Intevac Inc

NASDAQ:IVAC

Earnings Call Analysis

Intevac Reports Strong Q3 2024 Results and Positive HDD Outlook

Intevac's Q3 2024 revenues reached $28.5 million, significantly exceeding guidance of $10.5 million to $12 million, driven by robust HDD upgrade demand. The gross margin was 24.8%, impacted by inventory-related revenue. Looking ahead, Q4 revenue is projected between $9 million and $10.5 million, with expected gross margins of 30% to 32%. For 2025, a revenue baseline of $50 million is anticipated, with gross margins exceeding 40%. The company is shifting focus solely to HDD, ceasing TRIO development, to enhance profitability and maintain a strong cash position of $72.1 million.

Revenue Surge Driven by HDD Demand

Intevac reported an impressive revenue figure of $28.5 million for the third quarter of 2024, significantly surpassing their guidance of $10.5 million to $12 million. This surge primarily stemmed from robust demand in the hard disk drive (HDD) sector, particularly technology upgrades. Notably, a resolution of a customer's inventory obligations accounted for approximately $15 million of this revenue, indicating strong underlying sales activity in HDD technology despite some pass-through accounting effects. Management characterized demand as being bolstered by forward-looking trends in cloud data center growth.

Strong Margins Coupled with Operational Stability

Despite a gross margin reported at 24.8% for Q3, this figure was impacted by inventory-related revenues. Excluding these effects, underlying business gross margins achieved approximately 45%, showcasing strong operational efficiency amidst growing demand. Operating expenses remained steady at $8.8 million, with the company forecasting a reduction in operating expenses to a range of $7 million to $7.2 million by early 2025, a strategic move aligned with recent restructuring efforts.

Future Outlook: Revenue and Margin Expectations

Looking ahead, Intevac projects fourth-quarter revenues to range between $9 million to $10.5 million, accompanied by anticipated gross margins of 30% to 32%. For the entirety of fiscal 2025, the company expects a revenue baseline of around $50 million, which reflects a solid foundation for cash flow neutrality to cash flow positivity as operational efficiencies begin to take effect.

Strategic Focus Shift Following TRIO Challenges

Management announced the cessation of the TRIO development project, stating it failed to demonstrate significant competitive advantages compared to existing technologies. This decision is expected to optimize resources and costs, redirecting focus entirely on the HDD business. This pivot reflects a strong belief in the potential of HDD technology, particularly around the heat-assisted magnetic recording (HAMR) upgrade cycle, which is anticipated to be a critical driver of growth over the next few years.

Strength in Core Business and Market Position

Intevac's core HDD business remains robust, driven by emerging trends in AI and a recovery in server demand. These factors provide a promising outlook for the HDD market, with management expressing optimism with revenue expectations of $46 million to $48 million for 2024, excluding inventory pass-throughs. In addition, they foresee considerable growth potential leading into 2026 and 2027, further solidifying Intevac's critical role in the ongoing upgrade cycle for HDD technology.

Solid Financial Position and Cash Management

As of the end of Q3, Intevac reported a cash and investments position of $72.1 million, translating to $2.67 per share. This strong cash position, together with positive cash flow from operations, indicates that the company is well-equipped to support its growth strategy while remaining agile in responding to market conditions.

Earnings Call Transcript 2024-Q3

[Operator]

Greetings, and welcome to Intevac's Third Quarter 2024 Financial Results Conference Call. [Operator Instructions] Please note that this conference is being recorded today, November 11, 2024. At this time, I would like to turn the call over to Claire McAdams, Investor Relations for Intevac. Please go ahead.

[Claire McAdams, executive]

Thank you, operator, and good afternoon to everyone on today's call, especially our veterans. Thank you for joining us today to discuss Intevac's financial results for the third quarter of 2024, which ended on September 28. In addition to discussing the company's results we will discuss our outlook looking forward.

Joining me on today's call are Nigel Hunton, President and Chief Executive Officer; and Cameron McAulay, Chief Financial Officer. Nigel will begin with an overview of our business and outlook, followed by Cameron's review of our financial results for the third quarter and additional details regarding our guidance before turning the call over to Q&A.

