Ultratech (UTEK) Arthur W. Zafiropoulo on Q2 2016 Results - Earnings Call Transcript

| About: Ultratech, Inc. (UTEK)

Ultratech, Inc. (NASDAQ:UTEK)

Q2 2016 Earnings Call

July 21, 2016 11:00 am ET

Executives

Suzanne Schmidt - Managing Director, The Blueshirt Group LLC

Arthur W. Zafiropoulo - Chairman and CEO

Bruce R. Wright - Chief Financial Officer & Senior Vice President-Finance

Analysts

Krish Sankar - Bank of America Merrill Lynch

Patrick Ho - Stifel, Nicolaus & Co., Inc.

Mark Miller - The Benchmark Co. LLC

Thomas Robert Diffely - D. A. Davidson & Co.

Operator

Please standby. Good day, and welcome to the Ultratech Second Quarter 2016 Earnings Call. Today's conference is being recorded.

At this time, I'd like to turn the conference over to Suzanne Schmidt. Please go ahead, ma'am.

Suzanne Schmidt - Managing Director, The Blueshirt Group LLC

Thank you, operator. Good morning, everyone, and thank you for joining us today to discuss Ultratech's financial results for the second quarter of 2016. A press release detailing our financial results was distributed this morning by Business Wire at approximately 6:00 AM Pacific Time and is available on Ultratech's website. A webcast replay will be available on the website for one week after this call.

Joining me on today's call are Art Zafiropoulo, Chairman and Chief Executive Officer; and Bruce Wright, Senior Vice President of Finance and Chief Financial Officer. After management's opening remarks, we will open the call for your questions.

And with that, I will turn the call over to Art.

Arthur W. Zafiropoulo - Chairman and CEO

Thank you, Suzanne. Good morning, and welcome to our second quarter 2016 conference call. During the course of this presentation, we'll make projections or forward-looking statements regarding future events and the financial performance of the company. We wish to caution you that such statements are just projections and the actual events can differ materially. We refer you to the documents the company files from time to time with the Securities and Exchange Commission, specifically the company's Annual Report filed on 10-K for the period ending December 31, 2015 filed as of February 26, 2016 and the quarterly report filed on 10-Q for the quarter ending April 2, 2016 filed as of April 29, 2016. These documents contain and identify important factors that could cause the actual results to differ materially.

The second quarter of 2016 has exhibited similar growth as has been the case in previous cycles. Since we have been a public company since 1993, dramatic cycles have been a way of life with each one caused by different reasons and events, and generally runs in a two year to three-year period These cycles are rather sharp and successful capital equipment companies usually continue their product development so that in the down-cycle the new products and technologies are developed and can be a positive impact during the returning growth.

We have done exactly that during the past cycles with success in becoming a leading technology company in our served markets. Now from every indication, we believe that Ultratech is in the beginning of a recovery phase. Certainly as in any cycle, events could either cause intensity of good (02:43) growth or cause a pause. We are ready for the growth phase with new proven products and expanded customer focus infrastructure with a dedicated and trained workforce.

Looking at the second quarter, book-to-bill of new system orders was positive at greater than 1.05 to 1. In the new bookings, LSA orders continued and exhibiting strength with 29% of new systems orders, advanced packaging was strong with 58% and nano products improving at 12%, with Superfast 1%. Geographically, new orders included North America at 13%, Europe 8% and Asia Pacific 79%.

In the laser technology, we continued to see strong growth in wafer passes in the second quarter, volume for the same monthly period last year increased more than 20%, a new record. In breaking down the nodes, both 28-nanometer and 40-nanometer nodes increased substantially, most notably the quantity in the 28-nanometer node with second quarter 2015 to second quarter 2016 was greater than 30% growth and the 40-nanometer node by more than 78%.

As we had guided, the reason is due to the lower transistor cost at the 28-nanometer and 40-nanometer nodes, and is expected to continue for several more years, in greater Asia, which is the most significant portion of this growth having led to a significant portion of new LSA orders. This trend is expected to continue.

We also expect additional orders for the sub-20-nanometer nodes, and have been process-of-record at the 10 nanometer node. At the 7-nanometer node, we've had positive feedback with our sub-melt technology at several companies. We've reported that with the LXA melt process, we achieved a world record in reducing the parasitic resistance critical in the 7-nanometer and 5-nanometer nodes. Contact resistance is a dominant issue and becomes worse when device geometries shrink.

