equipment is now considered an extension of our LED opportunity for compound semiconductor deposition equipment both in MOCVD and MBE.

  • The continued 40% growth we see in LED will allow Veeco's LED revenue to exceed -- they are likely to exceed data storage size in 2008.

  • In fact, the six-month bookings of LED are higher than the six-month bookings of data storage.

  • In addition to improved lighting brightness performance and energy savings, LEDs are now being seen as environmentally friendly; that is mercury-free, compared to incandescent and fluorescent lighting.

  • Some Asian and European countries are dictating end dates for the manufacturing of incandescent and fluorescent lighting.

  • In data storage, we see stabilization with Q2 orders of $41 million up 41% sequentially.

  • Clearly, up from the Q4 '06 trough of $21 million, but running well below the 2006 bookings level that was quite strong in the first half of last year.

  • Positive 2Q book-to-bill 1.3-to-1 with bookings of $41 million and revenue of $31 million.

  • We see the industry transition to perpendicular thin-film heads continuing.

  • Perpendicular proliferation is probably around 60% industrywide today, and those drive manufacturers with leadership technology positions have strong cost advantage, that is they provide drives with fewer heads and fewer platters compared to competition.

  • Perpendicular laggards will invest to correct their cost disadvantage and the technology replacement for the next generation head, hammer is in advanced development and probably two or three years away.

  • Transition to larger wafer size and opportunity for Veeco is expected in 2008, and further industry consolidation, as we've seen in this last quarter, is probably likely.

  • The data storage industry expects single-digit unit and revenue growth in 2008, based on growth in enterprise and digital home and video applications.

  • Industry areal density growth in excess of 30% per year will continue, and we will maintain the cost effectiveness of hard drives versus flash for high storage content consumer applications.

  • And this will suggest -- this suggests continued investment in technology equipment.

  • Many of us now have servers at home with larger capacity than in our office desktops.

  • So we will see the importance of consumer continuing and our breadth of technology at Veeco and leadership positions in data storage and strong customer relationships continue to be important.

  • In Scientific Research and Industrial, Q2 bookings of $28 million were up 9%, reflecting growth in research AFM, optical profiler and MBE.

  • Six-month bookings, $54 million are up 17%.

  • Six-month revenue, $63 million, up 15%.

  • We will continue to expand our metrology product line to serve this broad nano technology market opportunity.

  • And lastly, in semiconductor, market conditions reflect industry maturity, site consolidations, high efficiency, CapEx reduction, and lower single-digit future growth rates are being predicted.

  • Our auto AFM opportunity continues to be in the sub-90-nanometer sub-60-nanometer line width, metrology applications centered around etch, CMP and photolithography.

  • We have at least one beta order secured and we expect first revenue in Q4.

  • Overall, we see long-term growth opportunities aligned to continue, multi-year proliferation of High-Brightness LED, and solar applications enabled by our MOCVD and MBE technologies.

  • We see stabilization and single-digit growth in hard drives and continued technology investment in higher areal density and we see broader applications in Scientific Research and for nano tech, AFM and optical instrumentation.

  • And the introduction our next generation 2008 auto AFM product with higher resolution and higher throughput will help our semiconductor position.

  • Jack will now review the Q2 financials.

  • Jack Rein - CFO

  • Thank you, Ed.

  • The three months ended June to 30, 2007, sales were $98.8 million, a decrease of 12% versus the second quarter of 2006.

  • The decrease was due to a $7.4 million, or 10.9%, decrease in process equipment sales due to delayed sales of new products to the data storage market.

  • Metrology sales were $38.8 million, a decrease of $5.5 million, or 12.5%, versus the second quarter of 2006, mainly due to lower sales of optical metrology products, the data storage market, as well as lower Atomic Force microscope sales to the semiconductor market.

  • By market, sales were up compared to the prior year quarter by 40% in LED/wireless, and up 12% in Research, but down 41% in data storage and down 13% in semiconductor.

  • Sequentially, sales remained flat.

  • Second-quarter 2000 orders were up 6% sequentially from the first quarter of 2007, but declined to $112.5 million or down 21% from the second quarter of 2006.

  • Gross profit was $42.2 million for the quarter, or 42.8% of sales compared to $49.7 million, or 44.5% of sales for the second quarter of 2006.

  • Process equipment margins improved to 41.7%, up from 40.3% in the second quarter of '06.

  • This margin increase was due to an 18.2% margin-point increase in MOCVD gross margin to 40.3%.

  • This improved MOCVD gross margin resulted from a $7.5 million, or 55%, volume increase, mostly in tool sales for red, orange and yellows LEDs.

  • These tools have higher average gross margins.

  • We had a 44.4% gross margin in metrology compared to 51% in the second quarter of '06 due to a lower sales volume of optical metrology and auto AFM products, and a less favorable product mix in the AFM products sold to Scientific Research and customers.