I'd like to remind everyone that today's conference call contains certain forward-looking statements, including, but not limited to, statements regarding financial results for the company's most recently completed fiscal quarter, which remains subject to adjustment in connection with the preparation of our Form 10-Q as well as comments regarding future events and projections about the future financial performance to Intevac.

These forward-looking statements are based upon our current expectations, and actual results could differ materially as a result of various risks and uncertainties relating to these comments and other risk factors discussed in documents filed by us with the Securities and Exchange Commission, including our annual report on Form 10-K and quarterly reports on Form 10-Q. The contents of this November 11 call include time-sensitive forward-looking statements that represent our projections as of today. We undertake no obligation to update the forward-looking statements made during this conference call.

I will now turn the call over to Nigel.

[Nigel Hunton, executive]

Thanks, Claire, and good afternoon to all of you on today's call. Our Q3 results demonstrate many positive developments for Intevac's business, including a strengthening of the HDD industry, upside in HDD upgrade demand and strong gross margin performance for the underlying business. This resulted in a better bottom line and a strengthening of our cash position as compared to Q2 and a more positive view of the HDD business and its financial performance going forward.

In addition, we are pleased to report the resolution of a customer's inventory obligation. Approximately $15 million of the $28.5 million of revenue reported for Q3 is related to these inventory obligations. The $15 million of inventory-related revenue was largely pass-through, but did include a small amount of gross profit to cover our expenses, procuring and storing the inventory. With the reported gross margin of 25%, this profit, along with certain other inventory adjustments, negatively impacted our gross margin by approximately 20 percentage points, while a positive impact on earnings per share was $0.04.

Absent this inventory-related revenue, our Q3 revenues indicate continued strong demand for HDD technology upgrades, which exceeded the high end of our forecast. We believe cloud data center demand trends are continuing to drive growing demand for our underlying core HDD business.

Unfortunately, a less positive development since quarter end is the conclusion of the qualification process for our first-ever TRIO shipment, which was delivered in April through a cover glass finisher in Asia. Over the past several months, the TRIO has demonstrated positive results through ongoing endurance testing in the field. And while the tool showed promise, the qualification concluded without the expected period.

At the end of the day, the TRIO, as compelling as it was, was unable to decisively demonstrate material advantages to displace the sizable installed capacity of existing coating solutions. And as such, we missed the market opportunity this next consumer device product cycle.

Given that this has impacted the expected to opportunity and taking into account today the strength of forecast with our HDD customers, our focus for the TRIO has turned to rapidly monetizing our inventory investments. We believe the most advantageous path forward to achieving this objective is to continue supporting evaluations at multiple prospects for R&D work as well as polymer applications. However, to be very clear, we are no longer going to allocate any material resources to support evaluations revenue potential that extends beyond the next 12 months.

The improving HDD industry dynamics support an increasingly strong financial forecast for Intevac, and our critical resources will be allocated entirely to our opportunities in the HDD sector, thus providing the most immediate and assured return on our investment. We have, therefore, ceased further development of the TRIO platform, and this will increase bottom line profitability through reduced TRIO engineering costs.

We will retain a small technology group to pursue partnerships that can leverage our compelling glass coating IP and patent portfolio into additional applications such as advanced an level semiconductor packaging.

While the TRIO efforts of recent months have concluded in a [ disciplined ] fashion, we continue to believe in the value residing in our material science expertise and IP and our efforts in 2025 will be on monetizing the investments we've already made while assessing partnerships and collaborations that can enable additional growth opportunities for our technology without requiring further investments by Intevac.

This is because we are firmly committed to maintaining the strength of the balance sheet and preserving our strong cash position. As we assess the immediate opportunities ahead of us, we have likewise evaluated our cost structure and have made the appropriate decisions to align our resources with the strongest areas of potential growth, which is why we're also announcing today the restructuring of the company, including a 19% headcount reduction worldwide and consolidating our resources to our growing HDD business.

Our core HDD business remains strong, and the outlook continues to improve. In August of 2022 when our backlog was its highest level in recent history, we had the visibility for around $200 million of HDD revenues spanning the 4-year period between 2022 and 2025. In spite of the subsequent system cancellations, today, we are firmly on track to achieve its original target through our technology-enabling upgrade business.

