LTX-Credence Corporation (LTXC) Deutsche Bank dbAccess Technology Conference Call September 13, 2012 6:20 PM ET
Mark Gallenberger - VP & CFO
Chad Dillard - Deutsche Bank
Chad Dillard - Deutsche Bank
Good afternoon and thank you for joining us. My name is Chad Dillard and I am on the semi cap equipment team and I have the pleasure to introduce Mark Gallenberger, the Vice President and CFO of LTX-Credence, a leading automated test and equipment company. Mark?
Thanks Chad. Good afternoon and welcome everybody. I really appreciate you staying through the end of the conference here, listening to our investor pitch. Real quickly, here is our Safe Harbor statement. If you have any questions or if you want to get more information about the risk and uncertainties, you can get in to more of the details in our 10-Q or 10-Ks.
Okay in terms of LTX-Credence, you know, in summary, we do play in the semiconductor test equipment space. We're one of the only providers that of test equipment that is exclusively focused on the non-memory test equipment space and we focus on specific market segments, which enable our products to be pretty well differentiated against the competition.
We will get in to much more detail about that today and as a result of our market focus, we do lead the industry across the cycle in terms of gross margins.
And so we've been able to design our products for the right end market segments and as a result we've got a very good fit and a strong product line up which enables us to enjoy industry-leading gross margins. And also a result of those products targeted for specific market segments, we've been able to really go after specific customers and increase our customer base and diversify it over the course of the last couple of cycles.
So if we just step back for minute and look at the high level semiconductor market you can really bifurcate it into two major buckets. The first one is memory and the other one is everything else which would broadly define as SOC. LTX-Credence does not focus on the memory test equipment space and so all of our efforts are really geared towards the SOC space.
And if you try to get in to a little bit more detail inside the SOC market space, you can see exactly where we focus our solutions and it's really around these five market segments that we have outlined on the bottom here, ASSP, ASIC, microcontrollers, data converters, RF applications as well as power management.
And that addressable market for the last calendar year was approximately $1.2 billion or that accounts about two thirds of the overall test equipment space for SOC. So if you want to drill into a little bit more detail on these five markets segments, you can see the approximate size in terms of the IC market and the overall estimated growth rates of those chip markets. And what our market share is in terms of test equipment for selling into those market segments.
And then the last kind of really talks about our relative position in that space. So you can see how we've been able to get some pretty good penetration, pretty much across the board with the exception of the area highlighted at the bottom of this of this chart which is the digitally centric ASSP market.
And as a result of our lower than average market share, we have been designing a new product that we just launched earlier this year called a Diamondx to really go after that market space. That market space is approximately $400 million in size and so it’s a pretty substantial market opportunity for LTX-Credence and that’s one of the areas where we see a lot of our growth coming from over the next cycle.
So if I get into some of the products that we offer for these market segments you can see the Diamond, the X-Series and the ASL, these are our current products that we sell to the marketplace and the recent introduction is the Diamondx and you can see where that is specifically targeted at that ASSP market. Like I said before it’s about a $400 million market size and so it’s a pretty substantial opportunity by introducing this new product.
And we are going to be offering this product to a lot of our existing customers, but we are also planning to capture some new share with new customers that we currently don’t do business with. A little bit of a history lesson also on this slide, before the merger with Credence four years ago, the X-Series came from LTX and the Diamond and ASL product lines came from the Credence acquisition that we did about four years ago.
And the Diamondx is really the first major product launch that really combines technologies from both companies into a single platform which we have called ironically enough Diamondx because it takes really the blending of the Diamond product line as well as some of the X-Series performance and instrumentation into a single Diamondx platform.
So jumping to our customer base, you can see it's pretty diverse, you can see a lot of name brand companies that we do business with. Texas Instruments has historically been a greater than 10% customer specially over the last I'd say 10 plus years, they've consistently been greater than 10%.
Every so often Atmel will be a greater than 10% customer, whether it is in a given fiscal year or given in a fiscal quarter. They were also a pretty big adopter of the Diamond product for many of their microcontroller applications over the course of the last cycle.
And you can see towards the bottom of the slide, we have got a pretty good diversity with some of the fabless and [OSAC] companies and right now about 30% of our overall business comes from Asian subcontract test companies.
