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FEI (NASDAQ:FEIC)

Q1 2014 Earnings Call

April 29, 2014 5:00 pm ET

Executives

Fletcher Chamberlin - Investor Relations and Communications Director

Raymond A. Link - Chief Financial Officer, Principal Accounting Officer and Executive Vice President

Don R. Kania - Chief Executive Officer, President and Director

Analysts

Isaac Ro - Goldman Sachs Group Inc., Research Division

Patrick J. Ho - Stifel, Nicolaus & Company, Incorporated, Research Division

Amanda Murphy - William Blair & Company L.L.C., Research Division

Joseph A. Maxa - Dougherty & Company LLC, Research Division

James Ricchiuti - Needham & Company, LLC, Research Division

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

Derik De Bruin - BofA Merrill Lynch, Research Division

David Duley

Mark S. Miller - Noble Financial Group, Inc., Research Division

Operator

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the FEI First Quarter Earnings Conference Call. [Operator Instructions] This conference is being recorded today, Tuesday, April 29, 2014.

I would now like to turn the conference over to our host, Mr. Fletcher Chamberlin. Please go ahead, sir.

Fletcher Chamberlin

Thanks, Saul. Good afternoon, ladies and gentlemen, and as the operator said, I'm Fletcher Chamberlin, FEI's Investor Relations and Communications Director. With me today in our headquarters in Oregon are Don Kania, President and CEO; and Ray Link, EVP and Chief Financial Officer.

We appreciate your interest in FEI. We've again posted some slides under Events and Presentations on the Investor Relation's part of our website, fei.com. We will refer to these slides during today's call. We've also added a summary of cash flow statements and the financial statements and have revamped the supplemental information table in the release. We'll focus our comments on the significance of the numbers rather than a recitation of the data that's available in the release or on the slides. We welcome your comments on whether the slides and tables are helpful, and suggestions for improvements, if you have them.

While you're pulling up the slides, and before we get to the presentations, we also have the regular housekeeping matters to address. This call contains forward-looking statements to the extent that we discuss expectations about future orders, revenue -- including revenue recognition issues, margins, expenses, capital spending, restructuring expense, our tax rate and earnings, growth expectations for particular segments of the business or from new products, new applications for our products or acquisition, potential penetration of new markets and government spending for research tools worldwide, as well as other future events or plans.

These statements are considered forward-looking, subject to risks and uncertainties that could cause our actual results to differ from the forward-looking statements made. Risk factors that could affect these forward-looking statements are cited in today's press release on Slide 2 of the slides posted in this call and in FEI's most recent 10-K, 10-Q and 8-K documents and other filings with the SEC.

Investors are urged to read these documents, copies of the SEC filing. Filings are available free of charge on the SEC website, www.sec.gov, or on our website or from our Investor Relations Department at (503) 726-7710. The company assumes no duty to update forward-looking statements set out in those documents or made on this call. This call is the property of FEI Company and will be archived in the Investor Relations section of the corporate website at www.fei.com.

I'll now turn the call over to Ray to go through the financials. Don will then discuss our business and the outlook, and then we'll be glad to take your questions.

Raymond A. Link

Thank you, Fletcher, and good afternoon, everyone. Q1 was a difficult quarter. Even though we generated record first quarter revenue in bookings, we missed our revenue target and that reduced earnings and operating margin. Orders were slightly lower than guidance. Backlog is up to record levels. Our gross margin held up despite the lower revenue, and we had good cash flow from operations. And we have now recorded 32 consecutive quarters of GAAP profits.

Moving to Slide 4. First quarter revenue was $226.3 million, with the book-to-bill ratio of 1.09:1. Revenue was 2% higher than last year's first quarter, and 15% below the record fourth quarter level. Year-over-year, Industry was up and Science was down and both were down sequentially.

There were 2 sources for the revenue shortfall from our guidance. First, deferral of revenue related to new products. We had several transactions involving new tools for both semiconductor and materials research customers that did not meet all the criteria for revenue recognition. Revenue recognition issues can be difficult for new products, especially in our industry where the tools are complex. As a result, we're not able to record all the forecasted revenue in Q1. We expect revenue recognition in new products to be less of an issue as we proceed through the year.

The second issue was weakness in materials research customers’ orders and related turns business. Historically, we've been able to make up for a shortfall in one part of the business with increased shipments in other areas. Our revenue risk mitigation plan was to make up the difference with turns business from material research customers, but that did not happen because of an order delay. Don will discuss those market dynamics in a moment.

