Axcelis Technologies Inc

NASDAQ:ACLS

Earnings Call Transcript 2018-Q3

[Operator]

Good day, ladies and gentlemen, and welcome to the Axcelis Technologies call to discuss the company's results for the third quarter of 2018. My name is Christie, and I will be your coordinator for today. [Operator Instructions]

I would now like to turn the presentation over to your host for today's call, Mary Puma, President and CEO of Axcelis Technologies. Please proceed, ma'am.

[Mary Puma, executive]

Thank you, Christie. With me today is Kevin Brewer, Executive Vice President and CFO; and Doug Lawson, Executive Vice President of Corporate Marketing and Strategy. If you have not seen a copy of our press release issued earlier today, it is available on our website. Playback service will also be available on our website, as described in our press release.

Please note that comments made today about our expectations for future revenues, profits and other results are forward-looking statements under the SEC's safe harbor provision. These forward-looking statements are based on management's current expectations and are subject to the risks inherent in our business. These risks are described in detail in our Form 10-K annual report and other SEC filings, which we urge you to review. Our actual results may differ materially from our current expectations. We do not assume any obligation to update these forward-looking statements.

Q3 was a solid quarter for Axcelis with revenue of $95.4 million, gross margin of 41.8%, operating profit of $10.7 million or 11.2% of revenue and earnings per share of $0.26. Included in the quarter is a tax benefit of $1.4 million or $0.04 per diluted share related to 2017 tax reform. Even with this onetime adjustment, these results were in line with or above guidance and consensus estimates.

Guidance for the fourth quarter includes revenue of approximately $100 million, gross margin of approximately 40%, operating profit of around $10.5 million and EPS of about $0.20. As a result of slower-than-expected second half industry spending, we will likely end 2018 with revenue slightly below our $450 million target model, the goal we set back in January.

Our achievement of the 40% gross margin goal in that target model has allowed us to continue to invest in Purion product growth while maintaining strong earnings. There are 3 key factors driving this: First, a highly diverse customer base of the Purion product family provides stability to our revenues, when 1 segment like NAND experiences weakness. This quarter, we shipped Purion to 5 new fabs, bringing the total number of new Purion customers and new fabs to 45 since Q1 of 2016. Our Purion installed base has tripled during this time frame.

The second factor is continuing strong market conditions in the mature-process technology segment. This is a segment in which Axcelis has a large installed base and continues to maintain a high market share. The third factor is our strong CS&I business, driven by the growing number of Purion systems exiting the warranty period, higher utilization rates in mature-process technology fabs and ongoing investment in upgrades and other products and services for our large legacy installed base.

Our system shipment mix in the third quarter was heavily weighted towards mature foundry/logic, which accounted for 72% of revenues. Memory accounted for the remaining 28% of revenues with 11% DRAM and 17% Flash. We expect similar market conditions in the fourth quarter, which will drive revenues to remain heavily weighted towards the mature foundry/logic segment. This segment also represented 71% of total bookings in Q3. The geographic mix of our system shipments were China, 33%; Korea, 32%; the U.S. and Europe, 16%; and the rest of world, 19%. This is a more diverse geographical mix than in past quarters.

While we are currently experiencing a slowdown in memory spending, we believe the industry remains in a healthy long-term cycle that is fueled by IoT in the mature foundry/logic market, data storage in the 3D NAND market and data analytics in the DRAM and advanced logic segments.

We are continuing to invest in areas key to achieving the $550 million target business model. During today's call, I would like to highlight our efforts in Japan, which have accelerated over the past quarter. The Japanese market represents approximately $150 million to $200 million of Greenfield opportunity for Axcelis. Our distribution and support partner, SCREEN Semiconductor Solutions, has done an excellent job introducing Axcelis to the Japanese customer base, and we have received a very warm reception. Japanese customers like the technology capabilities of the Purion product family and have been actively running demos at our Beverly Advanced Technology Center.

