VAT Group AG

SIX:VACN

Earnings Call Transcript 2019-Q1

[Operator]

Ladies and gentlemen, welcome to the Q1 Trading Update Media and Analyst Conference Call. I am Alice, the Chorus Call operator. [Operator Instructions] And the conference is being recorded. The presentation will be followed by a Q&A session. [Operator Instructions] The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Mr. Mike Allison, CEO of VAT Group. Please go ahead, sir.

[Michael Allison]

Thank you, and good morning, everybody. Welcome to the trading update for VAT in Q1 2019. With me this morning is Stephan Bergamin, our CFO; and Michel Gerber from Investor Relations.So let me start first with the headline numbers, and then I'll say a little bit on each segment. As expected, overall Q1 orders and net sales were below the record levels experienced in the first quarter of 2018. However, we did manage to report net sales close to the top end of our Q1 guidance.While we are not discussing our EBITDA performance in the trading updates, I can still tell you that we're working very diligently on all the internal levers such as operational improvement programs, our cost reduction measures to safeguard our margin at the highest level possible despite the lower top line results.In addition, we have communicated to you on our recent market updates investments in innovation remain a key component of our strategy, and we aim to further widen our technology leadership across all our sectors and to capture additional market share, and even more so, be in the position to capture that share when the market turns up again.The fact that we continue to secure specification wins in Semi, Display & Solar bodes very well for our future growth and market share gains, underpinning our focus on leading-edge innovation. We'll see some of these wins in the display sector as early as Q2 or Q3 this year, which will help us with growth in the second half.Overall, Q1 2019 saw stable demand for our Service and General Vacuum businesses while demand from the semiconductor and display sectors was below record Q1 2018 levels. Orders were down 41% year-over-year but only 5% lower than Q4 2018. Net sales decreased 35% year-over-year and were down 14% versus Q4 2018.We see this moderating quarter-over-quarter orders and sales decline as the first signal that the bottom of the current cycle may have been reached, and I will stress may. There are still some poor visibility, but certainly, it looks promising at this point. The pace of the potential recovery, however, remains unclear, and the limited visibility we talked about has really not improved too much at this point.As a result, we confirm our outlook for 2019. The softer market is expected to reduce sales, EBITDA, EBITDA margin and net income versus 2018. Nevertheless, we stick to our midterm EBITDA margin target of 33%, supported by continuous improvements in our operating model, market share gains and product innovation. The achievement by 2020, of course, is challenging and depends to a large degree also on the 2019 and 2020 market development.CapEx in 2019 is expected to be in the CHF 30 million to CHF 35 million range, and the free cash flow is expected to be above the 2018 level, driven by lower CapEx and working capital improvements. For the second quarter of 2019, we guide for net sales in the range of CHF 125 million to CHF 135 million.Let me now look a bit into the development of our business in the first 3 months of the year. The market moderation that started in the middle of 2018 continued albeit at a slower pace. Significant reductions in capital expenditures by semiconductor and display customers in new fabrication projects are reflected in the year-over-year comparison with order intake and net sales down 41% and 35%, respectively.That comparison is, however, to our all-time net sales record achieved in the first quarter a year ago. Today, we believe that the more moderate sequential decline in orders and net sales of minus 5% and minus 14%, respectively, could indicate the first sign that the bottom of the current lower market cycle may have been reached.Looking at the various semi segments. Logic and foundry appear to be progressing well with positive outlooks recently from both TSMC and Intel. As you know, this was a memory-led downturn, but we still see no signs that the situation in flash and DRAM is improving. I do expect to hear a bit more on this subject later in April and May as the Q1 results start to proliferate, and hopefully, we'll get a bit more visibility for our second half 2019 CapEx.Order intake for the first quarter of 2019 was CHF 128 million and the order backlog amounted to CHF 114 million, unchanged compared to the year-end 2018 level. And the book-to-bill ratio was 1, further pointing to a possible bottoming of the cycle. The decline in net sales was