Varian Semiconductor Equipment Associates F3Q10 (Qtr End 07/02/2010) Earnings Call Transcript

Jul.30.10 | About: Varian Semiconductor (VSEA)

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Call End:

Varian Semiconductor (NASDAQ:VSEA)

F3Q10 (Qtr End 07/02/2010) Earnings Call

July 29, 2010

Executives

Robert Halliday – EVP & CFO

Gary Dickerson - CEO

Analysts

Kate Kotlarsky - Goldman Sachs

Paul Thomas - Banc of America Merrill Lynch

C J Muse - Barclays Capital

Harry Chondra - Deutsche Bank

Edwin Mok - Needham & Co.

Maja Veering - UBS

Patrick Ho - Stifel Nicolaus

Anupam Ghose - Credit Suisse

Patrick Ho - Stifel Nicolaus

Andrew Galagan - Times Square Capital Management

David Wu - GC Research

Operator

Good day, ladies and gentlemen, and welcome to the third quarter 2010 Varian Semiconductor Equipment Associates, Inc. earnings conference call. My name is Salie and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later we will be conduct a question-and-answer session. (Operator instructions) I would now like to turn the conference over to your host for today, Robert Halliday, Executive Vice President and CFO. Please proceed, sir.

Robert Halliday

Thank you. Good afternoon. I’m Bob Halliday, Varian Semiconductor's CFO. I want to thank you for joining us for our fiscal 2010 third quarter conference call and webcast. With me on the call this afternoon is Gary Dickerson, our CEO.

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

Today, we will discuss our current financial results and our overall market outlook and an update some of our growth opportunities including recent developments in the solar market. Now I'll review the third quarter results.

Third quarter 2010 revenue was $227.7 million. Third quarter revenue increased from the second quarter by $23.7 million, almost completely due to increased tool sales. This increase was driven by revenues from logic, foundry and memory customers. In the third quarter of 2010, unit shipments were approximately 47% from 38% memory and 15% logic.

Third quarter 2010 earnings per share of $0.60 was at the high end of our guidance of $0.55 to $0.60 per share this is our second highest ever quarterly earnings per share. The geographic breakdown of our revenue this past quarter based on fab location was Asia 80%, North America 14% and Europe 6%.

Third quarter 2010 gross margin were 49%, higher than our guidance and equal to second quarter gross margins. Gross margins of 49% for our total systems and non-systems business, representing record for Varian. These margins were achieved even with an increased mix of systems revenues relative to non-systems.

R&D expenses of $ 25.8 million were slightly above our guidance and approximately up $1.5 million from Q2 as we ramped spending in anticipation of product introductions in our core and new markets.

Marketing, general and administrative expenses decreased to $31.6 million in the third quarter. These expenses decreased slightly compared to the second quarter. We also had a restructuring expense of $400,000 in the third quarter. Income tax expense for the quarter was $10 million, resulting in effective tax rate of approximately 18%.

At the end of the third quarter our full time equivalent headcount was 1,627, up from 1,556 at the end of the second quarter fiscal 2010. 58 of the additions, out of the total increase of 71 were in operations and R&D. We had 254 contract employees in our total headcount of 1,627.

Our cash and investment balance decreased approximately $11 million in the third quarter to $389 million, primarily to support a higher level of working capital. Third quarter capital spending was $3.3 million, primarily for facility and IT improvement. Depreciation expense for the quarter was $4 million.

Now I will turn to our fourth quarter guidance. In the fourth quarter of fiscal year 2010 we anticipate revenues between $250 million and $260 million. We anticipate that gross margins will be approximately equal to our record 49% gross margins achieved in the third quarter of 2010.

In fourth quarter we expect R&D expense will be up $800,000 as we continue to develop products that will expand the adjustable markets for our technology. Marketing, general and administrative expenses will be up $1.1 million in the fourth quarter. Of the increase of $1.1 million, $850,000 will be for evaluation tools. This is in addition to the $600,000 increase in evaluation tools expense in the third quarter.

All these evaluations are for new applications development, new product introduction or share gain opportunities at semiconductor customers. It is also worth noting that our non-revenue evaluation shipments are concentrated at the largest customers with the largest CapEx budgets. Our operating margins should be up more than 2% in Q4 2010 from Q3 2010.

We expect our tax rate to approximate 17% in both the fourth quarter and fiscal year 2010. As a result in the fourth quarter of fiscal year 2010 we expect approximately $0.70 to $0.75 per share. We expect capital expenditures in the fourth quarter to be approximately $4 million.

Now I will turn call over to Gary for his comments.

Gary Dickerson

Thanks Bob. Today I will given an update on progress on our semiconductor implant business and I will discuss some very positive recent developments in solar, including the launch of Solion, our solar ion implant product.