As planned to support customer demos and training requirements, we shipped a Purion H high current implanter to SCREEN's Advanced Technology Center in Hikone, Japan during the third quarter. We expect to begin utilizing this system for local customer activity in the first quarter of 2019.

In December, we will be participating at SEMICON Japan industry booth and have planned multiple joint customer meetings. While SCREEN is our partner for Purion systems, our growing presence in Japan has also increased the activity for our legacy systems and opened opportunity for increase CS&I revenue from our existing installed base.

During the quarter, we also hired John Kulungian as our new VP of Quality. John is focused on enhancing the customer experience by driving quality in both the factory and the field. In addition to improving customer satisfaction, we believe that these quality initiatives will contribute to our efficiency and ultimately result in additional cost out.

Now I'd like to turn it over to Kevin to discuss our financials.

[Kevin Brewer, executive]

Thank you, Mary. We delivered solid Q3 financial results, with gross margin, operating profit and EPS all above guidance and consensus estimates. Strong gross margin performance at 41.8% was driven by continued execution of our gross margin improvement roadmaps as well as a favorable mix of systems and CS&I.

Margin improvement continues to be an area of focus across the business. As I discussed last quarter, we are targeting initiatives on the things we can control like strategically investing in CS&I projects, targeted at margin expansion, pursuing cost out through value engineering and lean manufacturing initiatives, leveraging higher volumes across the supply chain and purchasing [ more ] material from our global suppliers. With regards to operating expenses, we continue to align incremental spending with initiatives expected to drive margin expansion and revenue growth.

I'll review the third quarter financial results. Q3 revenue finished at $95.4 million compared to $119.3 million in Q2. Q3 system sales were $56.4 million compared to $73.9 million in Q2. Q3 CS&I revenue finished at $39 million compared to $45.4 million in Q2. Q3 sales to our top 10 customers accounted for approximately 80% of our total sales compared to 70% in Q2. The 3 customers at 10% or above.

Q3 system bookings were $62.8 million compared to $61.8 million in Q2, with a Q3 book-to-bill ratio, 1.08 versus 0.84 in Q2.

Backlog in Q3, including deferred revenue, finished at $81.3 million compared to $74.1 million in Q2. Q3 combined SG&A and R&D spending was $29.2 million or 30.7% of revenue. This was in line with our guidance and compares to $29.7 million or 24.9% in Q2. SG&A in the quarter was $16.4 million with R&D at $12.8 million.

In Q4, we expect SG&A and R&D spending to be approximately 30% of revenue or flat to Q2. Q3 gross margin was 41.8% compared to 41.1% in Q2. Q3 gross margin was positively impacted by previously discussed margin improvement initiatives and mix. Q4 gross margin is expected to be approximately 40% with full year gross margins also expected to be approximately 40%.

Operating profit in Q3 was $10.7 million compared to $19.3 million in Q2. We are guiding Q4 operating profit of approximately $10.5 million. Q3 net income was $8.8 million or $0.26 per share compared to $14.7 million or $0.43 per share in Q2. Included in the quarter is a tax benefit of $1.4 million or $0.04 per diluted share, related to the 2017 tax reform. We're guiding Q4 earnings per share of approximately $0.20.

Q3 inventory ended at $124 million compared to $129.6 million in Q2. Q3 inventory turns, excluding evaluation tools finished at 1.9 compared to 2.3 in Q2.

Q3 accounts payable were $27.9 million compared to $32.6 million in Q2. Q3 receivables were $85 million compared to $74.4 million in Q2, due to the timing of shipments. Q3 cash finished at $155.6 million compared to $154.9 million in Q2. We remain focused on driving higher revenues while improving gross margin through cost productivity and product [ extensions ] . Solid cash generation is allowing us to fund critical investments expected to drive future revenue growth.

I will now turn the call back to Mary for closing comments.

[Mary Puma, executive]

Thank you, Kevin. Our broad and diverse customer base has allowed Axcelis to perform significantly better during this [ pause ] than in the past. Strength in both Purion and legacy tools coupled with product offerings focused on power devices and image sensors have provided strength during this memory slowdown.