This impacts a device performance, specifically speed. The contact resistance results of 8.4 times 10, or minus 10 (5:02), almost per square centimeter was obtained with devices built by IBM. We are expecting to obtain some limited melt orders in 2017.

Now looking at the advanced packaging business, our production capacity is virtually full through the end of this year. We expect gross margins to increase from the first quarter due to customer order quantity shipped. Virtually all advanced packaging new orders were in greater China.

We are projecting continued bookings of sales growth for the remainder of 2016 and our initial advanced packaging projections indicate continued growth into 2017. Our projections are the same for our laser products, with the melt LXA models adding another layer of growth to the sub-melt requirements.

Regarding our Superfast 4G+ metrology with production capability, we expect that with our new continued infrastructure growth that new products will be – add a significant profitable contribution in the near future. We have the best breed in 3D technology and with the lowest cost of ownership having the smallest footprint.

Several of the Superfast systems are in full production for vertical 3D NAND devices and we expect in the future to also penetrate the advanced logic market. Year-to-date, we've had a 25% increase in sales over the same first half of 2015. With our organized and focused strategy, with exceptional leadership, we expect to lead in this potentially significant sized 3D market. We will continue to make the proper business decisions and not compromise our future profitable growth.

In our nano products, our ALD operations recorded a record quarter in bookings. Since we acquired this technology a few years ago, significant process has been achieved. This includes a second generation of three ALD models, the Savannah, the Fiji and the Phoenix system. This investment has resulted in a second quarter bookings of 200% increase over the previous quarter and is the largest dollar booking since this entity was purchased.

The ALD research and laboratory served markets are a bit lumpy in bookings due to budget spending cycles in each served segment, such as universities, government and industry and various geographic locations. Generally, about two-thirds of our sales occurs in North America with 10% in Europe and 25% in Asia.

We believe that there are potentially many new applications which would lead to production volume use of ALD. We are prepared for that to occur, which should increase this countercyclical technology-driven market. I'm encouraged by many of the positive trends underway in each of our product categories and every indication is that these positive trends will continue.

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

Bruce R. Wright - Chief Financial Officer & Senior Vice President-Finance

Thanks, Art. I would now like to go through a brief analysis of our income statement and balance sheet for the quarter, then we will have the conference – teleconference operator open it up for your questions.

The second quarter saw a sequential increase in revenue of about 8% compared to the first quarter of 2016, primarily reflecting increased revenue from Superfast. Geographically, revenue increased sequentially from the first quarter of 2016 in North America and Europe, and decreased in Asia Pacific.

Demand for laser processing systems in the second quarter of 2016 accounted for about 23% of revenue and about 29% of new systems orders. Advanced packaging systems in the second quarter of 2016 accounted for about 50% of revenue and about 58% of new systems orders.

Nanotechnology systems, which include both high-brightness LED and atomic layer deposition systems, in the second quarter of 2016 accounted for about 4% of revenue and about 12% of new systems orders. Superfast systems in the second quarter of 2016 accounted for about 6% of revenue and about 1% of new systems orders.

Gross margin in the second quarter of 2016 increased to approximately 47% from about 40% in the first quarter of 2016, primarily due to product mix and higher volume of production.

Turning now to a comparison of the second quarter of 2016 to the second quarter of 2015, revenue for the second quarter was $48.9 million, up about 6% from $45.9 million for the same period a year ago. The company had net income for the second quarter of 2016 of $2.6 million, which represented earnings per share diluted of $0.10. This net income compares with net income of $1.5 million or $0.06 per share diluted for the same quarter a year ago.

On a non-GAAP basis, we had net income for the second quarter of $6.3 million or $0.23 per share diluted. This non-GAAP net income compares with non-GAAP net income of $5.8 million or $0.21 per share diluted for the same quarter a year ago. For the second quarter of 2016 versus second quarter of 2015 comparison of revenue mix, systems revenue was up about 10% in the second quarter of 2016 and service, spares and license revenue was down about 8%.