So switching gears on to the financials. As you can see, the history of our business is very, very volatile, highly cyclical business that we are in. This is not unusual given the fact that it is semiconductor capital equipment spending and so you can see though that there is a lot of leverage that we have been able to build into this business model. As revenues ramp gross margins can ramp pretty significantly with our business model.
So there is some pretty strong leverage that we have been able to build into the business over the course of the last cycle and even as you can see when we saw a pause or I should say a downturn that started about a year go, even though the revenues declined pretty significantly, gross margins during the trough of this last cycle that we just went through did not really go down all that materially relative to the prior cycle.
So we have been able to take a lot more of the fixed costs out of the equation and build the business model to be as variable as possible. Well, you can now that the industry went through about a three quarter downturn and we're starting to see a pick up in business. You know, we did guide our October quarter to be flat sequentially where some of our competitors have actually guided their business to be down sequentially.
In terms of our balance sheet, very strong, no debt and we’ve got, have about $137 million of cash. And in terms of our EBITDA performance, we were able to generate significant amount of EBITDA over the course of the last cycle and this chart here really shows how we've been to perform over that three year cross cycle period in which we generated a little over $100 million of EBITDA, which translates to about 18% of revenue across the entire cycle and now with the launch of the Diamondx product, as well as the expansion into new and existing customers, we think that we can grow our cross cycle revenue by about 20% and if we're able to accomplish that and the strength of the cycle was about the same as the prior cycle, so a real apples-to-apples comparison however with our revenues being higher than by about 20% that would translate to about a $700 million revenue business over a three year period, which translates to about $160 million of EBITDA. So a very strong leverage that we’ve been able to build into the model once again.
And lastly for everyone in terms of modeling purposes, you can see what we’re actually able to do at the peak of the last cycle. We were able to achieve a $76 million quarterly revenue run rate which and you can see what our actual results where at the peak of the last cycle which we were able to deliver about $0.42 of EPS.
Now, our expectation is that if the strength over the next cycles is about the same, we think it would be additional customer wins as well as the launch of Diamondx product we can probably grow that peak revenue by about 20%.
And as result of that, we think the EPS can actually grow from about $0.42 to about $0.55 for that given quarter. So, once again pretty significant leverage that we've been able to prove out in the peak of the last cycle. And as we're able to whether the last downturn, we are able to prove that the business model really held up during the trough of the past cycle that we just went through.
So that really is the quick summary of the company, the market that we planned as well as some of our initiatives that we got in particularly with Diamondx product. So with that point, if you have any questions.
Great, thank you very much Mark. So I'll just kick off, start with a few questions. So I like to kind of talk about the cycle and where you think we are, what do you think about the back half of 2012 and potentially some thoughts about how 2013 is shaping up to be right now?
Sure, well right now we did see the overall business go through I would say two quarter to three quarter downturn. Right now, we are seeing customers demand pick up for test equipment but it’s not as broad based as we would have, as what we saw that's in the last cycle for example. So in the last cycle we saw pretty much all the end markets grow in a fairly significant way and right now what we are seeing is some markets that are still lagging for example market controllers which is one of the markets that we focused on really has not picked up in any material way, general purpose market controllers.
We have seen pick up in automotive market controllers but that’s an area that continues to I would say show kind of a lagging growth right now. The other market that we haven’t seen really pick up in a strong way is some of the basic analogue applications. But anything tied to smartphones or iPads or tablets I should say those markets are picking up pretty nicely and that’s one of the drivers for why we have seen our business pick up from these dropped levels, so for example we have seen a lot of demand for RF standalone RF applications and so we have got some good exposure to some customers that buy our packs product in particular for testing standalone RF or power amplifiers.
So right now, I would say the business is okay, it’s not a full fledged growth cycle at this point, but for the rest of this calendar year I would say it’s going to continue along the pace with that right now. The only think that I would say is going into calendar Q4 which kind of coincides with our fiscal Q2, you typically see a little bit of seasonality effect in which a lot of the test capacity that’s required for the holiday builds already have been put place, so you typically see that one quarter seasonality play in and see a dip in business for calendar Q4 companies or our fiscal Q2. So it would not surprise me that we would see that happen as well.
Got it. So it’s like dig a little bit more into the individual markets with an SOC and give us a sense of where you see the most potential for share gains?