Slide 5 has more detail on a makeup of revenue each segment where Science revenue was up and Industry -- excuse me, where Science revenue was down and Industry was up. In Science, sales to materials research customers have historically been one of the most consistent parts of the company although they typically decline from the fourth to the first quarter. This sequential decline in orders and sales was larger this year than we expected due to large order delays.

We expect a recovery in orders in the second quarter and revenue should recover in subsequent quarters. Still within Science, revenue from structural and cell biology customers was very strong. It was up more than 50% from last year's first quarter and level with the strong fourth quarter. With the strength in orders from biology research customers, we had a book-to-bill ratio greater than 1:1 for the Science segment.

Turning to the Industry segment, the year-over-year increase in revenue was driven by our semiconductor customers. We had a book-to-bill ratio above 1:1 in this segment and continue to look for further growth as the year progresses. We expect total revenue to improve in the second quarter though to a lower level than we expected at the beginning of the year, as a result of lower revenue from the Science Group, primarily due to timing of shipments.

Turning to Slide 6. Revenue showed our geographic diversity. Asia made up 38% of the total; Europe, 30%; and North America, 32%.

Now looking at Slide 7. Gross margin in the quarter was 47%, the same as Q4, and up from 46.4% a year ago. We are pleased with that result and what is a significant sequential decline in revenue and the fact that the higher-margin semiconductor equipment business made up a somewhat smaller part of the total than in the fourth quarter.

Service continued its trend of improving margins in both segments. For the second quarter, we expect overall gross margin to improve and be close to 48%, and we remain committed to our 50% gross margin goal by mid-2015.

Turning to Slide 8, and moving on to income statement. Operating expenses including previously forecast restructuring expenses were $75.4 million, up slightly from the fourth quarter. Excluding the restructuring expenses, operating expenses were down sequentially. We're estimating operating expenses in Q2 will be around $75 million. Our tax rate was 18.1% for the first quarter, and we expect it will be approximately 19% in the second quarter. GAAP net income was $25.1 million, and GAAP EPS was $0.59 per diluted share.

As you can see on Slide 9, our balance sheet continues to be very strong. Total cash investments and restricted cash at the end of the quarter was $548.8 million, a decrease of $42.3 million from the end of the fourth quarter; that's after paying $68 million for the acquisition of Lithicon, so we generated nearly $25 million in the quarter before the acquisition. We also paid $5.1 million in dividends in the quarter. We had positive cash flow from operating activities at $28.4 million. Free cash flow defined as operating cash flow less capital expenditures of $4.3 million was $24.1 million or $0.56 per share.

Improving our cash cycle has been an area of focus for us and we, again, had notable success in the first quarter. The cash cycle improved by 41 days compared with last year's first quarter. For the full year, we expect capital spending to be approximately $70 million as we finish the fit out of our new leased facility in the Czech Republic and make other investments to support our growth. The new facility will begin operating in the second half of the year, and is expected to be an element of our margin improvement in 2015.

With that, I will turn the call over to Don for comments about our orders, markets and outlook.

Don R. Kania

Thank you, Ray, and good afternoon, everyone. This was a difficult quarter. While we are not pleased with this quarter's result, we believe the company's long-term opportunities are intact.

Looking at Slide 10, orders in the first quarter were $247.3 million, an all-time high for first quarter, the third highest quarterly total in our history and just shy of our goal of $250 million. It's up 7% from last year's first quarter and down 4% on a seasonal basis from the fourth quarter.

Turning to Slide 11. Science bookings of $124.2 million were down 2% from last year's first quarter, and down 13% from the record level of the fourth quarter. The book-to-bill ratio in the quarter was 1.04:1. Within the Science Group, materials research customer orders were weak, while structural and cell biology customers delivered another strong quarter. Typically, we see a seasonal decline in orders from materials research customers from the fourth quarter to the first. And this year, it was larger than we forecasted.

The shortfall of about $15 million was mainly the result of several large orders from Eastern Europe and Asia that moved out of the quarter. We do not believe that this shortfall reflects a fundamental change in global funding for materials research, nor has our strong competitive position changed. We expect those orders to close in the next 2 quarters. It is important to note that on an annual basis, total orders were up for both China and the United States.

