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Varian Semiconductor Equipment Associates, Inc. (NASDAQ:VSEA)

F2Q09 (Qtr End 04/03/09) Earnings Call

April 30, 2009 05:30 pm ET

Executives

Robert Halliday - EVP and CFO

Gary Dickerson - CEO

Analysts

Suresh Balaraman - ThinkEquity

C.J. Muse - Barclays Capital

Kate Kotlarsky - Goldman Sachs

Peter Kim - Deutsche Bank

Edwin Mok - Needham & Company

Stephen Chin - UBS

Weston Twigg - Pacific Crest

Satya Kumar - Credit Suisse

Brett Hodess - Banc of America

Operator

Welcome to the second quarter 2009 Varian Semiconductor Equipment Associates conference call. (Operator Instructions).

I would now like to hand the call over to Mr. Robert Halliday, Executive Vice President and Chief Financial Officer. Mr. Halliday, please proceed.

Robert Halliday

Thank you. Good afternoon. I am Bob Halliday, Varian Semiconductor's Chief Financial Officer. I want to thank you for joining us for our fiscal 2009 second quarter conference call and webcast. With me on the call this afternoon is Gary Dickerson, our Chief Executive Officer.

Before getting into our financial results, we want to remind you that during the course of this call, we may make various comments about the company's future expectations, plans and prospects. These forward-looking statements are subject to various risks, including those detailed in the company's public filings, including our most recent 10-K filing. The company cannot guarantee that these forward-looking statements will actually occur, and we assume no obligation to update these forward-looking statements.

Our prepared remarks today will include the overall business outlook, the continuing actions that we are taking in response to the external environment and our focus on growth initiatives. Now, I will review the results for our second quarter ended April 3, 2009.

Second quarter 2009 revenue was $64 million. Second quarter revenue declined from the first quarter due mainly to a drop in logic spending and a substantial drop in spare parts and upgrade sales. During the quarter, sales to customers, including one major logic company, accounted for 10% or more of our total revenue.

In the second quarter of 2009, unit shipments were approximately 33% memory, 45% logic and 22% foundry. This compares to our customer mix of 82% memory, 9% logic and 9% foundry in the first quarter of fiscal 2008. These customer mix statistics underscore that Varian has a much more diversified position with all customers than it did just a few years ago.

Second quarter 2009 net loss of $20 million or $0.27 per share was slightly better than our guidance. This loss includes about $2 million in restructuring charges or a $0.02 loss in EPS. This loss also reflects approximately $300,000 of bad debt charges, mostly related to a memory customer that recently filed for reorganization.

The geographic breakdown of our revenue this past quarter based on fab location was: Asia, 47%; North America, 39%; and Europe, 14%. During the second quarter, we recognized revenue for our first VIISta HE, our new single-wafer high-energy tool. We also recognized revenue for one PLAD tool.

PLAD continues to be an enabling technology for DRAM and could come back sooner than our other tools. Our installed base of PLAD tools has now reached 38. This installed base includes five customers that had bought multiple tools. A major memory manufacturer has placed multiple tools into production at four different fabs. Three others customers have bought single PLAD tools or currently have them under evaluation.

Second quarter 2009 gross margin was 33.3%, in line with our guidance. Second quarter margin declined from the first quarter of 2009 predominantly due to lower volume, resulting in unfavorable factory variances. The decline in gross margin was partially offset by a more favorable mix of parts and upgrade sales as a percentage of our overall revenue.

R&D expenses of $19 million were slightly higher than our guidance of approximately $18.5 million. Marketing, general and administrative expenses decreased by $2.7 million from the first quarter of 2009 to approximately $24 million due to cost reduction actions. Operating expenses also included approximately $2 million in restructuring charges, primarily for personnel reductions. Our second quarter tax rate was a benefit of 16.7% compared to 0% in the first quarter of 2009.

At the end of the second quarter, our full-time equivalent headcount was 1,274, down from 1,393 at the end of the first quarter of fiscal 2009. This decrease was due to headcount reductions made in all functions and regions. Our headcount was 2006 at September 2007.

Our cash and investment balance increased $24 million in the second quarter to $307 million. Second quarter 2009 capital spending was $2.4 million in approximated guidance.

Depreciation expense for the quarter was $3.8 million. The sum of our quarterly R&D and MG&A expenses was $59.9 million in the fourth quarter of 2008. In the March quarter, these expenses were about $17 million less than the fourth quarter of 2008 or approximately a 30% reduction in two quarters.

I will now provide an update of our current view of the market environment. Last quarter, we discussed how we tracked spare part sales and customer tool utilization as two indicators of where business might be headed. We're hopeful that these indicators hit bottom in the March quarter.

Although all of our non-systems businesses, including spare parts, upgrades and service labor declined in Q2 from Q1, there were signs of an inflection point. This was especially true of spare parts sales, which are more directly related to tool utilization.

