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Cohu, Inc. (COHU)

Q2 2009 Earnings Call Transcript

July 22, 2009 at 4:30 pm ET

Executives

James Donahue - President and CEO

Jeff Jones - VP, Finance and CFO

Analysts

Vernon Essi - Needham & Company

Kelly Anderson - Sidoti & Company

Operator

Greetings ladies and gentlemen and welcome to the Cohu Incorporated second quarter 2009 earnings call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Mr. James Donahue, President and CEO for Cohu Incorporated. Thank you. Mr. Donahue, you may begin.

James Donahue

Good afternoon everyone and welcome to this conference call that covers Cohu’s results for the second quarter ended June 27th, 2009. With me today is our Chief Financial Officer, Jeff Jones. I hope you have a copy of our earnings release and have had an opportunity to review it, but if you need a copy, you can obtain one from our website, cohu.com or by contacting Cohu Investor Relations at 858-848-8106.

I will provide an overview and comments on Cohu’s results for the second quarter and also discuss current business environment. Then Jeff will take us through the financial statements and we will close by taking your questions.

But before that, Jeff has information concerning forward-looking statements, estimates, and other matters that we will discuss during today’s call.

Jeff Jones

Thanks Jim. Before we go on, I must remind you that the Company’s discussion this afternoon will include forward-looking statements reflecting management’s current expectations concerning certain aspects of the Company’s future business. These statements are based on current information that we have assessed, but which by its nature is subject to rapid and even abrupt changes.

Forward-looking statements include our comments regarding the Company’s expectations regarding industry conditions and future operations, and financial results and any comments we make about the Company’s future in response to your questions. Our comments speak only as of today, July 22nd, 2009, and the Company assumes no obligation to update these comments.

Certain matters discussed on this conference call, including statements concerning Cohu's new products and expectations of business conditions, orders, sales, and operating performance are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those projected or forecasted.

Such risks and uncertainties include, but are not limited to, inventories, goodwill and other intangible asset write-downs; our ability to convert new products under development into production on a timely basis, support product development and meet customer delivery and acceptance requirements for next generation equipment; failure to obtain customer acceptance resulting in the inability to recognize revenue and accounts receivable collection problems; difficulties in integrating the Rasco acquisition; expected synergies and cost savings from the acquisition may not be realized; market opportunities as a result of the acquisition maybe smaller than anticipated or may not be realized; reduced demand for our products as a result of the global economic crisis; customer orders may be canceled or delayed; the concentration of our revenues from a limited number of customers; intense competition in the semiconductor test handler industry; our reliance on patents and intellectual property; compliance with US export regulations; and the cyclical and unpredictable nature of capital expenditures by semiconductor manufacturers.

These and other risks and uncertainties are discussed more fully in Cohu’s filings with the Securities and Exchange Commission, including the most recently filed Form 10-K and Form 10-Q. Cohu assumes no obligation to update the information in this release and further, our comments and responses to any questions will not make reference to any specific customers as we are precluded from disclosing such information by our non-disclosure agreements.

James Donahue

Okay, thanks Jeff. The global economy remained in a recession and conditions in the semiconductor equipment industry continue to be difficult as we have seen. Nowhere, was this more evident than last week at Semicon West in San Francisco. Historically, this is the premiere tradeshow for semiconductor equipment and materials manufacturers.

The move last week clearly reflected the gloomy economic environment. Semiconductor equipment is of course a cyclical business and industry veterans have been through downturns before. But this one is different as the cause and scope of the economic decline are global in nature and encompassed virtually all industries.

Fewer companies exhibited at Semicon this year and most who have remained reduced their scale and cost of their booths. Like many companies, we chose not to exhibit in order to reduce cost and because in the current business environment there are more effective ways to engage with our customers.

Semi now expects worldwide semiconductor equipment sales in 2009 to decline 52% year-over-year and that follows a 31% drop in 2008. So while there is no doubt that 2009 will be a second consecutive down year for this industry the question is - Have we reached the bottom yet?