For the second quarter of 2016, systems revenue accounted for approximately 84% of the total, broken out by 80% from semiconductor and 4% from nanotechnology, and service, spares and license revenue were about 16%. Geographically, revenue from Asia Pacific for the second quarter of 2016 was $37 million, up about 8% compared with the second quarter of 2015 and represented about 75% of Ultratech's total second quarter 2016 revenue.

Europe had revenue of $8 million, up about 38%, and represented about 16% of the total. And North America had revenue of $4 million, down about 24%, and represented about 8% of the total. Our top-five customers for the quarter were principally advanced packaging and laser processing customers from Asia Pacific and Europe. Overall, the top-five customers accounted for about 76% of systems revenue.

Gross margin was flat at about 47% in the second quarter of 2016 compared with the second quarter of 2015.

Looking at operating expenses in the second quarter of 2016, R&D expenses increased to approximately 19% of revenue from approximately 17% a year ago. SG&A decreased to about 23% of revenue, down from about 26% from the same period a year ago.

Total operating expenses for the quarter decreased to about 42% of revenue from approximately 44% in the second quarter of 2015. Operating margin for the second quarter of 2016 was about 5% of revenue compared with about 3% for the second quarter of 2015.

Interest and other income net was essentially flat at about zero in the second quarter of 2016 compared with the second quarter of 2015. The company recorded essentially no income tax expense in the second quarter of 2016.

During the year, quarterly income tax provisions are determined using an estimated effective tax rate for the entire year. This rate is based on the jurisdictional mix of earnings and has the potential to fluctuate as business moves from one geographic region to another.

Turning now to a second quarter 2016 versus first quarter 2016 comparison of the balance sheet; cash, cash equivalents and short-term investments increased by about $19 million during the second quarter to total about $261 million at June 30, 2016.

No common shares were repurchased in our stock buyback plan during the second quarter of 2016. However, as you saw in yesterday's press release, we announced plans to adopt the 10b5-1 plan going forward in conjunction with our approved stock repurchase plan remaining balance of $60 million.

Accounts receivable decreased about 10% during the second quarter to approximately $45 million on a shipment increase of about 17% compared to the first quarter of 2016. Inventories decreased during the second quarter by about 11% to approximately $54 million. Working capital increased to about $326 million at June 30, 2016, up from about $318 million at March 31, 2016. Book value per share at June 30, 2016 was $13.06, up from $12.84 at March 31, 2016.

Now let's take a few minutes to look at the future from a financial perspective. At this point, it is very important to recall and underscore the Safe Harbor comments Art made at the beginning of the call. Ultratech's markets and industry are notoriously cyclical and hard to predict, and fully subject to the risks enumerated in the company's 10-Qs and 10-K. As a result, any forward-looking statements are highly vulnerable to very sudden and significant changes, risks, and uncertainties. In addition, the company undertakes no obligations to update information presented in forward-looking projections, forecasts or estimates.

As you heard from Art's comments, the momentum we experienced last quarter continued in the second quarter of 2016. We had a book-to-bill of greater than 1 for the third quarter in a row. We saw continued strength in orders and revenue in both advanced packaging and laser processing along with sequential revenue growth for Superfast.

Our Singapore manufacturing facility advanced packaging build plan is now fully booked through the end of 2016. While the overall industry continues to struggle with cost issues with FinFET logic devices and sectoral business cycle weakness, particularly in DRAM, Ultratech's differential positioning looks to continue to be exerting itself. Advanced packaging remains strong driven by increasing capacity to meet wafer fan-out needs and continued focus on packaging costs.

As FinFET logic device production has stalled, demand for planar logic devices has increased at the 28-nanometer node, again, driven by cost considerations. With more numerous vertical layers for 3D NAND wafers, demand is increasing for Superfast's ability to perform advanced metrology inspection steps. As a result of all these factors, we anticipate Ultratech's third quarter 2016 revenue will be sequentially up about 5% over the second quarter of 2016.

Gross margin could increase a couple of percentage points. Operating expenses look to be about the same as in the second quarter of 2016, with an increase in R&D and a decrease in SG&A. The tax rate is estimated to be about the same as the second quarter of 2016. We anticipate being sequentially more profitable in the third quarter of 2016 compared to the second quarter of 2016 on both a GAAP and non-GAAP basis. Cash flow for the third quarter of 2016 should be positive.

