Cohu Inc

NASDAQ:COHU

Earnings Call Transcript 2024-Q1

[Operator]

Good day, and thank you for standing by. Welcome to Cohu's First Quarter 2024 Financial Results Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to Jeff Jones, Chief Financial Officer. Please go ahead.

[Jeffrey Jones, executive]

Good afternoon, and welcome to our conference call to discuss Cohu's first quarter 2024 results and second quarter outlook. I'm joined today by our President and CEO, Luis Muller. If you need a copy of our earnings release, you may access it from our website at cohu.com or by contacting Cohu Investor Relations. There's also a slide presentation in conjunction with today's call that may be accessed on Cohu's website in the Investor Relations section.

Replays of this call will be available via the same page after the call concludes. Now to the safe harbor. During today's call, we will make forward-looking statements reflecting management's current expectations concerning Cohu's future business. These statements are based on current information that we have assessed but which, by its nature, is subject to rapid and even abrupt changes. We encourage you to review the forward-looking statements section of the slide presentation and the earnings release as well as Cohu's filings with the SEC including the most recently filed Form 10-K and Form 10-Q.

Our comments speak only as of today, May 2, 2024, and Cohu assumes no obligation to update these statements for developments occurring after this call. Finally, during this call, we will discuss certain non-GAAP financial measures. Please refer to our earnings release and slide presentation for reconciliations to the most comparable GAAP measures. Now I'd like to turn the call over to Luis Muller, Cohu's President and CEO. Luis?

[Luis Müller, executive]

Good afternoon. First quarter results were in line or better than guidance with non-GAAP gross margin of 46% and EPS of $0.01 as we navigate through the eye of the storm in the semiconductor cycle. We estimated test cell utilization at the end of first quarter, up 1 point to 72%. We expect business conditions to remain more or less at this level for another quarter or two before we start seeing improvement.

Test cell utilization at IDMs was down 1 point to 74% with computing, industrial and automotive demand down sequentially. OSAT utilization improved slightly to 70%, although still well below the trigger threshold for capacity buys at approximately 80%. There are a couple of bright spots in the quarter, a leading U.S. fabless semiconductor manufacturer has selected our [indiscernible] system with MicroSense for testing their next-generation, high-fidelity microphones.

This Microsense microphone tester is Cohu's latest product in our MEMS solution portfolio. And when combined with the Sense+ automation platform, delivers state-of-the-art testing of up to 96 devices in parallel. According to industry analysts, the MEMS microphone sensor market is projected to grow 14.5% annually over the next 7 years, reaching an estimated revenue of $6.2 billion. We estimate a buy rate of approximately 1% for integrated test in vision inspection systems, making this an attractive market opportunity over the midterm.

In the optoelectronics market we saw increased demand for our testers, handlers and interface products for automotive LED production from a European customer. A leading automotive ADAS customer has selected Cohu's high-performance RF contactors for testing automotive radar sensors. Finally, we completed the qualification of Diamondx for final test of display driver ICs at a large customer in Korea, opening the door for the next stage of revenue growth in this important market that we started developing a few years ago.

This has been a fundamental strategy for a tester business to add a market segment in which Cohu can differentiate and diversify revenue. As the industry moves through its cycle, it remains critical to Cohu's strategy to leverage our profitable recurring business, which provides for a more stable revenue stream of mostly consumable products. Recurring was approximately 66% of revenue in the first quarter, serving an installed base of about 24,700 systems worldwide. Cohu's recurring business delivered revenue of $304 million over the last 12 months with a 3-year compound growth rate of 2.7%.

Finally, we published our 2023 sustainability report with improvements in many areas. Renewable source energy usage increased to 32%. We completed construction of a new modern facility in the Philippines with rainwater harvesting system and are investing solar energy installations at our factories in Malaysia and the Philippines. Cohu has also recently committed to engage with the science-based targets initiative, or SBTI with the goal to develop near-term science-based emissions reduction targets.

As the industry grows through this cycle, we remain focused on managing cash flow while continuing to execute critical new product developments and customer design win initiatives to enable growth when customers resume best capacity buys. Let me now turn it over to Jeff to provide further details on first quarter results and second quarter 2024 guidance. Jeff?