  • SG&A was $23.5 million, that's 23.8% of sales compared to $24.9 million, or 22.3% of sales in the second quarter of '06, and $22.7 million in the first quarter of '07.

  • R&D expense totaled $15.9 million, an increase of $700,000 from the second quarter of 2006, largely due to new product development in metrology and MOCVD.

  • Overall, operating expenses totaled $39.4 million, or 39.9% of sales, compared to $40.1 million, or 35.9% of sales in the second quarter 2006.

  • Amortization expense totaled $2.4 million in the second quarter of 2007 versus $4 million in the second quarter of 2006.

  • This decrease was mainly due to certain technology-based intangibles becoming fully amortized during the second quarter.

  • The restructuring expense of $1.4 million in the second quarter of 2007 was related to personnel and severance costs primarily in the Company's metrology operations.

  • We anticipate that there will be a minimum of $1.5 million of additional restructuring expense in the second half of 2007, as we evaluate along with, John, the Company's cost structure in an effort to reduce our break even and become more consistently profitable.

  • Net interest expense was $800,000, compared to $1.1 million in the comparable 2006 quarter, primarily due to the repayment of $56 million of our convertible notes during the first quarter of 2007, and higher average cash balances in the second quarter of 2006.

  • Second-quarter 2007 GAAP net loss was $2.6 million, or $0.08 per share compared to net income of $3 million, or $0.10 per share in the second quarter of 2006.

  • EPS, excluding amortization expense in certain items utilizing a 35% tax rate for the quarter was $0.05 compared to $0.18 for the 2006 second quarter.

  • Our guidance for the quarter was $0.07 to $0.10 per share.

  • For the first six months of 2007, sales totaled $197.9 million, or a 4% decrease from 2006, primarily due to a decrease of $5.2 million in metrology sales, of optical metrology products to the data storage market, and AFM products to the semiconductor market.

  • Process equipment sales also decreased $2.5 million, mainly as a result of slower customer demand in the data storage industry.

  • Gross margin for the first six months of 2007 was 43.4% of sales compared to 44.5% for the comparable 2006 period, primarily due to the lower sales volume.

  • Metrology gross margins were 46.9% compared to 51.9% in 2006, principally as a result of lower sales volume of automated AFM and optical metrology products, and a less favorable product mix in research AFM products.

  • This decrease was partially offset by the increase in gross margin in process equipment to 41% from 39.3% in the prior period.

  • This margin increase in process equipment was mainly attributable to the significant improvement in MOCVD product gross margins to approximately 40% in the first half of 2007 compared to 19% in the first half of '06.

  • This improvement was due to a 55% increase in sales, as well as significant improvement in mix and product costs.

  • SG&A increased to $46.6 million compared to $46.3 million in the first half of 2006.

  • R&D expense totaled $31.3 million, an increase of $1.5 million from 2006, primarily due to new automated AFM products for the semiconductor industry and new nano-bio AFM products, as well as our "K-series" next generation MOCVD tools.

  • Amortization expense totaled $6.3 million for the first six months of 2006 (sic) versus $8 million in the 2006 comparable period.

  • This decrease was due to certain technology-based intangibles becoming fully amortized during the second quarter of 2007.

  • We expect amortization expense to be approximately $1.9 million per quarter starting in the third quarter of '07.

  • Net interest expense for the six months totaled $1.6 million compared to $2.5 million in 2006 period, due to the repurchase of the $56 million of convertible notes that I referenced that were done in the first quarter, as well as high average cash balance.

  • Veeco's six-month 2007 GAAP net loss was $2.3 million, or $0.07 per share compared to net income of $2.8 million, or $0.09 per share in the first half of 2006.

  • 2000 (sic) GAAP net loss was impacted by income tax expense of $2.5 million, primarily from foreign taxes compared to $2.3 million in 2006.

  • Earnings per diluted share, excluding certain items for the first half of 2007, were $0.15 compared to $0.27 in the first half of 2006.

  • The items excluded from this calculation are the 2007 and 2006 gain on an extinguishment of debt, the $1.5 million restructuring charge for first half of '07, and amortization expense, or the utilizing of 35% tax rate.

  • Backlog at June 30, 2007 was approximately $161 million.

  • Included in this number was about $8.5 million of product that has been shipped but not revenue recognized.

  • We expect this deferred revenue to increase in the third quarter to approximately $21 million, but then it will decrease in the fourth quarter as revenue is recognized on these new tools.

  • With regard to guidance and their outlook, we are currently being impacted, as Ed noted, by sluggish recovery in data storage, as well as weak market conditions in semiconductor.

  • In addition, there are a significant number of major new products being shipped during the third-quarter time frame in each of our key businesses, which require extended acceptances with resulting delayed revenue recognition.

  • This new product signoff is also lengthened by the soft industry conditions in two of our key markets.

  • As a result, Veeco currently expects third-quarter 2007 revenues to be in the range of $92 million to $97 million, with a loss per share between $0.25 and $0.18 on a GAAP basis, and loss per share of $0.09 and $0.05, excluding amortization, of $1.9 million and a restructuring charge of approximately $500,000 utilizing a 35% tax rate.

