MKS Instruments' (MKSI) CEO Jerry Colella on Q2 2016 Results - Earnings Call Transcript

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MKS Instruments, Inc. (NASDAQ:MKSI) Q2 2016 Earnings Conference Call July 28, 2016 8:30 AM ET

Executives

Jerry Colella - CEO

Seth Bagshaw - CFO

Analysts

Patrick Ho - Stifel Nicolaus

Tom Diffely - D.A. Davidson

Dick Ryan - Dougherty

Operator

Good day, ladies and gentlemen and welcome to the MKS Instruments Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time [Operator Instructions].

I would now like to turn the conference over to Seth Bagshaw, Vice President and Chief Financial Officer. You may begin.

Seth Bagshaw

Thank you. Good morning, everyone. I'm Seth Bagshaw, Vice President and Chief Financial Officer. And I'm joined this morning by Jerry Colella, our Chief Executive Officer and President. Thank you for joining our earnings conference call. Yesterday after market close, we released our financial results for the second quarter of 2016. You can access this release at our Web site, www.mksinstruments.com.

As a reminder, various remarks that we make about future expectations, plans and prospects for MKS comprise forward-looking statements. Actual results may differ materially from those indicated by these statements as a result of various important factors, including those discussed in yesterday's press release and in the Company's most recent annual report on Form 10-K, each of the Company and Newport Corporation in the recent quarterly on Form 10-Q, which are on file with the SEC.

These statements represent the Company’s expectations only as of today and should not be relied upon as representing the Company’s estimates or views as of any date subsequent to today, and the Company disclaims any obligation to update these statements. Today’s call also includes non-GAAP adjusted financial measures. Reconciliations to GAAP measures are contained in yesterday’s earnings release. In additional we’ll refer to certain pro-forma measures as if the acquisition of Newport, which closed on April 29, 2016, had occurred at the beginning of the first quarter of 2016.

Now, I’ll turn the call over to Jerry.

Jerry Colella

Thanks, Seth. Good morning everyone and thank you for joining us on the call today. In my prepared remarks this morning, I’ll review our results for the second quarter of 2016, including key business highlights and our integration of Newport Corporation. Following that, I’ll provide an overview of our strategic goals for 2016 and our outlook for the third quarter and 2016. Seth will follow me with further details on our financial results, discuss our operating model with synergies, which includes Newport and then we’ll open the call for your questions.

Our second quarter results were strong across the Board, achieving sales of $326 million, which included two months of Newport results. Overall, business trends were very positive during the quarter. On a pro-form basis, as if the acquisition of Newport closed at the beginning of the first quarter, total revenue increased 9% sequentially. Our standalone MKS business recorded a very strong performance with revenue increasing 13% from the first quarter to $207 million, above the high end of our guidance range, while Newport revenue increased 3% sequentially on a pro-forma basis.

Our semiconductor business has strengthened and we attribute this to the increased adoption of 3D NAND devices as well as significant design wins in other areas. As I said in prior calls, next generation lithography have seen significant delays and there appears a general introduction will not occur until the 5 nanometer node. As a result, we believe 3D NAND will continue to rely on multi-patenting production, which greatly benefits MKS due to its increased need for deposition and etched processes where MKS have the strong position.

In deposition, there is an increasing shift towards atomic layer deposition or ALD. This quarter we received design wins on three new ALD tools, including RF power and massive for advanced oxide and nitrite ALD, remote plasma sources and valves for TiNitride ALD well as remote plasma, ozone, pressure control, valves and integrated process solutions for other ALD application. I’m also pleased to report that in etch processing we were also ordered a design win from a Korean OEM for [indiscernible] generators and matches. Our other advanced markets, which include industrial, life science and research customers, were up 10% sequentially on a pro forma basis and were $177 million.

In these markets applications and customers are diverse, so I’d like to pick just a few examples to share. In life sciences Newport received an EMO design win for a laser base optical assembly for advanced blood analyzer. This win was a result of working closely with the customer who designed a revolutionary screening tool, and we anticipate continued business as a product goes into full production, next year.

In the industrial market our power generators were selected by selected by the leading manufacturer of razors to coat blades to extend their life, and we continue to have follow-on business for numerous of the coating applications. These are just a couple of examples for the diversity of our business, but they reflect to combined strength of the advance technologies that MKS and Newport have offered.