entirely driven by lower volumes more than offsetting the mildly positive impact from product mix and the small tailwind from foreign exchange gains.As you've seen in the segment table in this morning's press release, we have slightly adjusted the 2018 net sales numbers in valves and industry as we have moved our third-party bellows business from the Industry segment to the Valves segment effective from January 1, 2019. This move reflects VAT's ambition to drive greater growth in the bellows business by better aligning it with the primary markets and the needs of the customers in the semiconductor and General Vacuum sectors. I like to put products in the sector that drives customer innovation, and putting bellows into the other business areas will drive growth of these products.Compared to the all-time record results in the first quarter of 2018, the Valves segment reported a year-over-year net sales decline of 41% to CHF 96 million. Net sales in Global Services were flat at CHF 27 million, and net sales in the Industry segment were down 38% to CHF 5 million. On a sequential quarter-over-quarter basis, net sales declined 17% in Valves, 2% in Global Services and 14% in Industry during Q1.Let's look now at the individual segments in a bit more detail. The Valves segment continued to be negatively affected by lower customer investments into new fab equipment compared with the high level seen in the first quarter of 2018. At the moment, we're seeing an unprecedented amount of new OEM platforms being developed in the semi sector as the race to 5-nanometer logic and next node memory hots up, and VAT is in an incredible position to harness this.Just like 2018, we're tracking more than 40 new projects where we target to win slots in the most advanced production tools in our industry, further increasing VAT's technology leadership. For example, we just delivered the first of our new remote plasma source valves to a leading OEM serving the semiconductor industry. We also just carried our first installation of our latest transfer and pendulum valves for TV-sized OLED displays, in line with our strategy to gain market share in the display sector.In addition, order activity remained high in VAT's Solar business, driven by demand for transfer and control valves used in PERC technology for high-efficiency solar panels.The General Vacuum business unit increased sales in the first quarter compared with the same period a year earlier driven primarily by higher demand in the research and scientific instrument sectors. We also introduced a new electrically driven valve technology at several strategic customers in both Europe and Asia.The Global Services segment reported flat net sales in the first quarter, a very good result given the general downturn in the semiconductor market compared with the same quarter in 2018. The result was supported by sales of spare parts and valve upgrades as many customers focused on improving the productivity of their existing installed assets. Sales in this segment also reflected the increased focus on serving new markets such as subfab valves used in pumping and abatement systems below the wafer fabrication floor.In the Industry segment, orders and net sales were negatively impacted by declining sales of dampers needed for the latest generation of high-efficiency fuel injection systems to the automotive sector as the result of new emission regulations in several markets. While there's nothing we can do about the overall investment cycles in the industries we serve, we still have many internal levers to make our performance resilient to downturns, and it is with this focus that we continue with the execution of our operational improvement measures.As our medium-term growth drivers remain firmly in place, we continue to further optimize our operational setup and take full advantage of our flexible global organization. We continue to adjust costs in response to the changing market situation, including gains from economies of scale in our global supply chain as well as continued operational excellence measures across all of our business processes such as product value engineering, introduction of flow line assemblies and measures to reduce trade working capital.At the same time, we are committed to building our long-term innovation and market leadership, and we intend to maintain investments in new product development and productivity improvements in 2019. We will also continue to invest in the ramp-up of the facility in Penang, Malaysia to better serve the key Asia market and enable faster and more flexible capacity adjustments through the cycle. This puts VAT in an incredible position to harness the opportunities that the next cycle will present.So this concludes my initial remarks and summary of today, and I would now like to open the floor for any questions. Thank you.