Our pipeline of orders is growing with strong new product content and we expect to rebound in orders in Q2. Because the normal delay from bookings to revenue from materials research customers, the first quarter order weakness will have a negative impact on our revenue in Q2. We do expect bookings from materials research customers to be up for the year. In contrast to materials research, orders from structural biology customers were the second highest for any quarter in our history, more than double last year's first quarter and up over 50% from the fourth quarter. Our pipeline is growing and is driven by structural biology.

The shift of cryo electron microscopy closer to the mainstream of structural biology continues. The convergence of Titan Krios TEM, new camera technology and software advances have continued to produce important scientific results published in prestigious journals. This was highlighted in a science magazine in a recent editorial entitled The Resolution Revolution, stating that cryo-EM, and I quote, "holds the key to central biomedical questions," and concludes with, "These are exciting times."

Also in the quarter, we saw a small but record number of orders for our correlative microscopes and cell and tissue biology market. The orders were geographically dispersed and are positive signs for this developing market.

Overall, Science had a mixed quarter, with missed bookings from materials science research customers offsetting strong orders from structural biology customers. We expect Science orders to be up in the second quarter.

Industry orders were strong in the first quarter. They were up 18% from last year's first quarter, and 7% from the fourth quarter. The book-to-bill for this segment was 1.16:1.

Semiconductor industry bookings were strong as we received orders from all major foundry, memory and logic customers. Product orders were up sequentially for the fifth quarter in a row. For the trailing 12 months, semiconductor equipment bookings are up 28% over the prior 12-month period. In the same period, the bookings for the Industry are up 14%.

We continue to benefit from the move to smaller nodes, new materials and 3D structures. Our near-line strategy is gaining traction with orders from and initial shipments to all of the Top 4 wafer producers.

On my recent trip to our semiconductor customers in Asia, a couple of trends are clear. One, there is a relentless competition to develop robust 1X processes with 3D structures adding to the development and manufacturing challenges that will continue to drive demand for our tools. Two, our near-line strategy is spot on. We have the right products at the right time and we are expanding our support infrastructure to meet what we expect to be greater adoption into 2015.

Given the small number of customers driving the bulk of the purchases, we do expect some quarter-to-quarter volatility. We have not seen any general pullback in our customer spending plans, and our pipeline remains robust.

Looking at Q2, we prudently expect orders to be near level with Q1, but up significantly from last year's second quarter.

Natural resource customer orders in the quarter, while relatively small, were up from last year and from the fourth quarter. The largest piece of the growth was due to the addition of the backlog from Lithicon that came with our February acquisition.

We have begun the integration of Lithicon into our oil & gas business that includes our existing products and software offerings.

I attended the American Association of Petroleum Geophysicist convention in Houston in April and was pleased with the reaction that the acquisition has received in the industry. One oil company executive commented that we have changed the digital rock landscape.

As we have said, 2014 is the year of integration and we expect a more significant business impact starting in 2015. We look forward to telling you more about the digital rock technology and the business opportunity at our Investor Meeting in New York on June 5.

Pushing now to a geographic look at our orders on Slide 12. Our geographic diversity serves us well. Europe was up over 20% both sequentially and year-over-year. Asia, including Japan, was down with both comparisons. The U.S. was up year-over-year, but down sequentially. Orders for our Science tools from China were once again significantly higher than Science orders from the United States. We received orders of $2 million or more from 15 different countries.

Before I turn to our guidance, a quick note about new products. 50% of our product orders in the first quarter came from new products, with adoption in industry moving more quickly than in Science. That's expected given the longer funding cycle in Science. Clearly, customer reaction to the new products and the work flows have been positive. This has driven a significant increase in our pipeline. It's difficult to quantify and not an excuse, but we believe that rotation in demand to new products has temporarily slowed materials research order growth, as customers adjust their plans and grant applications to incorporate the new pricing and new capabilities we have brought to the market.

Turning to Slide 13, and our guidance for Q2. We forecast orders to be around $250 million. And we expect revenue to be in the range of $230 million to $240 million. Each would be a record for the second quarter, but below our expectations due to lagging materials research customer revenue.

For the first half of the year, we now expect revenue to be around $460 million, down from our early expectations in February of around $500 million. GAAP EPS earnings per share for the second quarter are expected to be in the range of $0.65 to $0.75.

