Intevac's (IVAC) CEO Wendell Blonigan on Q2 2014 Results - Earnings Call Transcript

| About: Intevac, Inc. (IVAC)

Intevac, Inc. (NASDAQ:IVAC)

Q2 2014 Earnings Conference Call

July 28, 2014 4:30 p.m. ET

Executives

Wendell Blonigan – President and CEO

Jeff Andreson – Chief Financial Officer

Claire McAdams – IR

Analysts

Brett Piira – B. Riley and Co.

Rich Kugele – Needham & Company

Mark Miller – Noble Financial Capital

Operator

Good day, and welcome to Intevac's Second Quarter 2014 Financial Results Conference Call. [Operator Instructions] Please note that this conference call is being recorded today, July 28, 2014.

At this time, I would like to turn the call over to Claire McAdams, Intevac's Investor Relations Counsel. Please go ahead.

Claire McAdams

Thank you, and good afternoon, everyone. Thank you for joining us today to discuss Intevac's financial results for the second quarter of 2014, which ended on June 28. In addition to outlining the company's financial results, we will provide guidance for the third quarter and full year 2014. Joining me on today's call are Wendell Blonigan, President and Chief Executive Officer; and Jeff Andreson, Chief Financial Officer. Wendell will start with an update on our businesses and then Jeff will review the second quarter results and provide our guidance for Q3 and outlook for the remainder of the year before turning the call over to Q&A.

Before turning the call over to Wendell, I'd like to remind everyone that today's conference call contains certain forward-looking statements, including, but not limited to, statements regarding financial results for the company's most recently completed fiscal quarter, which remains subject to adjustment in connection with the preparation of our Form 10-Q, as well as comments regarding future events and projections about the future financial performance of Intevac. These forward-looking statements are based upon our current expectations, and actual results could differ materially as a result of various risks and uncertainties relating to these comments and other risk factors discussed in documents filed by us with the Securities and Exchange Commission, including our annual report on Form 10-K and quarterly reports on Form 10-Q. The contents of this January 28 call include time-sensitive forward-looking statements that represent our projections as of today. We undertake no obligation to update the forward-looking statements made during this conference call.

I will now turn the call over to Wendell.

Wendell Blonigan

Thanks, Claire. To begin with, I would like to take this opportunity to thank all of our employees for their hard work and dedication in executing the quarter. In particular I’d like to acknowledge the outstanding results in ramping volume production of the Apache camera as well as the design and build of two new thin-film deposition systems that are being deployed into adjacent applications in the vacuum coating industry.

On the call today I will be providing an update on both of our businesses, including our progress in our thin-film equipment growth strategy. I will start today's update with our Photonics business which achieved record performance for both revenue and operating profit last quarter.

Our Photonics business outlook continues to be strong and is on track to grow approximately 30% or to $40 million this year. In the second quarter, revenue increased 37.5% from Q1 to $11 million with a 23% operating margin. Today the primary revenue growth drive, as we’ve discussed on prior calls, is our Apache camera program for the U.S. Army. Our team has done a great job of executing the transition of this program from pilot to full rate production levels. We believe that our performance in Apache program will help facilitate success in other digital night vision programs as it will clearly demonstrate the capability and maturity of our core technology as well as validate our capability as a systems provider.

In addition to our Apache program, we continued to ship our LIVAR cameras to our partner Northrop Grumman as well as our digital night vision camera modules to our NATO partner. Our LIVAR cameras have now surpassed over $1.6 million flight hours and over 300,000 hours of ranging and targeting operations. We’ve also shipped over 7000 camera modules for digital night vision rifle sights.

Earlier this month, at the Farnborough airshow in the UK, our partner BAE Systems unveiled their new Striker II helmet mounted display which brings digital night vision imagery inside of the pilot’s helmet visor. This eliminates the need for night vision goggles for day to night transitions. This new helmet mounted display incorporates and is enabled by our proprietary ISIE-11 digital night vision sub-system.

Our digitally fused goggle programs are progressing and we continue to move in the technology development process. We are pleased to now be engaged in live evaluations of performance and are receiving important feedback on our initial prototypes. Today our Photonics business is an established contributor to corporate performance and we expect continued strong performance as we look to 2015.