Our CS&I business has also been performing well, consistently delivering revenues in the $40 million range as greater numbers of Purion systems exit the warranty period and fab utilization remains high. We are now focused on achieving our $550 million target business model in the next couple of years by adding key wins in Japan and China to the expanding Purion's footprint [ at ] existing customers, we will have penetrated the accounts required to achieve this goal. With $550 million in revenue in our line of sight, we have begun efforts to identify both organic and inorganic growth to take revenues beyond this target business model. The Axcelis team has worked very hard to bring us to this point. We want to thank all of our employees for their efforts. We are excited about the success this has brought Axcelis and the financial returns this will deliver to shareholders as market dynamics strengthen.

With that, I'd like to open it up for questions.

[Operator]

[Operator Instructions] Our first question is from Craig Ellis with B. Riley.

[Peter Peng, analyst]

This is actually Peter Peng calling for Craig Ellis. Just wanted to touch on China, some of your larger fab peer says that China is relatively on track. Just based on your discussions, what are you seeing for 2019?

[Mary Puma, executive]

Yes. I would say in general most of the projects are on track. We're seeing customers who have been building fabs actually starting to populate now with some tools and that's in some of the startup fabs, some of the memory startups, in particular, some of the more established Chinese customers are actually continuing, especially if they are in the mature-process technology area or mature foundry/logic area to buy actually quite heavily. So we think that things at this point are on track.

[Peter Peng, analyst]

Great. And on your memory, your -- one of your large memory customers, it seems like -- from their 4Q CapEx, it seems like there is a huge surge. When would you see that kind of benefiting you? Is it perhaps the first half or the second kind of phenomenon?

[Mary Puma, executive]

It'll probably be the first half of 2019, I would suspect at this point in time. Again, we're on a slight pause right now from some of our memory customers, but we expect things to pick up in 2019.

[Peter Peng, analyst]

One more question. Just on the -- your -- the Taiwan potential customer, do you see that as a 2019 benefit or is this going to be more 2020 kind of case?

[Mary Puma, executive]

I think it will start in 2019. It's something now that will ramp over time. So while it starts in 2019, it's likely to be higher volume in 2020.

[Operator]

Our next question is from Christian Schwab with Craig-Hallum Capital Group.

[Christian Schwab, analyst]

Yes, good execution in a tough environment. When we look at memory in 2019, would you expect that to be more like second half weighted as far as recovery in shipments for you right now, is that what you'd be thinking?

[Mary Puma, executive]

Yes, I mean, our visibility into 2019 isn't great but based on what we know today, I think that, that's probably a pretty good assumption.

[Christian Schwab, analyst]

And then how much longer do you believe or have confidence that non-leading-edge equipment spending can remain robust?

[Doug Lawson, executive]

Christian, it's Doug. It appears like it's going to continue for a while. There is quite a bit of spending there in quite a number of different applications. So we've seen a lot of high-energy activity related to image sensors and embedded memory and so forth and then a lot of productivity improvements as a result of products with the Purion H in those areas, and then the mature foundry productivity is the key. These technologies are relatively -- they are mature by definition of the name and the yields tend to be fairly high. So productivity is how they make their money.

[Christian Schwab, analyst]

Right. And then lastly, as far as taking a look at different ways to get above $550 million at some point. Are you looking -- can you give us any type of idea what you think would be as far as product or support, or where is the leverage in the Axcelis model to bring in something else or acquire something else? I'm kind of trying to figure out what you -- obviously, I don't want you to tell me what you're going to buy, but I'm confused about where you think that there could be leverage and scale and synergies?

[Doug Lawson, executive]

Yes, well, I think we're doing that evaluation right now, Christian. And with the things, where we have good front-end channels, we know that market very well. We're very good on the physics side of things. And so we have very strong manufacturing capabilities of very complex equipment. So those are attributes that we can work off of but we're in the middle of that evaluation, and as we know more, we'll let you know.