Even more importantly, the further strengthening of the financial outlook for the HDD sector give us confidence in significant additional revenue potential between 2026 and 2028 based on the business climate that we currently see. This continued strong revenue momentum reflects not only the sustainability of record levels of upgrade revenues but also new 200 lean orders, which are, once again, on our radar screen, not necessarily for 2025 and but certainly under consideration for 2026 or 2027.

This positive outlook for our HDD business has numerous fundamental drivers. Recently, an initial recovery in traditional server demand led to additional upside with an overall strengthening environment in hard drive and media demand. The most significant growth driver remains continued strong cloud demand strength which we believe is driven in part by the rapidly growing AI industry, which, for the third quarter, led to industry upside in mass capacity nearline drives within an increasingly favorable pricing and supply landscape.

HDD continue to demonstrate significant advantages in data centers, the cost per bit advantage of about 6x and a capital efficiency benefit of approximately 9x compared to enterprise class SSDs. The [ aerial ] density improvements being achieved at this time are the most significant advancements in over a decade, and these have been enabled by our tool upgrades specifically HAMR.

While a HAMR upgrade cycle remains in its early stages, with another 3 or 4 years ahead, the next vector for HDD upgrades is driven by additional performance advancements that will enable increasingly higher capacity drives. We're already engaged with our customers in supporting these additional future advancements, which underpins the continued 200 lean technology upgrade path through the end of the decade.

This increasing visibility for long-term strength for our HDD upgrade business, again, provides further support to our decision to focus the company's resources on the revenue opportunity supporting the HDD industry with Intevac playing a critical role within HDD technology road map as it proceeds to develop increasingly higher capacity drives.

With the HDD technology road map requiring close partnership with our customers in deploying upgrade technology through at least the end of this decade and, at the same time, over the last 5 quarters, we have observed from industry analysts, the media capacity utilization has recovered from a low of under 40%, now approximately 70%, which means that we can also start thinking about planning new systems being required within the next few years.

Turning to the near-term outlook for our HDD business. The upside in demand witnessed this year has likely boosted our HDD expectations for both 2024 and 2025. Our forecast for total HDD revenues this year has improved once again to the $46 million to $48 million range. This is excluding the inventory pass-through. This forecast has improved incrementally every quarter of the year and importantly, it provides us also with a strong base of business from our operations in 2025.

Further upside towards a $50 million revenue level and above will be driven by the acceleration of upgrade activities by multiple media manufacturers. We believe $50 million is the HDD revenue baseline ahead for 2025 as we expect to play an integral role in every major upgrade initiative. We are already seeing increased demand and accelerated time lines from additional HDD customers upgrading to HAMR.

Importantly, for Intevac and the decisions being made today to increase our return on investment with the most assured and immediate business opportunities, the strengthening HDD revenue baseline, in combination with our restructuring and the corresponding improvements to our cost structure, are enabling a revised P&L forecast, which is also expected to be cash flow neutral for the year.

Before we turn the call over to Cameron, I'm delighted to welcome Ryan Vardeman to our Board executive today. Ryan is a principal and co-founder of Palogic Value Fund and one of our largest investors. Ryan brings not only an investor perspective, but extensive corporate strategy, operating and financial experience. He also has an aging background and prior Board experience with Square where he was the Board Chairman of a sale in 2023. We very much look forward to his contributions to our Board.

And with that, I'll turn the call over to Cameron.

[Cameron McAulay, executive]

Thank you, Nigel. Turning first to the income statement. Third quarter revenues totaled $28.5 million, well above our guidance range of $10.5 million to $12 million. Majority of the subside represents $15 million of largely passed through revenue resulting from the required accounting treatment for the resolution of a customer's obligation regarding last year's [indiscernible] revenue component, revenues still came in above the high end of the range due to incrementally strong HDD technology upgrade demand during Q3.

Q3 gross margin was 24.8%. The inventory revenues included a small amount of gross profit to cover the operating expenses associated with procuring and storing the inventory related to the order. And the impact of this profit, along with certain other inventory adjustments, collectively impacted gross margin by approximately 20 percentage points.