Moving to our thin film equipment business. In our core business for thin-film deposition of hard disk drive magnetic media, we continue to operate in one of the most challenging periods in our industry's history. The secular changes underway continue to negatively impact our business over the near-term. But the long-term outlook for growth in data and most importantly exabyte shipping on spinning drives remains positive.

Although exabyte growth year-to-date has lagged some of the more aggressive estimates entering the year, our customers and industry analysts are forecasting better-than-expected hard disk drive unit growth in the second half of this year and industry analysts are forecasting year-over-year media growth for 2014-2015 and in fact, each year to their extended forecast.

In the interim we remain focused on the development and qualification of upgrades for our installed base of over 200 systems. The qualification process for these upgrades can take 6 to 9 months and we expect to complete several significant qualifications in the second half of this year that can drive growth and upgrades next year.

In fiscal 2014, we expect to revenue two to three hard drive deposition systems with our service and spares business flat versus last year and a decline in our upgrade business. As we look towards 2015, depending on media unit growth rates, it is possible we will see a return to capacity orders late in the year. These orders combined with executing on our upgrade business pipeline would support an improved environment for our hard drive equipment business next year.

Now for an update on our equipment growth strategy. As I explained on our last call, the focus of our equipment growth strategy is to drive revenue by leveraging our core capabilities into adjacent vacuum coating applications. Our core capabilities lie in high throughput small substrate thin-film deposition, particularly sputtered metals and dielectric deposition. To date we’ve received initial traction in two applications aligned with our strategy. Metal deposition for high-efficiency solar cell manufacturing, particularly advanced cell architectures and diamond like carbon for the protective coating of mobile device cover glass.

In July, we formally announced our Intevac MATRIX platform. The MATRIX is enabled by a novel carrier-based transport system that can accommodate various sizes and types of substrates. The system can be configured with multiple thin-film deposition technologies for in-line sequential process. It is capable of double-sided deposition without breaking the vacuum and can deposit in either a horizontal or vertical substrate orientation. This platform has been engineered to produce the highest quality films at the lowest cost of ownership for an array of applications in vacuum coating.

We're making good progress towards the shipment and qualification of these two new PVD tools and expect to ship both systems within the next few weeks. Each of these systems are going through extensive factory acceptance testing by both ourselves and our customers with very positive results so far. This level of testing will help ensure a smooth and efficient start-up at our customer sites with final accepted for each anticipated in the fourth quarter. Both of these new applications are expected to have follow-on opportunities over the next 12 months.

In the application for solar implant, we continue to scale our investment levels that align with the opportunities we see. We are continuing our engagements with multiple solar cell manufacturers on technology development and drive our investment decisions through our phase gate process. As I said on our last call, the solar industry’s interest in ion [ph] implant is primarily for the next generation of high-efficiency device structures. Capacity rollouts will be timed with our customers’ technology roadmap progress as well as overall supply and demand dynamics.

In summary, we continue to manage the company dynamically and our focus on continuous improvement in our performance and the diverse markets we serve given the market conditions we are experiencing. In our Photonics business, we continue to extend our leadership -- industry-leading digital night vision sensors and camera technologies to capture the program opportunity pipelines in front of us while managing the business for both growth and profitability.

In our thin-film equipment business, our near-term efforts on products for the hard drive industry will be on the development and qualification of upgrades for the installed base while ensuring that we are well-positioned when the industry resumes capital tool additions. In our equipment growth strategy, we will leverage the new Intevac MATRIX platform and our core technologies into new thin-film applications starting with the successful start-up and qualifications of our first two systems discussed earlier in the second half of this year.

Finally we continue to face a challenging business environment in our core HDD equipment business, which we cannot control. We are making marked progress in diversifying our business opportunities. All of the efforts we have discussed today are focused on driving revenue growth and positioning the company for a return to profitability in 2015. I look forward to updating you on our progress next quarter and will now turn the call over to Jeff to discuss our financial results for the second quarter, guidance for the third quarter and our outlook for the year.

Jeff Andreson

Thanks, Wendell. Second quarter revenues totaled $14.7 million which was above our guidance due to incremental equipment upgrade and spares. Equipment revenue totaled $3.8 million and did not include any 200 Lean or others.