In the test and assembly area recent evidence indicates that we have and that we are beginning to climb out of the trough. After reaching a low in February of only 21 million, orders for backend equipment have increased four consecutive months. In data released just yesterday by SEMI June orders for test and assembly equipment were $110 million and that is up more than 400% from February but it is important to recognize that it is still down 52% from the June 2008 level.

Against this difficult backdrop for the second quarter of 2009, Cohu recorded improved sequential operating results, positive cash flow and increased orders. Sales were 24% higher than our guidance as a result of stronger than expected churns business that was mainly spares, upgrades, kits and repairs in our semiconductor equipment business.

With our device kit business in particular, it seems that certain of our IDM customers are dealing with highly dynamic and increasing demand from their customers especially in consumer electronic applications, and as a result they need to quickly adjust their production capacity.

Our gross margin increased to 33% from 20% in the first quarter as result of higher volume, favorable product mix at broadcast microwave services and no charges this quarter for excess or obsolete inventory.

Orders increased 33% sequentially to $45.6 million and orders for semiconductor equipment were $33.3 million and that represents an increase of 65% compared to the first quarter.

While still well below historical levels, unit orders for hammers and thermal subsystems were the highest since the third quarter of 2008 and orders for spares, upgrade and device kit as I indicated were also up sharply. Our unit system orders were as follows: high speed handlers - 40%; thermal handlers - 27%, thermal subsystems - 20% and other products - 13%.

Equipment utilization at IC device manufacturers and test subcontractors improved during the quarter to around the 70% range in some cases but generally remains below the 80% plus levels that have historically triggered capacity device.

We received follow on orders for Pyramid, the next generation handler that incorporates our proprietary thermal technology. The system is undergoing characterization and qualification at a major micro processor IDM. Like its predecessor, the Summit handler, Pyramid provides enabling capability to optimize speed grading in microprocessors and high speed graphic chips. We expect to ship additional quality systems throughout 2009 in anticipation of our production ramp expected mid-next year.

While most customers are not adding capacity due to equipment utilization that is still below healthy levels, we are beginning to see increased forecast from certain customers. One of our largest customers is accelerating plan to ramp its new test and assembly plant. Equipment installs that were originally planned for next year have been pulled and delayed Q3, and we continue to realize opportunities at some of our historically smaller customers especially for gravity handlers.

Our Rasco’s relatively wide customer base continues to be a benefit as some smaller customers are successfully pursuing niche markets that require new capability and capacity.

In response to increase demand for handler device kits, we have fast tracked the expansion of our Philippine kit facility and brought the latest production machines online this month. That is two months ahead of our original plan. We are proceeding with the further expansion that will be completed by the end of this year. Our customers are benefiting from reduced lead times and we are realizing cost benefits through designing and manufacturing in this lower cost geography.

Turning for a moment to our other businesses, Cohu’s electronic division was profitable for the second quarter and for the first half of 2009. This business provides a wide selection of video cameras and related products specializing in video and IT solutions for surveillance and process monitoring. Cohu Electronic has a market leading position in the US traffic management market and in the second quarter received a $2.4 million order to replace 450 camera systems in the San Francisco Bay Area. Shipments have already started and will continue through May 2010.

Cohu Electronics also has ample opportunities in high-end security application and in the third quarter we planned to introduce a new high definition surveillance camera. This is the first in the line of new IT cameras and it combines the advantages of HDTV image quality, bandwidth efficient H.264 compression and a responsive variable speed positioner all held in our new rugged camera enclosure. This is an exciting new product which provides growth opportunities in the years to come.

Broadcast microwave services or BMS had an outstanding quarter and the contribution from this business is particularly welcome at this challenging time for the semiconductor equipment industry. This mobile microwave business achieved record operating income in the second quarter above 20% and has a strong pipeline of business opportunities in law enforcement and government surveillance.

BMS is introducing new lightweight small form factor, high performance, standard def and high def transmitters and receivers which should open new opportunities in both airborne and ground applications.