Moving on to our strategy, we remain focused on achieving sustainable profitable growth in the business cycle. We plan to realize this by continuing to broaden our leadership position in all of our served markets and by using this technology leadership, to actively help to all of our customers most critical problems. Internally we refer to this as solve together, succeed together, which reflects our goal to provide customers with the critical technologies they need, so we both proper.

As we discussed earlier, we aggressively pursuing opportunities, created by current technology inflection in our semiconductor segment, including 3D NAND, ALD and multi-patent. Moreover we intend majorly improved our profitability while efficiently deploying capital for increase shareholder value. As we successfully execute on this strategic initiatives, we also find ourselves at an inflection point in our business strategy similar to when we went public. At that time the company decide to grow the business and evolve from a component company to an integrated subsystem provider. This drove our surround the chamber initiative and resulted in MKS being the first consolidator in the critical sub-system portion, of the semiconductor industry. We acquired companies with differentiated technology to become the lead critical system company in our serve markets.

With the Newport acquisition, we’re setting our path to grow our semiconductor business with both OEM and end users in the front end and increase our exposure in growth in the back end as well. Which we see as an opportunity to further accelerate our growth potential. Additionally, we plan to accelerate growth in our other end markets. MKS is proud of our 13 year history, of an almost 8% CAGR in these markets and we see significant prospects for growth and market share gains, continuing outside of the semiconductor market.

Our multidisciplinary team is well on their way with integration activities and we remain confident and our ability to achieve our synergy targets of $35 million within 18 to 36 months after closing. Furthermore we’re identifying and will always continue to drive synergy opportunities across the combine company.

To ensure we achieve these strategic goals, we have a made a number of organizational changes, including establishment of two business units, within the company, the original MKS products are now within back in analysis business unit, while the Newport products are now within the light and motion business unit. We have pointed new leadership team within light and motion and have centralized many of corporate support functions. Moreover, we expanded our Board and added Bob Philippi, Newport's former CEO, to assist with the integration process as well as ensure continuity.

To further leverage our strong semiconductor position we have moved Newport semiconductor integrated solutions business group to report the vacuum analysis. This will leverage our key accounts strength in the semiconductor market to provide superior customer solutions and support with a goal of driving higher level of profitable and sustainable growth. We believe we have the right team in place ensure a smooth integration and anticipate that these changes will stream line the organization and improve efficiency.

We have conducted a number of very positive senior-level meetings with leading customers to communicate our promise of partnership and technical collaboration. We plan to attack our expanded SAM by aggressively pursuing opportunities in both the semiconductor frontend and backend. We have an integrated sales team and now have joined engagements with key semiconductor accounts including Applied Materials, ASML, KLA-Tencor, Lam Research and CEMIS. In fact as a result of this combined activity we have already received an order for residual gas analyzers from a Newport customer with a new major key account for MKS.

We are keenly focused on accelerating revenue growth across non-semi end markets by leveraging key account relationships, accelerating end used engagement, identifying cross selling opportunities as well as product integration affords. We have completed the first phase of our sales restructuring to focused growth in non-semi markets. The initial targets include analytical instrumentation, industrial processes and other areas will follow. I am happy with our initial affords and I look forward to updating you on our integration progress in future calls.

Lastly, our capital deployment strategy remains centered on delevering the balance sheet over the next 24 months, while maintaining our strong commitment to our dividend.

At this point I would like to turn over to the third quarter, we are very encouraged by the trends we are seeing across our business and expect this will continue in the third quarter. In the semiconductor market, demands for 3D NAND and foundry and logic manufactures are expected to beginning to ramp 10 nanometer production in the second half of the year. We are also very pleased with the growth in our OLED business for displays and believe our momentum this segment will continue to expand over the course of the year.

In our other markets, we expect to capitalized on selling cross-selling opportunities and more over to accept these strong demand trends to continue into 2017. Based on these factors and looking at current business levels, we anticipate combined Company sales in the third quarter it a range from $345 million to $385 million and at these volumes our non-GAAP net earnings could range from $0.64 to $0.86 per share.

With that I’ll turn the call over to Seth to discuss our financial results and expand upon our guidance.

Seth Bagshaw

Thank you Jerry. I’ll cover the second quarter financial results. The combined operating model that we recently published as well as a positive impact of the principal repayment, successfully re-pricing our term loan debt, and lastly will cover our Q3 2017 guidance.