Finally, we would like to wrap up our formal remarks by reminding you of the Reg FD restrictions. In Ultratech, the only three people authorized to talk to you about the company are Art Zafiropoulo, Chairman and Chief Executive Officer; me, Bruce Wright, Chief Financial Officer; and Suzanne Schmidt of The Blueshirt Group. For any calls or questions after the teleconference call dealing with quantitative matters, we will refer you back to the comments made during the teleconference call.

That concludes our formal remarks, and now we would like to open it up for your questions. Operator, would you please begin the polling?

Question-and-Answer Session

Operator

Thank you. We will take our first question from Krish Sankar from Bank of America Merrill Lynch.

Krish Sankar - Bank of America Merrill Lynch

My question. Art and Bruce, I had a few quick questions. One is, is there any way you can quantify the number of 10-nanometer LSA tools you're seeing either in terms of PoR or in terms of the numbers you saw in your bookings?

Arthur W. Zafiropoulo - Chairman and CEO

We're currently at PoR at three site and four is very close. So, literally all the major companies have us PoR at that particular node and that we are on the verge again in – at PoR at 7-nanometer, and 7-nanometer is a very unusual node, as I mentioned early about parasitics and so that, that node may be something that's very unusual and it's possible that the laser technology will be unique and be able to solve the issues where other technology may not be.

This is early, so it's hard to determine. The customers are always finding additional solutions through design and process changes. But at this stage, it appears that the – the laser technology is extendable to 7-nanometer and 5-nanometer, and the 5-nanometer – and maybe some of the 7-nanometer will require at least one step with melt.

Krish Sankar - Bank of America Merrill Lynch

Got it. And it looks like many of the leading logic foundry guys are going to be spending more on 10-nanometer in the back half of this year and into next year. So I am just curious, should you guys – would – benefit from your LSA business or is it too early to say for that?

Arthur W. Zafiropoulo - Chairman and CEO

I think it's too early. There's a lot of reuse strategy in play right now, and so some of these companies at 14-nanometer who did not win the Apple business may utilize the 14-nanometer technology for the 10-nanomter, and some reuse may occur at those nodes. So, it's hard to say, but in any event, what we've seen is looking at 14-nanometer as opposed to 16-nanometer, we've seen a decrease in overall wafer passes at 14-nanometer, and that's primarily due to the Apple contract. And so that there may be excess capacity available to be used at 10-nanometer. Now, not all of the steps could be used at 10-nanometer, but certainly many of the process steps can.

Krish Sankar - Bank of America Merrill Lynch

Got it, got it. And on the advanced packaging side, you guys mentioned that you are seeing traction on the wafer level fan-out, are those shipments in Q2 or in Q3 going to foundries or OSAT?

Arthur W. Zafiropoulo - Chairman and CEO

They are going to both.

Krish Sankar - Bank of America Merrill Lynch

They are going to both, okay. Got it. And then the last question I had was, I know in the near term like ASC, SPIL, they're going to operate as independent companies, but do you see that combination impacting the back-end business?

Arthur W. Zafiropoulo - Chairman and CEO

No, I don't think it's going to impact our business at all. ASC primarily has a very strong position in the low-end and wire bonding, and SPIL is extremely strong in the advanced packaging area as is Amcor. So with the ownership of about 37% of SPIL by ASC, I don't think this is going to have any bearing at all in our future.

We haven't seen anything to indicate that. So I feel comfortable that we'll see the OSATs expanding at a faster rate. When the foundries move to the next generation of the fan-out, the foundries will then give off to the OSATs the older generation, and so we're now ceding the current generation into the OSATs, and I expect that to continue and the foundries to extend their technology nodes to reduce the number of layers, and so that we see that trend continuing. We've added many new technologies for fan-out that covers beyond the foreseeable future. So we are very prepared for at least the next two generations to three generations of fan-out as they begin to reduce the geometries.

Krish Sankar - Bank of America Merrill Lynch

Got it. Thanks a lot, Art. Very helpful. Thank you.

Operator

Moving now, we'll take our next question from Patrick Ho, Stifel, Nicolaus.

Patrick Ho - Stifel, Nicolaus & Co., Inc.

