Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

KLA-Tencor Corporation (NASDAQ:KLAC)

F3Q 2014 Earnings Conference Call

April 24, 2014 17:00 PM ET

Executives

Ed Lockwood - Senior Director, IR

Rick Wallace - President & CEO

Bren Higgins - CFO

Analysts

C.J. Muse - ISI Group

Saqib Jalil - JPMorgan

Farhan Ahmad- Credit Suisse

Tim Arcuri - Cowen & Co

Romit Shah - Nomura

Weston Twigg - Pacific Crest Securities

Srini Sundararajan - Summit Research

Mehdi Hosseini - Susquehanna Financial Group

Mahesh Sanganeria - RBC Capital Markets

Patrick Ho - Stifel, Nicolaus & Company

Edwin Mok - Needham & Company

Operator

Good afternoon my name is Jamie and I will be your conference operator today. At this time, I would like to welcome everyone to the Third Quarter Fiscal Year 2014 Earnings Call. (Operator Instructions). Thank you. Ed Lockwood, with KLA-Tencor Investor Relations, you may begin your conference.

Ed Lockwood

Thank you, Jamie. Good afternoon, everyone, and welcome to our conference call. Joining me on our call today are Rick Wallace, our President and Chief Executive Officer; and Bren Higgins, our Chief Financial Officer.

We're here to discuss third quarter results for the period ended March 31, 2014. We released these results this afternoon at 1:15 p.m. Pacific time. If you haven't seen the release, you can find it on our website at www.kla-tencor.com or call (408) 875-3000 to request a copy. A simulcast of this call will be accessible on demand following its completion on the Investor Relations section of our website. This quarter we have prepared a brief slide presentation to supplement this earnings call and those slides can also be found on KLA-Tencor’s investor relations website.

There, you'll also find a calendar of future investor events, presentations and conferences, as well as links to KLA-Tencor's SEC filings, including our annual report on Form 10-K for the year ended June 30, 2013, and our subsequently filed 10-Q reports. In those filings, you'll find descriptions of risk factors that could impact our future results.

As you know, our future results are subject to risks. Any forward-looking statements, including those we make on this call today, are subject to those risks, and KLA-Tencor cannot guarantee those forward-looking statements will come true. Our actual results may differ significantly from those projected in our forward-looking results.

More information regarding factors that could cause those differences is contained in the filings we make with the SEC from time to time, including our fiscal year 2013 Form 10-K and our subsequently filed quarterly reports on Form 10-K and current reports on Form 8-K. We assume no obligation and do not intend to update those forward-looking statements. However, any updates we do provide will be broadly disseminated and available over the Web.

With that, I'll turn the call over to Rick.

Rick Wallace

Thanks Ed. I will begin with an overview of the key developments during the quarter followed by our perspective on the current demand picture and the industry CapEx outlook for 2014 and then guidance for the June quarter. I will then turn the call over to Bren for his financial commentary.

KLA-Tencor delivered another solid quarter in Q3 FY 2014 benefiting from our market leadership and solid operational execution. Revenue in Q3 was in the upper half of guidance at $832 million. Gross margin was 59% at the upper end of the guided range and earnings per share also finished above the range of guidance at a $1.23 per share.

KLA-Tencor strategic objectives are focused on achieving superior long term growth and market leadership while delivering sustained operational excellence with the ultimate goal of delivering industry leading products to our customers and superior returns to our shareholders. Our financial results for Q3 demonstrate continued strong execution against these strategic objectives.

Now for some perspective on the current demand environment, new orders for March was $702 million finishing at the low end of the guided range for the quarter as bookings from foundry and logic customers fell below their original forecast for the quarter. KLA-Tencor bookings result in Q3 is consistent with the widely reported slowdown in leading edge logic demand seen in the industry today as customers have delayed plans for additional production capacity for 20-nanometers following a strong initial ramp.

In the significant yield challenges the market leaders have encountered an early development of the 16, 14 and 10-nanometer nodes have created uncertainty over timing of these transitions in calendar year 2014.

For KLA-Tencor our market leadership and growth are driven through successful collaboration with our customers. Our mission was to help our customers navigate the ever changing landscape of increasing device complexity and yield challenges that accompany each major node transition.

Now in logic and foundry with the introduction of the new 3D gate architectures, the yield issues our customers are grappling with today are proving to be the most challenging that the industry has ever faced and even the smallest variation in process margin can cause significant yield losses for these devices.