In the semiconductor market, we are seeing an increase in memory shipments while projecting sustained foundry spending. Qualitatively, this positive outlook was reinforced two weeks ago at SEMICON, where customers discuss specific capacity expansion projects that were in their plants.

In 2009 we achieved a record market share of 75%. We continue to be optimistic that we will achieve a market share between 75% and 80% in 2010. This is being driven by several factors including; we recently received a large order from a major memory customer where we achieved 100% share for high current, medium current and high energy. We will ship the majority of the tools to this customer in 2011.

A continued strong position in high current. The architectural advantages of the dual magnet ribbon beam technology are increasing in value for future technology nodes. Particles have an increasing impact for next generation devices and this Varian advantage is one of the drivers for our continued, strong, high current market share performance.

Continued market share growth in Japan. We anticipate our Japan share will increase to more than 50% discount this calendar year. Our high current share is increasing and we are also making progress in penetrating additional high energy accounts. In Q4 we will ship nine tools to Japan that will revenue in the December quarter.

Additional account test penetrations for our medium current products. We had record medium current share in 2009 and we anticipate strong medium current share result again in 2010. We continued a high level of investment in new implant technology resulting in new tools in high current, medium current, high energy and PLAD.

We anticipate as these new product come to market, we will continue to widen the gap with our competitors. We also continue to see customer interest for our damage engineering upgrade for future device technology nodes. We have advantages in reliability, low particles enabling higher yield, device performance and productivity. With upgrades installed at six different customer sites and have run more than 100,000 device vapors.

Our unique ribbon beam and damage engineering technology provides high reliability and low particles, resulting in higher yield for advanced device technology nodes. We have a unique architectural advantage and the ability to go to minus 100 degrees centigrade. Customers have validated this capability provides better device performance for their next generation product.

Our architecture provides higher productivity at an equivalent temperature for damage engineering implants. In addition to our development of new applications in our semiconductor business, we are also taking our core precision material modification technology and expertise to potential new customers in solar and other markets.

We recently formally announced our entry into the solar market. There are some important factors to consider when determining the future value of this business for Varian. Varian is focused on the crystalline silicon segment of the solar market. This is by far the largest solar segment and is forecasted to continue to be the largest segment in the future. Varian has the potential to enable our customers to both increased cell efficiency and simplify the manufacturing process.

We validated increased cell efficiency with several customers and also validated the elimination of process debt. Using Varian’s Solion implanter customers can increase cell efficiency by at least 1%. The increase in cell efficiency comes from improvement in junction quality and improvement in activation and proprietary institute patterning to create a selective admitter without additional process steps. Our technology has the highest extendibility to advance cell designs including n-type substrates.

Many customers have n-type substrates in their road map to enable greater than 20% cell efficiency and eliminate light-induced degradation. There is a very high level of commonality with our high current implant tools. Solar is an adjacent market that leverages our core implant technology and our field support infrastructure. The commonality with our implant technology and field organization provides Varian with significant operating leverage as we ramp our sales into the adjacent solar market.

The customer response for our solar opportunity has been very positive. Some highlights include, we have received orders from two customers and we are in negotiations with others that could close the near future. We are engaged with 10 different customers. We anticipate that we will ship tools this calendar year to customers in the US, Europe and Asia.

Our demo backlog has recently increased from two weeks to two months. We are engaging in multiple joint development programs for end type advanced sales with a target efficiency of more than 20% and we introduced our solar implant tools Solion two weeks ago at the Intersolar Trade Show in San Francisco.

The reaction at the show both as a booth and in private meetings with customers was very positive. Customers interest in achieving lower cost through the elimination of process steps and higher efficiency through mono crystal Silicon end type wafers and selective [doping] process steps are very well aligned with Varian's roadmap and the flexibility of the Solion implanter to enable individual customers to gain differentiation with their own cell designs.

We will ship our first production Solion tool this quarter. By providing a road map to customers not only do we enable higher efficiency but we also increase the number of applications for Solion which will increase the Varian solar implant [tam].

Solar is one of the growth initiatives that we are pursuing to leverage our core intellectual property and capabilities for high incremental returns. These types of growth initiatives should significantly increase the total revenue opportunity for Varian.

We continue to widen the gap with our competitors and see our traditional markets with strategic evaluation tools to establish production tool of record at new customers and drive implant TAM growth through new applications development.

We also continue to look to solve tough, valuable problems for customers in adjacent markets using our differentiated assets. We are leveraging our core electro property and skills to raise the ceiling on Varian's opportunities.

Finally, I want to thank our customers and employees for their support as we rapidly ramp our business to respond to a dramatic increase in tool shipments to meet the strong demand for Varian products. We will now take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Jim Covello with Goldman Sachs. Please proceed.