Thank you very much. Art, maybe first in terms of the industry's 28-nanometer build out that you are seeing today. That node has obviously had a much longer life span than I think any of us projected initially. Do you see additional capacity build-outs for 28-nanometer as we look forward to even 2017 and 2018, or do you believe that this – what we're seeing this year is kind of just a – a kind of one-year phenomenon as some of the second-tier players trying to play catch-up to the demand that's out there for that node?

Arthur W. Zafiropoulo - Chairman and CEO

Patrick, it's not a surprise to me. I think if you look back two to three years, I called for a very large phase in the 28-nanometer to be the biggest node in the history of this industry, and so that it's not surprising to me. It's surprising to me a little bit more that the 40-nanometer node has continued to extend its life, and again, due to cost, but the cost of 28-nanometer is even lower than 40-nanometer, so that we see this continuing. Especially in China, we literally have 100% market share in China. So, as the growth continues and China then increases the yield as they are today, 28-nanometer, they are going to extend their capacity. So we see this – this continuing through at least next year and possibly beyond that.

So 28-nanometer, we believe, the design's in place, will continue to grow through 2025. So we see 28-nanometer continuing very strong and additional capacity being added there. So we see that continuing, and then layering on top of that, the sub-melt for the FinFETs, and again, the melt for certain requirements for parasitic gains for the 7-nanometer and for sure the 5-nanometer.

So we see a great future in extension of 28-nanometer, 40-nanometer to some extent, but 28-nanometer for sure being very strong. And then the FinFET certainly being selectively strong and the industry is shifting to 10-nanometer, but they are going move very quickly through 10-nanometer to 7-nanometer. So every indication is that 10-nanometer may not be a big node. It may be very similar to the 14-nanometer, 16-nanometer, a good node, but the big node everyone's targeting for now is 7-nanometers.

Patrick Ho - Stifel, Nicolaus & Co., Inc.

Great. That's helpful. And maybe moving to the advanced packaging side, with the demand strength that you continue to see there, driven this year primarily by fan-out applications. From a big picture basis, as you look forward, what other types of applications do you see, looking into 2017 and even into 2018, that can drive continued strength in your litho business over the next couple of years?

Arthur W. Zafiropoulo - Chairman and CEO

Actually the copper pillar is expected to grow through the end of this decade at about a 23% compound annual growth rate, and the wafer fan-out is extended to about 63% compound annual growth. So, we see those continuing. And what we may be seeing next is TSV, through-silicon via, being used for image sensors to reduce the thickness of the mobile handset. So that's a next-generation that we think will be an additional driver. If all these drivers kick in as what's anticipated, then we expect our business to grow. Probably in the next three years to four years, it could even double, but between 50% and 100% growth, we expect based on our current information.

Patrick Ho - Stifel, Nicolaus & Co., Inc.

Great. Thank you very much.

Arthur W. Zafiropoulo - Chairman and CEO

You're welcome, Patrick.

Operator

Moving on, we'll take our next question from Mark Miller, The Benchmark Company.

Mark Miller - The Benchmark Co. LLC

Congratulations on your continued progress. I was wondering if you can give us just a little more color on what's going on in wafer level fan-out in particular, what competition you're seeing? And who besides at the foundries – who besides Taiwan Semiconductor is kind of pushing that technology?

Arthur W. Zafiropoulo - Chairman and CEO

Well, I think, all of the leading OSATs are. So the equipment is in place at virtually every OSAT, some – a much larger capacity than others, but the OSATs are gaining momentum in the fan-out. I should mention a little bit more about the market share, we have been very conservative in our numbers of 75%, we think those numbers really are understated, and we believe those numbers are much higher.

In the fan-out area, we believe that we are well over 85%, maybe 90% market share, and on the copper pillar, the same. So we dominate there. So once you get below a certain geometry, there is very little competition that's as cost-effective as we are. So we have technology now. The current technology node is 10-microns, going to 5-microns, going to 2-microns. Well, our systems are capable of 2-microns right now, going to 1-micron and then sub-micron. So, we'll be shipping systems this year that are capable of doing sub-micron, and so that we are in a very good position several generations of technology to again fuel the growth to reduce cost.

The whole objective here is driving down the cost of fan-out. When that occurs, there is a possibility, there is some interest in memory now investigating the use of fan-out. Again, it's not clear if they will, but there is indication that they're looking very hard at fan-out for those applications in the future.