[Operator]

[Operator Instructions] The first question comes from the line of Sandeep Deshpande from JPMorgan.

[Sandeep Sudhir Deshpande, Research Analyst]

I'm trying to understand, I mean, you've talked about orders stabilizing somewhat in the quarter. I mean what your customers are saying in terms of what they see into the next couple of quarters? Are you seeing the customers are now wanting to pick up more -- 2 or more valves from you? Or is it that they are still holding inventory of valves and thus, these orders will remain at these levels for multiple quarters from here? Secondly, regarding pickup in the market. I mean have you -- I mean you directly have contact to the end customer through your services business. And do you see utilization or any other indications from your end customers, which will enable us -- you to understand how the end customers are going to ramp up capacity into the second half of the year?

[Michael Allison]

Okay. So I would think, looking at the first question, yes, orders have stabilized. I wouldn't say across the OEM area that visibility has changed dramatically. I think we're seeing a little bit of improved visibility for the second quarter, driven it seems by TSMC and Intel business. I think that's firming up. We really aren't seeing anything, I'd say, dramatic beyond Q2 in the semi business.When I look at forecast in the second half of the year, I would say, at this point, it still looks, I'd say, flat to slightly up on the first half. But that really is because there's no visibility. It's hard to put a -- see any increase at this point. Certainly not much activity from the memory sector. We are hearing one, let's call it, technology upgrade from one of the memory players. But apart from that, I'd say the visibility in semi in capital spending is still fairly weak.In the display sector, we are seeing a bit of activity in OLED in Q3 and Q4. We're starting to see some projects come in there, and also some of the market share gains we've made in 2018 should flow into some improved business in Q3, Q4.In terms of pickup, the second question, what we're seeing at the end user, I'd say our business is not really driven by utilization. The fact is it's kind of a break fix on existing installed valves and also an upgrade. So I'd say upgrades has been a little bit softer, hence, service was flat in Q1. I think that's because most fabs are just holding off on discretionary spending until they see the outlook for the second half.I do expect our services business will continue to improve as we go through the year. But I couldn't really see -- say I've seen a substantial change in the environment in Q1 for many of the end users apart from maybe TSMC where we're hearing through our sales channel that the fab utilization is increasing, especially at the 7-nanometer node. But that's also quite well publicized in the press.

[Operator]

The next question comes from the line of Michael Foeth from Vontobel.

[Michael Foeth, Head of Industrials Team]

Two questions. Starting with your free cash flow generation outlook for this year, which is supposed to be above the 2018 levels. My question is, is that at risk if your sales in 2H would not improve versus the first half?And the second question is with respect to order trends. Throughout the quarter, any differences between the months of January, February and March? Anything you can read eventually from that?And I have a third question actually. The -- you were mentioning, when you reported full year results, that you were still seeing some inventory build-down at your customers. And the question is, do we still have any material inventory impact in the second quarter? Or is that gone now from your point of view?

[Michael Allison]

Okay. Let me just go through them. The first question, free cash flow. I've mentioned to you during the various 2018 results and also recent visits that we've -- we still had quite substantial inventory in place in the semi sector from the buildup in the first half of 2018.We still have a good opportunity to run that down over the course of the year. We're pretty confident that we can do that. And at this point, I don't see any major risk in that cash flow number of achieving the same or better than we had in 2018.I think if semi -- if the opposite happens, if semi does pick up in Q4, I think we can also navigate that scenario just by the increased turnover of that inventory. So either way, either a big step-up in Q4 or a flat second half, I think we should be able to navigate the inventory situation.Looking at the profile over Q1, I would say March is -- was stronger, but that's not atypical. We generally see the last month of the quarter being the stronger month. So it's hard to draw any major conclusions over that. As we start the April month, I'd say outlook looks pretty good in April. So I think we're on a steady footing with maybe gradually increasing sales through the second quarter in line with the slightly higher guidance we gave versus Q1.Inventory at the OEMs, I would say it looks to be in balance now. I don't see any major sign that they're still sitting on a lot of inventory. That's also behind why we're seeing a little bit of a tick-up in semi in the second quarter compared to the first quarter. Thank you.

[Operator]

[Operator Instructions] Your next question comes from the line of Andrea Abouchacra, One Investments.

[Andrea Abouchacra]

I had a couple. First one, when you look at your main projects in the pipeline, how you see -- have you seen any change in timing related to execution of these projects since reporting Q4? This is the first one, then I have another one.

[Michael Allison]

Okay. No, I don't think so. In fact, I would say that the key projects -- I guess you mean development projects of our products, is that correct?

[Andrea Abouchacra]

Yes, yes, and the pipeline in general, yes.

[Michael Allison]

Yes. No, I don't see any timing changes. If anything, I see an acceleration of them around about the 5-nanometer platforms. In semiconductor, there is a kind of discovery process that happens when you're at the next node. There's a lot of process changes. There's a lot of chemistry changes that happen continually, and I'd say there's just very fast-paced learning cycles happening right now that we have to respond very quickly to. So I'd say, if anything, they're actually accelerating.

[Andrea Abouchacra]

Okay. When you look at the increase of -- at customer requests for new products and the market share gains from your R&D success, do you see these to fully compensate the likely lower NAND cycle that you have post 3D NAND boom we have seen in the last cycle?

[Michael Allison]

I think it's very hard for market share gains alone to make up for substantial volume impact of memory buildout. It's very clear the edge and deposition drives VAT's business, and it's the wafer start increases that really accelerates that. So I would say the technology wins we have and the share wins gives us a little bit of upside when that CapEx comes back, of course, but it certainly won't make up for the memory sector not spending on substantial volume.

[Operator]

Your next question comes from the line of Paul Moran, Northern Trust.

[Paul Moran, Partner and Head of Research]

I have a question not related to the cycle. You've referenced some new semi valve products in the release. Could you just explain a little bit more about how they're different from the existing products?