The strength of upgrade demand in Q3 likewise drove strong gross margin performance for the underlying business of approximately 45%, above the high end [indiscernible]. Operating expenses remained stable at $8.8 million. Following our recent restructuring, we expect consulting OpEx run rate to be in the range of $7 million to $7.2 million by the first quarter of 2025.

Net other income and expense was $500,000. More of our cash moved to higher interest rate investments, interest income increased to $800,000 in Q3. However, this income was partially offset by unfavorable foreign exchange. Resulting net loss was $0.08 per share. The net EPS results for the underlying business were likewise favorable to our earlier expectations.

Moving now to the balance sheet. We ended the quarter with cash and investments, including restricted cash of $72.1 million, equivalent to $2.67 per share based on 27 million shares at quarter end. The net increase in cash over Q2 was nearly $1.7 million, reflecting positive cash flow from operations enabled by our cash flow neutral P&L as well as strong collection of receivables during the quarter.

We see CapEx was $400,000. Noncash expenses for Q3 included $1 million for stock-based compensation, $500,000 for depreciation and amortization and $800,000 in deferred tax.

Now I'll provide further details regarding our outlook. For the fourth quarter, we are projecting revenues to be in the range of $9 million to $10.5 million. We expect fourth quarter gross margins to be in the 30% to 32% range, reflecting the expected mix of upgrades and factory absorption levels during the quarter.

[ Q1 ] operating expenses are expected to be in the range of $8.4 million to $8.6 million. This range includes approximately $900,000 of cash restructuring costs in the quarter.

We expect interest income of approximately $700,000 in Q4 and GAAP tax expense of about $400,000, most of which will be noncash. We are projecting our net loss in the range of $0.19 to $0.21 per share based on 27 million shares outstanding.

As we look ahead to fiscal 2025, our strategic 3-year plan and forecast for the next fiscal year is currently being concluded. We expect our growing base of HDD business to deliver a revenue baseline of $50 million which, after the restructuring, will support cash flow neutral to cash flow positive results. We believe this is achievable for a combination of factors: gross margins of at least 40%, the reduced OpEx run rate as a result of announced, and the income generated by our investments.

This completes the formal part of our presentation. Operator, we are ready for questions.

[Operator]

[Operator Instructions] Our first question is from Peter Wright for PartnerCap Securities.

[Peter Anthony Wright, analyst]

I've got a couple of questions. So firstly, Nigel, I guess when looking at the '22 to '25 cycle, you had some pretty good insight into calling that at about $200 million, and we're now looking at kind of the next cycle of '26 to '28 3-year cycle instead of a 4-year cycle. Any comfort in kind of guiding what you think the cycle looks like? And what the unit count of 200 Leans would look like in that assumption?

[Nigel Hunton, executive]

Thank you, Peter. That's the first question. As I said in the prepared remarks, we feel that this next period has the opportunity to be as strong as that 4-year cycle, giving you a guidance of a similar level of revenues over that 3-year period. .

That really is absolutely underpinned by upgrades. But the upgrade business is going to stay strong. We believe we're playing a key part in that industry transformation. And as we said, as we see utilization improving and we see the continued growth of demand over that period, we believe that will be a couple or a few, I think we said on previous calls, of 200 Leans likely in that 2026, 2027period.

So the majority of that business will still be very much continuing this upgrade cycle that we've seen maintaining the strength for Intevac, and that will continue into the future.

[Peter Anthony Wright, analyst]

And do you -- can you guide on when you think the installed base of 200 Leans will be HAMR upgraded? Is that largely complete in the '26 through '28 cycle? Is that the underlying assumption?

[Nigel Hunton, executive]

No. It's -- the time line for that is probably at least 3 to 4 years, which is good, it's going to maintain that strength of multiple rate over the next sort of 3 to 4 years. Beyond that, I think there'll be further upgrades. I think there'll be upgrades beyond that, which is good as technology and advancements keep continuing. .

[Peter Anthony Wright, analyst]

And on the 7 to 7.2 OpEx guide, that is a guide for where you think it's going to average out and in 2025? Did I catch that right?

[Cameron McAulay, executive]

Yes, that's right. The 8.4 to 8.6 this quarter. And then once the kind of OpEx will level out, Peter, kind of 7 to 7.2 pretty much from the start of 2025, that's right.