Some of these issues with these process margin people are dealing with are CD dimensional changes, [spin height] [ph] control, process challenges such as difficulty in optimizing implant recipes, and then there are unique defect issues associated with new CMP steps, new etch steps that are all part of the FinFET process and that’s just a small sampling of the complex technical challenge that is associated with bringing new 3D device architectures to market.

So as the market leader in process control we’re working closely with our customers to resolve these issues but there is a steep learning curve and there is questions over the timing and resolutions of these yield issues and that has resulted in uncertainty and delaying plans for the ramping of FinFET technology and an uncertainty associated with the resumption of these programs.

Now in memory the market leaders continue to demonstrate a commitment to pushing CapEx investment in both DRAM and NAND. However they are also facing similar challenges to logic when they deal with their leading edge complexity and Phase I of new the China NAND fab but there is uncertainty over the timing of follow on production for 3D NAND and there is an expected volume of planar NAND capacity for the industry that’s clouding near term forecast.

Finally in DRAM customers are continuing their steady pace of investment in technology transitions in 2014 with the market leader currently ramping 20-nanometer conversion and various other conversion projects are underway as major players continue to invest in this market.

However we think these projects are sufficient to meet the bit supply requirements for 2014. So turning now to our industry outlook for the remainder of 2014. It's clear from our discussions with customers that despite near term slowdown in demand their intentions are continue to execute the strategies for growth at the leading edge and invest at high level to achieve and advance their competitive roadmaps.

It's also clear that issues related to leading edge device yields and high concentration of demand across the consolidated customer base and uncertainty over the timing of follow on capacities have introduced a degree of variability into our quarterly demand forecast and have made visibility into our customer production plans extremely challenging today.

While we acknowledge it's still early in the year, but given all the challenges forecast and the challenges associated with looking out through the rest of the year, we’re adopting a slightly more conservative yield of CapEx for 2014 and we’re now modeling industry growth at about 5% for the year.

With the upside hinging on order momentum resuming across a broader base of customers in sub-20 nanometer foundry and in 3D NAND. The rapid advance in chip complexity brings enormous challenges to leading edge chip designers and it fuels the growth for KLA-Tencor and although the cost complexity and time to market pressures of technology changes have always been a driver for process control market adoption, the transition to 3D structures and the introduction of the new multi-patterning techniques is a significant change in terms of device cost and complexity and it's proving to be extremely challenging for all of our customers. So in this environment the long term outlook for process control continues to be very favorable and as advance process control solutions are going to be essential for our customer’s success now and well into the future. So this obviously plays to our strength as a market leader in process control.

So in conclusion we’re pleased with the results of the quarter but we’re adopting a more cautious approach in the near term outlook. We remain focused on continuing our market leadership and optimizing value for our shareholders in 2014 and beyond.

Now turning to guidance for the June quarter, bookings are expected to be in the range of $625 million to $825 million. Revenue for the quarter is expected to be between $700 million and $760 million with non-GAAP earnings in the range of $0.75 to $0.95 per share.

With that I will turn the call over to Bren.

Bren Higgins

Thanks Rick and good afternoon everyone. My remarks today will focus on highlights of the financial results for Q3 and my perspective on current trends in the marketplace and our business model. As Ed previously noted beginning this quarter we will post a slide presentation with additional financial data and key operating metrics to supplement my commentary. You will find this information posted along with our press release in Investor Relations section of the KLA-Tencor website.

Now on to the results for the third quarter of fiscal 2014, revenue for Q3 was 832 million, 12 million above the mid-point of the range of guidance and fully diluted GAAP earnings per share were a $1.21, non-GAAP earnings per share finished the quarter above the guided range at $1.23 per share applying effective tax rate of 19% resulting from a number of factors including a higher mix of off-shore income and a release of certain tax reserves. Non-GAAP earnings would have been a $1.17 or $0.07 above the mid-point of guidance at our modeled non-GAAP tax rate of 23%.

In our press release and in our supplemental financial data accompanying our results, you will find a GAAP to non-GAAP reconciliation of the $0.02 difference in EPS. My comments in the quarter will be focused on the non-GAAP results which exclude the adjustments covered in the press release.

New orders in Q3 were 702 million, finishing at the low end of the guided bookings range for quarter. As Rick mentioned we’re currently experiencing a slowdown in leading edge demand. We’re encouraged the adoption by customers of our high-end inspection of metrology products in navigating these significant process transitions. As in fact today we’re positioned to achieve record bookings for both our wafer inspection and thin film critical dimension products for the full year in fiscal year 2014 therefore we believe the weakening demand in both the foundry and the logic segments is a near term episode for their current expectation for stronger order momentum to resume in the second half of the calendar year.