Photonics sales of $11 million included $2.7 million of contract, research and development revenues. Photonics product sales were $8.3 million, nearly doubling from Q1 and set a new record for our Photonics business.

Consolidated gross margin was 35.4%. Equipment gross margin was 8.3%, down from both the first quarter of this year and the second quarter of last year due to lower equipment upgrades and the impact on factory absorption at this lower level of revenue.

In our Photonics business, gross margin was 44.7%, significantly up from both the first quarter and the second quarter of last year and above expectations for this business [indiscernible]. The high gross margin in Q2 was due to the higher mix of product shipments versus lower margin contract development, the release of favorable warranty reserves and better yields than expected in our sensor based product.

Q2 operating expense was 10.5 million, up from the first quarter and higher than our guidance due entirely to the costs associated with the proxy contest which in Q2 were $800,000. Excluding these costs, we were at the midpoint of our guidance for the quarter.

Our Q2 net loss on a GAAP basis was $5 million or $0.21 per share. Our Q2 net loss on a non-GAAP basis was 4.9 million or $0.20 per share as compared to our guidance of the loss of $0.21 to $0.24 per share.

Our backlog was $46.3 million at quarter end. Equipment backlog of 8.6 million included two new PVD systems which we're shipping shortly but did not include the new 200 Lean order announced today. Backlog in our photonics business was $37.8 million.

We ended the quarter with cash and investments of $76.3 million, equivalent of $3.19 per share based on 23.9 million shares at quarter end and roughly flat to the first quarter.

During the second quarter, we bought back 58,000 shares totaling $400,000. We continue to purchase opportunistically in the market and in July have purchased an additional 320,000 shares for $2.3 million bringing the total repurchases on this program to date to 756,000 shares or $5.5 million.

Capital expenditures were $839,000 and depreciation and amortization was $1.1 million for the quarter.

I will now provider our guidance for the third quarter and our outlook for the year. We are projecting consolidated Q3 revenues of $13.6 million to $14.7 million by Q2 [ph] at the high-end the range. Our photonics revenue is expected to remain relatively flat to the second quarter with some growth at the top of the guided range. But we do not expect to revenue our new thin film equipment systems shipping in Q3. We expect third-quarter gross margin to be 31% to 33% which is lower than the second quarter as we expect photonics gross margin to normalize in the high 30% range.

Operating expenses are expected to be $9.7 million to $10 million. For Q3 we're projecting a net loss in the range of $0.20 to $0.23 per share.

I will now discuss the outlook for the full-year 2014. The outlook for the full-year is largely unchanged since our last conference call. We expect revenues in the range of $73 million to 80 million with total equipment revenues flat at the high-end of our outlook and photonics revenues up approximately 30% from 2013 level. We lowered our high-end of the revenue range due to a shift in the shipment timing for an expected follow on covered glass PVD system to later in the year or early 2015.

Gross margin is expected to be 34.5% with total operating expenses of approximately $39 million for the full-year. But the resulting operating loss is expected to be in the range of $11 million to $13.5 million on a GAAP basis. The cash burn for the full-year at the high-end of the revenue range is expected to be approximately $6 million which includes approximately $1 million in costs related to the proxy contest initiated and completed in the first half but excludes any cash used in the company's repurchase of stock.

The net loss for the year is expected to be between $0.45 and $0.54 per share. This completes the formal part of our presentation. Operator we're ready for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And the first question is from Brett Piira of B. Riley.

Brett Piira – B. Riley and Co.

Congrats on the photonics margins there. Just wondered if that changes anything, I know there is some one-time items there but a longer-term do you have any update on what you can run the operating margin for the photonics business?

Jeff Andreson

It’s Jeff. We’ve kind of said that we could excursions that get above our targeted ranges for this which is a mid to high 30s, operating profits probably between 12 and 15, kind of these revenue levels will be about as good as it gets. And -- but anyways some of the one-time stuff pushed us up this quarter.

Brett Piira – B. Riley and Co.

And then maybe – did I get that right – you expect to ship the Lean 200 system this year, is that correct, the one that you just announced order for?

Jeff Andreson

Correct, yes.

Brett Piira – B. Riley and Co.