Spare part sales had gone down consistently from the middle of fiscal Q2 2008 through the early part of this past quarter. Early in the March quarter, weekly spare part sales began looking more like a sawtooth, down one week and then up the next. Also, as has been widely reported, we saw higher tool utilization during the quarter.

Second quarter's upgrade sales are less clearly indicative of an inflection point. It did not show the same consistent pattern. Although not as good an indicator of business conditions as spare parts, upgrade sales trends can be insightful. Whereas spare parts are linked to tool utilization, upgrades are either for productivity or yield enhancement. Productivity upgrades are sometimes the first type of capacity additions made by customers. Yield upgrades are more related to technology buys and node challenges.

In the March quarter, we saw overall upgrade sales decline from the December quarter. However, the impact on gross margin was positive, because upgrades did not decline as much as tool revenue. The decline was particularly severe for productivity upgrades. We had no 200-millimeter to 300-millimeter conversion upgrades, which is consistent with virtually no capacity additions, even cost-effective ones. We did see good yield upgrade sales, though.

In the June quarter, we are anticipating a moderate increase in upgrade sales. The increase should be driven mainly by 200-millimeter to 300-millimeter size conversions. Our forecast of June upgrade sales are interesting in that: one, the size conversions are mostly for DRAM customers; two, the productivity upgrades are HCP plus and extended energy upgrades for logic and foundry customers. And the yield upgrades feature our SuperScan and dose health monitor upgrades.

In terms of the more direct way for customers to add capacity, that is purchases of new equipment, the visibility is still unclear. The limited visibility into new tool sales is due to the availability of used tools on the market. The potential impact of these used tools is hard to predict as they include 200-millimeter and 300-millimeter tools. These used tools also span several generations of our high-current tools, some of which do not match specific customer requirements or PTUR choices. Generally, our sense is the customer interest in ordering equipment has improved.

On the cost side, just within the last couple of weeks, we have opted to reduce spending another $106 million in the quarter, including $1.1 million in marketing, general and administrative expenses. We will continue to invest in R&D, as we have a number of exciting opportunities within our traditional implant markets and for new applications of our technology.

Gary will talk about some of those opportunities in his section. In the third quarter of fiscal year 2009, we anticipate revenues of between $60 million and $70 million. Included in the revenue guidance is the expected shipment of three PLAD tools, including two more shipments to Taiwan where we recorded our first PLAD revenues last quarter. One of these two plaid shipments to Taiwan is a follow-on order, and the other is a new PLAD customer.

Our Q3 outlook anticipates a moderate increase in both our spare part sales and our upgrade revenues. It is worth noting that the incremental operating margins on our non-systems business can actually be higher than the overall corporate gross margins even in a good year. There is a lot of profit leverage in the non-systems business, and the healthy return of that business would go a long way to getting us back to breakeven.

In the third quarter, we anticipate that tools, shipments and units will be approximately 40% memory, 10% logic and 50% foundry. We anticipate that gross margins will be approximately 35% in the third quarter of fiscal 2009.

In terms of operating costs, we continue to address cost reduction issues aggressively without compromising our investment in growth. These efforts translate into the following expense targets. We expect that R&D expense will be approximately flat in $19 million in the third quarter. We anticipate that marketing, general and administrative expenses will be cut by approximately $1.1 million to $22.9 million in the third quarter.

As a result, in the third quarter of 2009, we expect to lose approximately $19 million pre-tax, including nearly $500,000 in restructuring charges. Including in our expenses from the third quarter will be non-cash charges related to depreciation and equity compensation expense of approximately $9.2 million.

We will have a tax provision of about $400,000 for the quarter, whereas we've got a tax credit of approximately $4 million in the second quarter. We expect our tax rate in the fourth quarter to be approximately 10%. Expected EPS will be a loss of between $0.26 and $0.30 per share. We expect capital expenditures in the third quarter to be approximately $2 million, mostly for marketing and IT improvements.

Now I'll turn the call over to Gary for his remarks.

Gary Dickerson

Thanks, Bob. We receive a lot of questions about business conditions and future CapEx spending by our customers. Our current feeling about business conditions is more positive now than it was three months ago.

During the last year, most of the news was incrementally bad. In the last couple of months, we recently have started to see some positive news with both our service and systems businesses. While we are still a long way from where we were, we are starting to see customers turning tools back on and some level of technology buying.

The focus for us in this downturn is to continue to manage our cost structure and increase our organizational productivity and effectiveness to ensure that we remain in a strong financial and competitive position and grow our market share and total available market to position Varian for profitable growth. We see opportunities for growth in parts and upgrades, PLAD, high energy, the CMOS image sensor market, Japan, SOI and additional new applications inside and outside the semiconductor industry.

As Bob mentioned earlier, the parts and upgrades business is starting to show an increase off the bottom. The first thing our customers will do as fab utilization increases is turn on tools that have been powered off. Over the remainder of this calendar year, the improvement in the high margin parts and upgrades business will result in a significant benefit our P&L.