Turning now to our customer segment commentary for the March quarter. Foundry demand is 56% of new orders for Q3 consistent with our expectations as a percentage of the overall mix of orders, the lower in terms of absolute dollars compared with December and original forecast. Foundry orders were weaker than expected in Q3 as one large customer scale back demand for 20-nanometer investment and another customer delay leading edge capacity plans. We believe the near term foundry push outs are largely a timing issue of 20-nanometers as well as at sub20 nanometer node transition where our customers are grappling the significant yield issues from process and maturity in the early stages of 3D device development.

We expect to see foundry order growth in the second half of calendar ’14 with strong customer acceptance of our latest generation products driving demand. Memory was 23% of new system orders in March and down sequentially in absolute dollars from the prior quarter as expected. We believe activity to support Phase I of the new China based NAND project is now largely complete. All systems shipped by KLA-Tencor installed and are currently being used in production. Memory customer investment remains focused on 3D technology development and new capacity in NAND and technology upgrades in DRAM.

We have seen memory orders increasing in the second half of 2014 with the timing of tool deliveries for Phase II of the China NAND project to swing factor in the period. Logic was 21% of new orders in-line with the original forecast. Investment by our customers at 20-nanometer and below constituted roughly 63% of the orders we received in the March quarter.

Turning now to the distribution of orders by product group, wafer inspection was approximately 46%, Reticle inspection was approximately 13%. Metrology was approximately 15% of new orders and service was approximately 23%. Storage, high brightness LED and other non-semi was approximately 3%. Total shipments in the quarter were 731 million and below the mid-point of a guided range of 720 million to 780 million for the quarter as delivery timing for some order shifted in the June quarter.

Push outs of customer delivery requirements from the first half into the second half of 2014 related to sub20 nanometer projects in leading edge foundry and delays in NAND capacity editions have contributed to a lower than expected shipment profile over the next six months. June quarter shipments are expected to be in the range of 700 million to 760 million

In total we ended the quarter with just over 1.1 billion of total backlog comprised of 787 million of shipment backlog, orders that have not yet shipped to customers and expect to ship over the next six months and 308 million of revenue backlog for products that have been shipped and invoiced but have not yet been signed off by customers.

Turning to the income statement, revenue for the quarter was 832 million up 18% sequentially and in-line with guidance. Revenue growth in March reflect strong customer acceptance of new products. Gross margin was 59% down 80 basis points compared with the December quarter but at the upper end of guidance largely due to lower installation, warranty and retrofit cost in these originally modeled in January. Product mix was in-line with expectations.

Incremental gross margins were 55%, slightly better than what was modeled for the quarter. We expect gross margin to be in the range of 57% to 58% in the June quarter due to lower revenue volume and flat factory output. Total operating expenses were 226 million down slightly from December quarter and in-line with the guidance range of 225 million to 230 million.

We’re continuing to size the company’s quarterly operating expenses in the $225 million to $230 million range and expect it to remain in this range for the next few quarters. The timing of product development investments will lead to some fluctuation within this range quarter-to-quarter. Tax rate was 19% in the quarter below the 23% planning rate. At the 23% guided tax rate for the quarter, non-GAAP earnings per share would have been a $1.17. Going forward you should continue to use the long term planning rate of 23% for modeling purposes. Finally net income is 206 million or a $1.23 for fully diluted share.

I will turn now to the balance sheet and our cash flow statement, cash and investments into the quarter just over 3 billion an increase of 76 million versus the December quarter. Cash from operations was 238 million in the quarter up a 123 million sequentially and free cash flow was 220 million. In the quarter we paid a dividend of 75 million and repurchased 60 million of stock in an average price of $64.41. As of March 31, we had approximately 3 million shares available for repurchase under our current authorization.

Fully diluted shares ended the quarter just over a 168 million and are expected to remain roughly flat for the June quarter. Finally although the equipment industry is currently experiencing a near term reduced level of demand with uncertainty over the timing of orders the long term drivers for growth remained strong as we expect yield challenges associated with multi-patterning and FinFET to drive investments and process control by foundry and logic customers and with our memory customers demonstrating a strong appetite for investment in 3D NAND CapEx and 20 nanometer DRAM.