Looking to the full-year 2014, we expect second half revenue to be well over $500 million. With the shortfall in the first quarter and the expected partial recovery in the second quarter, we now expect 2014 revenue growth by 8% to 10% over 2013. This reduces the midpoint of our guidance by about $30 million for the year, resulting from market dynamics that we described.

As we approach the completion of our new factory in the Czech Republic, we anticipate some one-time charges in the third quarter due to moving expenses and related cost of closing the old facility estimated at $3 million. We are planning to use the expanded facility to relocate some of our recently acquired products. We're also looking at opportunities for improved efficiencies in the overall organization.

So in summary, even as we produced record first quarter orders in revenue, we did not meet our expectations because of short-term revenue recognition issues and a miss in orders from the materials research customers. We expect research orders to accelerate in the second quarter, but the shortfall pushes revenue into the next year and has reduced our growth expectations for the year.

Meanwhile, we had another strong order quarter in structural biology and that segment is playing out well. Our semiconductor equipment business is growing and the prospects are very good. We made a key acquisition in the quarter that brings critical mass and industry credibility to our oil and gas business. We remain confident in our ability to grow FEI. We have a solid and increasing backlog in a portfolio of powerful new products that are already generating 50% of product orders as they expand our served market. In addition, we plan to continue to increase margins with our infrastructure investments.

We look forward to giving you an update on our plans at our Annual Investor Meeting in New York on June 5. The details are on Slide 14. If you would like to attend and have not already replied to Fletcher, please do so.

With that, operator, we are now ready for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from the line of Isaac Ro with Goldman Sachs.

Isaac Ro - Goldman Sachs Group Inc., Research Division

I just want to spend a moment on margins. It looks like we're a little too optimistic on the quarter at the operating line, and really looking at the second quarter guide also, it looks like your EPS guidance was a little bit low than what we had, so I'm wondering if you go through the details on the year-on-year increase in your OpEx that's baked into your second quarter guidance. Am I right in assuming that there's an ongoing expense, maybe associated with Lithicon and secondarily, new product ramps? I just want to understand how that came to play out not only in the second quarter, but for the back half of the year.

Raymond A. Link

Yes, sure. Isaac, this is Ray. You hit on 2 of the items. Clearly, we've layered in some pieces of acquisition over the past year, Lithicon being the most significant that had OpEx. In addition, we're ramping up spending year-over-year on the R&D line. And then, we have normal focal increases in one of the bad news of a higher stock price is stock comp is a little bit higher so that rolls through OpEx largely as well. But the primary pieces are acquisitions, more R&D and then just a slight increase on salaries just with annual increases.

Isaac Ro - Goldman Sachs Group Inc., Research Division

Okay. And then just a follow-up would be on China. I think there had been some other calls in the industry regarding -- I mean from the academic side, some slower funding cycles or at least getting budget dollars from Chinese government, funded by obviously kind of through the door this quarter. Did you see anything there? Just hoping you'd speak to the general economic spending environment in China.

Don R. Kania

Yes, I would characterize it as pretty typical for us, and maybe make the usual comment that our high ASPs usually have longer buy cycles for us. And so we sample the market in a very different way than either lower ASP products or consumables. We would see that our interactions in the region, I think, encourage us that this will be another good year in China.

Operator

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

Patrick J. Ho - Stifel, Nicolaus & Company, Incorporated, Research Division

Don, first maybe on the semiconductor side. I know you're not exactly the typical capacity buy, but given a lot of the moving pieces in the industry right now, are you seeing any changes on the customer demand front or the timing of tool intakes for your products?

Don R. Kania

So I think let's separate the industry dynamics from FEI dynamics. The industry dynamics we see are people are excited about what we're bringing to the table at the right time that is our near-line strategy, that as you appreciate, there's a lot of moving parts around the 1X nodes, particularly in Asia, and a lot of challenges ahead. So from our perspective, demand is going to continue to be robust for FEI product. Having said that, we always make the comment, there's 4 big customers. There'll be some quarter-to-quarter volatility but we feel pretty good about the whole thing. So the FEI dynamic is that way, if we look at the bigger dynamic of the industry overall, I think others are better to comment on that. And we may be actually a little color cyclical for some of the things that are going on there. Because the dynamics, particularly on the 1X nodes, are affecting people's plans to ramp manufacturing overall.