[Operator]

Our next question is from Patrick Ho with Stifel.

[Patrick Ho, analyst]

Maybe first for either Mary and Doug, with your initiative in Japan with SCREEN, the region is a very good mix for both memory as well as the mature technology nodes. I guess, in the very early stages that you are right now, are you seeing an interest from one or the other in Japan right now or [ at ] the time do you believe it's going to be a relatively balanced mix?

[Mary Puma, executive]

I think right now we're seeing interest from a broad customer base, so it'd be mix of both memory and the mature foundry/logic or mature-process technologies segments. And so I think over time, we would expect the mix that we have today, which is relatively split to probably hold in Japan as well.

[Patrick Ho, analyst]

Great, that's helpful. And maybe, Doug, as a follow-up to Christian's or one of the questions earlier about the sustainability of the mature technology nodes. You've mentioned productivity, is that the biggest driver? Because we are seeing some capacity additions, especially in the CMOS image sensors or a retrofit of fabs. Is the productivity the biggest driver for the sustainability? Or are there potentially new fab projects, capacity expansion plans out that will drive volume?

[Doug Lawson, executive]

Yes, there's definitely new projects. Many of these companies are doing expansions to existing fabs, and in some cases, there is actually new fabs being built. The image sensor and power device markets, we classify within that group and both of those require more than just productivity. The image sensors are very dependent on very high-quality, high-energy systems for high yields in these complex image sensors. And the power device market is moving more and more towards silicon carbide for their high-voltage, high-speed switching applications and the Purion high-temperature capabilities become critical for that. In general, though, in a mature fab, that's running at high volumes with a big production mix, productivity is a very big deal for them.

[Patrick Ho, analyst]

Great. And final question maybe for Kevin in terms of the gross margin profile, which has held very well despite some of the volatility we're seeing near term. You've talked a lot about the efforts you've done on the system side of the business with the Purion platform and the leveraging of the commonality, can you give a little bit of color on the efforts you're taking on the CS&I business? And what I'm looking for there is the installed base gets larger. I'm sure it's becoming, I guess, a [ strained ] deal with more and more customers. How do you keep that business margin profiles at its high levels? Are there efforts you're taking within that business that can even improve it down the road?

[Kevin Brewer, executive]

Yes, okay. It's a good question, Patrick. So we have almost for the last 2 years now been investing more in that side of the business. We've put a fairly big team of engineers into the group to focus on upgrades in particular. And upgrades is kind of -- it's one of those markets where you create your own market. The upgrade is not there until we come out with it and typically we're going after things that are productivity improvement or some type of yield improvement. So we have been driving more upgrades into that side of the business.

We are also, as you pointed out, we're getting more volume that's coming out just on the additional tools out there, and the volume always helps cost. So we're getting a little bit of pick up from the volume, so between the upgrades, we're working on and the additional volume, we're trying to move those margins even higher because that is, as you pointed out and as we always say, it's a very [ creative ] part of the business, we want to make sure it stays that way. So we are definitely focused there, we have a team of engineers working on that side of the business.

[Operator]

[Operator Instructions] Our next question is from David Duley of Steelhead Securities.

[David Duley, analyst]

Just a couple. What length of warranty period do you guys have on the Purion tools? And you mentioned that the Purion installed base tripled, I think, over the last couple of years. Could you give us a number for the installed base?

[Kevin Brewer, executive]

Yes. I mean, I'm not -- if we did say that I'm not sure when we did -- we did triple.

[Mary Puma, executive]

We didn't give any numbers, and we're not going to give any numbers, Dave.

[Kevin Brewer, executive]

Yes. But the typical warranty period, Dave, is 12 months on a Purion tool, which is standard for our other products as well.