The GAAP and non-GAAP results for the second quarter included combined results of the Newport acquisition for two months in the quarter and pro forma financial metrics include Newport as if the acquisition occurred at the beginning of the first quarter of 2016.

In early June, we published a new combined Company fully synergized operating model, which included in our investor presentation located in the Investor Relations section of our Web site. This model demonstrates potential fully synergized operating leverage from the combination of MKS and Newport. At illustrated annual revenue levels approximately $1.4 billion, the model shows a 35% accretion in non-GAAP EPS or $0.81 per share. The model also demonstrate potential cash flow strength of combined company with non-GAAP adjusted EBITDA of approximately $340 million or 66% increase as compared to our MKS standalone operating model.

As Gerry mentioned, integration is going very well. We’ve already begun to realize cost synergies which in the third quarter are expected to be approximately $3 million or $12 million on an annualized basis. We are on schedule to realize the $35 million of total cost synergies announced within 18 to 36 months subsequent to the transaction closing.

Turning to Q2, we’re very pleased with our strong financial results. Pro-forma sales for the quarter was $359 million, an increase of 9% sequentially. On a pro forma basis, approximately 51% of our sales were to semiconductor customers and 49% to customers in the other advanced markets we serve. The increase in pro forma sales was driven by continuing strength in the semiconductor market, which increased 8% sequentially. And pro forma sales to other advanced markets also increased 10% sequentially, driven by positive business trends across a number of those markets.

Now moving to GAAP and non-GAAP results for the quarter. Revenue for the quarter was $326 million and non-GAAP gross margin was 44.8%. Non-GAAP operating expenses and non-GAAP operating margin were $87 million and 18% respectively. GAAP gross margin was 41.7%, included the impact of $10.1 million of inventory purchase accounting charges, GAAP operating expenses were $117 million included $8.9 million of amortization of intangible assets, $20 million in transaction and integration costs and $700,000 in transaction fees associated with successful repricing of our term loan debt.

GAAP net interest expense was $7.9 million and non-GAAP net interest expense was $6.3 million. Our GAAP tax rate was 25.5% and our non-GAAP tax rate was 28%. The GAAP net income was $9.2 million, or $0.17 per share and non-GAAP net earnings was $38.7 million or $0.72 per share. As Gerry mentioned in conjunction with the access of Newport, we’re now reporting our combined results in two business segments, a vacuum analysis, which generally coincides with historical MKS business, and light motion, which generally tracks the Newport historical business.

With respect to MKS results on a standalone basis, revenue was $207 million, increase of 13% compared to Q1 revenue of $184 million. Revenue for the quarter was behind of our guidance range, due to strong demand from our semiconductor customers as we as increase in sales into the other advance markets we serve.

Sales at the semiconductor market were $147 million an increase of 9% compared to the first quarter and sales in other advance markets increased $11 million or 23% from the first quarter and were $60. MKS standalone gross margin was 44%. Non-GAAP operating expenses were $53 million and a non-GAAP operating margin was 18% for sales. For Newport on a stand-alone basis, assuming a full quarter of results revenue was $151 million, an increase of 3% sequentially, in both non-GAAP gross margin and non-GAAP operating income, were with our expectations compared to a new target operating model. It’s worth noting that the revenues for the quarter for Newport was more heavily concentrated to the latter part of quarter, which also positively impacted the consolidated GAAP and non-GAAP results for the quarter.

Now turning to the balance sheet, we closed the new transactions at April 29 and finance the acquisition with $780 million institutional term loan B and approximately $240 of cash and investments. The term loan was rated BB by S&P and BA2 by Moody’s and at origination the term loan had an interest rate of LIBOR plus 400 basis points spread with a 75 basis point LIBOR floor.

As we announced on June 9, we took advantage of favorable market conditions, and reprised the term loan to reduce interest expense by 50 basis points. In addition nearly prior to the reprising, we transferred $50 million from international operations and utilized these proceeds to repay $50 million principle on the term loan. Combined these two actions result in annual interest cost savings approximately $6 million. The current rate on the term loan is LIBOR plus during the 350 basis points, with a 75 basis point floor.

Our goal continues to deliver the balance sheet, in this $50 million of voluntary principal payment, demonstrated the first step in accomplishing this objective. At the end of the second quarter, we had net cash and investments of $426 million of which approximately 20% is in the US and the reminder in our international operations.