Patrick J. Ho - Stifel, Nicolaus & Company, Incorporated, Research Division

Great. That's helpful. Going to the materials science just for a second, you mentioned some of the transitions to new products, the order delays. From that segment, what kind of pulls or I guess pushes are you getting from those customers who may want, I guess, your older version of tools, which they may be more familiar with versus trying to transition them to some of the new products? Can you give a little bit of color? And could that be part of the delays or is it just timing of grants that you're seeing?

Don R. Kania

So I think there's 2 pieces. In Q1, we clearly had articulated some large opportunities. I think it was about 5 of them, of which one of the subsets that closed in the quarter. Those got moved around timing-wise. But I also think, as I should try to be -- try not to make an excuse out of this for the material science shortfall, but when we really look at the data, the pipeline -- I'm a big believer when you see inflections in a pipeline is just really great for the business, and we're seeing that with the new products in material science. But having said that, the buy cycles are long for our customers in the sense that if they do make a change, this can move things around by a quarter or 2 in terms of their ability to purchase. So I think, what we're seeing is, customers want what's new, perhaps even faster that we have thought, and that's going to drive timing dynamic, which is hard to quantify in the material sciences segment. But in the short term, negative; long term, I would say very positive.

Operator

Our next question comes from the line of Amanda Murphy with William Blair.

Amanda Murphy - William Blair & Company L.L.C., Research Division

So just a question on the cryo-EM for a minute. So I'm just curious, now that you've had continued strength in that segment, have you guys -- I guess I'm curious what the incremental buying patterns are from the customer base? So are you seeing -- I think you had talked to maybe people buying an EMs or second or third instruments. Are you seeing people look through EM for the first purchase? Just curious about sort of new thoughts on market opportunity there?

Don R. Kania

Yes. I think the latter comment you made is really correct, that we're really seeing new adopters of the technology. So people who previously -- particularly in the XRD segment, where we're finding a robust set of new customers entering the pipeline that are not our typical base who is buying his next Titan or who has upgraded whatever he had in the past. But we're really seeing new customers come from this new space. We're seeing those publications in that space. We're seeing a lot of people doing both in x-ray measurement and the cryo-EM measurement. And the latest, that editorial in Science was a lead into a paper that was really quite seminal in doing great science, in a way that would have been near impossible with any other technique. So we think we're still a little bit early in this transition, and we're working very hard to target effort to pull and inform the customers in the XRD space that this is a place you want to be in the future. So I think we're seeing the momentum. We expected to see it and we think it's got some pretty good legs to it.

Amanda Murphy - William Blair & Company L.L.C., Research Division

Got it. So do you have any sense --- I know you've given high level addressable markets in that segment at least historically. Any updates there? Have you thought about maybe what market share, I know it's very early, but what market share you guys might be able to get to over, I don’t know, 3 to 5 years?

Don R. Kania

I think that answer is probably best left to our Investor Meeting in June. But I think the short -- the high-level answer is clearly, we're growing the served available market and we're actually getting some -- again this is a bit judgmental, but I would argue we're getting some share, going from 0 to a small number in that -- what used to be the domain of XRD in the past.

Amanda Murphy - William Blair & Company L.L.C., Research Division

Got it. And just last one on that topic. Any -- I think some others have talked about Q1 spend relative to the rest of year, just the funding appropriations and whatnot. Are you seeing any changes there or any thoughts on Q1 versus the rest of the year, just as funding gets released?

Don R. Kania

I don't -- I'm not sure we see a release pattern, at least -- when we talk about China already, I think everybody else just puts a lot of that emphasis on the U.S., but the U.S. remains a poor market for us. And -- so those dynamics are not real strong movers for us and nor have we built that in to our forecast for the year. So any business there is upside. And I think as we looked at this quarter, the drive for Science orders was more driven by philanthropy than it was by U.S. funding. So I don't see the U.S. dynamic as being important to us, unless, of course, it frees up above our expectations and our expectations are near 0.

Operator

Our next question comes from the line of Joe Maxa with Dougherty & Company.

Joseph A. Maxa - Dougherty & Company LLC, Research Division

I just want to ask about Europe. Strong orders this quarter, I'm just wondering if anything in particular was driving that. And what your outlook would be in that geography.

Don R. Kania

Europe has the advantage of -- being a large territory with the Eastern part and, let's call it -- I call it old Europe; it's probably inappropriate. But Northern Europe, Germany, the Benelux, France and above is -- it's doing okay. I'd characterize it as okay with some good order flow from the East. And I think that trend just continues, at least, as far as we can go, assuming there's no political upsets, which we're not going to -- we don't see anything associated with that at this point. So Europe is good. The framework programs that are coming through bode well for the long term. 2 of the targeted areas for long-term framework funding, and these are very large funding buckets, get squarely into where we're focused. So I think the prospects for Europe are -- I like okay as a description for it, for both the short term and the long term.