[Jeffrey Jones, executive]

Thanks, Luis. Before I walk through the Q1 results and Q2 guidance, please note that my comments that follow, I'll refer to non-GAAP figures. Information about the non-GAAP financial measures, including the GAAP to non-GAAP reconciliations and other disclosures are included in the accompanying earnings release and investor presentation, which are located on the Investor page of our website. .

Now turning to the Q1 financial results. Cohu delivered revenue and profitability above the midpoint of our guidance. Q1 revenue was $107.6 million. Recurring revenue, which is largely consumable-driven and more stable than systems revenue represented 66% of total revenue in Q1. During the first quarter, one customer in the automotive market accounted for more than 10% of sales. Q1 gross margin was 46%, about 100 basis points higher than guidance driven by better-than-forecasted margins on Cohu's resilient recurring business.

Operating expenses for Q1 were lower than guidance at $50.2 million driven by lower labor and labor-related costs. First quarter non-GAAP operating income was approximately breakeven and adjusted EBITDA was 2.6%. Interest income, net of interest expense, loss on extinguishment of debt and a foreign currency loss of approximately $0.5 million was $1.6 million. Q1 pretax income consists of foreign profits combined with a loss in the U.S. The Q1 tax provision reflects tax on foreign profits, but no tax benefit from the U.S. loss, due to our valuation allowance against deferred tax assets.

Additionally, the non-GAAP tax provision in Q1 of $300,000 is net of a one-time 2.7 million credit for the reversal of reserves for uncertain tax positions in foreign jurisdictions. Non-GAAP EPS for the first quarter was $0.01. Moving to the balance sheet. Cash and investments decreased by $64 million during Q1 to $271 million due to variable comp and payroll taxes totaling approximately $20 million plus $29 million used to pay off the remaining term loan B balance and approximately $11 million to repurchase 334,000 shares of Cohu common stock.

CapEx in Q1 was $3.3 million with approximately $2 million related to our factories in the Philippines and Malaysia, supporting operations for our interface and automation businesses. Overall, Cohu continues to maintain a strong balance sheet to support investment opportunities to expand our served markets and technology portfolio in line with our growth strategy and return capital to shareholders through our share repurchase program.

Now moving to our Q2 outlook. We're guiding Q2 revenue to be in the range of $105 million, plus or minus $6 million, reflecting continued weakness across end markets and low test cell utilization at customers' production facilities. Q2 gross margin is forecasted to be approximately 45%, better than the financial target model at this level of revenue due in large part to Cohu's differentiated products and our stable high-margin recurring business, which adds resilience to profitability and provides consistent cash flow through industry cycles.

We expect gross margin to increase again when our revenue recovers with a broader semiconductor device market recovery and with better absorption of our factories infrastructure costs. Operating expenses for Q2 are projected to decrease about $1.5 million quarter-over-quarter to approximately $48.5 million due primarily to a reduction in force in optimizations as we completed certain product developments. As I noted during our last earnings call, we have taken action to reduce operating expenses without sacrificing critical new product investments while navigating through the trough of this cycle.

As a result, we're now modeling operating expenses to average approximately $48 million per quarter in the second half of this year. We're projecting Q2 interest income net of interest expense and foreign currency impacts to be approximately $2 million at current interest rates. We expect Q2 adjusted EBITDA to be approximately 2%. The Q2 non-GAAP tax provision is expected to be approximately $1.6 million because of tax on foreign profits without benefit from the U.S. loss.

Additionally, the $2.7 million credit recorded in Q1 is not expected to repeat in Q2. Until the markets recover, we expect a similar tax provision profile as we navigate through this cycle. The basic share count for Q2 is expected to be approximately 47 million shares. That concludes our prepared remarks, and now we'll open the call to questions.

[Operator]

[Operator Instructions] Our first question comes from the line of Brian Chin.

[Brian Chin, analyst]

[indiscernible] a few questions. Maybe to start with, I'd say that the the recurring revenue was even maybe a little bit more, even down less than I might have anticipated sequentially, given that I think a lot of industrial automotive semi-related companies that seem to have curtailed production quite a bit. But again, your revenue Q-on-Q actually did not decline by that much. Do you feel that now that maybe some of your customers utilization rates are starting to stabilize. Do you think that revenue has also stabilized in sort of Q1, Q2, what's sort of the trend you're seeing? And even if you don't have full visibility on the system business, do you have more confidence that the recurring revenue will improve in the second half?