Coming out of the downturn, our customers will be looking for ways to accelerate device performance and yield. One such example is Varian's SuperScan upgrade. SuperScan compensates for radial process variations to maximize device yield. A recent customer evaluation using SuperScan resulted in a yield improvement of more than 6%. This significant yield improvement will help this customer achieve greater than 90% yield on this established process.

Damage engineering is another yield enhancement upgrade for our VIISta beam line tools. Device performance results continue to come in, showing improved contact resistance, lower leakage current and increased drive current. All of these parameters tend to degrade as devices shrink.

We completed the first damage engineering upgrade, and we expect to have another damaging engineering beta unit installed by the end of this quarter. We have scheduled several additional upgrade installations in the latter part of this calendar year.

Another new upgrade for our high current tools is carborane. As a replacement for BF2 or monomer boron, carborane evaluations have shown lower defects, lower leakage current, improved short channel effects and improved dry current. Additionally, carborane does not require the use of a dedicated implanter. By the end of this quarter, we will have three carborane upgrades in the field and expect revenue and additional installations later in 2009 and into 2010.

In the PLAD business unit, we see additional technology buys as more DRAM customers transition to Dual Poly Gate. We have maintained 100% PLAD market share in the ultra-high dose market, and we continue to see the benefits of PLAD's differentiation with our customers. PLAD also provides us with potential new applications for process tests that require ultra-high dose or conformal doping of high-aspect ratio structures.

One of the potential new plant opportunities is in the CMOS image sensor market. CMOS image sensors are used in digital cameras and cell phones. Many of the manufacturers of CMOS image sensors are in Japan. This market is a very good opportunity for Varian, since the market itself is growing, there are opportunities for new applications, and there are prospects for market share gains.

As pixel sizes and the number of pixels continue to increase, CMOS image sensor manufacturers have significant challenges in driving improvement in picture quality. One of the main problems with picture quality is the existence of dark current or leakage current. Using PLAD for sidewall doping of the trench structures on CMOS image sensors has been shown to reduce dark current. Customers have also seen improvement in picture quality from additional new PLAD applications.

We also have an opportunity to drive further penetration of our VIISta beam line products into the CMOS image sensor market. One of our largest customers in FY '09 is a Japanese CMOS image sensor account where we have significant penetration in high current and high energy.

Our common VIISta platform has an advantage in low metallic contamination and patented precise angle control, reducing white dot noise and dark current noise, resulting in enhanced image quality. Superior micro uniformity provided by our medium-current product drives down white dot noise as well. In addition, there is significant interest in a Varian's damage engineering processes to reduce crystalline defects and further improve image quality.

In the March quarter, we received POs for two VIISta HE single-wafer high-energy tools and another order for our VIISta 3000 single-wafer high-energy tool. We expect that single-wafer high-energy tools will replace batch tools going forward, and we're in a strong position to increase our share in this market.

Applications development continues for the lithography module. There are customers using ion implant in production to improve line edge roughness and stabilize high aspect ratio patterns. Another large CapEx customer is using Varian high current in R&D as development tool of record to freeze the first pattern in a double patterning lithography process. We see potential for increased adoption of the implant-based litho applications for 32-nanometer and below technologies.

Implant has also shown advantages and the ability to improve edge uniformity and is used in production in 45-nanometer logic by one of our largest customers. One of our largest memory customers also has implemented implant to improve edge uniformity and achieve pattern-independent etched-up and shape control as part of the production process flow for their next technology node.

Finally, as you may have seen in today's press release, we have partnered with Soitec to provide single-wafer high-current tools for Silicon On Insulator manufacturing. We're looking forward to bringing the benefits of our dual magnet ribbon beam technology to this new market opportunity for Varian.

The last few quarters have been very difficult. I want to personally thank all of Varian's employees for supporting our focus on continuing to be in a strong financial and competitive position and supporting all of our growth initiatives that position Varian for profitable growth.

We're now happy to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Suresh Balaraman from ThinkEquity. Please proceed.

Suresh Balaraman - ThinkEquity

You talked about tool utilization going up from a few months ago to now. Can you put some numbers on it? Is it going from 20% to 40% percent? And also, can you share your thoughts on how your Q4 or September orders could look, given the fact that the foundries are looking at 75% kind of utilization rates for June quarter? Thanks.

Robert Halliday

Sure, Suresh. A couple of things. One, tool utilization, we don't usually site specific numbers. We'll try and give you qualitative sense for it. We have seen it increase significantly across the board. The most notable increase, which I think everybody has pretty much reported on was in the foundries, but we also see it in other places like memory and logic. So, it was pretty good across the board. Most noteworthy progress was in foundry market.

Second, we don't give orders guidance, particularly for Q4. We're just entering Q3. Qualitatively, we will say again, though, that we're seeing a pickup in customer interest and ordering equipment, and we're pretty hopeful that orders will be in positive direction for us, pretty good amount in Q3 and hopefully in the Q4.

Gary Dickerson

I think the other thing on the tool utilization, we track tools turned off. And in the last couple of months, there has been a significant change in that metric.

Robert Halliday

A lot of tools have been turned back on.