  • Clearly, the third quarter of '07 period is a transition quarter for Veeco, as we are being impacted by the introduction of critical new products that have low gross margins associated with beta tools.

  • Certain other new tools have acceptances which have been delayed until the fourth quarter of '07 time frame, accounting for the relatively low revenue guidance being provided.

  • Fortunately, these fourth-quarter '07 tools that have been delayed have more traditional gross margins.

  • So we would expect our fourth-quarter gross margin to improve.

  • During 2007, the Company entered into separate privately negotiated agreements with certain holders of our convertible notes due in December 2008 under which such holders exchanged $118.8 million of aggregate principal amount of original notes for $117.8 million of a new series of convertible notes due in April 2012 with a conversion price of $27.22 a share.

  • Following this exchange is approximately $25.2 million of the old notes with the conversion price of $38.51 per common share remain outstanding.

  • With maturity dates extended three and a quarter years, the Company will have more flexibility to utilize our cash flows from operations for the growth of our business.

  • Coupled with the retirement of $56 million of our convertible notes during the first quarter of '07, the exchange has significantly improved our capital structure.

  • Cash and equivalents at June 30 totaled $108.1 million.

  • We are pleased that we generated $14.8 million in free cash flow for the first half of 2007, of which $12 .8 million was generated in the second quarter of '07.

  • Accounts receivable DSOs for the quarter were 59 days, down from 74 days at March 31, '07.

  • During the quarter, inventory decreased by $1 million to $104.7 million with our turnover improving to 2.2 times from 2.1 in the first quarter.

  • This is despite delayed sales that we noted in our process equipment group.

  • Capital expenditures were $4 million for the second quarter of 2007 and $5.9 million for the six-month 2007 period.

  • Depreciation expense totaled $3.7 million in the second quarter and $7.2 million for the first half of 2007.

  • Our balance sheet and cash position of $108 million remains quite strong.

  • At this point, we will return to John for some additional comments and your questions.

  • John Peeler - CEO

  • Thanks, Jack.

  • During my first weeks at Veeco, I have spent a good deal of time getting to know the Veeco business units, going through business reviews with both process equipment and metrology management teams, and learning about Veeco's end markets and technologies.

  • Last week, I was in San Francisco for meetings with our global sales management team and business unit executives, planning the remainder of 2007 and attending SEMICON.

  • Let me start by saying I am impressed with the Veeco global organization.

  • There are many similarities with the kinds of companies I have worked with in the past.

  • As most of you know, I joined Veeco from JDSU where I ran the test and measurement division with about $600 million in revenues and high profitability.

  • I am quite familiar with the challenges associated with running multiproduct, multimarket, cyclical types of capital equipment businesses.

  • Some of the things I found most impressive about Veeco include its world-class technology and products, leading market positions, common technology platforms across multiple businesses, a lot of talented people who are motivated and committed, strong teamwork, some really excellent growth opportunities, and lots of new products.

  • Veeco today is a strong Company with deep technology, but clearly there is more work to do to improve the Company's financial performance and deliver better returns for our investors.

  • In addition, the dynamics of our served markets are changing and I am excited to bring to Veeco a fresh perspective and skill set to re-evaluate and redefine our future and our path to growth and profitability.

  • As newcomer to Veeco, I was struck immediately by the tremendous number of new products that we have flowing through the pipeline.

  • These products address specific technology challenges, including perpendicular recording in data storage, better uniformity and throughput in High-Brightness LED, higher throughput in semiconductor and new applications in price points for our research products.

  • I think the Veeco team has done a really excellent job getting aligned with our customer road maps.

  • Our disappointing third-quarter guidance is a result of a combination of factors: Overall customer restraint and CapEx spending in data storage and semiconductor, numerous new product introductions requiring more time for acceptance in the field, introductory beta pricing in some important new tools that hurts our profitability in the short term, but will help us grow the business and gain share in the future, and a low revenue level in metrology, which has historically been our best margin business.

  • We are pleased that Veeco's order rate has stabilized in the second quarter and, in fact, was above the mid-point of our guidance.

  • Veeco is experiencing a healthy order rate in many of our key new products and the solid backlog should help us in the coming quarters.

  • We currently expect that the third quarter 2007 bookings will be between $100 million and $115 million.

  • While the business appears stable from an order perspective, as many of you know, the third quarter has historically been a seasonally weak quarter for Veeco across our businesses.

  • We have taken that into consideration and are providing broad order guidance.

  • As Jack discussed, Veeco is forecasting weak third quarter revenue and profitability with improvement in the fourth quarter.

  • Compared with the first half 2007 revenue of $198 million, Veeco currently forecasts that the second half 2007 revenue will improve to $200 million to $220 million, subject to customer acceptance timing.

  • This would bring revenue for the full year to approximately $400 million to $420 million, down 5% to 10% versus 2006.