Kate Kotlarsky - Goldman Sachs

Hi, this is Kate Kotlarsky for Jim Covello. I was hoping you could give us a little bit more color on the solar offering and maybe talk a little bit about the value proposition of your tool versus with the alternatives would be for your customers?

Gary Dickerson

The major thing is that we can increase cell efficiency for the customers and also eliminate process debt. So when you look at cost per watt, Varian compared to alternative solutions, we offer a great value proposition; very low, cost per watt and also high cell efficiency.

The other thing that’s really important to customers is extendibility from a roadmap perspective. So, many of our customers are focused on n-type substrates. And right now many customers tell us that we’re the best alternative for them in driving higher cell efficiency about 20%.

Kate Kotlarsky - Goldman Sachs

And what is the alternative source into your product?

Gary Dickerson

Well, right now its pockle defusion. And the issue with pockle defusion is that again, versus implant we have a superior junction quality so we have higher cell efficiency from that aspect. Also better [activation], which gives higher cell efficiency. We have selective emitter that we can enable for customers with no additional process steps, so all of those things are differentiated versus diffusion. And again, when you got to n-type substrates, that’s another area where customers really aren’t able to do that with diffusion processes today.

The other thing is with diffusion, you have edge isolation that you have to do because diffusion is on both sides of the substrate. We are single sided so we eliminate that process step. There is another glass strip step that you have to use with the diffusion furnace, then you don’t have to use with our solar implant technology.

Kate Kotlarsky - Goldman Sachs

And then maybe on your semiconductor business, I was hoping to get a little bit more color on the foundry side. May be if you can talk about from a geographic perspective, do you expect the strength in foundry to continue to compare merely from Taiwan or should we expect some other areas to pickup more significantly in the next couple of quarters?

Gary Dickerson

Yes, I think on the foundry business certainly Taiwan has been very, very strong for us but we also see very strong business from other foundry customers. So I think foundry for us going forward looks very strong in Taiwan certainly, but also outside of Taiwan.

Kate Kotlarsky - Goldman Sachs

And just one final question from me may be on the margin side. You have done a great job, Bob with the margins and obviously delivered better margin performance than you had expected. How should we think about margins going forward as your revenues continue to increase from current levels?

Robert Halliday

Okay while guided up in revenues next quarter. We said we are going to hold margins flat of 49%. The biggest variable, single biggest variable for us in gross margins is how much does equipment sales growth versus non-equipment products and things.

So we start a relatively big spike in equipment sales we could increase our operating costs and operating margins. But the gross margins might not go up because it’s a mixed issue. So the biggest issue for us is mix, so it's a mix between systems and non-systems and mix between specific tool types and also between regions.

So I think fundamentally we think we are on track to, we’ve been improving gross margins but a lot of mix issues post actively.

Operator

Your next question comes from the line of Krish Sankar with Banc of America Merrill Lynch. Please proceed.

Paul Thomas - Banc of America Merrill Lynch

Good afternoon this is Paul Thomas for Krish Sankar, I wanted to follow up a little bit on the solar announcement, so you’ve talked about the opportunity maybe growing for you. And in the past you’ve talked about $25 million to $30 million of revenue opportunity for next year. Is there any change in that outlook at this point or still pretty much the same?

Robert Halliday

Hi, this is Bob, I will you the official finance party line, so what we have said to investment community for a little while now is that this calendar year will revenues zero to three tools. Next year calendar ‘11 with revenue at $25 to $30 million and the year after in ‘12 revenue will be $100 million.

Now what I will add is that qualitatively we have increasing confidence into outlook for solar and qualitatively I will add that as any reasonable good CFO would do that, I have been reasonably conservative in the guidance I’ve given there.

But I would say again qualitatively the opportunity, the more customers we're engaged with the better the opportunity looks. If anything again I think there's a good opportunity to accelerate our penetration into that market.

Paul Thomas - Banc of America Merrill Lynch

Okay, and maybe on the outlook to step up it revenue from this quarter to next, are we seeing most of that come from memory or is it more of coming from founders, is it still a pretty even mix across the board?

Robert Halliday

We are seeing pickup in both segments.

Paul Thomas - Banc of America Merrill Lynch

Okay, and maybe any thoughts at this point on December quarter with the step up we see here in the September quarter.

Robert Halliday

I will say in the last two quarters, we previously gave guidance to ask you about the quarter after. So we feel pretty damn good about the December quarter, it looks real positive for us. I will give you a fact for it since I am webcast, for instance in the quarter just they were guiding to in September we have nine tools to Japan which represent a couple of interesting things, one is that we don’t revenue those tools to the quarter after. Two, we are giving good gross margin guidance next quarter even though Japan tools seriously are a little less for us and three, we feel pretty positive about the momentum into the December quarter so we feel pretty good about December.