We remain focused on executing our long term strategies and enabling our customer success in an increasingly more complex industry and technical environment. With that to reiterate our guidance for the quarter as bookings are expected to be within a range of 625 million to 825 million, revenue between 700 million and 760 million. EPS of $0.75 to $0.95 per share.

This concludes our remarks on the quarter and I will now turn the call back over to Ed to begin the Q&A.

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from the line of C.J. Muse with ISI Group. Your line is open.

C.J. Muse - ISI Group

I guess first question, you guys are kind of in the catbird seat in terms of the issues that your key customers are facing and I’m intrigued by your commentary about an expectation for recovery in the second half. So curious given the work that you do on yield excursions, how you’re helping your customer solve these problems? What’s giving you that confidence that we will indeed see recovery either Q3, Q4?

Rick Wallace

Let me kind of give a backdrop, I think the 3D work people are doing whether it's FinFET or 3D NAND has been more challenging than our customers expected and I think that slowed down momentum as we came into the first part of this year. That said, there is lot of hard work going on. We’re working closely with customers across all major process technologies and they are certainly expressing a strong desire to get these problems behind them and resume their investment but until they do that we don’t see it happening. So there is some progress at the very leading edge, people are making some progress but I think it's going to take longer than was originally anticipated and as you know we can’t really forecast on a yearly basis but we do see some a pausing now and expectations we will see resumed investment toward the end of the year and maybe Bren can comment on some of the numbers around that.

Bren Higgins

Yes so C.J. I think that as we look at, we look out right now I mean certainly over the course of the last part of the March quarter we did see a fair amount of churn with our customers in terms of capacity planning, really driven by some of the challenges associated with these technology transitions both in NAND and the foundry in logic side. So I think as we have worked through these plans and started to think about factory loading in terms of delivery dates and so on I think we feel like we will be able to make some progress on this and we will see some recovery in the order momentum, certainly around foundry and logic in the second half of the year.

I think one of the sort of the upside factors in that relative to our more conservative outlook is that we would see broader based participation in sub-20 nanometer work in the second half of the year and I think if we see broader participation beyond the leaders then that could be something that could be a swing factor, we look at the second half of the year but right now as we look at it second half looks like it's probably up somewhere between 10% and 15% from an order perspective versus the first half of the year but we will have to see what it looks like when we get there, though as I said there has been fair amount of noise over the last month or so. So it certainly has us operating a little bit more cautiously as we look at this.

C.J. Muse - ISI Group

If I could ask a quick follow-up, now that we’re a bit into the vertical NAND movement I’m curious if there is sort of any update on your thoughts around process control intensity whether we’re in fact seeing that kind of 180 bps kind of increase and where you’re seeing that within your business?

Rick Wallace

We do see a lot of interest but I think it's still very early in the 3D NAND and there are some serious concerns about getting yielding processes that are economical from the manufacturer. So I think this is a case where there has been a bet on technology, it's not yet proven in terms of -- the leader or the people that are behind them that it's technically viable on an economic basis. So that you can get both the yield and the performance you need to make it make sense. So we actually see some degree of pause around that and that’s why I think that when Bren gets to the forecast for the year part of the swing factor is what happens late in the year based on what has happened early in the year. So there is some struggle, we do see more intensity but there are definitely some concerns about just getting the overall process to perform as expected from a yield perspective.

Does that make sense C.J.?

C.J. Muse - ISI Group

It does.

Operator

Your next question comes from Harlan Sur with JPMorgan. Your line is open.

Saqib Jalil - JPMorgan

This is Saqib Jalil on behalf of Harlan Sur. Last call you mentioned some weakness or slight delays in 28 nanometer [turnaround] [ph] capacity at foundry customers. We have heard 28 nanometer starting to pick up meaningfully for shipment in second half of this year. Are you guys anticipating that some of the foundry order activity near term is 28 nanometer driven or is it all 20 nanometer and 16 nanometer [inaudible]?

Bren Higgins

We did see some pickup in activity round 28, it was minimal. I mean one thing about a maturing node is, is we tend to see less process control intensity as the node matures and so we did see some activity there, we were kind of waiting for that for the last quarter or so and it wasn’t as much as we expected but we did see some there but I think as we look forward I see at least over the course of this year probably somewhere between 60% and 70% and what I expect to see in the foundry to be 16-14 centric.

So very little 28, although there is probably going to be some but most of it is focused on 16-14 through the rest of the calendar year.