This business is also delivering strong margins as they are realizing the benefit of redesigned programs initiated last year particularly in certain analog systems used by our [UAD] customers. We expect that BMS will have a strong Q3. Jeff?

Jeff Jones

Thanks Jim. Semiconductor related revenues for Q2 were approximately 85% international and 15% domestic. International sales were distributed 88% Asia Pacific, 7% the Americas and 5% other. We recorded approximately $840,000 of FASB 123R stock-based compensation expense and approximately 1.5 million of purchase intangible amortization expense in Q2.

The comments I make regarding operating expenses include the impact of FASB 123R and purchase intangible amortization expense. Gross margin was 32.1% in Q2 compared to 20.2% in Q1 and was higher than our projection of 26% due to the stronger than expected turns business as Jim referenced in our Semi equipment operations and favorable product mix of BMS. We expect the gross margin in Q3 to be approximately the same as Q2.

Total operating expense including R&D and SG&A was $16.4 million in Q2 compared to $17 million in Q1 and in line with our projection. We expect total operating expense in Q3 to be slightly higher than Q2.

R&D expense was $7.8 million in Q2 compared to $8 million in Q1. We expect R&D expense in Q3 to be slightly higher than Q2 due to a new product development in our Semi equipment business and in BMS.

SG&A expense was $8.7 million in Q2 compared to $9 million in Q1. We expect SG&A expense in Q3 to be slightly higher than Q2 due to the variable selling expenses in our Semi equipment operations.

Interest and other income was $300,000 in Q2 down from $500,000 in Q1 as a result of lower interest rates. We expect interest and other income in Q3 to be approximately $400,000.

In Q2, we recorded a $19.6 million charge for an increase in our deferred tax asset valuation allowance in accordance with accounting set forth in FASB 109. This is a non-cash, non-operational charge and does not preclude us from using our tax losses, tax credits or other deferred tax assets in the future. Excluding the $19.6 million charge, we are expected effective tax rate benefit for 2009 would be approximately 29% based on our current projection of pretax results, due to net loss per share on a GAAP basis was $0.97 including $0.84 per share resulting from the tax charge of $19.6 million. Non-GAAP net loss per share which excludes the tax loss and the after tax impact of share based compensation and amortization of intangibles was $0.06.

Moving to the balance sheet, cash investments were $89 million at June, an increase of $6 million from March due primarily to cash generated by improved operating results and accelerated cash collections which lowered our days sales outstanding from 66 in Q1 to 59 in Q2. We expect our net cash burn in Q3 to be approximately $5.5 million based primarily on an increase and production of next generation handlers and the related increase in accounts receivable. Shipment of these handlers is expected to occur late in Q3 and a revenue associated with these shipments deferred to a future quarter based on customer acceptance.

Q3 dividend and CapEx are expected to be approximately $1.4 million and $1 million respectively. Net accounts receivable was $25.7 million at June compared to $26.5 million at March and inventory was $50.4 million at June compared to $50.2 million at March.

Additions to property plant and equipment for Q2 were approximately $500,000 and depreciation was approximately $1.5 million. Deferred profit at June was $3.8 million compared to $3.4 million at March. Deferred profit relates to revenue deferrals pursuant to SAB 104 primarily on semiconductor equipment test handlers and thermal subsystems and BMS products. Our deferred revenue at June 27th, 2009 was approximately $6.7 million.

James Donahue

Okay, thanks Jeff. No one knows when business conditions will improve. With our strong balance sheet, we are able to weather a prolonged downturn if that is necessary and at the same time we can continue to make strategic investments in new products and operational improvements that will enable Cohu to gain market share, deliver profitable growth and enhance shareholder value.

I am pleased to report that Cohu’s Board of Directors approved the dividend of $0.06 per share payable on October 30th, 2009 to shareholders of record on September 4th, 2009. Cohu has paid quarterly dividends consecutively since 1977, and finally for the third quarter; we expect sales to be approximately $40 million.