  • Given the current challenging environment Veeco faces in our business, it is fair to say that we will be looking at many areas of the Company to set priorities, determine our plan of action, and devise a strategy for Veeco tied to specific initiatives in 2008 and beyond.

  • It is my intention to discuss our plans and strategies with you in the fall.

  • As we proceed in the coming months, we will be focused primarily on developing strategies and plans to increase Veeco's top line revenue growth and focusing on improving profitability.

  • We need to improve both our gross and operating margins.

  • From 2004 to 2006, Veeco management significantly improved profitability.

  • While we are disappointed that 2007 is a difficult year for Veeco, we are pleased that our strong pipeline of new products will set the stage for an improved 2008.

  • It is my number one goal to get us back on the right track.

  • In summary, despite our current growth pause, I am just as excited about Veeco as I was when I accepted the position two months ago, even more so.

  • When I look across the organization, I see lots of reason for optimism and enthusiasm.

  • Before I turn the call over to the operator for your questions, I'd like thank Ed for his many years of service and dedication to Veeco.

  • We look forward to having Ed as our Chairman.

  • At this point, operator, we'd like to start the question-and-answer session.

  • Operator

  • Thank you.

  • (OPERATOR INSTRUCTIONS) We'll take as many questions as time permits, and we'll take you in the order that you signal us.

  • (OPERATOR INSTRUCTIONS) We will take our first question from Bill Ong with American Technology.

  • Bill Ong - Analyst

  • Just a couple of questions.

  • On your second quarter bookings being down slightly, can you talk about directionally how all the trends look like on your four business segments, and also how that looks like in revenues for the December quarter?

  • John Peeler - CEO

  • Ed?

  • Edward Braun - Chairman

  • Yes.

  • The guidance for Q3 bookings are -- I would call them flat.

  • We just finished 112.5 and John gave broad guidance of 100 to 115, I think.

  • Essentially we are thinking flat.

  • And if you look within the business sectors, we think that the Q3 order performance is similar to the Q2 order performance by sector.

  • The main changes really just being where will seasonality influence us in the September quarter.

  • We are thinking flat in the markets and sort of flat total.

  • Bill Ong - Analyst

  • Okay.

  • So the way to look at it is June, September and December revenues, the four business segments, essentially fairly straight across the board with a little bit of wiggle room, maybe the LED segment on the research segment, is that a fair way of characterizing that?

  • Edward Braun - Chairman

  • You -- I am not sure I understand your question?

  • Bill Ong - Analyst

  • I just -- what I am trying -- you can probably see some -- I guess the question is, where are you going to see some strength in the second half within the four business units, even though you have with an overall flat environment for the six months?

  • Edward Braun - Chairman

  • Relative to prior year, I would say LED has been up over 40%, and will continue to be up for the year, and data storage will continue to be weak when compared to prior year, although recovering from the trough of the fourth quarter

  • Bill Ong - Analyst

  • Okay.

  • Then on your December quarter, can I get a sense of how the gross margins are going to look like given the implied revenue is about $150 million?

  • You had gross margins last year in the 42%, 44% range.

  • You mentioned some of the beta tools.

  • So just maybe qualitatively what type of gross margins can we expect in the final quarter?

  • Edward Braun - Chairman

  • I would say while we -- while margins in the third quarter are probably in the 39% range, because of beta tools and because some of the third quarter originally planned shipments have been delayed to the fourth quarter with some better margins in them, that we would expect the fourth quarter to be in the 42% to 43% range.

  • So improving from -- from what the third quarter is, approximately flat with the second quarter, possibly slightly better.

  • Bill Ong - Analyst

  • Okay, great.

  • Thank you very much.

  • John Peeler - CEO

  • Next question?

  • Operator

  • Thank you.

  • We will now move to Timothy Arcuri with Citigroup.

  • Timothy Arcuri - Analyst

  • Hi, guys.

  • I am wondering if you have $21 million sitting in backlog that is deferred revenue that is going to shift in the fourth -- or that is going to become revenue in the fourth quarter, I am wondering why revenue wouldn't be higher than what you are guiding?

  • It seems pretty conservative the Q4 revenue number given all that stuff sitting in backlog.

  • Jack Rein - CFO

  • I guess -- if I can answer the question.

  • I think it's the environment that we are in today, the fact that we have got new products and we have markets that are slowly recovering, and so we are being a bit cautious in terms with our guidance.

  • Timothy Arcuri - Analyst

  • Okay, but I mean, Jack, you'd have to agree that's -- that even if you just ship that incremental $21 million and that became revenue that implies that the rest of the business basically is flat revenue despite the fact that book-to-bill has been greater than 1 for six of the last seven quarters.

  • You will have to agree that is conservative, right?

  • Jack Rein - CFO

  • I just said that.

  • We are being conservative because of the environment, yes.

  • Timothy Arcuri - Analyst

  • Yes, okay.