Saqib Jalil - JPMorgan

And a quick follow-up, any updates on the large inspection for 10 nanometer development that pushed out to first half of calendar 2014? Shall we still expect revenues related to them in 2015 timeframe?

Rick Wallace

Yes, there is no change really in that plan. We actually ended up booking two of those systems in the March quarter and booked the third system about a week ago. So those are in backlog now but they won't ship until the early part of 2015. So that’s put a little bit of pressure on revenue through the second half of the year because that’s backlog that’s going to sit for a little while but given the customer we think it's very solid backlog and very consistent with our agreement with them in terms of lead time. So we expect those tools to ship in the early part of 2015.

Operator

Your next question comes from John Pitzer with Credit Suisse. Your line is open.

Farhan Ahmad- Credit Suisse

This Farhan asking a question on behalf of John. I just wanted to understand what are your expectation in terms of the mix for bookings in the June quarter, which A, as you expect the bookings to come from with regards to foundry versus logic versus memory?

Rick Wallace

Right. Here let me take a look at that for you, so looks like foundry is about 71% of June quarter, logic is 13% and memory 15% and of the memory mix 37% of that is NAND Flash. So back to after three fairly significant quarters from June through December of memory business we’re seeing something more similar to this 70-ish, 30-ish mix that going forward through here into 2014.

Farhan Ahmad- Credit Suisse

And in terms of the memory like it seems to be a pretty significant drop in your order intake and I just want to understand like how much is inspection specific and how much is industry specific?

Bren Higgins

Well I think around the -- I mean certainly NAND flash weakness was something I think that was probably more industry specific. I mean from a DRAM perspective we expected memory to be down in the quarter and it was relatively consistent with our expectations I think around some of the conversion activity. Our level of participation given the lower process control intensity on memory was lower and so with that level of activity out there, there was a piece of that we obviously didn’t participate in. So it was about in-line with what we were thinking through the March quarter.

Operator

Your next question comes from Tim Arcuri with Cowen & Co. Your line is open.

Tim Arcuri - Cowen & Co

Bren can you sort of -- last quarter I asked you the same question but given that the shipment guidance for June is like 100 million lower than what we thought it would be maybe three or so months ago, can you maybe hold our hand on what September quarter shipment number is going to be relative to the June number?

Bren Higgins

Yes so the shipment number I mean primarily it's lower because the bookings number, the midpoint of bookings was about 800 but came in at 700. So there was a lot of, there were some orders that we are expecting to ship that didn’t materialize. So in fact then we thought that shipments would be in excess of 800 and it's where we’re now at this 730 midpoint. As I said in the prepared comments, I think as we continue here I think September is flattish so without guiding it, as I look at it now given the expectations around bookings in the June quarter and how those will flow through in terms of impacting our shipments in September. I see sort of a flattish profile over the next six months if you will with picking back up in the December quarter.

Tim Arcuri - Cowen & Co

There was another one of your peers not in competition with you but in another company in your space that reported last night that has results that are significantly different than yours and it seems like they are being really uniquely helped by some of the multi-pass steps in DRAM and I’m wondering if there is any sort of perspectives, benefits that you might get from the explosion and multi-pass steps in DRAM as you down to 20 nanometer. Thanks.

Rick Wallace

Well we definitely see an increased intensity in memory as you scale and we have laid that out at SEMICON West and we’re continuing to see that trend play out. So we do see increased intensity both in memory either NAND or DRAM as we scale. So we have seen that that continues to hold and the investment continuing we will continue to see that kind of penetration off of our growth but as we said before overall the intensity in memory is lower for process control than there is in foundry or logic.

Operator

Your next question comes from the line of Romit Shah with Nomura. Your line is open.

Romit Shah - Nomura

I wanted to ask you about the Samsung GlobalFoundries partnership, it seems like in the past you know the foundry space has become very competitive leading to multiple pilot line project but recently we’re seeing evidence of collaboration and I wanted to understand from your perspective how that might impact just the total investment for FinFET looking out over the next 1 to 2 years. Thank you.

Rick Wallace

I think kind of (indiscernible) as kind of two functions from my perspective, one is it is a counter balance to the increase in cost of development that everybody is dealing with which is why of course people are driving that direction. The other thing that it certainly has done is created a much more rational market if you will in terms of guiding demand. So you’ve a customers are more careful and you don’t have multiple lines competing for the same business, so the other side of it would be if you had multiple players at FinFET all competing for the same end customer user business than what you result in as you do a lot of development and you built some tabs [ph] but you can’t fill them. So those rationalization actually I think makes the business more predictable over the long term and as a natural consequence is increase in complexity and cost. So from a planning perspective you generally favor it, what it does mean is you won't see as many spikes in demand but as we know from the past those are often meant by crashes once the capacity gets online and there is not a market for it.