Capital additions for the quarter, were $5 million, depreciation and amortization expenses was $16.4 and stock compensation was $10.5 million. Stock compensation in Q2 included, $3.3 million of charges for acceleration and stock compensation to change control provisions. These stock compensations charges have been excluded from a non-GAAP results and are included in integration costs in the quarter.

We continue to demonstrate a balanced approach to capital deployment. And in the quarter, condition to a $50 million debt repayment, we paid a cash dividend of $9.1 million or $0.17 and made a strategic investment in a private company, Reno Subsystems, for $9.3. In terms of working capital for comparison purposes, I’ll provide the metrics on a pro forma basis, as if the companies had been combined at the beginning of Q1 2016.

Days sales outstanding were 59 days at the end of the second quarter, compared to 61 days at the end of the first quarter. The inventory returns with 2.9 times compared to 2.7 times in the first quarter. Finally I’ll discuss our Q3 2016 guidance, which includes a full quarter of Newport results. Based upon current business levels we estimate that our sales in third quarter could range from $345 million to $385 million. This expected sales range our Q3 non-GAAP gross margin to range from 44.5% to 45.5% reflecting these volumes and expected price mix. Q3 non-GAAP operating expenses could range from $98 million to $103 million.

In the third quarter R&D expenses could range from $32 million to $34 million and SG&A expenses could range from $66 million to $69 million. Non-GAAP net asset expense is estimated to be approximately $8 million and our non-GAAP tax rate to be approximately 28%. In the third quarter amortization intangible assets estimated to be approximately $12.5 million, inventory related purchase of accounting charges estimated to be approximately $4.5 million. Integration cost estimated to be approximately $3 million. And GAAP net interest expense is estimated to be approximately $9.3 million. Result of these transactional related charges to get that income is expected to be range from $19.6 million to $32.2 million or $0.36 to $0.60 per share. And non-GAAP net earnings could range from $34.2 million to $46.1 million or $0.64 to $0.86 per share and approximately 54 million shares outstanding.

This concludes the prepared remarks and we will now open the call for questions.

Question-and-Answer Session

Operator

[Operator instructions] And our first question comes from the line of Patrick Ho of Stifel Nicolaus. Your line is now open.

Patrick Ho

Thank you very much and congratulations, guys, on a very nice quarter and a good start to the Newport acquisition. Gerry, looking at the semiconductor business, and I know in general your visibility tends to be pretty short on that front -- however, given some of the sustained strength and commentary by some of your leading customers to date, are you seeing any extended visibility that gives you a little bit more color than you usually get, say into the December quarter as well and what those trends might be?

Jerry Colella

Yes, thank you Patrick. Yes, I mean we do have short visibility but we have long conversation with our customers, and I can just tell you that I had number of analyst and investors meeting semi-con, but I also had a number of customer meetings and all preparing us for increase business based on their projections. So all the commentary was positive, people asking us to make sure that we have ample capacity in place, which is never an issue for MKS. And that's just not only U.S. but throughout Asia as well.

We also see -- what we read about the increasing needs of production of 3D NAND, the fab that are continuing to the built in populated serving acquisition, our strength and power due to our high aspect ratio, snatching and enabling ALD, we are hearing better things about 10 nanometer. And so yes, I would say what I’ve read and conversation had with customers and continue to see the improvement in the business which we just showed in the results that we would expect to see continues strength in the business for the foreseeable future.

We are excited about it. People have been saying ’17 looks good are you for it, and it’s like we’re always ready.

Patrick Ho

Maybe a follow-up question for you Gerry also on some of the industrial markets, which was part of the rationale for the Newport acquisition. Given that the industrial market tends to be a lot more fragmented relative to the semiconductor market, where are some of the emerging opportunities you see early on, following the close of the acquisition, where you believe you can potentially grow the top line in some of those industrial markets?

Jerry Colella

There is opportunity I think in industrial coatings. We’ve seen strength in China as an example for our mass flow business for out coating applications. If you want to include as if you put razor blade whether it's life and health science or industrial, again there is no other opportunity. We talked about traps for production in the aerospace industry. And the Newport opportunity which is now light motion has interesting opportunities for thermal imaging, laser metrology, laser processing 3D printing.

And one of the things that we did and I mentioned it in the script is we have actually segmented our sales team now to myopically, if you look at analytical instruments in as in life science and industrial. So we now have sales teams that are actually focused myopically on those industries where before we had journalist approaching it. And then if you add in the light motion the number of sales people we have on the ground, we see a huge opportunity for cross-selling across those industries in particular Patrick. And we’ve grown 8% CAGR for 13 years.