  • Can you help me understand then what the gross margin will be in the third quarter by kind of end market?

  • Are you thinking -- yes, just help me with that?

  • Jack Rein - CFO

  • I can't really help you by end market, but I can help you by -- I can help you by equipment versus metrology and equipment is predominantly data storage, as well as LED.

  • And that margin is in the 35% range.

  • In the metrology group, we're looking for an improvement from 44.4% to approximately 46%.

  • Timothy Arcuri - Analyst

  • Okay.

  • And then I guess last thing, Jack, if -- if I look -- if I look at expense control, SG&A, it looks like it really -- I mean over the last three years, it has kind of trended up.

  • Meanwhile, revenue's been flat to down.

  • So I am wondering if there is something structural there, why the expenses keep going up on the SG&A line and what that might mean going forward?

  • Could that suggest that you are going to get a little more Draconian on some expense controls?

  • Thanks.

  • Jack Rein - CFO

  • Well, we did indicate that we -- first of all, we had a restructuring during the current quarter where 40 -- a reduction in force of about 40 people.

  • We are forecasting a second half $1.5 million minimum restructuring.

  • So John and I and Ed will take a look at the Company from that perspective.

  • Certainly, we want to get -- reduce our break even and improve our profitability, and certainly the operating spending line is one that will be targeted.

  • So, yes, you are correct.

  • To address why the -- why there's been an increase.

  • There has, obviously, been stock-based compensation that is impacting us more fully in 2007 than it did in the prior years.

  • So that's one of the elements that structurally has changed.

  • Timothy Arcuri - Analyst

  • Okay.

  • John Peeler - CEO

  • Next question

  • Operator

  • Thank you.

  • We will now move on to JoAnne Feeney with FTN Midwest.

  • JoAnne Feeney - Analyst

  • Yes.

  • Good morning, folks.

  • I guess a little bit more question about the backlog situation.

  • So 161 is a pretty high number, I'm trying to reconcile that with where your orders have been and then your revenue potential.

  • So 21 of it is some deferred revenue.

  • Can you give us a sense of timing of the backlog?

  • How much you expect to revenue in the quick one, two or three quarters, something like that?

  • John Peeler - CEO

  • Jack?

  • Jack Rein - CFO

  • I think -- obviously, we gave guidance for the third quarter, JoAnne, and by inference, John has given guidance for the second half of the year, $200 million to $220 million, so there could be as much as $20 million of that backlog that would come out.

  • Just to clarify one point, when we refer to deferred revenue in backlog, the $20 million number is what we expect it to be at the end of the third quarter.

  • It's not at the end of the second quarter.

  • JoAnne Feeney - Analyst

  • Can you tell us then, perhaps, how much your shipments are in 2Q different from your revenues in 2Q?

  • Jack Rein - CFO

  • I mentioned that -- $8.5 million of shipment -- at the end of the quarter we have $8.5 million of shipments that were made but revenue was not recognized on those.

  • And I expect that number to go up to $20 million at the end of the third quarter.

  • JoAnne Feeney - Analyst

  • Okay.

  • And then -- in terms of the MOCVD tools.

  • Did you have my multi-tool orders in last quarter's order number?

  • Edward Braun - Chairman

  • Yes, Joanne, we counted that there were five customers that bought multiple systems.

  • Actually two systems each from five customers.

  • Quite similar to the prior quarter.

  • JoAnne Feeney - Analyst

  • So the -- the real question there is -- is -- are those tools supposed to be shipped at the same time or do they want them sort of one at a time over a period of a couple of quarters?

  • Edward Braun - Chairman

  • They usually are separated by a quarter.

  • JoAnne Feeney - Analyst

  • Okay.

  • Okay.

  • That's -- thanks a lot.

  • John Peeler - CEO

  • Next question?

  • Operator

  • We will now move on to David Duley with Merriman.

  • David Duley - Analyst

  • Yes.

  • A couple of questions from me.

  • Jack, I think you mentioned the metrology gross margins were down fairly significantly.

  • Can you just review the sequential difference there and why that took place this quarter?

  • Jack Rein - CFO

  • Yes, I would say -- I think I indicated in my comments that auto AFM and optical metrology were both down significantly in terms of margins.

  • The reason for that was the market conditions, the optical metrology has a heavy data storage content and auto AFM, obviously, is focused in semiconductor and those markets were difficult markets in the second quarter.

  • In addition, we had some mix issues in our research AFM.

  • So it's kind of the perfect storm for metrology in the second quarter.

  • We do expect metrology margins, as I mentioned earlier, to recover by a couple of percentage points in the third quarter.

  • David Duley - Analyst

  • Where were they in the Q2 and where do you think they will get to in the Q3 again?

  • Jack Rein - CFO

  • They were 44.4% in the second quarter and we expect them to go up about 2% in the third quarter.

  • David Duley - Analyst

  • That number historically has been closer to 48% or 50%, I recollect?