[Michael Allison]

Okay. Yes, sure. I've mentioned before that we have a very, very strong market position in our control valves. Our market share is somewhere in the 70%, 80% level or in some cases, above that even. In the transfer valves, we're around 50% to 60% share depending on OEM. It's the isolation valves and gate valves that were the more commoditized products that we've got less share.So this example of the remote plasma valve is a situation where we've taken a pretty basic valve, and we've added a lot of content to it to try to focus on that isolation valve segment and the areas that we don't compete in. And we try to do that by adding technology and value rather than just trying to compete on a commodity basis.So these are in that category of the more commoditized valves, and I think it's an example of the growing focus we've put on it. It's also the reason why I move bellows into the semi businesses because I think there's a lot of machine components that is hard for an industrial group or industry group to focus on in semi. Semi has a lot of unique requirements by putting things like bellows and other components into the semi segment I hope I can drive faster, faster growth and faster share gains there.The other wins we had in OLED. This was an OEM that we had very little market share with that's very focused on the Gen 8 OLED TV market, and we put those valves in trial. And as we see large-screen OLED takeoff, it should give us some upside in our Display business where our market share hasn't been has high, especially in the transfer valves.

[Operator]

Your next question comes from Remo Rosenau, Helvetische Bank.

[Remo Rosenau, Head of Research]

Looking at your guidance for the second quarter, we can expect around CHF 260 million sales in the first half. Looking at market expectations for the full year, we see CHF 600 million. That would imply CHF 340 million in the second half sales. Now I'm not asking you if you're going to make that. But what I'm asking you is in order to get there, let's assume you get there, that would imply that orders would have to increase already significantly in the second quarter, right?

[Michael Allison]

Yes, by -- certainly, by the end of the second quarter, we would expect to see that having to pick up, I agree, yes.

[Remo Rosenau, Head of Research]

And we do not talk about 10% more?

[Michael Allison]

No, they are large numbers. I mean as you say, if you do the math, so we need a pretty substantial increase in Q3 and Q4. Now we're -- as I mentioned earlier, we are starting to see in the second half of the year an increase in the Solar business and an increase in the Display business, and some of them are reasonable numbers. We -- the field teams are forecasting a slight tick-up in semi in the second half. But I'd say at this point, it's a big step-up, and I certainly don't have the visibility at this point to say we would definitely hit a CHF 600 million level.But on the other hand, as when semi does move, it tends to move pretty fast, and we do have the operational flexibility to get there, assuming that it does come back. I think at this point, all I can say is we will likely see a much better second half than first half, but the dimension of that is still not fully clear.

[Remo Rosenau, Head of Research]

Okay. Fair enough. Another question is, I mean you've shown quite significant and impressive market share gains over the last 2 years. Do you sense that you -- now in a bit more difficult times that you gain even faster market shares because some of your competitors struggle more than you do? Or is it basically the same pace?

[Michael Allison]

Yes, a good question. It's very hard to predict entirely because the OEMs are obviously competing against each other for the next nodes, and I can't tell which platforms are going to dominate there. I'd say, overall, just with the bulk of projects that we're doing and the range, I would say it's certainly not slowing down. It's certainly accelerating, but how much is not entirely clear.There's also a little bit of mix change in the industry. It seems that Tokyo Electron are gaining a little bit of market share, especially in etch. I would say we have a little bit less share there than we do in some of the U.S. OEMs. But we're certainly improving our position with TEL but maybe not fast enough to see it in 2019. So the full mix effect and the platform dynamics makes it difficult to say. But I'd say, overall, I still feel we're gaining share at a good pace.

[Operator]

We have a follow-up question from Mr. Michael Foeth from Vontobel.

[Michael Foeth, Head of Industrials Team]

Yes, just one. I just wanted to come back on the Displays comment that you made. You said you're expecting -- you're seeing some projects coming in for Q3 and Q4 in OLED. Is that capacity expansion? Or is that related to flexible screens? If you can give us some insight there.And you just talked about transfer valves and displays, I assume that's obviously LCD. What do you see in the LCD market in the second part of the year and for 2020? Is that going to be a growth driver as well?

[Michael Allison]

I still think 2019 is, overall, significantly down in CapEx for Display, as I've mentioned in the 2018 results. I think what we're seeing interestingly is there seems to be an acceleration of the OLED Gen 8, at least pilot production line in Korea. This is just emerging. I mean we still don't have the orders for it yet, but we see it developing.Now even a pilot line for us in OLED is quite significant volume compared to LCD. We get somewhere around 3x the amount of CapEx for OLED versus LCD. So there's a little bit there on the large panel OLED. In China, we're seeing a couple of projects on OLED small panel stuff. I'm not sure if it's for flexible or if it's just standard smartphone. We don't know that yet, but there's a couple of projects there that will happen in the second half of the year.And then there's the residual buildout of the Gen 10.5 stuff that's continuing that we knew would happen during 2018. But we're a bit surprised to see at least one of the OLED projects we haven't forecast much from that in China for 2019.

