FSI International F1Q08 (Qtr End 11/30/07) Earnings Call Transcript

FSI International, Inc. (FSII)

F1Q08 Earnings Call

December 18, 2007 4:30 pm ET

Executives

Donald S. Mitchell – Chairman, CEO
Patricia M. Hollister – CFO
Benno G. Sand – Executive V.P. Business Development, IR

Analysts

Christian Schwab – Craig-Hallum Group LLC

Clint Morrison – Feltl & Co.

Presentation

Operator

(Operator Instructions) Now I would like to turn the meeting over to Mr. Benno Sand, sir you may begin.

Benno Sand

Good afternoon and welcome to the FSI International first quarter conference call. With me today is Don Mitchell, Chairman and Chief Executive Officer and Pat Hollister, Chief Financial Officer. We will have a telephonic replay of this conference call available for the next several days. That phone number is 866-395-7237. Investors also have the opportunity to listen to the conference call over the Internet through CCDN Individual Investors Center. A webcast replay of this call will be available shortly after the call is completed and remains available for 30 days.

In compliance with Regulation FD we have provided advance notice of this call and that this call is publically available. Under the Securities Reform Act Safe Harbor Provision we will be making forward-looking statements during this conference call including expected second quarter fiscal 2008 financial performance. Actual results may differ materially from those projected in the forward-looking statements. As you know, these statements involve various risks and uncertainties. Please refer to our press release from this afternoon and to our recently filed SEC documents including the latest 10-K annual report in which we discuss risk factors that could affect these forward-looking statements.

To begin the call today Don will provide a brief summary of first quarter performance and his views on the industry. Pat will then provide a more detailed review of first quarter financial results and second quarter expectations, followed by Don’s review of recent accomplishments and our strategic focus going forward. We will all be available for questions at the end of the call. Now let me turn the call over to Don.

Donald Mitchell

Thank you Benno. Good afternoon everyone. Our first quarter orders were below the guidance range we provided reflecting the continued weak industry conditions as customers remained cautious going into their seasonally slow period and were assessing their capacity requirements for next year. Overall, we’re pleased with our improved financial performance and how the cost reduction programs which we implemented during the second half of fiscal 2007 are contributing to the company’s overall performance.

Net orders for the first quarter were $15 million as compared to $34.1 million in the prior year comparable period and $21.4 million last quarter. Our first quarter order shortfall from guidance can be attributed to seasonally lower orders for spare parts and customer initiated 200mm product order delays.

First quarter 2008 revenues were $22.4 million as compared to $37.7 million for the same period in fiscal ’07 and $19.9 million level last quarter representing a 12% quarter over quarter increase. We expect revenues to increase sequentially again in the second quarter of 2008.

First quarter fiscal 2008 shipments were $20.7 million as compared to $42.2 million for the same period in 2007 and $21.9 million last quarter. As a result, quarter-end backlog and deferred revenue was $13.4 million at the end of the first quarter as compared to $21 million at the end of fiscal 2007.

Our fiscal 2008 first quarter net loss was $2.1 million or $0.07 per share as compared to a net income of $1.9 million or $0.06 per share in the prior year first quarter and a net loss of $6.5 million or $0.21 last quarter.

We expect to report between a $1 million loss and break-even next quarter. Our internal goal remains to manage the company to be profitable for the quarter and for the fiscal year. Leading industry analysts recently revised its semiconductor demand forecast for calendar 2007 and 2008. They now predict the demand for semiconductors will increase approximately 2.9% in calendar ’07 from the $263 billion calendar 2006 level. The increase is being driven by memory and microprocessor device demand. The same analyst is forecasting a 6.2% increase in demand for semiconductor devices in calendar 2008.