That concludes our prepared remarks and we will now take your questions. Scott, we are ready.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Vernon Essi - Needham & Company.

Vernon Essi - Needham & Company

Thank you very much. What is the turn here in the orders?

James Donahue

Yes. It looks a little better than it has been for a few quarters Vernon.

Vernon Essi - Needham & Company

Right! If you could, discuss a little more of your larger customers obviously are turning back on the [19.17] and you said that you should see a production or at least the shipments were rather kicking in into the first half of next year. It sounds like with some of these going out the door in 2009, but the tricky part is your revenue recognition of those units. Can you give us the sense of what size and scale that might be in general terms?

Jeff Jones

Vernon, I think a range to work with, with respect to the shipments that may be deferred in the Q3. The range would be about $5 to $9 million.

Vernon Essi - Needham & Company

That is just for the first quarter but obviously this is going to be a multi quarter situation, it sounds like.

James Donahue

Yes. That is just the shipments that we would expect to make in the third quarter.

Vernon Essi - Needham & Company

Can you give us an update on some of the other product lines and how they are faring with other customers, one thing in particular just to revisit your thermal gravity handler and anything that is new at Rasco?

James Donahue

Well, Rasco’s business has been affected, the gravity business like the pick-and-place business and like virtually all backend business we have to say has been down substantially year-over-year. We do have a new product in development at Rasco; it is a high parallel fast index time gravity handler that is really the gravity equivalent of our new matrix pick-and-place handler.

So, we expect to begin some customer evaluations on that towards the end of this year, fourth quarter most likely.

Vernon Essi - Needham & Company

Let me actually rephrase the question. Some of the other backend companies had talked about some orders that was probably that they were here and there and sounded like the general capacity addition, would you say, I mean very modest, but would you say you are seeing anything along those lines out of the gravity handler side that are sort of winding through the orders across a lot of customers or is it still very much very quite?

James Donahue

The largest customers, our historical largest customers for gravity have been very quiet. What we are seeing is an occasional order from one of the smaller companies, one of our smaller customers. Sometimes new customers, sometime customers from that we have had in the past that have just been not our largest and I think that is simply the result of, even in this down economy, some companies have hot products that are doing well and if they are serving a niche that is doing well they need capacity. But it varies; there is certainly no pattern to it at all yet.

Vernon Essi - Needham & Company

Okay. And one of the points you made in market perspective, like in similar electronic application seemed to be one of the big drivers behind the scene. Can you be more specific as to what you are referring to there? Is it more in the computing side or is this more on the home electronics front?

James Donahue

It is more on the home electronics, the mobile electronics but not necessarily PC although you look at some reports on microprocessor companies in the last day or two and they were reasonably good. But what I was referring to specifically was consumer electronics, we have had some customers come in and need significant quantities of new device kits in a very short period of time and I think they are just reacting to spikes in demand from some of their customers who have some hot [CE] products.

Operator

Your next question comes from the line of Kelly Anderson - Sidoti & Company.

Kelly Anderson - Sidoti & Company

Thanks for taking my question and congratulation on the job well done in the tough market.

Just wanted to touch on the new gravity feed handler, a little bit more, just trying to get a sense of how key role customers play in the new product development with the thermal handler obviously at the blessing of one of your [KMPU] guys and that is fine but I was just wondering if how involved they are in the process and what are the potential rollouts could be for these products?

James Donahue

Sure. As you pointed out Kelly in the thermal handler area where the target customers are a select few specifically the microprocessor IDM. It is absolutely essential that we work in tandem, very close relationship with the major customer because without a buy in from that customer you are not going to have a successful product because it is a relatively small market segment.

In the general purpose market, which is what both of our pick-and-place handlers and our gravity handlers address, it is important that we cover a broader slot of the market requirement. So, we solicit input from many customers, all of our large customers and in customers that were trying to target as new opportunities and then we integrate all the requirements in an effort to develop a handler that covers the largest available market where we can have the right blend of price capability and performance.