Gary Dickerson

I would say that a good opportunity for us to have a record in terms of revenue in the December and the momentum is more positive than I’ve seen since I have been here.

Operator

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

C J Muse - Barclays Capital

I guess first question solely on can you talk about where you are in the life cycle in bringing that product to market. In the past without the investment here you guys were doing 50% plus incremental operating margins. I am curious when you feel like you've saturated the market with eval tools, the R&D spend is where it needs to be and that we can get back to that kind of incremental operating margins.

Gary Dickerson

Your question is the operating margins in the solar business, is that?

C J Muse - Barclays Capital

No, no its overall business. But, clearly, you're in the investment stage in the last couple of quarters that's weighed a bit on your OpEx. And I am curious as to when you think you'll kind of be at that steady state with eval tools out there for the Solion and that we'll be able to see a little bit more leverage in the model.

Robert Halliday

Well, right now we have some of the expenses with solar and no revenues. Next year we will have, we have said $25 to $30 million in revenue. Expenses, are quite reasonably steady, a little less R&D, a little bit wole SG&A to support the field. So I think that they are incrementally positive to where they are this year and next year. Then I think they are incrementally more positive in ‘12 but as we ramp revenues and gross margins grow the percentage and the dollars. So I think next year is an improvement over this year with the solar business. The year after is an improvement in terms of the impact in the corporate model. I think that's a positive next year because it’s a swing between all expenses no revenues. But that's the 50% for the total, it could be, it depends on the solar mix and stuff.

C J Muse - Barclays Capital

And then when you think about the revenue opportunity in 2011, how much of that will be with your core first customer and what are you projecting for additional customers.

Gary Dickerson

I think that again what we are seeing right now as I said we are engaged with 10 different customers. I think its going to be fairly broad. Certainly there are a number of the customers they were engaged with. We think we have a good opportunity to close business with over the next few months so I would say next year we should have system shipping to, I don’t know, between five and 10 different customers, probably more, closer to the higher end of that range.

C.J. Muse - Barclays Capital

So it sounds like the revenue number you never for 2011 is extensionally very conservative then?

Robert Halliday

I think you got a couple issues, one, hedge a little bit; two, I think we could shift the five to ten customers like share then you got to get the tools accepted. So, there is an acceptance period they could pull it out of the calendar year through.

C.J. Muse - Barclays Capital

And final question, can you update on where you are with plasma doping, the number of tools, ship revenue in the June quarter, your outlook for September, and an update on how you're doing in both the foundry and logic PLAD?

Robert Halliday

There were three last quarter and how many we prepared for next year? There is more than three next quarter. I think we are up to 55 through the end of June.

Gary Dickerson

So I think the other thing on PLAD, we anticipate will revenue our first logic PLAD tool this calendar year and with logic and flash, some potential other applications, there should be positive new market growth for PLAD also next year. It's not going to be significant from a revenue standpoint but certainly getting started in some other markets.

Operator

Your next question comes from the line of Harry Chondra with Deutsche Bank. Please proceed.

Harry Chondra - Deutsche Bank

The question is on how much incremental cost per watt does the Solion had to be manufacture in profit, net of the benefit in terms of reduced process complexity and increased conversion efficiency. Do you have any data points that you can share.

Gary Dickerson

We are engaged with customers, we're going through their cost models to understand each process step basically what the cost is.

Again one of the things that is beneficial for us is that not only we are increasing cell efficiency, we’re also eliminating process fab. So when we look at their cost throughout, it’s a marginal level. Basically we're at where they are at with their current or alternative processes with a higher cell efficiency.

And of course the real goal for everybody is they want to get the marginal price down to $1 per watt. And you certainly can't get there with multicrystalline silicon because there is a limitation in terms of how far you can drive efficiency. So p-type wafers, selective emitters, we are very competitive with any technologies that are out there today. We're alternative technology and we also have path to higher efficiency with the n-type substrates.

Harry Chondra - Deutsche Bank

So is there a way for you to say that is it an incremental cost or this will be a wash in terms of the benefits being offered by Solion?

Robert Halliday

Well, so Solion again, and every single case where we benched marked with customers in terms of cost per watt we’re at or below where they are at right now and we offer higher cell efficiency. In terms of the incremental CapEx, the payback period of time is one year or less basically.

And again, a very important factor is what are you going to do as the road map of all is over one year, two year three year period of time with the investment in our product they can certainly ramp current processes today. If you are focused on a p-type selective emitter but you can also then move to n-type substrates where you can go towards higher cell efficiency and now lighten degradation in the module, that’s also beneficial for customers for their future.