[Operator]

The next question comes from Nigel Van Putten from Kempen.

[Nigel Van Putten, Analyst]

Most of my questions have been answered. Just a quick one on the industry segment. You say in the press release the sales have declined because of, well, let's call it, WLTP. Just going forward, with the new emission coming in place which seems to be stricter, is that a positive for you guys? Or is this -- do you expect the sales to remain at a lower level?

[Michael Allison]

Yes. The new emission standard -- as you know, there's a general reduction right now in the -- across the whole sector actually, not just petrol and diesel. I think that's working its way through. The consumer selection cycle is happening right now. That's driving slightly lower dampers at this point. But we've got a new generation coming out that we're starting to ship, and the combination of that plus the residual business we've got should see an increase into second half of 2019 and 2020. So overall, it's positive for us as they put more technology into the fuel injection systems, et cetera.

[Operator]

The next question comes from Philip Saliba, HSBC.

[Philip Saliba, Analyst]

Two questions from my side. The first one, during your last call, you mentioned that inventory levels at 2 of -- 3 of your major clients would look quite well, and they were still a bit high at the other client. How has that overall developed? First question. Secondly, do you see price stabilization in DRAM and NAND as a precondition for memory projects to be turned on again?

[Michael Allison]

Okay. With first question, the inventory question is interesting one. And one of the things, we can see what inventory we have in our consignment stocks next to the key OEMs. What we don't get full visibility of, what do they have in semi finished goods and modules within their fabrication plants. All we can see is their consignment request for the next 6 months and 12 months. I still think 2 out of 3 are in very good shape now, and we really don't see any -- as far as we can tell, their output looks to be in line with the consignment pools that we have.The third one appears to be getting better. We've seen certainly an improvement during the Q1 with that third OEM. But it's probably just a little bit early for me to say yet that it's fully under control. These guys also had quite a lot of internal issues around about ERP implementation, so we're not entirely sure where they are, but it certainly looks promising. I think by the end of the second quarter, we'd be able to fully answer that question.Second question, price stabilization. Of course, stabilizing prices means we're getting the demand-supply balance tighter. And given the growth rates of both of those product families, I think that's a good sign. That means we're going to need capacity moving forward. So it definitely points to increasing CapEx at some point.The only negative to that, I would say, is lower prices means faster adoption, which also drives demand. So I think memory will work its way out. It's just a question of time. And I hope, as I mentioned earlier, I'll start to hear during the second quarter how that's going to play out in the second half.The key thing for us is we've talked about the -- when memory turns on, that's when we really see a huge increase in shipments as we saw in the fourth quarter of '17 and the first quarter of '18, and we're getting our supply chain ready and our operations ready to make sure we can absorb that.And it's kind of the key question for us at this point is where is that exact inflection because, as you know, we're still running short-term work and we would have to increase some staffing in our assembly area especially if we're going to see uptick in the market.But we're really measuring on a weekly basis. We're working with all the OEMs. The OEMs are starting to talk about are you ready, but we haven't seen any pressure yet. But we're very -- we've got feelers out everywhere in the market looking for that sign.

[Operator]

Ladies and gentlemen, that was the last question. I'd now like to turn the conference back over to Mr. Allison for any closing remarks.

[Michael Allison]

Okay. So thank you for your questions. I think as we -- as I summarized before, we're hoping we're at an inflection point in the market and we're going to see continuous growth from here. Visibility is still weak in semi, especially in the memory sector. And I'm hoping during the second quarter, we'll get a better view in the second half of the year.I also mentioned that we're seeing a slight improvement in our Display business. I also expect with the GVA, that's our General Vacuum business and our Services business, that the growth programs we're putting in place should also improve the second half. And we're focused very, very heavily on being ready for the next cycle, having our operations and supply chain ready and also putting the cost structure in place to allow us to outperform in the future.So that ends our comments for today, and thank you again. And the next call will be in August for our half year results. Thank you.

[Operator]

Ladies and gentlemen, the conference is now over. Thank you for choosing Chorus Call, and thank you for participating in the conference. You may now disconnect your lines. Goodbye.