  • Jack Rein - CFO

  • Yes, David, in fact 51.5% for 2006.

  • David Duley - Analyst

  • Okay.

  • Jack Rein - CFO

  • So we are impacted by volume, difficult market conditions.

  • But we do expect with new products and as the markets improve that we will see improving gross margins.

  • David Duley - Analyst

  • Okay.

  • Another question, I guess, is on your revenue guidance for this upcoming quarter.

  • Clearly, it was below where everyone thought, including yourself, but I guess you -- and what I am hearing here is there is a lot of new products that are being shipped that have, I guess, longer acceptance periods.

  • I am a little -- I guess I am wondering why the acceptance periods are longer?

  • You would have known, you've been shipping a higher content of new products in your previous guidance statements.

  • So I am kind of wondering what the delta is here?

  • Sounds like weakness in some in-markets and some acceptance issues.

  • Can you step us through that, please?

  • Jack Rein - CFO

  • One of the points, I guess, is if you have new products, when there are weaker market conditions, the customer will delay the acceptances or ask for further testing to be done, partly to manage their capital and partly to make sure -- to be cautious in terms of the qualifications of the tool.

  • So I think the reason that we -- we actually saw $16 million move out of the third quarter into the fourth quarter from our original plan, and that's largely the reason for that.

  • Similarly, we had $5 million, $5 million or $6 million, Ed indicated, go from the second quarter to the third quarter.

  • David Duley - Analyst

  • And of the $16 million moving from Q3 to Q4 is that all acceptance issues or is that just people delaying the shipments of tools?

  • Jack Rein - CFO

  • It is a combination of both.

  • David Duley - Analyst

  • Okay.

  • Thanks.

  • John Peeler - CEO

  • Thanks, David

  • Operator

  • With Brean Murray, we have Mark Miller.

  • Mark Miller - Analyst

  • Good morning.

  • Just a couple of questions here.

  • You mentioned that -- at least one firm is going to be converting to 8" wafers in the data storage business.

  • What does that involve?

  • Does that involve a replacement of a substrate table or is that a whole new tool?

  • John Peeler - CEO

  • Ed, do you want to take that?

  • Edward Braun - Chairman

  • Yes, John.

  • It will be more than one customer.

  • You're right that one may go to 8" and others might go to 6", but there will be increased wafer size across the industry.

  • Very little of it will be just wafer handling change.

  • Most of it will be a new tool because they will want the same uniformity of beam performance and PVD performance across the 8" wafer so it is not just an end effect robotic change to the wafer handler.

  • It is a change to what happens in the process chamber over a larger diameter.

  • Mark Miller - Analyst

  • So this is mills and also PVD, Ion Beam deposition equipment?

  • Edward Braun - Chairman

  • Yes, so the one or two people who are -- I would say they have currently given us orders for pilot tools.

  • They have been pilot tools, you are correct, in IBD, in IBE, in PVD, and ALD.

  • Really across all of the wafer sets.

  • Mark Miller - Analyst

  • The drive industry is projecting fairly strong -- above what I think is normal seasonality growth, up to 15% if you listen to Seagate and Western Digital is somewhat below that.

  • But that is still strong growth over the second half of the year.

  • Have you seen any increase in quoting activity as a result of this higher than normal growth?

  • Edward Braun - Chairman

  • Well, as we commented, the order activity was quite strong, $41 million, it was up double digits, it was 26%, I think, from Q1 to Q2.

  • And, so, yes, we are seeing order rates that continue at this current level of activity, significantly up from the trough of Q4 '06, but not at the level of the first half of '06.

  • Mark Miller - Analyst

  • These were for capacity rather than new equipment or research equipment?

  • Edward Braun - Chairman

  • I think they are both because they are people completing their perpendicular.

  • Some people are, now have completed their femto conversion and some capacity.

  • But I would say probably it's as much technology as it is capacity.

  • Mark Miller - Analyst

  • Thank you.

  • John Peeler - CEO

  • Thanks, Mark.

  • Next question

  • Operator

  • We will now hear from Chris Middleton with HSBC Bank.

  • Sir, your line is open.

  • Mr.

  • Middleton, perhaps you have your phone on mute.

  • Can you please re-mute the mute function?

  • John Peeler - CEO

  • Okay.

  • Let's --

  • Operator

  • There is no response.

  • Let's move continue to Doug Reid with Thomas Weisel Partners.

  • Douglas Reid - Analyst

  • Thank you for taking my question.

  • I want to get your perspective on gross margin going into '08.

  • You've acknowledged the mix shift away from metrology, with the headwind that that represents for gross margin.

  • Just in terms of the -- the significantly greater growth in LED, et cetera, what kind of gross margins are you really thinking are realistic then as you look out to '08?

  • Jack Rein - CFO

  • Well, as we -- we certainly see a recovery in the fourth quarter as we enter '08 we hope to at least maintain those type of gross margins.

  • We indicated earlier significant improvement in MOCVD for the LED business, and certainly that will be one of the growth drivers in '08, so I think we will continue to see that kind of improvement.