Gary Dickerson

Many tools turned back on.

Suresh Balaraman - ThinkEquity

Are there any comments on the pricing environment? Are you guys subject to the kind of severity and discounting as many of your other peers in the capital equipment land, given that you have limited competition?

Gary Dickerson

I don't think that that had unusual pricing pressure this time. I think our products are pretty valuable products and our position is pretty good with the customers.

Robert Halliday

Right now, who knows for sure what will happen. But the margin forecast looks incrementally positive going forward.

Operator

Your next question comes from the line of C.J. Muse from Barclays Capital.

C.J. Muse - Barclays Capital

Just first a couple of points of clarification. Bob, I think you said there was a bad debt charge in the March quarter. Can you tell me what that amount was again and where it was included?

Robert Halliday

That was 300,000 in SG&A.

C.J. Muse - Barclays Capital

Okay. And then in terms of your EPS guide, does that include the roughly 500,000 in restructuring?

Robert Halliday

Yes.

C.J. Muse - Barclays Capital

Okay, great. I guess moving on to more important stuff, in terms of the PLAD market, you talked about penetrating a handful of customers, but other guys getting 1G, 2G tools out there. You did $64 million in calendar '08. What could that look like in calendar '09 and calendar '10 considering what you said in terms of the technology by aspect there?

Robert Halliday

Sure, let me give you some sense of it. The good thing about PLAD is it's an enabling technology for the DRAM guys, in particular at this point, although we're looking for other applications too, and particularly, roughly the 5X node for them.

So, if you look at this, one large DRAM customers bought a number of PLAD tools, and there is several who bought a smaller number PLAD tools. And then there is a quite a few DRAM customers who have qualified PLAD as their tool of record, but have not bought the volume.

So as you know, there is a number of DRAM customers in Asia, Taiwan and elsewhere that if they want to ramp their 5X tools like PLAD, they need to buy to ramp, because they qualify it as a tool they're going to use, but they don't buy any real volume.

So we think PLAD is going to pick up from our previous expectations a couple months ago, because we're starting to see some real interest in orders. Will it get to the $65 million of last year? Not clear, frankly because it depends on how fast these guys pick up their spending. So, we don't have a lot of insight into that. But it's incrementally positive versus a couple months ago.

C.J. Muse - Barclays Capital

And then on the service side, including spares and upgrades, when do you think you could get back to the $50 million plus level?

Robert Halliday

Well, the spares are picking up. The upgrades are picking up. They cut them pretty hard, because they were turning off tools. So they're turning the tools on now. I think it's going to take a little while. I think it could ramp a fair amount, but they dropped a fair amount. So I think it's going to pick up pretty aggressively. One is 55. Depends upon overall spending, I think. I don't think it's the next couple of quarters. That's for sure.

Operator

Your next question comes from the line of Jim Covello from Goldman Sachs. Please proceed.

Kate Kotlarsky - Goldman Sachs

Hi. This is Kate Kotlarsky for Jim Covello. I have a couple of questions. One is, I was hoping you could give us a little bit more color about some of the technology related orders that you are starting to see. Is that more concentrated in the memory space, particularly in Korea, or are you seeing some of those orders outside of the Korean memory customers?

Robert Halliday

Sure. I'll give you my sense of it, Kate, and then Gary can jump in if he wants. I think if you look at technology buys, you look at our products in terms of equipment and then also some of the upgrades we sell, so in terms of products, I'd say arguably that most enabling technologies that they haven't bought much of before, so it's not only enabling technology, but there is virtually no reuse, is our PLAD tool. And that's enabling technology for the DRAM guys and is being bought by virtually every DRAM manufacturer as enabling technology.

I think that if you look at our high-current tools, single-wafer high-current tools, for a number of those customers, it's technology buys, and they have in fact gone to our next-generation tools. For a number of the other customers have a large installed base, it's more of a capacity buy.

I think single-water high-energy, within the last sort of six to nine months, I think virtually every customer uses high-energy tools and said, we want to go to single-wafer high-energy tools. Virtually every high-energy tool we buy in the future will be single-wafer, not batch tools. But what they're trying to do is just extend the useful life of the batch tools for, say, another node. So that will be a mixed bag.

If they buy anything, they'll buy single-wafer high-energy, but they may try to extend the batch tools. I think medium current, it's a little more of a capacity buy at this time. But then if you look beyond our equipment, we sell a pretty large portfolio increasing of upgrades products, and those are very high margin for us.

And some of them are things that can increase productivity of the customers, and some of them and more and more of the ones that we're developing are technology buys. Gary mentioned SuperScan out there, damage engineering and others that we have in the chute that have been qualified for customers.

And those are really high value solutions to customers that go on our existing implanters, because they help customers typically in areas like device performance, which is critical to them, and also yield. So we've got a fair amount of the upgrades in the chute.