Joseph A. Maxa - Dougherty & Company LLC, Research Division

Okay. And then a question on the Lithicon acquisition, can you give us any color on how much that is contributing to your business today?

Don R. Kania

It contributes expense to our business today, I think. Ray, would you agree with that?

Raymond A. Link

Yes, the -- well, we're still in line with the range of revenue guidance that we gave in the quarter as...

Don R. Kania

Yes, for the year, yes. But in the quarter, it was -- it brought more expense than it did anything in terms of revenue or any kind of profitability, which is appropriate. And I think as we described it, that's how this would proceed. But as we go through the year, we do have some expectations on revenue.

Raymond A. Link

Between 1% and 2%.

Don R. Kania

Yes, so as we said, between 1% and 2%...

Raymond A. Link

That hasn't changed.

Don R. Kania

Yes, that hasn't changed at all.

Operator

Our next question comes from the line of Jim Ricchiuti with Needham & Company.

James Ricchiuti - Needham & Company, LLC, Research Division

Ray, did you -- I may have missed it. Did you size the revenue recognition impact from the new tools in Q1?

Raymond A. Link

We know we did not in the prepared remarks. It was in the neighborhood of the difference between what we reported and what you guys thought we'd reported.

James Ricchiuti - Needham & Company, LLC, Research Division

Okay. And then, Don, just a clarification on this. On the orders in materials research that got delayed, I think you sized something like 5 or so opportunities. Did I hear you correctly?

Don R. Kania

Yes, there's a -- yes, there's a group of multi-million dollar orders that didn't happen that are on our forecast list.

James Ricchiuti - Needham & Company, LLC, Research Division

And so how do you see those closing in Q2?

Don R. Kania

We think about -- they'll close in 2 and 3.

James Ricchiuti - Needham & Company, LLC, Research Division

Okay. And on natural resources, any change in your expectations, outlook for the business as a whole in 2014?

Don R. Kania

No. And I think the comments of mining remaining was we said beating difficult environment, I think that continues. Oil and gas prospects grow significantly and the addition of Lithicon brings some backlog to the table. And it's -- really has changed how the industry views us now because we really put together a critical, incredible mass of people and products in the space. But then I'll take a wild play out. This is a back-end loaded activity in natural resources for the year.

Operator

Our next question comes from the line of Tycho Peterson with JPMorgan.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

Don, good to see you guys kind of break out the tractions for the new products. Can you maybe just talk a little bit about the ordering patterns here? Are these multi-system orders? How many of them are involving the sample prep system? Any color on either mix by customer or order size would be helpful.

Don R. Kania

Yes, I think the best color we can give you -- we said it's half of the products. I want to be clear, so it's half of the product orders, because we do have a pretty hefty service business in both pieces. That's really -- when you look at Science and Industry, it's about 30%, 70%. That is 30% Science, 70% Industry. So what you see in Industry is absorption of still single units. Some multiple unit orders, if you add a sequence of orders. But that's really the semi-industry, once it realizes that it is interested in a product offering, that it will go through the first adoption, do the task and then they will deploy the system in multiple sites and facilities that all the large semiconductor folks have. On the research product side, you're really dealing with a different dynamic, which is unit-by-unit orders, typically, where there are a few larger ones where we may have multiple units involved. But the -- on average, they are 1, 1-plus kind of units per order. And now you're dealing with a funding or a changed dynamic that isn't driven by business interest, it's driven by some funding sources interest and those paces are just slower, 3 to 6 months kind of rotation time on that. So it's yin-yang. We love the idea that we're ahead of the rates of ordering that we had expected for both Industry and Science side, and that's exciting. But the disappointing side is it probably going to drag down -- be a piece of the slow order rate and a little bit of the revenue rate for the year in materials science.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

And then, for Ray, you had a nice step-up in Industry gross margins, I mean typically, if you get a 1Q step-up, so may just be seasonality. But were there any other underlying kind of dynamics you can call out there?