And then before you’ve kind of talked about -- to get to where we need for capacity of 150 million unit type TAM average quarterly and averaging two disks per – it’s easy for us to see the TAM but can you just kind of give us an update of where you see the industry right now as relating to that?

Wendell Blonigan

Yeah. Brett, this is Wendell. I think when we looked and modeled everything at the beginning of the year, our customers’ industry forecast for exabyte growth, we modeled to that, I think as we look through this -- the first half of the year certainly that growth rate has not been there. There is a forecast for the second half to be much, much better demand on the hard drive units. We have to wait and see how the ratios are positioned there but we see that – we are going to need to see some continued growth like we’re seeing in the second half in order to get some of the low ends to those models coming into the year.

Jeff Andreson

Brett, it’s Jeff, the media numbers won’t be available for probably a month or so to see kind of the disk per drive.

Brett Piira – B. Riley and Co.

And then finally for me, with you’re kind of moving to the adjacent markets with this mobile coater, and the shipment, when will we know the success of that, how long the qualifications will there be, just any timing from that end?

Wendell Blonigan

In the prepared remarks, we are expecting that to qualify and revenue in the fourth quarter. So I think we will have -- as we move towards the end of the year we’re going to see how that new application of film is working as well as what our customers’ customer bases, how that's developing. So we will have a better visibility there.

Brett Piira – B. Riley and Co.

So at that time we should know more on there and if there would be repeat orders, anything like that, right?

Wendell Blonigan

Yes.

Operator

The next question is from Rich Kugele of Needham.

Rich Kugele – Needham & Company

A couple of questions. The mix this quarter in the photonics side, you are not guiding for the same type of margin here this quarter. Was it that unique – you mentioned that you could have – up to that level again but what again made it so favourable on the margin side and why wouldn’t that repeat?

Jeff Andreson

There was – one of the big items was -- the warranty for the camera sensors that we have in the field, the performance of the field is just improving. So we released some of that and so that's a fair bit of the amount that got released above the 40% level. Some of it was the fact that we built higher volume kind of overlapping to lots the first quarter. So it will normalize down a little bit going into next quarter.

Rich Kugele – Needham & Company

So the margin benefit above 40% can really be attributed to the warranty reversal?

Jeff Andreson

Primarily, yes.

Rich Kugele – Needham & Company

And then in terms of this 200 Lean, do you get the sense that this is for production or is this R&D, is this something that’s going to be deployed here domestically for R&D or –

Wendell Blonigan

Our customers really don't tell us exactly what their purposes are. We’re just happy to get the order.

Rich Kugele – Needham & Company

And at the time was there any indication that there would be additional orders – is that where your comments about potentially next year see income others – that’s coming from?

Jeff Andreson

I think we’ve talked a little bit more in the near-term. We have some visibility to one additional tool this year albeit we’re working to see what that configuration would look like. And that's really where our near-term visibility is at.

Rich Kugele – Needham & Company

And then obviously the guidance implies a pretty material snapback in the December quarter, just so that there's no confusion, the drivers for that revenue -- you got the Lean system which you can recognize immediately, the two PVDs, correct and you’re expecting what – some pretty decent spares and upgrades business?

Jeff Andreson

Yes, exactly – we’re going to -- we expect a bounce back in our upgrade business. And photonics is going to be running at this level with maybe a little upside at some of the high-end of the guidance. But that’s not up dramatically from the level that was in Q2.

Rich Kugele – Needham & Company

But on the operating expense side, no material changes and as we enter next year, should we assume this type of a level continues at the operating line?

Jeff Andreson

I think as of today we are kind of saying that we will be around 39 obviously and other some one-time stuff related to the proxy contest. But it’s kind of this 9.5, 10 range that we can see for at least next year or so, barring any other shifts in the business.

Operator

The next question is from Mark Miller of Noble Financial Capital.

Mark Miller – Noble Financial Capital

I just was wondering where you recently had one of your solar competitors on the road and their CFO was saying that -- one thing that was hanging over them was this tariff issue, and I think but you had some resolutions on Friday, I mean it’s still hanging out there but they thought that was depressing capital investment, thinking – I am just wondering what your thoughts are. But they were also telling us they thought this next year for capital investment in the solar industry would be a good one, and just trying to get your thoughts on that situation?