So overall I think it's the reality, I think that it's not a surprise. The increasing intensity of the process control makes a lot of opportunities for us and I just think what it does it reduce the volatility but in the end it's probably the same aggregate investment, it's rationalize over time.

Romit Shah - Nomura

Do you expect to see more collaboration as well?

Rick Wallace

Well I think you’re down almost, you’re not quite to a prime number of players but you’re getting close. I mean they aren’t that many people left who are advanced development on 1x design and I think that as you go forward you are pretty much down to handful and in both memory and in logic and I don’t think there is a lot more room for consolidation of prospects.

There are industry consortiums where people do pretty competitive work that have been going on for a while to provide some very front end but still when it comes to process integration I think you’re down to just a handful at this point.

Operator

Your next question comes from Weston Twigg with Pacific Crest Securities. Your line is open.

Weston Twigg - Pacific Crest Securities

I was just wondering if maybe we could look ahead into 2015 if somehow yields get back on track for FinFET and 3D NAND and we do end up with maybe a 5% up CapEx year like you’re predicting, what you think demand could grow in 2015, what kind of a percentage increase do you think could happen?

Bren Higgins

I don’t know if we want to, we can size it I mean I think when you think about these transitions and how compelling they are I think from an end market perspective I think that some of the noise around how big 2014 is some of these rather significant projects actually start to shift into next year. So I think the way we’re looking at is given the strength of these transitions, I think the commitment from our customers towards them from the leading customers to the secondary customers I think everyone is very focused I think on investing to stay competitive in the business. So I think we think we have got a year or couples of years of CapEx growth in front of us but sizing it that I have hard enough time with June let alone thinking about 2015 but I think in terms of how we’re sizing the company and how we’re running the company is that we do expect the kind of business levels we’re seeing now and holding as we sort of move through into ’15.

So operating in this $700 million - $800 million range, doesn’t mean you won't have some quarter-to-quarter volatility in there but generally operating in that level and I haven't seen anything to make me think otherwise at this point.

Weston Twigg - Pacific Crest Securities

And just real quickly, can you also give us an idea on 3D NAND activity in terms of the number of companies you see working on that fan out, has it broaden out to all four being sort of actively I guess more than actively engaged not just really doing development work but maybe looking to add pilot lines.

Rick Wallace

I would say at this point no. I would think momentum since our last call has cooled on 3D NAND, you still obviously have a leader in it but I think the other players are in development but I would say right now it's kind of slowdown in terms of active plans to drive to production and we’re not forecasting it in this calendar year.

Operator

Your next question comes from Srini Sundararajan with Summit Research. Your line is open.

Srini Sundararajan - Summit Research

I just have only one question, do you expect any 10 nanometer orders this year?

Rick Wallace

Yes, some of our forecast is baked into the second half of the year, has some early development work around 10 nanometer beyond what we have already booked on the mass inspection side. So again I think it's part of the second half thesis but obviously it's I think dependent on how progression through the current node focus and as we get to 10 nanometer we will see if that schedule holds but right now we do have some activity forecasted for that.

Operator

Your next question comes from Mehdi Hosseini with Susquehanna Financial Group. Your line is open.

Mehdi Hosseini - Susquehanna Financial Group

Rick the first one for you, I’m looking at your shipment over the past several years, overall shipment has averaged around $3 billion and it seems to me we’re in this perpetual pause mode where we have a strong one or two a strong quarterly booking, and then things phase out and some may refer it to as a pause and to that extend my question to you is what is the confidence that all of these inflection points in technology like a 3D NAND and FinFET is going to materialize and would lead to growth in shipment. What is it's all it's spread over multiyear period and it will be more of a gradual. I hope you understood my question.

Rick Wallace

Well I think the -- yes let me just back it up and restate it and what gives us confidence that we’re going to outgrow WFE as a percent? Is that really the question?

Mehdi Hosseini - Susquehanna Financial Group

Yes and also with the caveat that we have averaged 3 billion of shipment over the past three years. We have had 1 or 2 quarters of strong momentum and then things slows down and we have these perpetual pause mode that we have every year. What gives you confidence that next year will be any different?