Total equipment spending in calendar ’07 is expected to increase approximately 6.8% when compared to the $42 billion 2006 level as forecasted by Dataquest. In general, analysts have a mixed view on calendar ’08 forecasted total equipment spending ranging from a 15% to 20% decline to a modest increase. Dataquest is currently forecasting the total equipment spending will decline 9.9% in calendar ’08 as compared to ’07. However, given the precipitous drop in total monthly worldwide equipment orders during the first half of calendar ’07 we expect modest quarter over quarter growth in industry spending beginning in calendar 2008. Device manufacturers are continuing to manage their capacity increases very carefully. They remain cautious toward placing new orders and are asking equipment manufacturers like FSI to shorten our equipment delivery lead times. We expect this trend to continue into 2008.

Now I’ll turn the call over to Pat for a more detailed review of first quarter financial results and to provide our expectations for the second quarter of fiscal 2008. Pat?

Patricia Hollister

Thank you Don. Good afternoon. International customers represented approximately 85% of sales in the first quarter of fiscal 2008 as compared to 75% of sales in the prior year comparable period. Approximately 66% of first quarter 2008 orders were from international customers as compared to 68% of orders in the prior year comparable period. We anticipate that orders from international customers will represent more than 75% of second quarter orders.

Our gross profit margins will fluctuate from quarter to quarter and year to year depending on the international domestic sales mix and product mix. Other factors that can impact gross margins include our current manufacturing capacity utilization and the competitive pricing environment.

The first quarter gross margin was 38.3% of sales as compared to 42.9% in the prior year comparable quarter and 36.7% in the fourth quarter of fiscal 2007. Fiscal 2008 first quarter gross margins were primarily impacted by high sales mix of our lower margin Magellan product.

SG&A expenses were $6.7 million in the first quarter of fiscal 2008 as compared to $8.7 million in the first quarter last year and $8.4 million last quarter. The quarter over quarter decrease is primarily attributed to the cost reduction programs that were implemented last fiscal year. Fiscal 2007 fourth quarter SG&A expenses including $700,000 of severance costs.

First quarter 2008 ER&D expenses were $4.3 million as compared to $6 million in the first quarter of fiscal 2007 and $5.8 million last quarter. The quarter over quarter decrease is primarily attributed to the cost reduction programs that were implemented during the second half of fiscal 2007. Fiscal 2007 fourth quarter ER&D expenses included $400,000 of severance costs. The majority of our ER&D investment is focused on expanding the applications capabilities of our products, supporting customer evaluations and continuous improvement programs.

We are now accounting for investment in MSSI under the cost method. In the first quarter of 2007 we recorded equity and earnings from our affiliates of $160,000. Now I will briefly discuss the changes in key balance sheet items from the end of fiscal 2007 to the end of the first quarter of 2008.

Our cash, restricted cash, cash equivalents and marketable securities represented $23 million of our total assets at the end of the first quarter as compared to $24.5 million at the end of 2007. During the quarter, we used approximately $1.2 million of cash in operations. The company’s accounts receivable were $20.8 million at the end of the first quarter as compared to $17.6 million at the end of the prior fiscal year. First quarter increase primarily relates to the timing of shipments as compared to the fourth quarter of 2007. Our inventory was $25.4 million at the end of the first quarter as compared to $29.6 million at the end of the prior fiscal year. The decrease reflects a successful inventory management initiative we implemented during fiscal 2007. Our headcount including contract employees at the end of the first quarter was 407 as compared to 429 at the end of fiscal 2007. Given the current industry environment, we are closely evaluating all staffing additions. Given our current backlog of deferred revenue and expected second quarter orders we have limited visibility with respect to the second quarter revenues. Again, keep in mind that a portion of the expected revenue is subject to either receiving purchase orders or obtaining timely acceptance from our customers.

We expect second quarter 2008 orders to be between $23 million and $26 million. We expect second quarter revenues to be between $23 million and $25 million. In order to achieve this revenue level we are required to gain acceptance for a system that is now being qualified by a customer and obtain several system orders that can be shipped and recognized as revenue in the second quarter. Gross profit margins are expected to be between 46% and 48% of revenue primarily due to a product mix shift as compared to the first quarter of fiscal 2008. We expect SG&A expenses to range from $7 million to $7.2 million as we continue to focus on managing these costs. We expect ER&D expenses to range from $4.7 million to $4.9 million. This reflects the engineering resources required to support evaluation tool placement and our [Orion Single Wafer Wet] and other development initiatives.

