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Nanometrics Incorporated (NASDAQ:NANO)

Q2 2009 Earnings Call

July 30, 2009 4:45 pm ET


Tim Stultz - President and CEO

Jim Moniz - CFO


Gary Hsueh - Oppenheimer Inc

Weston Twigg - Pacific Crest

Michael Ameri - Americo Inc


Welcome to the Nanometrics second quarter 2009 financial results conference call. Before we get started, I would like to call your attention to the following Safe Harbor statement. This conference call contains certain forward-looking statements within the meaning of Federal security laws. These statements are based on management's current expectations and involve risks and uncertainties that may cause actual results to differ materially from those described in the forward-looking statements.

Factors that could cause such differences include, but are not limited to, changes in demand for the company's products, changes in the company's ability to ship its products in the timely manner, changes in business or economic conditions and the additional risk factors and cautionary statements set forth in the company's Form 10-Q for the quarter ending June 27, 2009 and in the other reports, which the company files with the Securities and Exchange Commission and incorporates herein by reference.

Leading the call today will be Tim Stultz, President and CEO of Nanometrics. A Q&A session will be held at the end of the call. Until that time, all participants will be in a listen-only mode.

I would now like to turn the call over to Dr. Tim Stultz.

Tim Stultz

Good afternoon everyone. Thank you for joining us for Nanometrics second quarter 2009 conference call. With me today is Jim Moniz, our Chief Financial Officer, who will be reviewing our financial results following my prepared remarks.

Today we are pleased to report that we are experiencing improvements in our served markets, which have translated into significant revenue growth in the second quarter.

This growth combined with our aggressive efforts to restructure operations and expand our served markets through new product development and strategic acquisitions, puts us well on track to deliver above average performance, through operational and earnings leverage, as industry spending continues to increase.

Highlights for the second quarter include, a 44% increase in revenues quarter-on-quarter, A nearly 50% improvement in our gross margin from 28% to 41%. Record service gross margins up 50%. And the completion of the acquisition of Unifire product line, which firmly establishes us in the rapidly growing advanced packaging market.

Like every company in our industry, and indeed nearly every durable goods manufacturer, we have experienced a significant decline in our core business over the last several quarters, due to the global economic and industry downturn. This downturn has largely obscured much of he progress we have made in improving our business model and fundamentals, and overall strengthening of our business outlook.

Specifically, over the last several quarters we have consistently lowered our breakeven level, increased our commitment to outsource manufacturing, and remain steadfast in our commitment to deliver improved performance, by focusing on three key areas.

First, restructuring of operations to improve our operational efficiency. Second, strengthening our competitive position within our served markets and lastly by expanding our served markets.

I would like to briefly report on our progress in each of these areas. First, restructuring of operations. Over the last several quarters, we have reported on our progress in shifting fixed costs to a variable cost structure, consolidating the operations, expanding our outsource manufacturing, and reducing our operational expenses and cash breakeven level.

In Q2 we reduced our ongoing operational expenses by an additional 9%, bringing our cash-based operating expense to $8.5 million, our sixth straight quarterly reduction in this area. As a result, our cash breakeven revenue level declined for the sixth quarter in a row to $19 million.

At the same time, buoyed by an all time record service gross margin of 50%, we increased our total gross margin to above 40% for the eighth time in the last nine quarters and realized a 71% incremental gross margin, compared to the first quarter.

These gross margin results are direct indicators of our progress in four areas. Improvements in product quality and performance. Second, increased customer satisfaction. Third, strengthened operational leverage and fourth, follow through on our stated strategy to systematically monitor our customer base for upgrade opportunities.

Of critical importance to our shareholders, these improvements have by and large been achieved through fundamental restructuring of operations, leaving intact the infrastructure to respond to and support increased revenue growth and market expansion with improved efficiency and earnings leverage.