Kate Kotlarsky - Goldman Sachs

And then can I ask actually a related question on upgrades? You mentioned that you expect the upgrade business to pick up next quarter and some of that is going to be upgrading 200 millimeter to 300 millimeter capacity. What are your thoughts generally speaking on sort of the idle 200-millimeter capacity out there and how much of that do you think might get upgraded versus being permanently retired? That's it for me.

Robert Halliday

Sure. It's hard to tell. 200-millimeter and 300-millimeter upgrades arguably are good news for us frankly, because we control the upgrade path, because you have to come to us for software conversions, the end station, the PLAD. And so it goes through us.

We're [intermittent] to the transaction. And it's high value to the customers. It's also high value to us. So, we make a pretty fair amount of money on 200-millimeter, 300-millimeter upgrades, because it's pretty valuable to the customers.

How many will happen? It depends on the customer. My sense is there will be a fair amount of those that transition. It's a little hard to predict. I think there will be a little more medium current than high current, but it's hard to tell yet. As I said, we didn't have any in the March quarter. We are seeing some of them in the June quarter. Those are arguably the first level of capacity additions.

Operator

Your next question comes from the line of Peter Kim from Deutsche Bank. Please proceed.

Peter Kim - Deutsche Bank

Hi. Thanks for taking my question. First, I wanted to ask about the advancements to upgrading of existing capacity in memory, DRAM and NAND. In order to extend the capacity to 5X and 3X for DRAM and NAND respectively, do you think it could be accomplished mostly with upgrades or will they have to buy incrementally new high-current tools to achieve that?

Robert Halliday

Let me broaden the dialog just a little bit from what I've said already. If you look at upgrades, you have to look at the upgrades to Varian's products, which are focused on a little bit in terms of the sales opportunity for us. But you have to look at, is it possible to upgrade other implant companies' products to future nodes? And that's a lot more challenging and less attractive to our customers.

So, if you look at the installed base of our competitors' products, if you go down the high current, many of those are batch high-current tools. And you've seen in the last few years, everybody virtually by all new tools are single-wafer high-current tools. So, I think batch high-current tools will not be upgraded.

If you look at batch high-energy tools, I do not think they will be upgraded. They just try to extend useful life of what they have now. So, I think all the future high-energy tools will virtually all be single wafer.

I think if you look at PLAD, there is no real installed base of PLAD tools. So those will all be new tools. If you look at our competitors' medium-current tools, some of those may get upgraded.

So, I think that the opportunity outside of Varian for an upgrade path is a lot more limited, particularly to some of those suppliers no longer selling new tools and challenged in terms of the new product offerings. I think with Varian, I think some of our medium-current and high-current tools could be upgraded, and that could be a pretty good opportunity for Varian.

Peter Kim - Deutsche Bank

For the customers who already have the Varian single-wafer high-current tools that are trying to advance their existing capacity to the 5X for DRAM and 2X for NAND, can essentially upgrade the capacity by upgrading the implanters that they have, that they don't need to buy additional implanters?

Robert Halliday

Some will. Some won't. If you look at the customers, some of the bigger customers switch models between fabs, and that might be because they want to go to higher energies or they have different yield requirements. So, I think some of them could be.

Peter Kim - Deutsche Bank

Okay. And one other question regarding the receivables. I know that you talked about the $300,000 in bad debt. I was wondering, along those lines, what percentage of your receivables has exposure to the Taiwan memory companies, many of whom are believed to be in some difficult situations?

Robert Halliday

We don't have a lot of exposure there. We're taking a pretty conservative viewpoint on that. I think we've done a pretty good job collecting those. So I think we're okay.

Operator

Your next question comes from the line of Edwin Mok from Needham & Company. Please proceed.

Edwin Mok - Needham & Company

A question on guidance. So your guidance implied a modest growth. But you talked about having more PLAD tool that you can recognize driving in the coming quarter and you expect spares and service to grow sequentially. Just curious if there are other pieces that might decline in the current quarter, which might explain why you guys are more conservative?

Gary Dickerson

I think you got good question, Edwin. Let me give you some insight. If you look at the sales and upgrades, I think they go up moderately and add even higher leverage in terms of profit. If you look at our expectations on orders, our expectation is that equipment orders will be positive. And then buried in the revenues were specifically called off PLAD.

So, say, why not show a little more growth on the revenue line. A couple of things going on there: one is, we and I think the whole industry had had some deferred revenues that had built up over the last several quarters prior to the March quarter that were recognized in the March quarter.

So, if you look at the book and ship type of business in Q3, it's probably bigger than it was in Q2. Some of those deferred things are going down.

And the second thing is you're talking to us on April 30th. Even in the last couple of weeks, we felt incrementally positive about the business outlook. So, we're giving a snapshot today, but I feel a lot better today than I did two, three weeks ago.

Edwin Mok - Needham & Company

Great. That was helpful. And then just touching on your application, I think analyst day last year, you guys talked about that some of the applications have eventually amounted to over $100 million. I think you said $125 million throughout by next year.

Obviously, we are in a different environment as we were a year ago. But any way you can quantify the SOI opportunity and also the image sensor opportunity that you guys are looking at even for longer term? That would be helpful. Thank you.