And frankly I think we put more effort strategically into it in the last year or two which I am very proud of the fact that should accelerate the growth even further. And it's nice to have such a broad based portfolio that light motion or Newport have to be able to arm our sales people on the ground with a huge portfolio as we are doing with the Newport light and motion team.

Patrick Ho

And final question for maybe Seth, in terms of the model and some of the integration efforts that are undergoing, you guys -- obviously, probably the easiest way to get some of the integration costs we saw in the OpEx side initially. However, your gross margin is probably a little bit better than I thought. Are you already getting some of the cost synergies on the COGS line? Or are there still, or is that still ahead of it, where as you are getting a lot of synergies initially on the OpEx line?

Seth Bagshaw

The 3 million for the quarter Patrick the lion’s share, the vast majority is in OpEx, not so much at the gross margin lines at this point. There is some traction in the COGS area but it's mostly, the 3 million, is mostly in OpEx at this point.

Jerry Colella

Although we already had one of the things we talked about was reducing the cost of materials and capturing the volume and value of that volume. So we are seeing although not triggered yet, we are seeing commitment from these national supply chains already to lower the cost of matures over a period of time. So the action is in place but not so in the cost of materials yet. But it will.

Operator

Thank you. And our next question comes from the line of Tom Diffely of D.A. Davidson. Your line is now open.

Tom Diffely

Seth, first to you, you gave us a very nice target model. However, your revenue is already high-end if not above that target model.

Seth Bagshaw

Right.

Tom Diffely

So what kind of increment margins would you expect or how could you guide us to what happens beyond the model?

Seth Bagshaw

Great question Tom, you’re right, we’re actually running north of that model at this point, given the strong growth we had in the Q2 on a pro forma bases in Q3 guidance. So obviously seen that model, typically, we’ll see on the combined bases is the variable gross margins is about 50% and so for every dollar above the model to see $0.50 fall down to the gross margin line and the operating income line is probably not a 40% may be in 45%, so low leverage going forward. So we grow the top line, obviously the much more multiple on earnings per share for that dynamic.

Tom Diffely

Okay, that's very helpful. And the tax rate of 28%, is that a pretty good long-term tax rate?

Seth Bagshaw

Yes that’s the rate we’re seeing this year for sure, it depends on the mix of resides, offshore in the U.S., so for this year 20%, I think a pretty good rate and then in a model we have 27% in the model. We think that's achievable more long term and that really depends, Tom, where some of mix on income resides, but we think 27 more of a long-term rate. For this year I think 28 pretty good assumption.

Tom Diffely

Okay. Great. And then you gave the $35 million synergy bogie before the deal closed. Now that you have been in there a couple months, do you think that bogie is going to be easier or harder to get to than you initially thought?

Seth Bagshaw

Well I think we feel a very comfortable it’s quite achievable, so we felt comfortable when now for transaction, you obviously are right. We have been working with the team at Newport and its very, very supportive and helpful and really have helped us in drive integration efforts and I think we feel comfortable with the synergy number you announced, I think that’s what is achievable in 18 to 36 months. We feel very good about that, and you know we mentioned many times, we always look at continues improvement on both the Newport side as well as the MKS side. So while we think the efficient and lean as we possibly can. But at this point those synergies feel quite achievable in a time line we announced.

Tom Diffely

Okay, that's great. And Gerry, looking at some of the design wins, if you look at ALD, was that also for power? And was that for one or more than one vendor?

Jerry Colella

That was for three different opportunities that we had. And as across product lines power primarily. But on ALD theirs is also opportunity on pressure and pressure control. There are three wins across, three different wins.

Tom Diffely

Okay. And it's still early. When you look at the Korean OEM for the etch side, you talked about power. But I assume there's other surrounded chamber opportunities you have?

Jerry Colella

There is actually, it’s just that we noted that was an interesting win and I have a lot of Korean meetings in in Semi-con with customers, they are actually had not intended, to meet with customers because we had such a full plate with investors and analysts, either to they talked about new points, but they wanted to talk me about the commitment they were making to MKS, and our commitment to them, and it was across the spectrum, whether it’s power supplies or matches or chamber cleaning , a new product the Paragon.