Our second area of focus has been to strengthen our competitive position within our served markets in order to benefit disproportionately from increased capital spending, which is now beginning to occur. Like all best-of-class companies in our industry, we continued our investments in R&D and last year developed new product offerings for each of key served markets of thin films, OCD, overlay and integrated metrology.

We have taken advantage of industry downturn to introduce and qualify these products for next generation applications and capacity spending, and have subsequently experienced some key design wins.

In addition, we are particularly pleased with customer adoption of our Lynx metrology platform, a highly differentiated architecture ,which offers our customers most versatile and lowest cost of ownership approach to inline process control metrology. This platform has already been accepted for high volume manufacturing implementation and we have received multiple follow-on orders accordingly.

Our final area of focus has been to increase the size of our served markets, through new product development and strategic acquisitions. In the new product development area, we have leveraged our core competencies and expanded our product offerings to the solar photovoltaic and high brightness LED markets, where we have already experienced an expansion of our customer base and revenues from new products.

We have also developed a business processes and demonstrated the management talent to identify, acquire and integrate inorganic business opportunities. In a little more than one year we completed two key strategic acquisitions, each of which increased our footprint in our established markets and importantly expanded our served markets.

Notably this acquisitions meaningfully increased our business opportunities, while being non-dilutive to our shareholders. Specifically, our acquisition of Tevet last year added to our integrated metrology OEM base. While also adding inline thin film metrology capability for high volume solar photovoltaic manufacturing. And our most recent acquisition of the Unifire product line, firmly establishes us in the emerging and rapidly growing area of advanced wafer-scale packaging. Specifically for Wafer Bond Interconnect and through Silicon-Via applications. These two acquisitions alone have increased our served markets by at least one third.

Last quarter, we reported that we believe Q1 was a trough revenue quarter. We continue to believe the industry has turned the corner from a psychology of uncertainty, which caused our customers to delay and overhaul their capital spending plans to a return of more normal albeit conservative quarter rates. We saw this improve towards the end of the quarter and that it has continued so far in to the third quarter.

Looking forward, we see continued improvement in capital spending. Particularly in technology buys for next generation devices and architectures. We are encouraged by the reception to our new products and are optimistic about the growth opportunities in our expanded served markets. With our current visibility and outlook, barring any external macro-event, we are confident that revenue growth will continue in the third quarter.

In summary, we continue to have confidence in our business model. We are cautiously optimistic about the near-term business environment and we are confident in our ability to deliver improved performance to our shareholders.

I will now turn the call over to Jim Moniz.

Jim Moniz

Thank you Tim. Nanometrics' press release containing second quarter fiscal 2009 results was sent out by Business Wire today July 30 around 1 P.M. Pacific Daylight Time. The press release may also be found on our website at

Also on our website, a reconciliations to non-GAAP figures referred to in our prepared remarks, such as ongoing cash-based operating expenses and cash-based revenue breakeven.

Second quarter revenues of $14.5 million were up 44% from the previous quarter and were down 39% from the second quarter of fiscal year 2008. Revenue by geographic region is based upon the shift to or first-in-use destination. During the quarter, the break down was US at 46%, Korea at 25%, Japan at 15%, and rest of world at 14%. Revenue by product type was materials characterization at 13%, standalone and integrated metrology at 42% and service at 45%.

Gross margin in the second quarter was 41.4% compared to 28.3% in the previous quarter and 42.4% in the second quarter of fiscal year 2008. The higher level of gross margin was primarily the result of higher revenues, better margins for our service business and an overall benefit from our operational cost reductions.

Service gross margins, were 50.1% driven by high upgrade business, as well as continued improvements in our core service gross margins.

Total operating expenses in the second quarter were $12.5 million compared with $11.9 million in the previous quarter and $29.1 million in the second quarter of 2008. Included in total operating expenses were $1.9 million in impairment charges due to the closure of our Korean manufacturing facility and the resulting write-down of the cost of our building to its fair value, $0.4 million of restructuring cost due to further headcount reductions, and $0.3 million for amortization of intangible assets.