Harry Chondra - Deutsche Bank

A follow-on on the Solion, what modern structure will it, gravitate to eventually?

Gary Dickerson

I am sorry what was the question?

Harry Chondra - Deutsche Bank

In terms of the Solion margin structure, will it be…

Gary Dickerson

Margin structure?

Robert Halliday

Sure. The Solion tool for us will be at the corporate average in terms of gross margins in 2012, end of 2012 probably.

Harry Chondra - Deutsche Bank

And on the semiconductor side, how do you characterize the nature of the current competition? Do you see any margin pressure or potential for market loss?

Gary Dickerson

Well as we said, we are forecasting or we anticipate that we'll achieve market share this year between 75% and 80%. We had record market share last year of 75%, so will be at that number or higher in 2010.

Harry Chondra - Deutsche Bank

So based on that and the capacity (inaudible) coming into play, is it possible for you to exceed your peek revenue of roughly $200 million in the next couple of quarters/

Robert Halliday

Possible.

Gary Dickerson

Yes. Possible.

Harry Chondra - Deutsche Bank

And what gross margin should we assume at that level?

Robert Halliday

Well, it depends on how much we exceed the $300 million and what’s the mix. So we haven’t given guidance on that number yet.

Operator

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

Edwin Mok - Needham & Co.

First question I have, Bob, if you can help me just with revenue recognition. You mentioned there are nine tools that will not be recognized until December because they are in Japan. Is any tool that you shipped this quarter, or the June quarter, that you will recognize in the September quarter? I'm just trying to reconcile that.

Robert Halliday

Yes, there's probably about four.

Edwin Mok - Needham & Co.

Around four, okay, so there's roughly around incrementally five tools that got basically one quarter.

Robert Halliday

Yes.

Edwin Mok - Needham & Co.

And then you guys talked about the Solion tool that, first production (inaudible) that you plan to ship this quarter. Will that be recognized this quarter as well?

Robert Halliday

Solion, no, wont be recognized this. The production tool shipped this quarter won't be recognized this quarter.

Edwin Mok - Needham & Co.

So that will more likely be December quarter?

Gary Dickerson

Yeah.

Edwin Mok - Needham & Co.

Okay, great, just a logistic question. And then on the competition front, as you guys probably saw your competitor made some announcement regarding cost of penetration in some of the customer accounts, is there any way you can kind of give us more color if those you believe are in a share position? Is that just existing customer that they are playing with, or is that how do we kind of think about those? I think one specific customer they mentioned was in Europe, a large customer in Europe.

Gary Dickerson

Yeah, so those are all existing customers that they had before. The logic customer in Europe is I believe running somewhere around the 180 nanometer type devices very old technology.

Edwin Mok - Needham & Co.

Okay, that was helpful. Do you think that they might be using price as a lever to try to penetrate customers? Obviously, it sounds like they might be targeting some of the trade in that shop.

Robert Halliday

Yeah, I think commercial terms entered into with the customers particularly if we you talk D-RAM customers. So there's always a lot of price concern with those consumers.

Edwin Mok - Needham & Co.

Okay great and then one last question regarding the solar engagement that you guys have talked about, in terms of those customers they are you engaging, how many of them has already announced or have already have existing technology roadmap to get to, close to the 20% efficiency. Are all these customers just still looking for a solution or do they already have something developing themselves and they are looking at you guys as alternatives, how do you think about that.

Gary Dickerson

I think almost, I’d say 95% of customers in the solar market are really struggling to get above 95%. So if you look 95% struggling or maybe greater than 95% struggling to get above 20% and are engaging with 10 different customers most of the customers are not there and of course everybody is trying to drive towards some amount of differentiation, everybody is trying to drive towards $1 per watt price at the marginal level. So really that's the reason why we are seeing a very good customer response. We offer them the ability to drive down the cost per watt curve and also get towards efficiencies that are greater than 20%

Edwin Mok - Needham & Co.

But is it fair to say that some of these customers will be developing their own solutions and then you have to be competing against their internal R&D.

Gary Dickerson

No, again just for I have met and visited the customers, went into the fabs, talked to them about roadmaps. There are customers that have announced other technologies that they are working on. These are some of the customers that we are engaged with on joint development programs for the anti-substrate and so we have pretty good visibility in terms of what the customers are doing and I would say that all of them are struggling, not all of them, most of them, 95% of them are struggling to drive towards higher cell efficiency and low cost. You can get high cell efficiency with a very high cost but that not going to get you to a $1 per watt marginal price.

So the combination of high efficiency, eliminating the process steps, selective built in with no additional process steps. Again that’s the reason why we are getting a very, very strong customer response.