So we are very excited about the confidence of Korea. Our Korean strategy years ago, to acquire a company called Plasma [ph]. Our strategy become localize has really paid off in a big way and we are grateful that Korean customers are recognizing the technology and the commitment. So it across the whole continent right now.

Tom Diffely

Okay. And I know you are a pretty valuable partner to a lot of the OEMs to help develop some of this technology. So how do you walk that fine line between working with a customer, then going in and supplying his competitor with a similar product?

Jerry Colella

It’s been interesting, well you know a lot of number of the people that we are supplying to non-competing with our customers that’s the first thing. They are sub-tiers suppliers to the fabs that even our larger customers are not.

Secondly, we have a very, very strong veil that we put between the technology we are sharing with our larger customers compared to the some of the smaller customers that are larger -- customers at the fab sides, so we are very careful about how we share. And then more importantly if they are going to be other customers they are going to be if other customers are going to be creating equipment, they would be using somebody else if they weren't using us. And MKS is only stronger for our largest customers that we remain the number one sub-system provider for technology in the industry.

And so I think making sure we have exclusivity for our large customers, making sure there is strong veil, not sharing any secrets, being very dedicated to them first and foremost. And then making sure that however that we maintain our position without creating competition which will make it difficult for our customers to be able to enable the technology.

Tom Diffely

Okay that’s make sense. And then just a couple questions on the Newport side of the business. What is the seasonality in the lights and motion business? [Multiple Speakers] Is there normal seasonality?

Jerry Colella

Not particularly, they have a little bit -- they have a fair amount of business with research, so depending on funding for universities and research labs maybe get a little bit of waxing and waning. They have a decent amount of business in defense. So it's depends on how much defense government spending those. Micro-electronics is about itself 25% of the business. So I think it's actually more of a steady state business than the base MKS business would be, which is one of thing was attracted to us.

Although I don’t -- I personally don’t see and I may be wrong, the crazy cycles that MKS used to see in past decades based on semi-industry. I think our wide spread adoption of semiconductors in everyday life, a smaller number of end users, a smaller number of OEMs, shorter lead times, more rational thinking and more of a consumer driven, industry versus enterprise-driven leads us to be more methodical, predictable and maybe smaller cycles within a quarter. But it's still attractive to have a company like Newport that has a steady-state business to it. So I wouldn’t say there is a lot seasonality to look at know it more, understand the business more. And if that my view changes, I’ll certainly make sure that you guys know that.

Tom Diffely

And do you feel that longer term that’s kind of mid-single digit grower?

Jerry Colella

Well, they have been a slow growth company. Our target for other advanced markets outside of Semi is double digit. So if we can get them to high single digit at a minimum, then I’ll be really happy about that. And we think there is opportunity for discussion with end users. There are situations where they could be involved that are not in contact with their customers and end-users for lasers, as an example, or perhaps something to do with some mining or sensing technology with their topics capability.

And one thing we’re also going to do is really besides looking of synergies and all that, we really are, really focused on their growth, and we going to bring the same strategic planning and execution process to the light and motion group that we view for MKS to facilitate the type of growth we’re seen in with other end markets. We will focus on competition because an opportunity to takes competition out, which I am on a big proponent, which we have done as a company. We continue to increase our market share of the semi. I expect we will do the same for them.

So we’ll be laser focused, which I hate to use that word, on the growth of the business through the type of techniques we use we last introduced to the company. So it's not a financial play, its break, it helps us, it's accretive. We know we can prove their profitability but I am really focused on growth. I mean anybody can change someone’s profitability, anybody can do that. We’re the type of people that can say okay the growth and I am really focused on that as well.

Tom Diffely

And then finally, no surprise, semiconductor business was up at least at 8%. But I was a little surprised that the other business was up 10%. Was there a specific sector group inside that there was the big driver?

Seth Bagshaw

I think Tom it's across the board. If you recall our Q1 we had mentioned we had very strong orders again in the legacy MKS business, we announced the results three months ago and the revenue was for the timing orders, revenue lagged a little bit in Q1. And so that caught up in the second quarter. So that’s why we had a very strong sequential quarterly growth rate. And the order rates also turned up as well. So, that’s the major factor for Q2 and again as Jerry mentioned there is a lot of activity here within MKS to do a systematic deriving of additional order in temporary new markets position. So I think some traction is being created as well. But primarily it was in the MKS side. We had a very good uptick in the revenue in the quarter as the order flowed in more at a rational level in the quarter.