Ongoing cash-based operating expenses were $8.5 million in the second quarter compared with $9.1 million in the previous quarter, bringing our cash-based revenue breakeven to $19 million. We estimate the cash-based revenue breakeven will increase by approximately $1 million with the integration of the Unifire product line acquisition which will increase our ongoing cash-based operating expenses.

Interest and other expense in the first quarter was $0.9 million and included $0.5 million associated with losses on foreign currency. The net loss for the second quarter was $7 million or $0.38 per share. Cash came in at $14.5 million, which was $2.4 million below the previous quarter.

Back in December, we gave one of our customers extended terms on a $3 million letter of credit, which is due to be paid mid July. So we decided to borrow $3.5 million against our line of credit in order to reflect a more appropriate cash position. We have since paid back these borrowing and we now have available the full amount of our $15 million line and we are well within all of our covenants.

Account receivable came in at $14.9 million, which was higher than the previous quarter by $4.6 million driven by higher revenues. DSO was flat with last quarter at 92 days. Inventory came in at $34.2 million, which was an increase of $1.6 million from the previous quarter.

We added $2 million this quarter for the acquisition of the Unifire inventory from the Zygo strategic business partnership. Without this addition, our inventory would have decreased by $0.4 million. We are still confident that as revenues increase inventory will decrease and be source of cash.

Our tangible book value now stands at $3.77 per share. We ended the June quarter with a headcount of 402 employees, including 13 new hires related to the acquisition of the Unifire product line from Zygo. This compares to 414 employees at the end of March.

As Tim said, with our currently visibility and outlook barring any external macro event, we are confident that revenue growth will continue in the third quarter, wherein we will benefits from operational and earnings leverage, resulting from the improvements we have made to our business models.

Going forward we will continue to drive execution in operations with a particular focus on balance sheet management and the generation of cash from inventory.

That concludes our prepared remarks and now I would like to open up the call for your questions.

Question-and-Answer Session


(Operator Instructions). And your first quarter comes from the line of Gary Hsueh with Oppenheimer Inc.

Gary Hsueh - Oppenheimer Inc

Thanks for taking my question. Let me just try and back track here just to get my numbers right. Are you guys basically now combining standalone and integrated and that was 42% in June off of 17% in March? Is that correct?

Jim Moniz

Yes, that’s why we have been reporting it.

Gary Hsueh - Oppenheimer Inc

Okay. Great, and then as you go forward in September, a lot of the process to manufactures are starting to step it up in terms of shipment. I am just wondering, I know you don’t break down the mix between standalone and integrated.

But is there probable mixed shift more towards the integrated side in September and December with the process, to shipments really stepping up or there really no change here in terms of that mix within integrated and standalone?

Tim Stultz

Yeah. The integrated -- first of all Gary, thanks for listening in and the questions. The integrated part of business has been pretty low over the last several quarters. Because it is driven almost all by capacity, issues with process equipment. And we will expect that as our process equipment shipments increase and based on the OEM relationships we have, we would see a pickup in that area. So there might be a relative shift.

Although the growth in the standalone side of the business is actually growing, its picking up at higher pace than it had in previous quarters. We are seeing some very good signs in particular in the LCD arena.

Gary Hsueh - Oppenheimer Inc

So, there is really no impact, there are really no push and takes really in terms of your product gross margin, as I look out here into the September quarter. Its really more about increased unit volume and fixed asset or cost absorption?

Tim Stultz

Yeah. The primary benefits on the product side will be on the absorption part of it. The product pricing and value propositions have been holding really well and so as we get some real improvement, in fact the absorption you should see improvement in the product margins.

Gary Hsueh - Oppenheimer Inc

Okay. And also if I can kind of just enquire about the mix of business between product and service. Again, some the process equipment guys are seeing a little bit more of a mixed shift from service and field upgrades to just outright system shipments going from June to September.