Edwin Mok - Needham & Co.

And then just one clarification there. So, you are asking a customer to buy this stream in all tools, right. Although there are 50 companies capital and therefore depreciation costs associated with it. But do you believe that would increase eficiency that incremental depreciation cost will be marginal or actually will help them.

Gary Dickerson

Well, what you have to look at is that we are also eliminating other process equipment. You don’t have edge isolation, you don’t have the glass strip strap that you have with diffusion. And then other technologies that are also trying to drive towards higher efficiency all add process steps. They don't subtract process steps. So when you look at the incremental CapEx you have to subtract the process steps that are eliminated and as I said earlier based on the discussions we have had with customer they pay that back in one year or less timeframe and then you look at basically how do these customers differentiate their business with higher cell efficiency? Again the competitiveness from a cost for life standpoint are all very attractive.

Operator

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

Maja Veering - UBS

Hi, this is Maja Veering for Stephen. A quick question on your PLAD tools, given the improved profitability of DRAM customers, do you think PLAD market could be larger than your original estimate of $100 million and just if you could give us a ballpark of what that could be?

Robert Halliday

Sure, I will give it a shot. It depends on how many applications are introduced, whether there's more on DRAM, Flash, foundry and logic. So I think it would stay just for the existing application space that's now in production and sort of an $80 million number there or maybe a little more. So that it roles out. If we get some of these other applications which we are pursuing in DRAM, Flash, logic and foundry it could grow. We've said that it could grow by about $60 million in next couple of years with ramps over a couple of years.

So I think if the few applications that we have as we noted earlier, tools out at logic foundry and with flash customers, we’ll then report to those tools. So we are reasonably optimistic that those are going to be approved.

Maja Veering - UBS

So, maybe roughly around 150 million? Is that a good fare?

Robert Halliday

I don’t think next year, because I think these applications, I tell you we shipped the eval tools to logic foundry and shipped one less in December and I think one in April typically to do the qualification, it takes a year and then you got make to sure it qualifies and then it ramps up production.

So I think you look at more, most of revenue opportunity in 2012.

Operator

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

Patrick Ho - Stifel Nicolaus

First off, Bob, the housekeeping stock options.

Robert Halliday

On COGS, we had an impact of 243 plus 185 which is about 4,30,000 and then on research and development, it was $1.178 million and marketing G&A was $3.708 million and then there was a credit on the tax line of 872.

Patrick Ho - Stifel Nicolaus

On the broader semiconductor side of things, on the memory side are you seeing any shift yet between your shipments of DRAM tools to NAND? What's the sentiment that you're getting from the NAND flash guys and whether they'll start picking up their CapEx spending as we head into the second half of the year?

Robert Halliday

Yes, we are seeing a pick up in projections from the flash guys. We’ve seen some of it happening and then we see a heavier waiting towards the end of the year. So we are seeing that happen. If you look at the projects that are out there to flash lines, Y4 is going to now, Y5 is even bigger next year probably and then the IMFS project in Singapore looks good towards the end of the year. Samsung Hynix look like incremental. So, it's happening, and it probably is going to grow.

Patrick Ho - Stifel Nicolaus

Great. In terms of PLAD, I know that you guys are down in the evaluation stages with the different customers. Is there any difference in the revenue recognition policy, similar to what you have with your Japanese customers, where there's a little bit of a lag time? Or are those going to be easily or quickly recognized as revenue upon shipment?

Robert Halliday

The way it works, just to give you a little bit of accounting 101 is when we ship a significantly new tool which is really new design, there is a number of tools we have to get accepted before we see revenue on shipments and in geographic regions, the only geographic region where we defer revenue across all tools is Japan because of the contractual terms. So in terms of PLAD once we get the evals accepted, that’s a mature tool. So we would recognize revenue on the other tools upon shipment.

Patrick Ho - Stifel Nicolaus

Finally, a broader strategic question for both of you guys. Now that you've entered the solar market, are you using the current technology? You guys have done a really good job of building cash over the last three to four years. Is there opportunities that you're keeping open of expanding your technology or process techniques where you can go out and find something to supplement what you currently are doing internally?

Gary Dickerson

Yes again what we are looking for are opportunities, the high value problems that we can solve, where we can bring some unique products to market with some sustainability and the opportunities that are adjacent market that leverage our core technologies are the one like solar that are the best opportunities for us. So there are others that we are definitely working on that, could be sizeable opportunities for us and as part of that process if we find something that fits in to some of these new opportunities.

Again in the adjacent markets that are synergistic with our core technologies, then we will definitely advantage of that. So there are good opportunities and there are things that we are looking at. Obviously we can’t talk about any specific areas.