Raymond A. Link

I think one of the big things is when we dissect both businesses, our services business did quite well across the board. And you can see on the -- based on the financial statement, where we break out the margin between products and service. Service margin has actually hit above 40%. So we're very, very happy with that. And the Industry group has a pretty good chunk of services business in that, so that helped. Plus revenue on new products, the price that we did revenue did have decent margins on it.

Tycho W. Peterson - JP Morgan Chase & Co, Research Division

Okay. And then last one on the capital deployment. Don, it comes up every call. Any change in what you're seeing out there and other -- lot of other Lithicon-type deals that you could potentially tuck in?

Don R. Kania

We're always hunting. Really hard to put in more color on it than that at this point.

Operator

Our next question comes from the line of Derik De Bruin with Bank of America.

Derik De Bruin - BofA Merrill Lynch, Research Division

Just a couple of clean-up questions. So you're still expecting the overall M&A contribution for the year to be about 1% of sales?

Don R. Kania

Yes.

Derik De Bruin - BofA Merrill Lynch, Research Division

Okay. And Ray, what's your current guidance for FX impact for the full year?

Raymond A. Link

We're just calling it flat at this point relative to Q4 run rate. It's -- obviously, compared to a year ago, the euro's a little bit stronger. But we're really not banking in anything that will have a major change on FX.

Derik De Bruin - BofA Merrill Lynch, Research Division

Great. On the competitive landscape, none of the things you saw could potentially be related to pricing issues and just some of your competitors in Japan trying to come in with lower pricing on products and just confusing the issue?

Don R. Kania

No. But as you know that's something we watch very carefully, particularly with that yen move we've seen in the past. And we anticipate that we're going to have a reporting here from some of our competitor, particularly JEOL, and we don't expect to see glorious financial results from them. So it's more of business-as-usual kind of activity, in terms of competitive environment. And we've scrubbed materials science pretty hard, because that's the first question that came up.

Derik De Bruin - BofA Merrill Lynch, Research Division

Right. Yes. So I guess can you talk a little bit more about some of the -- your comments on acceptance criteria for the new products? And just give a little bit more detail about that and I'm just -- what sort of the question?

Don R. Kania

Ray? Ray? Ray should do this.

Raymond A. Link

Yes. It looks like the deal-by-deal transaction, but I'll give you one example without naming names. We have a tool that's been up and running and providing services and running product through at a substantial customer of ours, and it's been there for a while. It's a new tool for them to -- for us to get revenue on that, we required a signoff for acceptance, and that signoff was just delayed. It was a relatively arbitrary item. But that's the business we're in and we were not able to take revenue, even though the tool is there up and running. We don't really have a lot of that. But on newer tools, we tend to get a little bit more of that in the early stages where people require more of an acceptance criteria for the final revenue to be recognized that usually triggers the start of the warranty program.

Don R. Kania

And yes. And the other thing is that -- maybe as a subtext here, are we having issues with the products? The answer is no. The products are great.

Derik De Bruin - BofA Merrill Lynch, Research Division

Right. Yes, right. I mean, that's, yes, that's the subtext.

Don R. Kania

The customer management. Yes, this is customer management.

Derik De Bruin - BofA Merrill Lynch, Research Division

Yes, and I guess, I also -- I got a couple of questions from investors. If you're just talking more about revenue recognition and deferrals on this question, I guess the overall question is why are you lowering the revenue number by $30 million? I know you said something about the orders that you take now will take longer to ship, but you just sort of like spell that out one more time?

Don R. Kania

Yes. There's 2 major components to the reduction on the year forecast. Just one is delays in orders particularly because some of these bigger ones will delay revenue out of the year in the -- particularly, in the Science segment. And then, I think we've probably been prudent in watching this material Science order flow, which will have the same effect from the transition to the new products. So I think, those are the 2 major effects when we look back at the year that the Science segment will come up a touch short, and the Industry business will execute as expected.

Operator

Our next question is from the line of David Duley with Steelhead Securities.

David Duley

Just a couple of questions on the semiconductor business. You mentioned, I think, a pretty big increase or you implied a big increase in content. Could you just run over those numbers again and talk about why you are seeing an increase in content with your near-line fab strategy?