Is that the same way you would characterize your business going from June to September, more of a rotation towards product shipments instead of service or field upgrades that really kind turn the gross margin number on the service side to 50% in the June quarter?

Tim Stultz

So, I think the way they try to look at that Gary, is that, while I have just seen improvements in both areas, the upgrade business has been very good for us and continues to be good and supports and as you know it's reported within the service area. So, you have seen a growth of total reported service revenues.

But as a percentage of total revenues you would expected to see it become a declining percentage, simply because our standalone business in particular in the last quarter have been so low. So, as a total representation of revenues service have higher visibility. But I see growth in both those areas.

Gary Hsueh - Oppenheimer & Co.

Okay. Great. So, you are still not providing any guidance, but any expectation of how that helpful might be for inorganic revenue contribution from Unifire in Q3?

Tim Stultz

We are not going to be breaking out the inorganic part right now. Our guidance is, as you pointed out and obviously is more directional. As we look into Q3 we think that Q3 against Q2 probably is going to have a similar performance of energies as Q2 did over Q1.

Gary Hsueh - Oppenheimer & Co.

Okay. And what should be the expectation in terms of working capital? I know that inventory numbers just really just picked up from, a step up in terms of inventory that you have taken in from Unifier but going forward with all of the kind of inorganic issues kind of settling out, what should we be modeling or expecting in terms of inventory turnover and working capital management here in September, December quarters?

Jim Moniz

If I look at the next quarter, as we said, we’ve taken our breakeven down to about $19 million, we expect that may go up about a $1 million. So depending on the direction Tim gave in terms of potential revenue I would expect that the cash from operations, should essentially be breakeven.

Then the issue there will just be how much does revenue grow. From a working capital standpoint and I think you will see decrease in inventory. We have seen a shift in inventory recently from raw materials to their width in finished goods.


Your next question comes from the line of Weston Twigg, Pacific Crest.

Weston Twigg - Pacific Crest

Hi, just I wanted to ask a little bit about the material characterization businesses, the business is not terrific, there was only 13% of revenue. One component of that I know is LED, which Vega had very strong commentary about this week. I am just wondering if you are seeing a pick up in the LED business heading into the September quarter?

Tim Stultz

Yes. Well, thanks for calling in. I guess a couple of comments just to help you understand the materials characterization part of our business. So historically a lot of the revenues reported into material characterization came out of our wafer substrate manufacturing side and was bundle into material characterization, which are pretty high end, high ASP tools and now as the capacity and number of wafers that have been processed have dropped in, we have seen a decline in the sale of our specific product.

The good news is that on the materials characterization over the last couple of quarters there has been mostly almost exclusively both on the high-brightness LED and in the solar photovoltaic. And in this quarter it was almost exclusively in the high-brightness LED.

We've seen a significant uptick in both the number of customers that are buying our high-brightness LED products. As well as the regions that we are serving. That's a really good news to see, albeit the other side of that is that these are lower ASP tools, so to it will take a while before they actually start to move the needle on total revenues.

Weston Twigg - Pacific Crest

Okay that's helpful but the trend looks like its improving as we go in to Q3?

Tim Stultz

Yeah the trend has improved quite substantially and significantly. On the selling [details], I think we had our press release out a weeks ago that indicated we had seven new customers on high-brightness LED. So we are getting a very good reception to some of our current as well as some of the newer products that we introduced in the market. And we see that continuing to be a good part of the good news story.

Weston Twigg - Pacific Crest

And then, on the overall order side I would assume we have a book-to-bill over one if your guiding revenue to be up in Q3. Is that correct, a nice order uptick in Q2?

Tim Stultz

We don't report the book-to-bill as you know but what I -- the indication I like to give is that our current bookings activities our order activities our quotation and lead time discussions are all good strong leading indicators that we would expect, continued improvement in the top line going in to Q3.