Robert Halliday

Sure. I'll take a shot at it, and then Gary will give you a more informed viewpoint. I think there was a real opportunity. We had press release saying today on SOI that a leading SOI company wants to work closely with Varian in terms of the tools that are provided. So I think SOI is a good thing.

I think forecasting SOI demand is a little hard, because business is down in general now; and two, there is some potential for new applications for SOI which certainly leverage our tool sales.

If you look at CMOS imagine sensor, general speaking, the market is taking off. If you look at CCD versus CMOS image sensors themselves, the logic in the CMOS image sensor versus CCD, and if you look at that, the implant requirements are more significant and more critical on the CMOS image sensor side.

And if you look at Varian's tools, a number of our tools can provide significant yield benefits to them in terms of whether it's our PLAD tool or high-energy tool or even our medium-current tool. So we're pretty optimistic on CMOS image sensor that the market is a pretty good market, one.

Two, we have the potential to bring real differentiation for them in terms of our equipment. And three, we can gain share in that market. We were a moderate player. And with our leverage by our increased presence in Japan and a number of those suppliers are in Japan, the stars might align for us in that market.

In terms of absolute dollars, we're in a downturn here, trying to project dollars. But I feel pretty good about it.

Gary Dickerson

Yeah. I would say that it's difficult, as Bob said, to project the absolute dollars in this type of a market. But in relationship to where we said we would be, I think we're pretty much on track with the applications that we talked about last summer at investor day.

And the truth is that we keep finding more and more applications of implant and plasma technologies for precision material modification, interface engineering, those types of applications.

I talked about some of that in the call today, some of the things that we're seeing in litho, etch. And again, we keep identifying cases where our customers recognize that you can use implants certainly for modifying the electrical characteristics of a device, but also these physical implants are picking up more traction with customers.

And the great thing to me is where I see with the R&D customers, them coming up with their own ideas and their own applications using the technology. So, again, the absolute dollars are hard to predict, but certainly there is a lot of momentum in new applications.

Edwin Mok - Needham & Company

Can I just quickly touch on CMOS image sensor? So, what is the advantage that Varian offer? Is it that it becomes so complicated, you need single wafer application, or you guys have higher throughput? I mean, my understanding is existing customers is using the VIISta implant tool or are they using other process? Can you help us with that?

Gary Dickerson

So, as I mentioned in the script, one of our largest customers, probably actually our number two customer this fiscal year is the CMOS image sensor customer using both our high current and high energy products, and certainly what they've seen is yield improvement, implementing single wafer high energy.

And also with our high current tools, as I talked about earlier, we have the patented precise angle control, lower metal contamination, all of the advantages that we’ve talked about in the past on the dual magnet ribbon beam high current technology. And with other customers, we're also validating these same type of improvements.

In one case, we have a proof statement where we've had significant penetration. It's already a significant part of our business. As customers go to these larger pixel sizes and larger number of pixels this whole issue of image quality is becoming a bigger issue for us. So, we have a team focused just on the CMOS image sensor market to drive penetration of our tools with new customers and also new applications.

We anticipate that within the next few months, we'll ship to a logic customer, a PLAD tool. One of the applications that they're looking at is also forced the CMOS image sensor. So again, there are new applications there and also validating and penetrating with our currently tools.

Edwin Mok - Needham & Company

Great. That's all I have. Thank you.

Operator

Your next question comes from the line of Stephen Chin from UBS. Please proceed.

Stephen Chin - UBS

I just want to come back to that comment you made Bob that PLAD sales could recover sooner. Do you get the sense that there is some DRAM customer pent-up demand for these PLAD tools? I guess three PLAD tools in the June quarter still seems like kind of a low number, maybe below a normalized level, given the widespread DRAM customer acceptance and limited competition. Do you think there is any pent-up demand out there for the product that may be dependent on financing or some other reason?

Robert Halliday

I think you're right. I think three is lower than our run rate of virtually about five quarters in a raw last '08 and '07. We have got a whole bunch of customers who qualified the tool. I think you see this not just in implant, but other things where there is a couple of number DRAM customers who want to run 5X note, I mean, the equipment for that, whether it's litho or PLAD. Some of the early things they're buying from us are PLAD tools.

So, I think a lot of it is financing dependent. So, I think there is a pent-up demand. We have a number of customers. I think some of them would have liked to have taken tools in March even.

Stephen Chin - UBS

Okay. That's helpful. I think you said, Bob that, you think unit shipment to logic customers will be about 10% this June quarter. That seems a little bit low. Is there just some lumpiness and timing of shipments to logic customers? Or is there something else happening there?

Robert Halliday

Yeah. It's lumpiness. There's one particular customer not every quarter is consistently.

Stephen Chin - UBS

Okay. That's helpful. The last question is, on the use of these temporary factory shutdowns, given the better customer activity, is it fair to assume, Varian will not have any more of these temporary factory shutdowns going into the second half of the year? Is that the thinking now?