Well right now, I think the most potential is with the Diamondx product that we just launched back in March of this year and as I said, that’s a $400 million addressable market in which we really did not have a solution up until this year and so that to me is going to be I would say the single biggest opportunity for us to grow share.
There is going to be customers that we currently do business with that have products that are in that digitally centered ASSP market. So even though with an existing customer we would not be doing business today with those product families and so that’s an upside opportunity for us.
And then of course, we are looking at other customers that we don’t do business with today to really adopt the Diamondx platform. We think we’ve got a really differentiating solution with the Diamondx relative to competitive solutions and our true value proposition is really around the cost of test. We are not talking about reducing cost of test by 5% or 10%, we are talking 30%, 40%, 50% or more reduction. So it’s a pretty significant differentiator on the cost side.
So I think that in itself is going to be our single biggest opportunity. However, we are still picking up new customers with our existing products, the X-Series, the ASL as well as the Diamond products. So those who all contribute to new customer wins as well. Well I think the single biggest, if I had to pick the single biggest opportunities with Diamondx.
So within Diamondx, in terms of new customers versus the existing customers, how do you see that breakdown for that product?
It’s going to be combination of the two. We are obviously focusing on existing customers but different divisions that we don’t have today with those existing customer. We think that’s going to allow us to at least get some quick hits if you will because that allows us to leverage relationships. We have already proven ourselves with those customers and so I think the first few quarters, you will see the majority of the revenue coming from those types of customers which are existing to us; but different divisions.
And then I think the longer sale cycle will be trying to get into some of those newer customers that we don’t do currently business with and that’s going to be a longer period of times. But I fully expect that we will be deriving revenue throughout the course of this fiscal year from both. Initially, there will be more with existing customers that we do business with, but then probably towards the back half of the year, you’ll start to see some of the new ones kick-in.
Chad Dillard - Deutsche Bank
Okay. So on the competitive front for Diamondx, you know, who you go against and I guess do you have like a target share and timeframe to ramp there?
Yeah, what we've talked about publicly is to really have about 20% of our product revenues coming from Diamondx over the course of the next year and so if we’re able to get to those numbers, I think that would be a pretty successful product launch, you know, if we get closer, even exceed those numbers. And from what we’ve seen so far, we think that that’s definitely achievable in terms of some of the pipeline that we’ve got, in terms of opportunities and some of the ones that are actually converting into revenue for us.
The competition, it's pretty much the same. It's, you know, I would say, for the launch of the Diamondx, we're going to start to see more of the Advantest or specifically the Verigy portion of the Advantest, in which they’ve had, I would say, a pretty strong foothold in this digital centric ASSP market for a number of years.
So, you know, historically we typically run into Teradyne most often and not so much of Verigy, but I think with the launch of this product line you know we're going to bump into them much more often than we have in the past; not to say that we won't be running into Teradyne, well of course they've got some pretty good share in that market as well. But, I would say you know we're going to start to see a little bit more Verigy in this as we enter this new marketplace.
Chad Dillard - Deutsche Bank
And just dovetail off of that, with the Advantest and Verigy merger, do you see any new opportunities or incremental opportunities due to the dual sourcing some of your customers?
We have always seen some of that; I would say that as they try to define their new product roadmap which I believe has not really been articulated very well. Once that it’s better defined I think some of those opportunities could arise. At this point, I would say most of the opportunities that we're seeing are as a result of our actions as opposed to you know a reaction to what Verigy is on in conjunction with Advantest.
Chad Dillard - Deutsche Bank
Okay. And then you have a decent amount of cash on the balance sheet. So just like to dig a little bit deeper into that and get into how you guys are thinking about using it and your strategy is?
Sure. We've looked at the balance sheet and of course it’s very strong right now; we're proud of the fact that we've been able to generate so much cash in the cycle and to build up the balance sheet to where it is. Of course, we don't want to be hording cash either, that doesn't make a lot of sense. And so the way we sort of look at it is two or three buckets.
The first bucket is, you need that rainy day fund and you know you want enough cash on the balance sheet so that you can weather any sort of the new nuclear winter scenario and we look at the business model that we have been able to develop and realistically we can run the business on $20 million of cash that’s just because of the how the business model performs even during trough periods.