  • We are very focused on gross margin improvement, as John indicated, as well as controlling operating spending.

  • Douglas Reid - Analyst

  • Okay, great, thanks.

  • John Peeler - CEO

  • Thanks, Doug.

  • Next question

  • Operator

  • All right, that next question will come from Brett Hodess with Merrill Lynch.

  • Brett Hodess - Analyst

  • Good morning.

  • Jack, you commented on the margin front that you got two problems.

  • One is volume and the other is market conditions.

  • So are you signaling you are starting to see more competitive price pressure in the metrology area, or in particular the AFM area?

  • Jack Rein - CFO

  • I wouldn't say that there is necessarily more competition or price pressure.

  • I would say that we had a mix issue in our research AFM, and I -- I just believe it was market conditions, a lack of volume in our optical metrology and auto AFM area.

  • I think it's -- we have got some new products in the research AFM area being introduced right now that has improved margins.

  • We are hopeful that it is sort of a perturbation for a quarter or two.

  • Brett Hodess - Analyst

  • So as the new products roll out, then we should expect that in general the metrology with, when volume is there, should be back above 50%?

  • Jack Rein - CFO

  • Well, let's say it is certainly going to be better than the current levels.

  • I am not going to go out on a limb and say what our '08 gross margin for metrology.

  • Frankly, we haven't done a full bottoms-up plan for '08 at this point.

  • Certainly, it will be better than the second and third quarter.

  • Brett Hodess - Analyst

  • Okay, and then the second question is I think in the prepared remarks, if I caught it correctly, I think, Ed, that you said the "K-series" would start to recognize revenues in 1Q -- did you mean 1Q '08?

  • Edward Braun - Chairman

  • No, I think I said, Brett, the first tool will be recognized revenue in Q4.

  • Brett Hodess - Analyst

  • The first "K-series" in Q4?

  • Edward Braun - Chairman

  • Right.

  • Brett Hodess - Analyst

  • Okay.

  • And then -- does that mean that the other tools that are shipping will start to recognize in '08, though?

  • Edward Braun - Chairman

  • Yes.

  • Brett Hodess - Analyst

  • Okay.

  • And then the last question I had was if you look at the data storage business, even though the orders have rebounded back up to that $41 million level, is your expectation going forward that this business returns to growth, or is it more -- now that you have very consolidated customer bases, basically this business is more of a stable business, with the fewer customers and with the big technology transitions for femto and perpendicular having passed the halfway mark?

  • Edward Braun - Chairman

  • Well, in my comments, I said that like the industry market analysts, we are thinking that data storage has stabilized and is a single-digit growth opportunity over our ability to foresee it, which is 12 to 18 months.

  • Now they have to make some going -- going out a year or two, they have to make some significant investments beyond perpendicular for hammer and for larger wafer size.

  • But when you look at their unit growth and their own revenue growth and the fewer number of accounts and the fact that they are becoming a more consolidated, efficient industry, I think single-digit gross is the right expectation.

  • Brett Hodess - Analyst

  • If I can just follow that up, single-digit growth (inaudible) is sort of where they are at now, the stabilized level?

  • Edward Braun - Chairman

  • Yes.

  • Operator

  • We will now hear from Banc of America's Mark Fitzgerald.

  • Mark Fitzgerald - Analyst

  • Great.

  • If I could take a step back and look from a 30,000-foot view at the Company given the management changes that are going on.

  • One of the issues from my vantage point at least that had dogged the stock here is the really low returns that the Company delivers, whether it is on a shareholder equity or asset value, and even with the improvements over the last 18 months, and I absolutely recognize Ed and his team have made some dramatic improvements, we are still seeing very low returns.

  • And my question is, basically, is this a systemic problem based on the market you are selling into?

  • Is it a structural issue with the Company?

  • Is it competitive?

  • And what can be done to turn that around?

  • John Peeler - CEO

  • Mark, this is John.

  • First of all, we are very focused on changing the -- or in developing the Company's strategy to get the growth up, to lower our break-even point, to improve our execution effectiveness, and to improve both the gross margin and the bottom-line margin.

  • So we are not prepared to put our full plans on the table at this point, but that is our focus, and I do believe there is a large opportunity here to take the Company to the next level in terms of execution.

  • Mark Fitzgerald - Analyst

  • Is there any targets you would share with us just on return metrics that would you focus on given your prior experience with these type of companies?

  • John Peeler - CEO

  • I don't think we want to give out future targets that this point.

  • Mark Fitzgerald - Analyst

  • Okay.

  • Thank you.

  • John Peeler - CEO

  • Thanks

  • Operator

  • And now we will hear from Tim Lash with Third Point.

  • Timothy Lash - Analyst

  • Great.

  • Thanks for taking my call.

  • In terms of your opportunities to sort of rationalize the business, do you have any assets or thoughts on outsourcing manufacturing further, and perhaps real estate or otherwise where you can unlock some value, unlock some cash?