Wendell Blonigan

Mark, I was actually reading the DOC documents this morning, I got my copies. I would say and again I haven’t read – I only have the summary here in front of me. But it appears that at least this preliminary ruling from the DOC is closing what would appear to be a loophole from the Taiwanese manufacturers. I don't think the final decision is till sometime in January right?

Mark Miller – Noble Financial Capital

Yes, that’s my understanding.

Wendell Blonigan

Yeah, so I would say in general that with solar customers that we’ve talked to specifically in Asia, that there's an overhang from this because nobody knows exactly how it all plays out. I think we got a little more resolution on Friday here, the direction they're going. Although I think I heard the WTO ruled against it last week or something. So it is a variable in play, I think overall it’s not good for the overall business. That being said, end demand for solar cells is still strong. I think we’re looking at the high 40s and -- are in gigawatts of demand exiting this year which puts us right on to – or right up against installed capacity. That's really going to be -- regionally how does that shake out and does the pricing have any impact on the end market? And certainly there are other solar manufacturers in the universe who see this as quite positive.

Mark Miller – Noble Financial Capital

Yeah from what I am understanding, it’s pushing some firms – I think there has been recent announcements about building plants in the US. Would that be a plus for you guys?

Wendell Blonigan

I think anything in the US regionally gives us an advantage of being local. It really depends on what technology they want to propagate, what efficiency points they are at and as they are further up that technology roadmap that's where our products are focused on. So any activity in the high-efficiency new device structure areas are positive for the products we have positioned in that market.

Mark Miller – Noble Financial Capital

Anything new on implanter quals [ph], how they are going and how many sites are you at?

Wendell Blonigan

Well, we’ve talked about one tool that’s out there that continues to run in production. We are in the technical development with several different manufacturers, we can't talk about who they are and what exactly we’re working on with them. But as we move forward we’re continuing to fund this activity and that’s one of the key milestone points as we review the technology is the customer engagement and progress in the technology development.

Mark Miller – Noble Financial Capital

So when you say technical development, do you mean that you have a tool that’s being evaluated at site or are you providing samples?

Wendell Blonigan

In general, we work by not necessarily providing samples but inserting our technology steps into their process flows. So the substrates would start on their site come to us, we would do our processing and they return back for cell processing.

Mark Miller – Noble Financial Capital

Okay you are doing that locally. One area that you mentioned, you’ve got metallization tool out there for photovoltaics, another area, I am just wondering if it’s an opportunity, it’s little difference to PECVD but it's for silicon nitride ARs, have you thought that about area as an opportunity, you want to just stick to your knitting with metallization type coatings [ph]?

Wendell Blonigan

Well I think when you look at that space, and I don't know if you recall that my previous company I did that particular type of equipment, which was PECVD nitride but that space has got a lot of activity in it with a lot of different players. And I think if you’re going to be in that space I think you really need to have something really differentiated because there's a lot of incumbent players that have been in that space for a very long time, specifically Europeans.

Mark Miller – Noble Financial Capital

No, I agree, because what I am hearing is that people trying to enter in that space are seeing it, they are having that – sell the tools at very low margins to get their foot in the door, and that would get me to my last question that, are you under similar pressure for your – like carbon tooling, your PVD tools for metallization, are you having that to discount these tools to get them in the door or that’s not as competitive as the PECVD market?

Wendell Blonigan

Well, I think that the DLC is a pretty unique market although there are lots of companies that make a diamond like carbon product. We think that we have something that's unique and valuable and we’re continuing to nurture that program and bring it to the forefront of our growth initiatives as we develop this market with our partner customer. So to answer your question is it's not like a very, very crowded equipment space that’s been commoditized at this point.

Mark Miller – Noble Financial Capital

That also goes for the metallization opportunity?

Wendell Blonigan

There is a lot of metallization but again when we look at how we see ourselves being differentiated, we see certain segments where our patented technology provides us a significant advantage.

Operator

Thank you. There are no further questions in the queue at this time. I will turn the call back over for closing remarks.

Wendell Blonigan

Okay, thank you. Well we want to thank all of you for joining us today and we look forward to updating you in our next call on our third quarter results, until then so long.

Operator

Thank you. This concludes today’s teleconference. You may now disconnect.

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