So, we do not necessarily march arm-on-arm the way we do with our thermal handler development with the customer. However, we always have customer partners that we proceed with for initial evaluations of our data site and prototype machines whether it is pick-and-place, whether it is gravity. We certainly have that with gravity. We would love to place at least one perhaps more of our new gravity systems with a customer in the fourth quarter of this year and then begin production deliveries the same mid-2010.

Kelly Anderson - Sidoti & Company

Okay, great. And then Jeff, I would like to ask you a question on the balance sheet. One of the key levers that we have talked about in realizing gross margin improvements from the outsourcing initiative is sort of flashing through some of the systems that we already have in inventory. It looks like the inventory levels were flat. I am just wondering what the breakdown is at this point. Are you able to clear some of these systems out so that we can start seeing some of our margin improvements?

Jeff Jones

We have seen this in the first couple of quarters because we have indicated that we have had a high concentration of our turns business, [break in audio] device kits and other, which the inventory that we carry for those products is a lot lower and so we are having to bite that inventory shipment in the same quarter, has less of an effect on the overall inventory balance.

Once we start shipping more systems related to our edges and our Summit and we will see the inventory drop in the future quarters.

James Donahue

I will just add one comment there Kelly, I mentioned in my remarks that we have this one large customer who has pulled in the ramp of the new test assembly facility and this may require that we ship handlers far earlier than we had anticipated, handlers that we would have built at the [CM]. We may now need to build in Poway.

So, not all these details are flushed out yet but that is quite possible in order to meet their delivery requirements on these initial orders and we have to build these units here in Poway, California our current facility.

Kelly Anderson - Sidoti & Company

Okay. Is there any way to gauge maybe how many systems you have to test in the field, for example on the Pyramid side before we could start shipping those systems over the [28.23]?

James Donahue

I think that is going to occur in the second quarter of next year and we are planning that based on our current forecast that is when the volume shipments will begin. So, the units we are shipping now even though there is significant quantities of them are still qualification or validation systems, they are not for production use yet.

Kelly Anderson - Sidoti & Company

Okay. And then just one final question for me on the modeling side, what is your breakeven level of revenue looks like at this point and when do you start reintroducing some of these previously cut costs?

Jeff Jones

Did you say previously reintroducing what, Kelly?

Kelly Anderson - Sidoti & Company

Similar cost cuts that you have been introducing in the quarter.

Jeff Jones

Okay. Kelly, our breakeven model from a non-GAAP basis and breakeven threshold revenue is $45 million and with respect to the cost cuts, we have taken a lot of actions between Q4 and Q1. We have realized benefit from those actions as you can see based in the direction of our operating expenses over the last few quarters and we brought the non-GAAP locked down significantly over the last couple of quarters.

So, no plans currently to take any further significant cuts, certainly as things turned worst in Q3 and Q4 then we take another to look at that. But at the moment, we have no plans on the drawing board to take additional significant actions in other area.

James Donahue

Kelly, on the flipside of that maybe if your question was…, there seems to be some improved conditions here even though maybe just likely but nevertheless improve and we are planning to restore some of the cuts we have made in the past and my answer to that would be no. I think, yes, I want to see a clearer indication that business has indeed improved. We have been through false starts and level dips and all these kinds of things in the past. So, I think it is encouraging that business seems to have improved but we are still at very low level. Semi backend test and Semi bookings are up 400% but still 52% below what they were a year ago and I think 70% off what they were at the 2006 peak.

So, it is not time to really seriously, yet, think about backing up on any of these costs control measures that we have implemented.

Operator

(Operations Instructions) Mr. James, it appears there are no more questions at this time. I would like to return the call with you for any closing comments?

James Donahue

I would like to thank everyone for attending our call today and we look forward to speaking to you when we report our third quarter earnings. Thank you and good day.

Operator

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. Thank you very much for your participation. Have a wonderful afternoon.

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