[David Duley, analyst]

Okay. And then the opportunity once they come off warranty, clearly 2017 was a good revenue year versus '16, so you should have a nice bump up in the service and support revenue from that year. I'm kind of trying to figure out what the growth rate might be here or the trajectory might be for the service business going forward with all of those tools going off warranty?

[Kevin Brewer, executive]

Well, I mean, what we've been kind of telling people right now is that modeling at $40 million is probably the right run rate. And as we move forward towards our $550 million model that would come up a little bit from there.

[David Duley, analyst]

Okay. And then versus I think last quarter, you're still hopeful that you might be able to achieve $450 million in revenue this quarter. I think you were just a bit light on that maybe $10 million or so. I was curious as to what area that you didn't achieve your goals in?

[Mary Puma, executive]

We had a few tools move around, but as you know, it doesn't take very many tools to have a miss for us. But it was mainly in the memory area that we had some movement.

[David Duley, analyst]

Was that in NAND or in DRAM?

[Mary Puma, executive]

It was in NAND.

[David Duley, analyst]

Okay. And then final thing from me. Doug, could you give us an idea, I think we can do the straight numbers with your revenue now guided to Q4, but we don't have the denominator and how big do you think the implant market was in 2018?

[Doug Lawson, executive]

Dave, we estimate the market to be $1 billion plus or minus about 10% pretty much every year. Between the new applications that come on and the productivity improvements reducing, it's pretty much over the last 10 years average right around there. So we don't try to get the pencil any sharper than that.

[Operator]

Our next question is from Mark Miller with Benchmark.

[Mark Miller, analyst]

Just wondering how many fabs you've mentioned you shipped [ the tool to ] Japan. How many evaluations do you have tool fabs -- do you have the tools in?

[Mary Puma, executive]

We have 2 evaluations currently out in the field. One in a memory customer and one at a leading-edge logic foundry.

[Mark Miller, analyst]

Great. Next year, could you kind of give us a little insight in terms of what would be your leading growth areas? Would it be Japan, of course, you're not doing anything this year but Japan, China or mature fab foundry in terms of year-over-year improvements?

[Mary Puma, executive]

Well, we've talked about how we're focused on Japan right now. We're making a very significant investment there and it's a very large market about $150 million to $200 million. So that's, obviously, an area where we expect to have some growth. We will likely have some evaluation units in 2019. But significant revenue won't likely come until 2020. We've all talked about China and how it's a growing geography. So we would expect to continue to see growth there. We've made commentary during the course of this year, how we've actually invested in the infrastructure in China to support that growth. So again, we're anticipating that it will take -- we'll start to see more in 2019 and then there's also the memory area for us, we expect to see additional growth in that area as well.

[Mark Miller, analyst]

Would that growth be coming from DRAM? Because Western Digital, I think [ Mike brought it also maybe Samsung have ] been talking about scaling back because of the NAND oversupply?

[Doug Lawson, executive]

They certainly have discussed that. We don't expect that, that is going to be something that's going to last throughout the entire year next year. So as far as your question relative to 2019, we would expect that there will be DRAM and NAND activity as they continue to balance their fabs and add capacity as demand requires it so...

[Mark Miller, analyst]

And finally, could you provide cash from operations for September, please?

[Kevin Brewer, executive]

$1.9 million, and $17.2 million year-to-date.

[Mark Miller, analyst]

And CapEx, I'm sorry, CapEx too?

[Kevin Brewer, executive]

I don't have that on my fingertips. Can I have a second? Somewhere around $2 million, Mark, probably the right number is for the quarter.

[Operator]

And this does conclude today's Q&A portion of the call. I would now turn the call back over to Mary Puma, who will make a few closing remarks.

[Mary Puma, executive]

Thank you, Christie. We hope to see you in the coming months on the road in [ Beverly ] or at the Benchmark Discovery Conference on November 29 in Chicago, and we will also be at the New York City Summit on December 11 and the Needham Conference on January 15, both in New York City. Thank you for your support.

[Operator]

This concludes the presentation. Thank you for your participation in today's conference. You may now disconnect. Good day.