[Luis Müller, executive]

Brian, this is Luis. Yes. The way we see it right now with stabilizing utilization and recurring seems to be stable as well. And obviously, the expectation and what we've seen in the past is when utilization starts to increase, so does recurring, both from a usage of the equipment and therefore, increase the spares, typically, customers end up cannibalizing unutilized equipment for spares and then eventually there is a quick turnaround on that when the utilization picks up as well as device kits and contactors. So at this moment, utilization is stable, so is recurring and would expect it to return to an increase, particularly when utilization starts to rise again.

[Brian Chin, analyst]

Got it. And I guess sort of branching out a bit in terms of going back to your comment about maybe revenues kind of stay at this level, another quarter or two. Is there something after this sort of retrenchment period here in first half in terms of system business, which sort of now is kind of across every end market, right, at this point. When you talk to your customers, what does give you more degrees of optimism in terms of some pickup at some point in the second half?

[Luis Müller, executive]

There are 2 things. One is we have -- not everybody turns at the same point, right? It's never been that way. But we are seeing some customers starting to claim a correction is over in the inventories -- in their inventory line. So particularly in -- we've seen that happening and seeing a little bit of traction so much so that actually, our mobile segment revenue was up sequentially from Q4 to Q1.

We still have other customers that are at the bottom, but they're basically claiming stability now. So stability indicates that the next step is improvement. So we're starting to see sort of the turn of the tide a little bit. As I commented in my prepared remarks here, right at the beginning, actually, I called it navigating through the eye of the storm, and I really mean it in the sense of we're now at that point of the headwinds have stopped and we see a few customers starting to see a little bit of tailwind. So we'd expect that in a couple of quarters, we'll be having more customers with tailwind, utilization starting to pick up. And eventually, capacity buys.

Now obviously, capacity buys require utilization of existing capacity installed to pick up to a level where you need to buy new equipment. Like I said, not all customers will be on the same phase and in the same quarter. That probably will straddle over a couple of quarters. But it gives us confidence that we're heading towards better wins ahead here. I don't know if it's a quarter or two quarters away from now when things start to pick up again.

[Brian Chin, analyst]

Okay. Maybe just one quick question [indiscernible] is for Jeff. Just obviously, very high gross margins here at trough. I noticed you also raised the target model gross margin to 50%. Anything that goes into that in terms of composition of revenue mix at $1 billion? Or what considerations kind of go went into that increase?

[Jeffrey Jones, executive]

Historical results really went into that decision to increase. We've sort of maintaining the same mix of product at that billion dollars of revenue with roughly 40% automation and 30% test, 20%, interface, 10% for inspection metrology. So that doesn't change. It's just we've seen better cost profiles, lower cost profiles, better margins. So that gave us the confidence based on what we've achieved here over the last, call it, 8 quarters to set the target to 50.

[Operator]

Our next question will come from the line of [indiscernible] Cole with Needham.

[Unknown Analyst]

I'll ask this question on behalf of Charles Chi. So first of all, can you provide some color on what you see on the mobile side of the end market, which drives your tester business? Are you more incrementally positive or cautious here?

[Luis Müller, executive]

Ross, yes, we are incrementally more positive on mobile. I'm not calling this really broad market recovery yet. But what we've seen in particularly IoT devices, so talking about RF in the mobile space, we've seen a little bit of an improvement in orders in the fourth quarter revenue in the first quarter. As I mentioned before on the prior call, the prior question, sorry. The mobile segment is the only segment of our market that we saw an increased revenue quarter-over-quarter.

Now that's more particularly focus on the Android segment and some -- as we understand customer. Our customers opportunity for sales in China and Korea, not yet a broad-based recovery. So I think mobile will be incrementally better going forward. But realistically, I think a full-blown recovery is more of a late this year to 2025 story.

[Unknown Analyst]

Great. And if I can ask a second question a little more broadly on what are the ordering or quoting activities like right now, especially relative to 3 months ago? Are you starting to see some green shoots?