Robert Halliday

No. We're going to keep doing them. There's couple of things going on. We shutdown virtually the whole organization, SG&A, manufacturing, and we make some exceptions in R&D. I think we're going to do them at least through June and probably through the summer for a couple of reasons.

One of business is picking up and feeling better. It's nowhere near where it used to be. So we're still playing it very close to the best.

In terms of the factory, they can produce more tools and we may even let them work some of the shutdowns if we need them, but I still think we have a capability to the shutdowns. We'll make exceptions, but mostly to R&D.

Operator

Your next question comes from the line of Patrick Ho from Stifel Nicolaus. Please proceed.

Unidentified Analyst

This is [Marian] for Patrick. Thanks for taking my question. Just a couple of them. Can you update us on what the operating breakeven is now?

Robert Halliday

Sure. If you look at the cash breakeven, I'll give you a couple of things. One, it's a cash breakeven and our non-cash charges are about $9.2 million, $9.5 million dollars a quarter.

The second thing is, we think our gross margins are going up. And with just some improvement on spare parts sales in the next couple of quarters, we could be at about $85 million breakeven, but right now we're a little above that. We're above that because the spare parts are low, but we think that's going to go up pretty quickly in the next couple of quarters.

Unidentified Analyst

Okay. And any idea what the margin would look like at breakeven?

Robert Halliday

So 40.

Gary Dickerson

80, 85

Unidentified Analyst

And do you have the stock option expense for the quarter?

Robert Halliday

Sure. Do you want it by line item?

Unidentified Analyst

Sure.

Robert Halliday

I have it just right here. It's Patrick's question, usually. On the cards line for the quarter, it was $466,000. For R&D, it was $1,996,000. For marketing, general and administrative expenses, it was 4,422,000.

Unidentified Analyst

Last question is, what do you think your annual cost saving is now?

Robert Halliday

Well, we've cut off of the run rate we were at in March - at the September '08 quarter, on just expenses, we'll cut $80 million. We've cut a few more million dollars, $4 million or so, $2 million or $3 million. So we'll probably cut about $21 million a quarter, some times $4 million. It's about $84 million a year, few million of that up in COGS, but most of its done. It was $80 million in OpEx.

Operator

Your next question comes from Weston Twigg from Pacific Crest. Please proceed.

Weston Twigg - Pacific Crest

Just a couple of quick questions. One, I'm just wondering if you can give us a feel for the typical revenue opportunity for a 200 millimeter to 300 millimeter upgrade?

Gary Dickerson

For one tool, we don’t have pricing issue, it's pretty high. It's a significant percentage of the tool.

Robert Halliday

I don't know if we might give an exact number, but again, for a 200-millimeter to 300-millimeter, we have to enable that in working with customers. They have to come to us and work with them on both software and hardware to do those conversions. I don't know that we want to give a number over the call here.

Weston Twigg - Pacific Crest

That's fair. Sort of along the same vane, I'm also wondering, if in your comments, you're implying some of the new upgrades, like the image engineering and SuperScan are actually going to begin to revenue this fiscal year, or would that be something would be begin early next fiscal year?

Robert Halliday

SuperScan, we've already revenued some SuperScan, and definitely that would revenue now. Again, we just started installing the damage engineering upgrades, and that would be next fiscal year.

Weston Twigg - Pacific Crest

Okay. Thank you.

Operator

Your next question comes from the line of [Satish Iyer, Market Research]. Please proceed.

Unidentified Analyst

Two questions. First is that, I think from one technology node to another technology node, how should we think about incremental opportunities for high current, say particularly for logic memory as well as for the foundry segment? Are there going to be like 10% more implant steps in logic, if you go from 45 to 32 now that you've gotten more visibility? Likewise, can you help us understand more in terms of the plant's steps, please?

Gary Dickerson

I think it really varies by customer. We were going through this I don't know probably a month ago. One interesting one was one of our largest flash customers with a pretty significant increase in terms of number of implants steps. I think it was something like 10 additional medium current steps and three additional high currently steps. I don't honestly remember all of those different data points.

I think the thing for us is and that was in flash. In DRAM, the major change that will happen in the DRAM business is adding more logic like implants in the periphery, and that's a pretty significant change in the DRAM market.

Now, whether that happens on the next technology node or the following technology node, again, that really goes by customer. And so it's hard to give an exact number. That one particular change in DRAM, once that transition happens, should increase the implant by something like 10%. In logic, the big changes there are the multiple transistors on the chip and more medium current implants on the logic side.

There are also some interface engineering, high case silicon interface for metal gates that are being added by customers. I don't have that one in terms of exactly what the percentage change is, but definitely, all of these, there are different positive aspects for a Varian. The other one I would say that, again, is another one that is maybe not so much factored into this particular analysis, those were on the electrical side.

In the cases where customers are adding physical implants like I talked about, the one customer in memory that's adding an implant for etching and additional litho step. There is one customer, that large logic customer that's adding a new litho implant that will add implant capacity as they go to the next technology nodes. Those things are also potential opportunities for us.