Interest and other income should come in between $200,000 to $300,000 given our current cash position. Assuming that we can achieve the guidance I just provided we expect to report between break-even and a $1 million net loss in the second quarter of fiscal 2008. We anticipate capital expenditures to be less than $800,000 in the second quarter as we place another Orion System in our Kaska lab. We expect depreciation and amortization expense to run between $1 million and $1.1 million for the second quarter. At the expected run rates we anticipate using less than $1 million of cash for operations in the second quarter of 2008 as we continue to manage inventory turns and our AR day’s sales outstanding.

Now Don will provide you with a brief review of the first quarter accomplishments and strategies going forward.

Donald Mitchell

Thank you Pat. Despite the anticipated near term industry softness our order pipeline which is a compilation of all order opportunities that we can identify for the next 12 months remains at a relatively high level. However with several leading customers delaying order placements last quarter and weak demand for 200mm products the past few quarters, we believe it is prudent to remain cautious as we enter calendar 2008. In the first quarter we again made progress on our core initiative to gain process tool of record status with one or more of our flagship products at the top spenders in the semiconductor industry. Our enhanced [Viper] technology continues to gain momentum as customers run demos and implement the process in production. Recently we announced that the Viper technology has been adapted for several additional film removal steps. Over the long term we expect these steps to contribute to incremental revenue as customers qualify them in production.

In addition during the first quarter we gained acceptance of our Magellan system from another new customer. We are anticipating an increase in unit sales for our Antares platform in fiscal ’08 as compared to the prior year as device manufacturers ramp their 65 nanometer production and continue the qualification of products for 45 nanometer applications. Our second quarter order guidance assumes orders for several Antares tools and we anticipate additional orders and evaluation placements as the year progresses.

From a development perspective, we’re making progress on qualifying various applications for our new [Orion Single Wafer Wet System]. We now have an eight chamber system going through marathon tests and are assembling modules for shipment in calendar ’08. We continue to conduct customer demos in our laboratory for the initial applications while the product that was placed at a European site as part of a joint development program continues to demonstrate excellent process capability. During 2008 we’ll measure our performance based upon winning additional process tool of record status with the top spenders, expanding our presence at memory manufacturers and by successfully entering the Single Wafer Wet segment with the launch of our Orion product.

Finally we’re focused on delivering improved financial performance in 2008. So now Pat, Benno and I will be happy to take any questions.

Question-And-Answer Session

Operator

Our first question comes from Christian Schwab – Craig-Hallum Group LLC

Christian Schwab – Craig-Hallum Group LLC

Don, what specifically is driving the increased order momentum in Q2 from $15 million back up to $23 million to $26 million? I heard you mention that you expected a few orders for the Antares in Q2, but can you give us any other specifics for such a momentum increase?

Donald Mitchell

Yes Christian, if you look back at our bookings per quarter since we’ve been in this industry downturn starting in the second quarter of ’07 we are running $19 million to $20 million, same with the third quarter. The fourth quarter we are up to $21 million. This last quarter was kind of an anomaly down at $15 million. So if you look at the orders that were pushed we had about $1 million shortfall on spares this last quarter and I think that’s because of the industry softness; people just aren’t spending money and they’re reducing the amount of preventative maintenance that they do on the hardware. That’s what our customers are telling us. Coupled with about a $2.5 million to $3 million of 200mm Legacy orders that were pushed, we expect some of those orders that were pushed in bookings to reoccur in this next quarter, so that makes up part of that delta. In addition to that, we’ve got some repeat orders both from memory houses as well as [logic] houses for both our Zeta and our Antares platform that require quick turns.

Christian Schwab – Craig-Hallum Group LLC

Great and then as we – is your belief on equipment spending for your products then still that you expect that to gradually improve each quarter throughout calendar 2008?