Weston Twigg - Pacific Crest

Okay. And then do you have any -- can you give any commentary on current OCD run offs? I mean have you had any recent wins that you can talk about or any selection closures?

Tim Stultz

Nothing new that we can report on, there is some very, very encouraging signs and we think that this is going to be a big part of our story going forward.

Weston Twigg - Pacific Crest

Okay. And where there any 10% customers in the quarter?

Tim Stultz

Yes, we actually had two, one was Samsung and the other one was WD.

Weston Twigg - Pacific Crest

Okay. One final question, just wondering how many Lynx sales or shipments were there in the quarter?

Tim Stultz

We don’t give you a specific unit disclosure on that. But there was follow-on revenue from the Lynx as well as additional modules on to them.


The next question comes from the line of Michael Ameri with Americo Inc.

Michael Ameri - Americo Inc

Hello, guys. Congratulation on a great quarter, considering the excellent margin number is. I am just concerned about the $1.9 million charge related to closedown of your Korean manufacturing facility. A couple of years ago in the days of peak in stock we thought that if you are going to Korea in order to save and etcetera, does this mean that your manufacturing facility, where is it now? Is it like in this part of the world or in the Orient?

Tim Stultz

First of all thanks for calling in Michael, I appreciate the comments. About two years ago, almost two years ago when I joined the company we had five manufacturing sites distributed around the world and we clearly had a lot of fixed cost and absorption issues. And we look hard at what we were doing and we realized at the same time we had almost nothing in the outsource manufacturing.

So our strategy going forward was to reduce our fixed cost, through a variable cost structure, increased the number of or the percentage of our total systems been manufactured at third party sites on turnkey operations. And Korea was just a last step in that activity. We still have two facilities in Korea, one was service and applications and customer support, and the other one was the manufacturing. We closed down the manufacturing and write-off is associated with the way we're carrying the building on the books and the fact is that we are now going to sell the building.

Michael Ameri - Americo Inc

You are actually one of the first semiconductor companies to expect slow lower sales and I found numbers you called for earning 7% of your workforce. And, I hope you will be one of the first people and you are telling as things are coming around. We have all the faith in you because we have been doing really a great job especially how you are achieving the margins numbers. So, good luck and keep us happy shareholders.

Tim Stultz

Thank you very much. I appreciate your support.


Your next question comes from the line Marty Alban with Horizon Networks. Please proceed.

Marty Alban - Horizon Networks

Hey, Tim. Actually it's Marty Alban with Horizon Networks, congratulations Tim and your team. The numbers really look good. It looks like the churn is here. As a shareholder and we have a lot of other customers as shareholders, what I would like to say, I guess you guys are out of blackout period now as you released the numbers. I would love to see, Tim and some of the management people since there is a churn here and it's been announced, I would like to see some support.

Can we count on you for some insider buying, which would really help shareholder value and that would be a very positive standpoint from PR standpoint and the shareholders that are buying now they want to be reinforce that you were on the same side of the fence here. Can you comment on that and tell us if you could support us?

Tim Stultz

Well. First of all we are strong believers in the company and we all appreciate your support. You can imagine that there have been certain restrictions that we are done by, when we are involved in strategic discussions such as the one recently with the acquisition ZYGO product line and also the one with Tivet and if you think about the time, duration and activities of those, they put certain restrictions on those of us who are directly involved in those negotiations and restrict and it constraints our ability to participate.

As a senior manager of the company and I look back where the stock was six months ago I would personally like to have been a major beneficiary of the recent runup.


At this time, there are no further questions. I would like to turn the call back over to Dr. Tim Stultz for closing remarks.

Tim Stultz

Thank you very much. In closing, I want to give special recognition and thanks for the extraordinary efforts of our employees for their sacrifices and innovative ideas, which made this performance possible and to our shareholders for their continued confidence in the Nanometrics team.

Thank you again for calling in. We look forward to updating you on our third quarter results conference call.


Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect and have a great day.

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