[Luis Müller, executive]

The activity is still very much focused on new technologies, new applications, our customers win of a particular socket that drives some demand. No, I can't say that there is much of a broad-based capacity addition at this point, Ross. It's -- we have we have qualifications. We have design wins as a reference here on the call, we had a design win for a MEMS microphone application. It's a new product, customer selected. We already shipped a first system here going into their lab, and we have a production system shipping in the summertime.

We had a design win completed of a qualification of our tester with the new instrument for display driver, I see final test, which we call P2. So the second insertion of test. This is the same customer that has selected us for P1 last year and drove a $20 million of revenue in 2023, so we now got qualified for P2. So basically, new products, new opportunities more so than the general capacity, that is not happening so much at the moment.

[Operator]

Our next question comes from the line of David Duley with Steelhead Securities.

[David Duley, analyst]

Yes. I was wondering when business does recover, which segments of your equipment, do you think the handlers or testers will recover first? And perhaps maybe just handicap which end market you think will turn on first for Cohu?

[Luis Müller, executive]

Dave, Luis, again. So we've been thinking that and it's really a good question, but we've been thinking that the mobile segment and computing will start coming in first. With that said, with that comment said, the reality of utilization dynamics today, it is still higher in the Automotive and Industrial segment. When we look at utilization by market and auto and industrial is hovering at about 78%. So it's pretty close to that capacity addition threshold that we call that is at 80%.

While computing is much lower at 66% and mobile is at 67%. So it's a tale of 2 stories here because, one, we believe that the mobile and computing should be the one coming on first. On the other hand, we're a lot closer to that threshold in the auto and industrial. I think that's another way of saying, it could actually flip from what I have originally said. It could come back on the auto ahead of mobile.

[David Duley, analyst]

Okay. And with industrial and automotive utilization rates hanging in there, I guess that suggests for you and your customers that that in market has stabilized and we're done -- I don't want to say done with the inventory correction, but were done going down in the -- in your biggest segment of business.

[Luis Müller, executive]

I think that's correct, Dave. I think we're done going down across segments right now. I mean mobile has been fairly depressed for the last 3 quarters. And auto and industrial is also very depressed right now. What is encouraging about auto and industrial is our customers' ability to actually operate just below that 80% threshold. It hasn't really sunk -- the utilization hasn't really sunk in as much. Nevertheless, customers have largely stop buying capacities right now. They are buying specific technologies, but not general capacity. So yes, I'm encouraged by the [indiscernible] industrial guys.

[David Duley, analyst]

Okay. And then -- can you just remind us what your lead times are now? I imagine they're back to normalized levels, but I'm just kind of curious what normalized levels are now.

[Luis Müller, executive]

They're largely unchanged from last quarter, Dave. It's a little tricky to talk about lead times when we're selling new technologies, right? So if you talk about our handlers, about 15 weeks is a fair number, testers about 12 weeks, and contactors about 7 weeks. With that, I have to say we're selling a lot of handler configurations that are brand new, a super high power dissipation, Tcore system for sort of for processor test. Well, that's a new head. It's a new thermal system, and the lead time on that is a little longer.

So we're selling new technology applications, the lead times are a little longer. I would expect if we get more capacity buys of standard products that despite having greater demand, we probably would see lead times go down a little bit first -- at first before they go up again.

[David Duley, analyst]

Okay. Now final question for me is -- when you kind of look out over the server upgrade cycle that's pending for artificial intelligence and all the associated components that are going to go into those new servers? There's going to be a lot more GPU and CPU content. Could you just talk about how that upgrade cycle might impact your product lines? Like I would think that maybe your thermal conditioning handlers would see an uptick from the server upgrade cycle. So that's my question is like when we do hit the that part of the AI upgrade cycle for servers. How will that impact your business?

[Luis Müller, executive]

Yes. So the server upgrade cycle is going to be better for us than the the actual data center cycle. The data center cycle is lower volume, very high ASP semiconductors, very low volumes. The data center you changes the equation here, you get a bit more volume. So computing was, I think, 5% or 6% of our revenue last quarter -- sorry, it came out at about 3% in Q1. I would expect it to improve a little bit on the second half of the year, assuming that that, that data center cycle is really going to pick up momentum as it's being said.