Donald Mitchell

Yeah, the Dataquest numbers aside, Dataquest is always predicting revenue and of course the booking, the revenue that occurs generally three to six months after the bookings, we tracked bookings for the worldwide [SEMS] reports which are a measurement of surface conditioning bookings and if you look at the trough in bookings that we’re currently in, it would suggest that we’re running about a $1.6 billion a year annual run rate or bookings for surface conditioning equipment. That’s a contrast to last year when the industry recorded $2.3 billion. So you can see it’s significantly below. Even if ’08 is going to be softer than ’07 and ’07 is forecasted to come in about $2 billion we have to grow the industry, we have to grow bookings from a $1.6 billion run rate to close that gap. So we see a slow recovery coming back.

Christian Schwab – Craig-Hallum Group LLC

Great. And then, I just want to make sure I heard you correctly; we do expect to be profitable operationally this year, which I think would be the first time since 2004?

Donald Mitchell

That’s our goal certainly.

Christian Schwab – Craig-Hallum Group LLC

And then one of your competitors was recently bought, can you give us an update on, does that change any of the dynamics of any potential mergers for your company?

Donald Mitchell

Not necessarily. It certainly doesn’t change our operating strategy Christian. We were aware that the two parties were in discussion for some period of time. The acquiring party has tried to enter the space. I don’t think they’ve been particularly successful with it, at least they haven’t recorded revenues that we’re aware of for the tools that they have and so they bought one of the leading cleaning companies. So it’s not really consolidation, it’s an acquisition. We’re not participating in that particular space that is dominated by the company that was acquired. We will be entering that space next year so nothing has changed in terms of our strategy.

Christian Schwab – Craig-Hallum Group LLC

Right so entering the Single Wafer Wet product and then filling out all of the cleaning products may or may not make you more attractive to somebody else?

Donald Mitchell

It may or may not.

Christian Schwab – Craig-Hallum Group LLC

Okay and then lastly do you think the worst is behind you yet?

Donald Mitchell

Well in terms of bookings we believe we’re in the low right now. So given the traction that we’ve got with new customers in Asia, given the traction that we’ve got on the memory side of the house now which is contributing in a very meaningful way on the order front, and given that we’ve continued to expand the applications at the new [wins] in Asia, yeah we think that most of the heavy hauling is behind us given that the industry is in it’s bottom right now.

Christian Schwab – Craig-Hallum Group LLC

Fabulous, thank you.

Operator

Your next question comes from Clint Morrison – Feltl & Co.

Clint Morrison – Feltl & Co.

Hey guys I think you indicated on your own new guidance that you needed to – revenue recently qualified system, are you referring to the Magellan that you said was just accepted at a customer?

Donald Mitchell

No, the Magellan that was accepted at the customer, the revenue was already recognized in Q1. In Q2 we have additional demos out in the field and in Q2 one of them are due.

Clint Morrison – Feltl & Co.

Okay, is that a Magellan you’re referring to?

Donald Mitchell

No it’s not.

Clint Morrison – Feltl & Co.

Okay, and then my other question is your inventories obviously came way down, is that a sustainable number? It’s the lowest you’ve had in a long time; can you really maintain that, especially given the kind of revenue you’re looking for in the next quarter?

Patricia Hollister

Clint obviously we’ll continue to manage our inventory and try to keep it at a lower level however you know, we will continue to look forward as far as potential orders, etc and manage it that way.

Clint Morrison – Feltl & Co.

Okay so I guess what I’m hearing is as you’re obviously looking for revenue to kind of pick up a little bit moving forward, your inventories will probably be moving up a little bit also?

Patricia Hollister

Yes, we may have to invest in inventory.

Clint Morrison – Feltl & Co.

Okay. Thanks that’s all I needed.

Donald Mitchell

Given that there are no questions I want to thank you for your support and for participation in 2007. We wish you and your families and of course your colleagues a happy holiday season and a prosperous and joyous new year. Thanks for participating on the call. We look forward to talking to you again in March or seeing you at the Needham Investor Conference which will occur in New York City in early January. Thank you all.

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

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

If you have any additional questions about our online transcripts, please contact us at: [e-mail]. Thank you!