Don R. Kania

Right. And there's just 2 piece -- the 2 major conceptual drivers are: development is more difficult and manufacturing is more difficult. With the major integrated company in Oregon, we've been working this path, because they're ahead on a feature-size basis, and they're also ahead on the implementations of FinFET. And what we're seeing is that pattern reproduce itself, but with the time delay relative to the leading manufacturing capabilities. So that's kind of the dynamic that we see the parallels of, and so we're seeing Asian customers adopt and adopt aggressively. And they're just at different timing points. And if you filter that back, you can kind of see this whole -- let's call it interesting dynamic that's emerging on the -- all on one -- the next at 1X nodes. That everybody is -- all seemingly has a slightly different strategy. But everyone has a very aggressive strategy. And once you take a step back from that, and we talk to the customers, there is a clear realization with these particularly more aggressive strategies on smaller nodes. They just going to need -- at a minimum from a risk perspective but from really being able to develop and operate in the manufacturing environment, they're going to need more FEI equipment.

David Duley

And is this because that you've created more applications for them or they're just the volumes of the things that they need to look at because things have gotten smaller, half-grown?

Don R. Kania

Yes, I think, it's what they need to look at. And of course, I would claim we've created a bit of virtuous cycle with making these new generation of tools much more productive. So time to date is shorter, they're easier to operate. That it's the old adage is true. I mean you give them more and you give it to them cheaper, and you give it to them faster, the demand for it outstrips the increases in productivity that you've given them in a single tool, and that's the cycle that we're in.

David Duley

And when you look at your semi-revenue, how does it break out between foundry logic and memory?

Don R. Kania

We take a different tack on things; we go customer-by-customer. You got 60%, 70% coming from the Top 4. And some members -- one member of that group has both pieces. And so we really manage this, through this on a customer-basis, not on a flow-basis. Because we're not driven by capacity and most of the dynamics -- the other companies that worry about that are more worried about the capacity dynamics, and we're more worried about the development dynamics.

David Duley

Okay. And final question in this area for me is, can you take a stab at when you look at what you are shipping into the semi-customers now? What's above 20-nanometer and what's below?

Don R. Kania

Probably 80:20, that's kind of a wild guess a little bit but mostly below.

Operator

Our next question comes from the line of Mark Miller with Noble Financial Capital Market.

Mark S. Miller - Noble Financial Group, Inc., Research Division

Just wanted to make sure on this material science weakness, you're attributing that to order delays. Have you lost any key orders you were expecting or are any of these orders becoming more iffy?

Don R. Kania

No, sir.

Mark S. Miller - Noble Financial Group, Inc., Research Division

Okay. In Asia, your orders were down both sequential and year-over-year, yet China was higher. Was this driven more by Science or Industry?

Don R. Kania

Industry. Especially, Industry. You were picking up the Xian [ph] Fab a little bit in the China -- the overall China order business.

Mark S. Miller - Noble Financial Group, Inc., Research Division

Okay. What percent of Asian orders were semi-related?

Raymond A. Link

It really varies a lot by quarter. I don't have that off hand.

Don R. Kania

Some vary by quarter a lot.

Raymond A. Link

Some quarter can be really big. Obviously, we have some of our larger customers there on the semi-side, so it can move around. China, though, is generally more on the Science side.

Don R. Kania

Yes. Very much so, yes.

Mark S. Miller - Noble Financial Group, Inc., Research Division

Okay. So it's more Science, overall more Science dominate in China. Oil exploration budgets have taken a hit this year. I mean there are a lot of oil exploration companies, rig manufacturers that have cautioned people about a pretty weak outlook over the next 18 months, and I'm just wondering if that's having an impact in any of your discussions in terms of trying to get your technology into the oil fields?

Don R. Kania

No, I don't think so. We're more on the improving the economics of any given well as opposed to being again volume-driven. So it's an analog to semi, right? We're more on that what's the next node in, in oil and gas? How can I get more stuff on, in the holes in the ground that I have or I'm anticipating? So no, I don't think that it's going to be -- and that's only the shale piece of the business, right? The conventional part of the business is doing really quite well overall in terms of that guide, the rig dynamic. So yes, I think, it's getting tougher in the world everywhere and that's just kind of good for us to get used to this in oil and gas.

Operator

Gentlemen, we have no additional questions. Please conclude with any closing remarks.

Fletcher Chamberlin

Thank you, all, very much. This concludes our call. This is Fletcher. I am available shortly. Don and Ray have to run into some Employee Meetings, but we'd be glad to take any follow-up calls. And we appreciate your interest in FEI. Thanks.

Operator

Ladies and gentlemen, this concludes the FEI First Quarter Earnings Conference Call. Thank you for your participation. You may now disconnect.

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