Rick Wallace

Well I will actually turn it back to Bren because he has got the specific numbers but for example for calendar ’14 when we modeled this year it depends on where you think WFE lands in terms of overall but we do expect to outperform the market for the year and Bren maybe you can walk through the numbers there.

Bren Higgins

Well Mehdi, I think it is clear and if you go look from our FY ’11 through FY ’14, they were almost finished with year [ph] that we have been operating between 2.8 billion and 3.2 billion of revenue and so clearly from a historical perspective that is unique. I mean I think it's one of the issues as why we think the industry driven by the end markets has changed fundamentally that we don’t have the cyclicality that we used to have and you can have quarter-to-quarter volatility with even some debts because of customer consolidation if one customer turns on or off but at the end of the day it's still relatively less cyclical and frankly maybe a little bit more predictable over the long run.

I mean I think it has changed and I think as we look at -- I think there are inflection points in the industry that can drive I think some growth but I think over, you know the area under the curve is much larger too right? Because you don’t have the volatility so you’re generating more aggregate revenue through a cycle and more aggregate obviously earnings and cash flow. So yes it's different and I think makes you know the quarter-to-quarter changes less relevant in terms of an indicator of something more broadly cyclical but I think overtime I think we can run the business more efficiently, we can generate more aggregate cash flow with less volatility. But the inflections will provide some opportunities for some relative revenue growth as well.

Mehdi Hosseini - Susquehanna Financial Group

So let’s say in a scenario where your shipment were to average 3 billion for a few more years, would there be any expense to the operating model to be able to adjust to it given where your margins are?

Bren Higgins

Well I think you know we’re operating with our operating model that we have had historically here so. I mean I think the challenge obviously in that scenario would be how do you improve your productivity and find cost offsets to maintain your spend levels in a consistent way. I mean overtime I think we have done a pretty good job with that certainly of inflections around program spending as you’re bringing new product to market. But in general I think it's what we have been doing historically but I think we just have to look for those opportunities and keep our focus operationally, just continue to deliver the kinds of operating margins that we have over the years.

Rick Wallace

But to your point let’s assume that there was an ongoing the market stayed flat, WFE stayed flat, the percent of process control stayed flat or went up slightly and we held market share. Then what you will be left with is growth in services which are actually continue to grow overtime but we don’t anticipate it will be flat, we think there are opportunities for process control that continue to increase as a percent but it's, we don’t see it doubling, it's not going to go from 15% to 30% but based on what we have seen overtime we do see some opportunities for that to drive growth and then you also get growth in services and as Bren says, our operational efficiency keeps improving over time as we drive the revenue with pretty effective utilization of our resources.

Operator

Your next question comes from Mahesh Sanganeria with RBC Capital Markets. Your line is open.

Mahesh Sanganeria - RBC Capital Markets

You had a pretty good year of memory over this last year. If my calculation is correct, your orders were up 100% and you’re back down to probably 2000 level run-rate. So I’m assuming when you talk about the second half pick up you’re expecting most of that coming from foundry and none from memory, probably more sluggish or down in the second half?

Bren Higgins

No Mahesh, it's Bren, so we’re expecting obviously some recovery from foundry and logic but we’re expecting memory to improve in the second half as well. I think right now it seems later in the second half and as I said earlier I think that’s one of the swing factors in terms of actual CapEx or WFE growth in calendar ’14. You know as you think about the next phase of capacity adds, at the China NAND flash fab I mean right now we’re planning for those orders late in the year. If those were to pull in and those tools were to ship into revenue in December certainly that would have an impact on the WFE number. So right now I plan for those for some of those shipments out in early 2015 but I think as we have seen even over the last couple of months that our customers can be fairly fluid in terms of their plan.

So we will see how that plays out but I expect a higher percentage of memory in the second half than we have in the first half.

Mahesh Sanganeria - RBC Capital Markets

And second question on the 2016, is it your opinion that 20 nanometer is completely billed out and the inflection you are waiting for is more 16 – 14 from three customers you’ve I suppose that are the three probably three customers on the foundry side. Is that the right way to think about?

Bren Higgins

I have to take to talk specifically about 20 given that it's a relatively very small number of people than (indiscernible). But I think that it is true mostly the investment we’re anticipating for the rest of the year is coming at sub20 nanometer investment on the memory and on the logic and foundry side. So that is true but that is the bulk of the investment we’re anticipating for the rest of the year.

Operator

Your next question comes from Patrick Ho with Stifel, Nicolaus. Your line is open.