  • And then further, with respect to the business going forward, can you sort of refresh your thoughts on the HB-LED business, how lumpy you expect it to be or uneven, or should we expect there to be a more consistent revenue outgrowth opportunity there?

  • Can you talk to those two items?

  • Thank you.

  • John Peeler - CEO

  • Okay.

  • Well, Tim, first of all, we have a strategy in process to outsource manufacturing to a larger extent in our process equipment business.

  • It has been going well.

  • I think the team is doing a good job.

  • There is -- there are more plans in progress coming as we introduce more new products.

  • Largely in this area, more of our new products are moving towards an outsourced model.

  • They think that will give us both a -- really an improved scalability when the market goes up or down.

  • On the real estate, we will -- clearly we have substantial real estate portfolio, we will take a comprehensive look at that.

  • I have not done that yet.

  • I believe the Company has in the past, but we will review that in the coming months.

  • On the lumpiness of the LED business.

  • Ed, why don't you address that?

  • Edward Braun - Chairman

  • Yes, I think you were asking lumpiness of drives or LED?

  • Timothy Lash - Analyst

  • LED.

  • Edward Braun - Chairman

  • LED.

  • Well the LED -- for 18 months the LED business hasn't been lumpy at all.

  • It's been a 40% compound growth rate now over an 18-month period.

  • The lumpiness that has affected us more in the last year or two has been from data storage which has had volatility compared to LED.

  • I think if you project future -- current order rates and future growth in the '08-'09 time frame, you will see a Veeco that has a higher concentration of LED/wireless and a lower concentration of data storage.

  • And in the emergence of LED, that helps eliminate some of the volatility of hard drive.

  • Timothy Lash - Analyst

  • Sort of focused actually on the bookings in the second quarter.

  • It looked like they fell off from the first quarter and I just want to try to understand what sort of a baseline booking level is for that business?

  • Edward Braun - Chairman

  • No, the bookings overall in LED/wireless went from -- they were relatively flat.

  • The went from $35 million to $39 million, but the MOCVD content of those actually increased.

  • The falloff in Q2 compared to Q1 was in the molecular beam epitaxy, our research part of the business.

  • The MOCVD orders themselves were up 9%, from $29 million to $32 million.

  • Timothy Lash - Analyst

  • And just lastly, with respect to the metrology business, I mean, to the extent you have difficulty reinvigorating that or getting the margins where you would like them to be.

  • I think you should think about whether or not as a business that Veeco currently can manage effectively and how that fits into the future of the Company.

  • I defer to John to spend time thinking it through, but there has definitely been a drop-off, a weakness there, part of that is in-market, but want to make sure you are focused on maximizing value for shareholders here, so thank you.

  • John Peeler - CEO

  • Thanks, Tim.

  • Operator

  • All right, we will now hear from Matt Petkun with Davidson & Company.

  • Matthew Petkun - Analyst

  • Hi, there.

  • First question from me just -- you guys have been talking a fair amount about new products and how you expect that to drive growth.

  • Part of your markets that I am most interested in new product would be in the Scientific Research part of the business.

  • I am interested in knowing -- I know you have made a couple of product releases like the Inova and a few others.

  • Are those designed to allow you just improve margins and perhaps market share, or do you see any of your new products actually getting into new applications in the Scientific Research field?

  • John Peeler - CEO

  • The Inova was released to both improve margins, as well as to take us into the lower end market.

  • We are evaluating our product pipeline and what's next in the metrology business, and it will be, our strategy will include both entry of some new niche markets, as well as increasing our share in the overall market.

  • Matthew Petkun - Analyst

  • Okay.

  • So if you were to project out into '08, would you still see at least in the near term perhaps that Scientific Research piece continues while being stable to undergrow your other segments, perhaps?

  • John Peeler - CEO

  • Well, it is certainly going to undergrow the LED business.

  • And it is not a particularly rapid growth market.

  • We do believe there are opportunities to improve our execution both in the product development side of the business, as well as the sales side of the business.

  • The market for research AFMs is overall a kind of a single-digit type of growth market.

  • Matthew Petkun - Analyst

  • Okay.

  • And then just a question for Jack.

  • Jack, you mentioned earlier that stock compensation expense, which I don't believe you guys break out, was up in Q2.

  • Can you give us what stock comp was in Q1 and then in Q2 of this year?

  • Jack Rein - CFO

  • I don't have the absolute numbers.

  • I know it increased by $500,000 in the quarter, but I can get back to you with the actual numbers.

  • Matthew Petkun - Analyst

  • Okay, thanks, Jack.

  • John Peeler - CEO

  • Okay.

  • At this point, we will -- we are going to wrap up.

  • I want to thank you all for joining us today.

  • And I will look forward to meeting you in the near future.

  • Thanks a lot.

  • Operator

  • That concludes today's conference call.

  • We thank you for your participation.

  • Have a great day.