[Nigel Hunton, executive]

And that's absolutely linked to the, as you said, this restructuring we've announced today and the refocusing, and that's a key part of that. .

[Peter Anthony Wright, analyst]

Wonderful. And then so from a cash flow perspective, cash neutrality for you guys suggest mid-50 spend on the sales side. Is that about right at that level?

[Cameron McAulay, executive]

Roughly, yes, roughly, perhaps a little bit higher for cash neutrality. But we -- with the actions that we've announced today, we think we can be cash neutral to cash positive in 2025. We're maintaining a solid cash balance this year as well, Peter. We started the year roughly where we're at right now at $72 million. So the cash position is a very solid one.

[Peter Anthony Wright, analyst]

And my last question, sitting on the cash that you're sitting on, clearly more cash than you need to run HDD. What is the use of cash from a priority perspective going to be looking forward?

[Nigel Hunton, executive]

Yes. And I think as you've known all along, one of the keys we've done is by maintaining the strong balance sheet and that cash position -- as maybe given the confidence from our HDD customers that the business is going to be robust, going to be supported. And as we look at moving some of that technologies are bought under HDD, we'll continue to sort of invest and focus on what is -- as I said, it's a more assured business for us going forward. .

We always look at cash allocation. We'll continue to look at cash allocation. We've talked in the past about strategic process. Strategic process is there. It continues to look at all alternatives.

But for us, I mean, a difficult decision today and if you go back to 2022, when I shut down all the sort of programs except one, we believe at that point, there was value to extract from the one coating business we kept and the consumer device market then needed a horizontal coater. We made the decision to invest in that. We believe that eliminating the need for [ tape ] in that industry, we have an opportunity.

If we thought it was easy someone else would have done it, we gave it our best shot. We talked for the glass partner we talked with the glass finisher, and that's resulted in today's restructuring and tough decision we've taken. What we have throughout this process, maintained a critical focus on maintaining a strong cash balance and that will continue into the future.

[Peter Anthony Wright, analyst]

Great. Well, excellent job being a steward of capital. Sometimes it's tougher if it's easy, it's easy, but a good job being a good steward of capital.

[Operator]

Our next question is from Mark Miller with Benchmark.

[Mark Miller, analyst]

Yes, I'm just curious, in terms of the TRIO qualification, you said the instrument or the coder could not provide advantages over existing equipment. I'm just curious, was it yields or throughput or uptime? What caused that situation?

[Nigel Hunton, executive]

Thank you, Mark. A very good question. As we said, if it was easy, someone have already done it, and we have a horizontal coater that can actually eliminate that tape. We've put a lot of effort in. We worked hard with a glass partner. Then we were with a leading glass finisher, but we couldn't deliver the required yield performance. The yield performance to compete with the vertical coaters had to be 97% particle-free. At the moment, there is no horizontal technology that can achieve particle free coating.

We believe that was not a reason not to have a go at this task, and we applied our capabilities to try and create what would have been the only horizontal coater with 0 part of the market. At this stage, with us not being able to achieve the particle or yield performance, I felt we needed to stop further development costs, focus on our core business, which was growing again. And I hope you appreciate that was not an easy decision, but it's the right one for Intevac.

When I started my role here in 2022, I stated very clearly that we would invest in TRIO because of a real market need. And that if we were not confident in the success of product, we would shut it down fast, and that is what we've done today.

[Mark Miller, analyst]

I appreciate that added color. So there's no more [ calls ] or anything else. You're just basically put TRIO to bed. You're not trying to explore any other customers. Is that correct?

[Nigel Hunton, executive]

We have some active qualifications in the research and development opportunity for low volume equipment for sampling and testing. We believe those can come to fruition in 2025. Anything we can do with that will be upside on the forecast we've given.

So therefore, the qualifications that we had that we thought could deliver revenue in the 12-month period, we'll complete those qualifications. So there is still interest in sort of R&D level tool, but not in the high volume, high throughput we were hoping in the early stage of this development cycle.

[Operator]

Our next question is from Hendi Susanto with Gabelli Funds.

[John Abouchar, analyst]

My first question. Excluding the customers' inventory obligation, what was the pro forma gross margin in Q3?