Patrick Ho - Stifel, Nicolaus & Company

Rick I know this very hypothetical but looking out to the 16 and 14 nanometer ramp next year, at 28 you guys benefited from a lot of the yield issues that the customer initially had where you saw additional process control capacity buys. Given the significant challenges you mentioned with FinFET, could you see a repeat of that type of scenario when 16 and 14 go into high volume manufacturing.

Rick Wallace

Yes, let me explain how the dynamic works because we have seen this moving [ph] before. When people start with a new node usually there is a fair amount of investment in the front end including in process control but if they are struggling to get yield then it's a pause because there is no point in pouring a lot more investment in if the process isn't performing and if the process isn't performing as people expect, the costs aren’t there, there aren’t enough designs behind the customers so there is this natural pause but then they restart and when they restart and when they start getting more confidence you start bringing in more customers, then you hit another set of yield problems. So I would characterize it in three phases of yield challenges, you have the developmental challenges where we participate. In fact certain of our tool sets go in more of that phase and we have seen that penetration. Then in the ramp which is can be depending on the complexity of the node can be sometime later because they have to work out a bunch of issues, not all or in many cases not many of them may not be related to what our tools can help with. But in ramp then there is a huge opportunity. Ramp is arguably the biggest opportunity for process control is during the ramp phase.

Then in high volume it's more about securing the gains that people have made and that’s when the mix like in 28 and second half of last year moves towards some of the lower cost tools. So right now I would say we’re not completely done with development depending on which customers you’re talking about and we’re ways away from ramp. And when that ramp hits, I expect there will be plenty of opportunities. Does that make sense?

Patrick Ho - Stifel, Nicolaus & Company

That’s actually really helpful in terms of the color, in terms of the scenario. My follow-up question is just more I guess clarification I Bren when you mentioned a potential memory recovery of pick up in the second half of the year, is that totally biased towards 3D NAND builds or are there planar NAND capacity builds that could come in that second half recovery.

Bren Higgins

Well I think it's right now I would say it's biased towards V-NAND but I think one of the things that I think to Rick’s point earlier I think depending on progress around improving yield reliability and cost around that node that you could see some of the bit growth get met by expanding NAND or planar capacity to support that but right now I’m thinking about it in terms of V-NAND but it certainly could change and I think there has been a fair amount of information publically recently that there are some challenges there including what Rick just talked about.

Operator

(Operator Instructions). Your next question comes from Edwin Mok with Needham & Company. Your line is open.

Edwin Mok - Needham & Company

So follow-up to Patrick’s question, should the industry continue to face issue the V-NAND and some of your customer decide to spend a little more planar than rather V-NAND. how does the process of control intensity affect you with decent [ph] margin?

Rick Wallace

It's too soon to really say, I mean it depends on if they are scaling, how much they are scaling a planar. If they are not scaling then it doesn’t really, you know you go back the intensity but if they are scaling the planar there is a lot of opportunity there. The challenge has been with scaling planar is some of the technologies associated with that. There is less process control in margin in there and so you need more process control but the truth is we’re very early in the 3D NAND to know exactly what process control intensity is going to be until somebody has gone through a real ramp of it and arguably you would say more than one player because the characteristics are usually different for different players ramping.

So I would say it's early but our model say that they are not that different if they are similar kind of performance expectation and device. They are different technologies but the intensity is probably pretty comparable.

Edwin Mok - Needham & Company

And then you had talked a little bit about some of the shipments (indiscernible) back half as a result of this pause right? Have you seen more competitive pressure as a result of that? Has your competitor take advantage of the fact that business is slower and they try to get into a customer and say, hey qualify my queue instead because now the customer has more time to do that?

Rick Wallace

No I haven't seen any change in the competitive environment over there. I mean there is always a push by customers to get the most value that they can for their investment but if anything the thing that’s driving some of the pause is related to solving very hard problems and if anything we’re seeing more push on us providing more support and capability to our debugging some of these processes. So while I haven't seen a change negatively I would argue that we’re in some cases being relied on more heavily to debug.

Operator

There are no further questions at this time. Mr. Lockwood I will turn the call back over to you.

Ed Lockwood

Thank you Jamie. And I would like to thank everyone on behalf of the management team for joining us here today. An audio replay of today’s call will be available on this website later this afternoon and again we appreciate your interest in KLA-Tencor.

Operator

This concludes today’s conference call. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: KLA-Tencor's CEO Discusses F3Q 2014 Results - Earnings Call Transcript
This Transcript
All Transcripts