Unidentified Analyst

Bob, just a quick follow-up. Do you have any visibility on foundry orders between 2Q to 3Q and 4Q, please? That's all my questions.

Robert Halliday

I don't know. They picked up, predicting how sustainable they are, I've always failed miserably on that one. They turn off and on faster than I can predict. Right now, it's positive momentum. Hopefully, it will continue.

Operator

(Operator Instructions) Your next question comes from the line of Satya Kumar from Credit Suisse.

Satya Kumar - Credit Suisse

Just a question, I think similar one to the last one, specifically for the trench to start conversion in DRAM. How should I think about the leverage for implant (inaudible) 10,000 wafer starts or how many implants do you need to make the conversion?

Gary Dickerson

I don't know that we have that exact number, but one of the things that is happening, those customers that were running trench in DRAM will be implementing dual Poly-gate with PLAD tools. So when we talk about technology buys, that's where some of the technology buys are happening.

There was a question earlier about the amount of tools that are being purchased at this phase. With those particular customers, what's happening right now is, it's a very small number just of initial tools as they ramp the first phase of the capacity. Of course, as those fabs ramp, that's a big opportunity for us. That’s conversion from trench to stack.

Satya Kumar - Credit Suisse

These are guiding bookings and shipments, right, mostly 20% to 50%, obviously you're seeing some very strong bookings, I would imagine, in June. What color can you provide on how we should think about the magnitude of the revenue ramp in September? Clearly, that's clear going to be a pretty significant one.

Gary Dickerson

Well, it's even in the last few weeks that it's felt better, frankly. So I would say our bookings looked to pick up a fair amount in the June quarter. This time, I would say hopefully that continues in the second quarter. The real acceleration even for June though has only been last several weeks almost or month. So, we're hopeful, if it continues on this path, then it will be a pretty good quarter or improved quarter, but I don't think we know yet.

Satya Kumar - Credit Suisse

How should we think about the margins as you look out into September? It seems like you're getting some higher margins in PLAD and upgrade business. Is there going to be a stronger sequentially incremental gross margin as you look into September?

Gary Dickerson

I think so. I think we'll pick up on a few levels. I think the spares and upgrades will continue upward bound. I think the systems' gross margin on tools looks favorable in terms of mix. And I think if we have some volume, we'll get better absorption in the factories. So, I'm feeling that there's a number of positives on the gross margin line.

Satya Kumar - Credit Suisse

And in terms of the use tool impact on the upgrades of 200, you seem to have talked about it perhaps a lot more than other semi cap companies have about these things. Is this something that's unique to implant product design, and that allows more reuse versus the other times of increment?

Gary Dickerson

Why I am talked about a fair amount on the call. So, I don't think it's unique to us. I think we have a pretty good profit margin on the 200-millimeter, 300-millimeter upgrades we provide. So, what you get is that, in turns out to be pretty profitable for us, more or less revenue line perhaps than so in the new tool, but I think the fact that it's hard to upgrade our competitors tools makes it a pretty bounded problem for us.

Operator

Your next question comes from the line of Brett Hodess from Bank of America. Please proceed.

Brett Hodess - Banc of America

Good afternoon. Bob, earlier, you mentioned on the breakeven, I think around 85 million, given your outlook for the spares and upgrade mix. Is that the breakeven, like on an EBITDA type of basis?

Robert Halliday

Yes.

Brett Hodess - Banc of America

And then, can you give us an idea of how high you think the spares service upgrades will go as a percentage of the mix, as we're in sort of this transitional phase of the cycle?

Robert Halliday

Well, I'll give you some factoids, as of, like September of '08, that quarter, we were up around 55 million or, so maybe even a little more on non-systems business. That would be spares, upgrades and contract services. And then, if you look at now, we're a lot less than that. It went down very quickly.

So then, we think it's going to go upward bound, virtually all those tools are still out there. In fact, we keep growing the installed base, we keep coming with up new upgrade products. So, the question is how fast they go up? I think eventually get back the same number. I am just no sure the RAM.

So then in terms of how much it is as a percentage of the mix, then you can figure how faster equipment was back. I mean it's not hard to figure out. It's close to 50% in the quarter we just ended.

Operator

At this time, I'm showing you have no further questions. I would like to now hand the call back over to Mr. Robert Halliday for closing remarks.

Robert Halliday

I want to thank you all for coming today. Our outlook for business in terms of quantity is a little better; but I have to tell you that everybody always asks me, how do you feel? From three months ago, I feel better. I feel like March was a bottom and things are getting little better. How fast they get better, I'm not sure, but sure qualitatively we feel better than I did three months ago.

So we want to thank everybody's support and hopefully things will continue to go upward bound and we will feel lot better three months from now. So thanks for your time today.

Operator

Ladies and gentlemen, thank you for your participation in today's conference call. You may now disconnect. Have a wonderful day.

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Source: Varian Semiconductor Equipment Associates, Inc. F2Q09 (Qtr End 04/03/09) Earnings Call Transcript
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