Mark Miller - The Benchmark Co. LLC

Just a housekeeping question, I might have missed it, but could you give us cash from operations?

Bruce R. Wright - Chief Financial Officer & Senior Vice President-Finance

Hold on for a minute. Cash from operations was about $23 million.

Mark Miller - The Benchmark Co. LLC

Thank you.

Operator

Moving now, we'll take our next question from Tom Diffely from D. A. Davidson.

Thomas Robert Diffely - D. A. Davidson & Co.

Yes. Good morning. Couple more questions on the LSA. First, Art, you mentioned that the 40-nanometer is not as productive or is economically feasible as the 28-nanometer, why do you think customers are ramping 40-nanometer at this point or adding capacity at 40-nanometer?

Arthur W. Zafiropoulo - Chairman and CEO

Yeah. It's less difficult to manufacture and the yields are higher. So 20-nanometer is more challenging than 40-nanometer is. So the reason is that their – actually the cost per transistor is higher than a 28-nanometer, but it's much more difficult to produce the 28-nanometer than the 40-nanometer. So they are not as advanced in that node.

Thomas Robert Diffely - D. A. Davidson & Co.

Okay. So would you expect those guys to stay at 40-nanometer for a while and not convert down to 28-nanometer?

Arthur W. Zafiropoulo - Chairman and CEO

Oh, I expect them next year to start moving to 28-nanometer and I think they're doing work in that area now. And as the yields pick up, they will begin to drive cost down on 28-nanometer. And I think 28-nanometer – 40-nanometer I expect to fall off substantially and 28-nanometer to grow and pick up all that residual at 40-nanometer and new applications in IoT. So IoT I think will be very big at 28-nanometer.

Thomas Robert Diffely - D. A. Davidson & Co.

Okay. And you mentioned that there was some very strong wafer pass growth. I think you said 30% (sic) [20%] (29:55) at 28-nanometers over the last year. I'm curious though, is that just the new customers, the second tier customers coming in, or do you see your traditional customers also increasing wafer starts at that node?

Arthur W. Zafiropoulo - Chairman and CEO

Yeah. That's including the major foundries and the second-tier foundries, both.

Thomas Robert Diffely - D. A. Davidson & Co.

Okay. All right. And then, Bruce, a few years ago, when you guys were in the middle of a nice LSA ramp, you had gross margins that were in the mid-50%s. Would you project that when revenues move back up closer to $60 million in the quarter again that you get back to that space and that area?

Bruce R. Wright - Chief Financial Officer & Senior Vice President-Finance

We definitely have in our operating model to move through that number fairly rapidly. As you can see, we've had significant gross margin growth this year over what we saw last year, and even in the first quarter of this year we're anticipating that we will continue to see gross margin growth. And I don't know whether we hit it later this year or early next year, but it's our full anticipation that we will be getting back into the 50% or greater gross margin area.

Thomas Robert Diffely - D. A. Davidson & Co.

Okay. Great. And then just a couple of quick ones on the ALD market. Sounds like business has really picked up there. Can you give us a sense for how meaningful that is for your overall business? And then, Art, you mentioned it was countercyclical, I am wondering if it truly is countercyclical or it's just a slightly different cycle that could ebb and flow versus the normal cycle?

Arthur W. Zafiropoulo - Chairman and CEO

Well, it really won't have too much initial bearing on our company because the volume is quite low. We ship about 50 systems a year and the average ASP is around $200,000, and so that it doesn't have a meaningful impact. But as we move to the production applications that we're looking at now, that could lead to something substantial and it will become a cyclical. It will be totally different market in terms of its application.

Thomas Robert Diffely - D. A. Davidson & Co.

Okay. Great. Thank you.

Arthur W. Zafiropoulo - Chairman and CEO

You're welcome.

Operator

At this time, that will conclude our Q&A session. I'd like to turn it back over to our speakers for any additional or closing remarks.

Arthur W. Zafiropoulo - Chairman and CEO

Well, thank you very much for being part of our conference call today, and we hope that you'll have a wonderful summer, and we look forward to meeting with each of you in the near future. Again, thank you.

Operator

And that will conclude today's conference. We thank everyone for their participation.

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