[David Duley, analyst]

And just so I understand when you're saying the data center versus the server, what do you mean just help me understand which cycle you're referring to there? Traditional servers or AI servers or.

[Luis Müller, executive]

I'm sorry. I'm sorry. I meant to say the server cycle. .

[Operator]

Our next question comes from the line of Krish Sankar with TD Cowen.

[Unknown Analyst]

This is Robert [indiscernible]. I know a bit of it has already been answered. But just in terms of the auto and industrial markets, how those have sort of shaped up over the -- compared to, I guess, 3 months ago. If I remember correctly, the December quarter, sales were down, but the test utilization was actually on the higher side, and you mentioned you can continue to see a bit higher utilization in the March quarter despite sales down a bit. Just trying to think of how you are looking at that business or market entered the June quarter in the second half of the year.

[Luis Müller, executive]

Yes. So look, I'm going to start with first quarter, right? The utilization, as I said, it's holding up pretty well, but revenue was down first quarter sequentially from fourth quarter, both on the auto and the industrial side and pretty much the same -- at the same rate. Looking at -- looking forward, we don't really go ahead to predict revenue by market segment for future quarters. But I'd be tempted to say just based on the order pattern that industrial -- industrial will be weaker, automotive -- automotive may hold up a little bit better than the industrial side. I think the industrial side continue to lose some ground relative to the other markets in the first quarter orders and therefore, second quarter revenue. .

[Operator]

[Operator Instructions] Our next question comes from the line of Craig Ellis with B. Riley.

[Craig Ellis, analyst]

What I wanted to do, Luis, is just try a shorter-term question. And then a longer-term question and on the shorter-term side. And this one goes back to some of the comments around downstream utilization and where the business is over the next couple of quarters. But assuming utilization is near current levels or maybe drifts up a little bit in a seasonally stronger second half. How do we think about the gives and takes with normal seasonality in the fourth quarter. Typically, the business would be down much more in the systems side than recurring. But typically, that would be off much more significantly inflated levels. So can you just help us understand how we should think about some of the seasonal dynamics given the unusual year we have thus far?

[Luis Müller, executive]

Sure, Craig. As you know, well, this industry has both seasonality and cyclicality with seasonality essentially being the -- obviously, the 12-month cycle, right, or the 12-month pattern of the wave and the cyclicality being more of a multiyear, I think you call it as a 4-year give or take, 4-year period. When you when you overlay the 2, you may have one obscuring the other. And I think this is a classical year where you're not going to see in as much the seasonality because we're coming off of a trough where we are at the moment. .

And all the indications is the market starts to improve in the second half of the year and going into a 2025 recovery. In other words, I don't think you'll see your typical seasonality this year. It's just not possible when the cycle is dominating what's happening in the market. It's very, very likely and I've seen this happen in prior cycles that you exit the year with a strong order momentum going into the next year when otherwise, you should have seen a pretty weak seasonal period in the fourth quarter. And I think that's going to be the case again this year. Again, I think cyclicality just overshadows seasonality in this environment.

[Craig Ellis, analyst]

That's really helpful, Luis. And the second question is related to the target model. So great to see the business raise the gross margin target by 100 basis points to 50%. You guys have had really strong trailing 2- to 3-year gross margin execution. So I can see that. My question was more on the line about that revenue. So from third quarter levels, we annualized a little north of $400 million. And so the target is about 2.5x that. And what I wanted to do is give you the opportunity just to talk about the path that you see for the business to go from annualizing at $400 million back to $1 billion? What are some of the things that are going to be the biggest drivers to that growth, whether it's on the product side or other things that you and the team are working on that will in a much better demand environment, deliver revenues that are out on your target?

[Luis Müller, executive]

Well, I can talk a little bit about the business dynamic heading to that target, Craig. You can't necessarily pick the trough of the cycle and then try to try to explain to that $1 billion target. I think you got to look at more of a through cycle, what is the number at the through cycle level, which tends to be somewhere in the $750 million to low $800 million, what we typically call a normalized or through-cycle revenue level. How do we grow from there, it's a combination of design wins on the tester side, which we have been scoring by the way, they just don't translate into volume at the moment. Optimization and wins on the interface side, which is holding pretty well considering the overall low utilization levels in the industry right now.