Patrick Ho - Stifel Nicolaus

No, I was just wondering if you guys are evaluating, or if were you going to stick to your core technology. But it looks like you are going to be opportunistic if something pops up.

Gary Dickerson

We are looking at areas where we can leverage our core technologies in adjacent market and if there is something that’s synergistic with our core technologies where one and one is equal to more than two, three, four, five. Those are the kinds of opportunities that we will act on.

Robert Halliday

Let me give you a little color. We have looked at a whole bunch of stuff over the last five six years and none of them had frankly high enough returns or high enough hurdle rates and to get a high enough return, we need something that’s got a lot of leverage and that typically the stuff as Gary says is synergistic to either IP or skill sets or core capabilities, so that’s what the type of stuff we’d attracted to.

Gary Dickerson

I think the other thing again this concept of precision materials modification, certainly we are taking this from solar or semiconductor into solar. But there are lot of opportunities in other sizeable markets that we can take advantage of.

Operator

Your next question comes from the line of Satya Kumar with Credit Suisse.

Anupam Ghose - Credit Suisse

How do you see implant versus WAC going in 2010?

Robert Halliday

Yes, I think implant of growth, wafer fab equipment will be a pretty good amount in 2010 and hopefully of 2011 is everybody is posturing as a capacity year. Implant typically ramps a little bit behind other tech modules and you've seen that this year. If next year is more of capacity year versus technology by that historically is good for implant.

Operator

Your next question comes from the line of Andrew Galagan with Times Square Capital Management. Please proceed.

Andrew Galagan - Times Square Capital Management

Two questions, first, you guys have built up some cash over the last year or two. I was wondering what your thoughts are on doing some buybacks.

Robert Halliday

Yes I think we going to end up being a buyback guy. We were pretty heavy buyback guys for about three, four years. We bought everyday for about $735 million. We actually ironically used cash in the third quarter, about $11 million and I don’t think we're a big cash generator in the fourth quarter because we are ramping, receivables in inventory.

So I think we'll end up being a pretty real buyback stock. I don’t know if it's next quarter or so.

Andrew Galagan - Times Square Capital Management

Okay. And then another question, more about the industry. You guys are all doing well right now, but the stock market doesn't seem to want to give you credit for that. All the stocks are trading at very low multiples. I was wondering if you think we might start to see some industry consolidation and if that’s the case, would you guys be a consolidator or consolidatee?

Robert Halliday

Well I am sort of been saying the same answer for about four, five years. Intellectually, I personally think that there is a merit for consolidation in the industry because our customers are a lot bigger than the suppliers, number one, and number two, there is more technology synergies I think between the companies available on the surface. There are a couple of down sides to consolidation, people just got to get it done number one, and number two, some of the synergies aren’t that ones that are easy to point out like cutting, distribution costs and stuff like that.

So I think in the end it will happen for the first two reasons I said, its hard to predict.

Gary Dickerson

But I think as Varian as a consolidator in the semiconductor equipment business. You really have to see something where you have significant synergies beyond cost synergies for something like that to make sense. There aren’t that many of those types of situations.

The other thing in the industry is typically in any one, in any of the segments in this market, the market leader makes a lot of money. The number two company breaks even and everybody else looses money. So looking at businesses that are both strategically synergistic with what we are doing and attractive from a market leadership standpoint, there just aren’t that many both types of situation. So I don’t see Varian being a significant consolidator in this market.

Our strategy is to really try to continue to pursue precision materials modification opportunities that are synergistic with our strength in our core technology and as I said, if there are businesses that are synergistic with what we're doing in terms of core technologies that will help us go out and be the number one supplier in the market, those would be the things that we would look at.

Operator

(Operator Instructions) You’re next question comes from the line of David Wu with GC Research. Please proceed.

David Wu - GC Research

Yes good afternoon gentlemen. I got two quick questions. Number one, when I look at the solar business, if you get the $25 million to $30 million as we hope to do in fiscal '11? Should I assume that the incremental offering margin on that business will be better than your current corporate average and that would even at $25 million to $30 million your cost of goods sold, your gross margin would not be significantly below 40% on those revenues.

Robert Halliday

So, I think in 2012 its gotten an opportunity to be pretty paramount significantly incremental because why because its core technology to look at as high current beam line is what we're using so that the R&D diligence is big and number two, the sales support isn’t that big because we already have live service organizations in most of the regions that are solar customers, whether it be China, Korea, US, Europe, Japan and Taiwan.

So the opportunity is pretty substantive for incremental operating profit and once this business gets up and running to subscale. I don’t think we are at scale in 2011. So $25 million to $30 million I think is positive for this year, but it's not quite at the same level we are in a semiconductor business where we upscale.

I think what you get a little bit of volume in 2012, but it's got the same model in fact you could exceed the model.