[Cameron McAulay, executive]

We have mid-40s margin, just over mid-40s margin, excluding the pass-through and other inventory adjustments.

[Hendi Susanto, analyst]

Okay. Yes. And then, Nigel, maybe you can give us some color on what kinds of up or down seasonally, cyclicality of the hard disk drive business that is typical in Q4, Q1, Q2, Q3, maybe you can remind us. I know that this may not represent a normal cycle yet, but in terms of expectation and colors, any guidepost?

[Nigel Hunton, executive]

I think if you look through this year and the sort of upgrade cycle, which is -- we really have been in 12 months of an upgrade cycle, and we'll see most of that going through 2025. So yes, there's always going to be some sort of minor levels of cyclicality between quarters, especially as some of our customers different year ends to us and, therefore, timing of some of their investments can change and be modified through a calendar year.

But overall, for the year, we see this year sort of just under the 50 million and next year, about the same level and therefore, keeping that relatively smooth throughout the whole financial year.

So overall, we've seen the upgrades flow through each quarter, and we expect that to continue through 2025. So it's not like it's got big system upgrades or new systems this year or into 2025. It's all about upgrades and a relatively even quarterly performance.

[Hendi Susanto, analyst]

And Nigel, like when it comes to upgrade, what kind of timing does customers usually pursue whether it's more coming in waves, whether it's more like a step-up upgrades and then followed by, let's say, some inactive upgrade activities? So what kind of upgrade patterns in terms of the orders that customers place?

[Nigel Hunton, executive]

Yes. I mean, I think as you know, typically, we get -- we have a very, very good relationships with our customers and all of our customers give us good forecasting and longer-term visibility. And we typically run with a lead times in the 9- to 12-month period. So if you look at our order backlog in the sort of 45 million level, we get good visibility that gives us confidence in the level of ordering through 2025.

I think the biggest driver, as you go beyond '25 into the future, will be the industry adoption of HAMR, which if you listen to some of the customers, earnings releases is everyone is talking about the opportunities not just for HAMR increased terabytes for hard disk drives. And as those keep increasing and there's adoption of the latest technology, that could see some pull-in or some acceleration. But at the moment, we've got good visibility out for the next 12 months, which is a good position to be in.

[Hendi Susanto, analyst]

And then one question on TRIO. Now that TRIO is putting on -- putting us -- like you put aside TRIO, is there any risk of inventory write-off of components in your inventories?

[Nigel Hunton, executive]

I think the key thing there is, as I said on the mark, we've got good opportunities to conclude on evaluations, R&D tools, less substrate. We've got an opportunity with some polymer substrates.

So even though the efforts of recent months have concluded in what is clearly a disappointing fashion, we continue to believe in the value residing in our material talents and expertise and our efforts through 2025 will be on turning that inventory into revenues. So at this point, we're not taking any additional inventory reserves as we believe we have opportunities to actually turn that inventory into revenue for R&D units.

[Hendi Susanto, analyst]

And then any information, how much TRIO related inventory in the balance sheet?

[Cameron McAulay, executive]

The balance of inventory pertaining to TRIO was just over $16 million in one hand.

[Hendi Susanto, analyst]

$60 million?

[Cameron McAulay, executive]

1.6. My apologies.

[Hendi Susanto, analyst]

Oh, 1.6. Okay, $16 Million. Okay Yes. So let's say, will that -- let's say, if the R&D turned into something more meaningful, you believe that it can consume that $16 million in 2025?

[Nigel Hunton, executive]

That is our hope, which is why there's been no inventory reserve taken.

[Operator]

[Operator Instructions] There are no further questions at this time. I'd like to hand the floor back over to Nigel Hunton for any closing comments.

[Nigel Hunton, executive]

Thank you. And thank you for all your questions. And I also want to wish and to thank all of our employees as well as their counterparts with our industry partners, all their hard work and efforts and growing a very strong quarterly performance. Outside of which our investors are ongoing support, and we're also welcoming a new IR firm, KCSA. So if you want to reach out to Cameron in the short term for any follow-ups as they transition into their new role. And I also look forward to updating you on our progress on our Q4 call in early February. So thank you for joining me today.

[Operator]

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.