And an expansion of our inspection and metrology business, right? Those are the primary focus areas. We are, from a market perspective, we're putting a tremendous amount of effort right now to align more to computing applications. We're a very strong believer on the long prospect -- long-term prospects for computing. And I don't mean necessarily just AI data centers, which are low volume. But I think the wave that comes after that, which is computing at the edge, or AI at the edge, if you will.

When those get proliferated into cell phones, into cars with higher level of autonomous driving when you get more robotic systems and automated manufacturing tools. So basically, AI at the edge should be a significant driver of sensors, communication and ultimately computing processing power. So one of the key areas of investments for us today is on the thermal subsystems and the implementation of those thermal systems into our equipment to enable capturing of share and supplying -- supporting our customers when they start proliferating AI at the edge, so to speak, or more computing processing at consumer level products. So those are the primary drivers as we see our target to get up to $1 billion.

[Operator]

Our next question comes from the line of Toshiya Hari with Goldman Sachs.

[Toshiya Hari, analyst]

Luis, you've given quite a bit of color in terms of what you're seeing from an end demand or end market perspective. I was hoping you could share what you're seeing by device type. I know you have exposure to various device types, but any specific areas of relative strength or relative weakness MCUs, analog, RF, et cetera, that would be helpful.

[Luis Müller, executive]

Okay. Toshiya, I don't have the data exactly in front of me by device type. I can qualitatively tell you the the analog -- the general analog semiconductor space is weakest at the moment. No significant strength also in microcontrollers. We see as some interesting dynamics in the processor space. As I said earlier, more of it is on the high ASP low quantities, but that is said to be migrating more to servers and therefore, a little bit better improvement in the quantity side.

We've also seen recently some improvement on FIC manufacturing and demand for test in handling equipment. I would say battery management systems, which is -- it's part of analog at the end of the day, but BMS is becoming a bit of a mixed signal type device today. Battery management systems are weak, but maybe coming to a threshold of threshold demand again. So hopefully, that gives you a bit of color from a device segment size -- and we don't participate today in memory, right? So I didn't comment on memory, but [indiscernible] does not participate in the memory space.

[Toshiya Hari, analyst]

Sure. Yes. That's really helpful. And then as a quick follow-up, you talked a little bit about your win in display drivers. I think you've talked about that in the past as well. But I think that market is currently dominated by one of your peers. So I'm sure your Korean customer is very happy that you guys are delivering product and technology -- but I guess my question is, how big is that TAM today? I think it's a couple of hundred million. But if you can confirm that, that would be super helpful. And then how should we think about your ability to to grow share over time? I know it takes time, but since you have 1 of the bigger customers secured must be a promising opportunity for you. So just curious how you're thinking about that business.

[Luis Müller, executive]

Toshiya, you're right about the couple of hundred million. We do peg that TAM at $200 million. The only problem is you said, what is it now? The now part of it is the problem. So on average, it is a $200 million TAM. We are now supplying to 2 customers that make up about 50% of that TAM. So we view it as a basically a $100 million opportunity. That doesn't mean we're going to get 100% of it. I think we will share it with our competitors.

We have had worked very closely with and supplying to the [indiscernible] manufacturer. And now we have been engaged with the Korean manufacturer, where last year, we captured their first insertion an inch a probe represent about 40% of their capital spending, and it generated $20 million of revenue for us last year. We now got qualified for their second insertion, which is final test.

We're yet to see how much of the remaining here, which could be about a $30 million opportunity, how much of that we're going to get when business conditions normalize again. So -- all in all, you're correct about a $200 million TAM. This year is depressed out of that $200 million, I think we can now serve $100 million.

[Operator]

That concludes today's question-and-answer session. I'd like to turn the call back to Jeff Jones for closing remarks.

[Jeffrey Jones, executive]

So I'd just like to close with saying thank you for joining our call today, and we look forward to seeing you soon.

[Operator]

This concludes today's conference call. Thank you for participating. You may now disconnect.