But I don’t think that gives investors or even customers the level of comfort that they want psychologically. So we have looked at about $70 million to $80 million of cash on the balance sheet just to give investors and more importantly the customers the comfort that you are going to be around. And so we look at that as the first bucket.
The second bucket is we want to have enough cash to have the ability to make some strategic investments. Although the industry has consolidated down to three players, you would be surprised how many other smaller or lesser known companies that are still out there developing technologies for testing semiconductors. Some of those technologies are interesting and if they can help us differentiate our solution going after those five market segments that we have talked about that could be interesting for us to investment.
And so we want to make sure we have got some of that additional cash available to make those investments when and if they do arise. And so that’s about another $60 million to $70 million. So once you are up about that $130 million to $140 million anything above that we are saying let’s find a way to return that back to shareholders.
And so if you went back a year ago we were up around a $160 million in cash and so the Board for the first time in the company’s history was in a position to actually put together a $25 million share repurchase plan. And so that’s the approach we have taken so far and off the $25 million we purchased back about $10 million worth of shares and so we have been able to take down some of that dilution and we are going to continue that program and do it opportunistically so that we are not in a position where we are hording so much cash.
And we will obviously get even more aggressive if the next up cycle is as robust as the last one, we are going to generate another $100 million plus of cash and if we are able to achieve some of our market share goals it will be well in excess of $100 million and so we will get even more aggressive, you know if there are no investment opportunities to be made.
Chad Dillard - Deutsche Bank
So just to go back to the M&A side, just to dig in and get a sense of how you guys think about potential candidates and I think what with the criteria will be for you guys to actually move forward with that?
Well, I think right now our focus is, even given our size we have about 10% market share inside of SOC; if you look at those five market segments that we were focused on, we have anywhere from 70% in given segment down to 20% to 30%, but if you look at the overall SOC market we still have a lot of further ground for us to really grow.
And we like our product roadmap; we like the products that we are offering today and so we like our chances sticking to our knitting if you will. And so right now we would like to continue to grow the business inside of semi-test; however we are not going to keep the blinders on either. If we do see something that can further our differentiation whether it’s getting into an adjacent market inside of what we call [test cell], that’s something that we will be open too as well.
You know I don’t think we would be necessarily interested in trying to diversify away from semi-test, in other words try to get into like the front end capital equipment space or anything like that, I just don’t see much value add synergy with our existing business. But if it’s some type of investment that can differentiate our existing products, we will make those investments. If it's something that could diversify us into an adjacent market, from semi-test it will certainly consider that as well.
Okay, it sounds great. Well that’s all I have and I want to say thank you very much for you time. Mark
Thank you. I think we have one question from the audience.
Just with, obviously mentioned a little bit about the Verigy-Advantest deal and then on the flip side, if they go for scale and Teradyne being the largest in this space, goes outside of the space and gets wireless test, effectively a no growth industry, how long can you stay at this size without either doing something else or connecting with somebody else?
Sure. Well no, I think you are right. I think both Advantest and Teradyne are coming at it from a very different perspective. They got very heavy share inside of SOC and also Advantest has got very dominant share inside of memory which we don’t play in. So I think they need, they're under much more pressure to find ways to grow their businesses outside of this core semi-test business and you can see through the action of Teradyne, they're clearly trying to do that. I don’t think they’re saying we can grow market share materially.
It’s my opinion. I don't think they can grow market share materially inside of their core business and so they're spending a lot of their cash that they’ve been able to generate inside of other test markets, module test for example with (inaudible). You know, for their business, I think that probably makes sense. I think for us, given our size and given our market share, there is still a lot of upside opportunity for us and we're pretty excited about our ability to grow that share and winning new customers especially with the Diamondx product. And so we're going see how that plays out if you will over the next cycle and see how effective we're going to be at picking up more customers and ultimately gaining some additional share with the launch of the Diamondx product.
If that doesn't play out then of course we are going to need to look at other options, because we just -- we do not want to stand still and you know we were very successful emerging LTX and Credence four years ago; it was a sizeable acquisition that LTX did trying to absorb the company that was actually bigger than LTX was and we were pretty successful in doing that. And so we want to be shy about doing something like that again if the opportunity does arise.
Chad Dillard - Deutsche Bank
Great. Well, I think (inaudible) thank you.
Alright, thank you.