Operator

Thank you [Operator Instructions]. And our next question comes from the line of Dick Ryan of Dougherty. Your line is now open.

Dick Ryan

Seth, I'm not sure if you provided it or if I didn't catch it. But did you give Newport's gross or operating non-GAAP margins in the second quarter?

Seth Bagshaw

I didn’t give it particularly Dick, but its follows the model we published. So 10% operating margin standalone basis before any synergies and gross margin around 45% range. So the model we published that has a Newport piece that’s delineated to provide on that model before synergy.

Dick Ryan

And the 33% guidance or $33 million guide for non-GAAP R&D, where are you going to focus that R&D now with the combination?

Seth Bagshaw

Well, I think right now in the short term for the third quarter that’s probably going to run pretty much the way it's been running during the two businesses. It’s probably 50-50 split. So that would be in the short term because we don’t want to change any R&D projects in the pipeline and we want to understand where that allocated the R&D fund. I think over-time you will see us be obviously looking to see where we would get the biggest returns to consolidate R&D spend. And so over time we’ll definitely migrate to more of the high growth areas. It could be on the Newport side, or MKS side or obviously both. But I think in the short term we see it run pretty much along the same splits not historically for Q2 and Q1.

Jerry Colella

And that’s why we use the strategic learning process and hat is driven on investments we have made in engineering and technical localization. We don’t demographically just spread the R&D as it always has been historically to our business units. The R&D will shift each year or every couple of years depending on high-growth areas be determined in our strategic markets, so as example a strong emphasis on power or a remote chamber cleaning the last few years, which has paid dividend in places like Korea, as an example.

And we’re going to the process with light and motion Newport right now to look at their strategic growth areas and at that point, then we’ll look at how we allocate those R&D dollars for them is well. So it's not just point part there because the sharing is really, the pot is weighted towards high-growth areas based on strategic marketing and planning.

Dick Ryan

Okay. And then, Gerry, the guide for Q3, can you dissect what your expectations are for the vacuum and the light side to come up with that $345 million to $385 million range?

Jerry Colella

I can take that Dick, so obviously we guide total company but a rough negative split is, is Newport should be relatively consistent Q3 versus Q2 on a pro forma basis. So the 150, 150 plus range and then MKS at just that midpoint, it was obviously 215 million in revenue in Q3 and mid-point guidance.

Dick Ryan

Okay. And one last one, Gerry, you mentioned backend opportunities in OLEDs. Can you quantify what kind of contribution those sectors are providing now and what your expectations are?

Jerry Colella

Yes so our base MKS business for backend has been a modestly fast growing business, it’s actually growing 20% year over year, and with the acquisition of Newport, we basically doubled the size of the backend business. And we now have capabilities in customers, in area like dicing or dice simulation with R&D and inspection, and, we already got one of our first cross-selling opportunities in the backend for inspection.

So as we think about it 3D NAND is a wonderful opportunity. There is progress on it and we continually point where you’ll to go into creating subsystems with chips, like chip stacking. So we think things like inspection, metrology, advanced packaging will continue to grow and we create tactical challenges were, company like MKS with light and motion and backing analysis should be able to benefit from integrated substance and development. So it’s a fast growing area for us, it’s not necessarily the large part of our business, but it certainly is a vast growing area for the company.

Dick Ryan

And on display OLED?

Jerry Colella

Yes the OLED business, we have pretty good strength across all of Asia and as well is in the US. So we have opportunity with direct customers, in places like China, we continue to see that business growing and have strength. It’s little difficult in some places to assign all the revenue directly to OLED because, with some of our large customers, we ship things to them that are used for chip production OLED, but it is a growing area, certainly in Korea, we’re involved in cleaning through our liposome system for OLED growth, we looked at some really interesting projections till 2020. The OLED will be the technology of choice for smart phones. So we continue to see that as a high growth area for the company.

Operator

Thank you. And this thus conclude our Q&A session, I would now like to turn the call back to Jerry Colella for any concluding remarks.

Jerry Colella

Thank you, we are excited about the future of the combined new company and are looking forward to executing on a goal of profitable and sustainable growth. We have the vision that technology platform, experienced team and the will to drive MKS to new height. And very excited about the opportunities we have above. Thanks for joining us on the call today and for your continued interest in MKS. We look forward to updating you on our continued progress and report our third quarter results in October. Thank you.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day.

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