David Wu - GC Research

Yes, I was just curious because since you are not increasing your OpEx very much at all, from a no revenue base in ’10, this business should be positive from a P&L standpoint or at least the color should go from crimson red to at least pink.

Robert Halliday

I think it will hopefully go to dark of night black. It looks pretty damn good for like, once you get some volume, it's going to be very good.

David Wu - GC Research

The other point I was wondering is you are running at $1 billion run-rate in that sense coming out. Assuming that, I’ll go back to couple of years when you had that big spreads during the recession about what the potential earnings power is. I couldn’t remember what your assumption was for peak numbers on the revenue line but as I recall its not that far away at $1 billion run rate and you are getting close to also 30% operating margin. What is set to drive you, what is the gating factor to hit kind of lets say 30% operating margin that are peak of the cycle?

Robert Halliday

Well if we get to the volumes, I think we will approach it, we will be in the ballpark and then if the question is just the mix, systems versus non-systems and PLAD mix for instance, Japan mix, with all our mix issues. I think the fundamental model is holding up pretty well.

David Wu - GC Research

And if we last until fiscal 2012, the solar business will kick in and then?

Robert Halliday

Yes, I think the solar business is the tiny bit of drag on the model in 2011. I think in 2012 it starts to help the model. You start to raise this unit revenue and so instead one-one, you got a one-two, one-three and more opportunity. And the operating model is about the same as the core business.

Operator

Your next question is a follow-up question from Edwin Mark with Needham and Company.

Edwin Mok - Needham & Co.

Thanks, for taking this. First thing is on the material modification. You guys talked about this application before, and I was wondering how do you kind of look at that driving incremental implant sales going forward? Is that helping, and if so, where do you see that option and is there any way to quantify that?

Gary Dickerson

Yes, really we look at driving applications in two areas, one is on the devise side and the other one is precision, the physical modification and materials. If we look at this calendar year, this is probably adding, if you add up the additional device applications and physical modification material, somewhere around $50 million. And it’s a big focus for our team here and also our technology people in the field. It could be significantly bigger and larger in 2011.

Robert Halliday

Yes, the good thing about the application stuff too is everyone has a high incremental value. So these are what are the SG&A stuff. Its just getting people to use your tools more often and buy more of those.

Edwin Mok - Needham & Co.

I imagine that $50 million you're talking about is mostly about more in those leading edge application, is that correct?

Gary Dickerson

Well yes, I think most of the adoption happens with the customers that are facing device scaling challenges. It is one of the toughest technology issues so that’s where it typically happened first.

Edwin Mok - Needham & Co.

Great, and one last question. You guys talked about image sensors and potential markets you looked at, any update there? Are you guys trying to get any traction in that market?

Robert Halliday

Yes, we are getting traction there. We are making some progress. I'll tell you the good things and the bad things about image sensors. The good things for us is it didn’t plant intensive. The other good thing is that our tools have differentiation that’s very good for image sensor, when you look at probably dark current and particles and things like that, we do very well for that market. Its not a huge absolute market. Now the growth rate is pretty good. But our value proposition for the penetration of it and its implant intensity is very good. It's just not an absolute huge market

Operator

Your final question is a follow up from Patrick Ho with Stifel Nicolaus.

Patrick Ho - Stifel Nicolaus

In terms of the solar ramp, how much incremental capacity do you think you may need to add over the next two years or do you have enough internal capacity to handle say the initial ramp?

Gary Dickerson

In the factory you mean Patrick?

Patrick Ho - Stifel Nicolaus

Yes.

Gary Dickerson

Yes, that’s a very good question. We are actually pretty busy. We project to be very busy. And I think we are going to be okay. And what we are doing to leverage all that is with a lot of factory efficiencies in the last few years between leaning out the amount of time it takes to do the tool and some of our sourcing capability. So I think we will be able to manage it and in the end I think we will be able to say enough for trends and increase our operating margins because we want to put more products through the same footprint.

Operator

This concludes the question-and-answer portion of the call. I’ll now hand the call back over to Bob Halliday for closing remarks.

Robert Halliday

I want to thank everybody for joining us here today and I would be in the mass. You all know my admin [Maria Salgado] who is famous throughout the industry, that she told me I have to remind you that August 19 is our Investor Day and Maria will be putting a lot of great personal effort. So we look forward to seeing you all on August 19 in Gloucester. And the Investor Day starts at around, nearly at lunch, 1 o'clock is the session and I am glad to say that the upturn has arrived because we are going to have the (inaudible) that evening too. So we hope to see all then. Thanks very much

Operator

Ladies and gentlemen that concludes today’s conference. Thank you for your participation. You may now disconnect and have a great day

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