Q3 2021 Teradyne Inc Earnings Call
Ladies and gentlemen, thank you for standing by and welcome to the Teradyne third quarter 2021 earnings Conference call. At this time all participants are in a listen only mode. After the speaker's presentation. There will be a question and answer session to ask a question. During the session you will need to press star one on your telephone keypad.
If you require any further assistance. Please press star zero I would now like to hand, the conference over to your speaker today, Andrew Blanchard. Thank you. Please go ahead Sir.
Thank you Patrice and good morning, everyone and welcome to our discussion of Teradyne's. Most recent financial results I'm joined this morning by our CEO, Mark <unk> and our CFO Sanjay Mehta.
Following our opening remarks, we'll provide details of our performance for 2020 once third quarter, along with our outlook for the fourth quarter. The press release containing our third quarter results was issued last evening, we're providing slides on the investor page of the website that maybe helpful to you in following the discussion.
Replays of this call will be available via the same page after the call and the matters that we discuss today will include forward looking statements that involve risk factors that could cause teradyne's results to differ materially from management's current expectations. We encourage you to review the safe Harbor statement contained in the earnings release as well as our most recent SEC filings. Additionally, those forward looking statements.
As of today, and we take no obligation to update them as a result of developments occurring after this call.
During today's call, we'll make reference to non-GAAP financial measures. We've posted additional information concerning these non-GAAP financial measures where appropriate on the investor page of the website looking ahead between now and our next earnings call Teradyne expects to participate in technology or industrial focused investor conferences hosted by Baird Credit Suisse Davidson and <unk>.
UBS.
Now, let's get on with the rest of the agenda first Mark will comment on our recent results current market conditions and thoughts on the rest of 2021 and 22 Sanjay will then offer more details on our quarterly results along with our guidance for the fourth quarter. We'll then answer your questions and this call is scheduled for one hour Mark.
Thanks, Andy and good morning, everyone and thanks for joining us today I'll cover four topics the highlights of our third quarter and the first nine months of the year.
The changes were observing in the Soc test market our outlook for the industrial automation market and how we're thinking about the test and automation markets as we close out this year and look into 2022 and beyond.
As our Q3 results demonstrate demand remains strong across all of our businesses at the company level Q3 sales grew 16% from last year's record Q3, and non-GAAP EPS grew 35%.
We did experience increased supply chain bottlenecks in our industrial automation business in the quarter and under ship demand.
Sanjay will describe this in more detail, but we expect these constraints to persist into Q4.
Despite this for the first nine months of 2021 company wide sales grew 19% and non-GAAP EPS grew 31% from the year ago level.
In each of our businesses. We are writing long term secular trends that we expect will drive revenue and earnings growth for years to come.
In our test businesses, the unit growth and complexity drivers to power. These markets continue unabated for example.
Our semiconductor test business grew 18% through Q3, while <unk> with <unk>, leading the charge growing 22%.
Sales continued to be dominated by our ultra flex product line, which is well aligned to the performance requirements of the growing compute and mobility markets.
Additionally, sales of our Eagle test systems more than doubled in the nine month period as automotive and industrial test markets have also rapidly expanded.
Eagle is unique architecture hits, the sweet spot of these markets by balancing a high precision with the stress test you needed for these demanding applications.
Within <unk>, there's been a clear shift this year to higher demand from the compute automotive and industrial markets.
While mobility is still the largest subsegment of vessels and growing it has dropped from the high 50% range of the Soc test market in recent years to the high 40% range. This year.
Over the midterm, we expect mobility will remain the largest SLC sub market and continue to grow but we also expect compute to grow at a faster rate while automotive should remain at its current elevated levels.
For the last decade, or so mobility has made rapid annual advances in semiconductor complexity that has enabled the advancement of smartphone sophistication.
The refreshed pace has been much faster than traditional Pcs graphics, automotive and industrial end markets, leading to smartphone ickes rapidly progressing along the complexity scale.
This is true in many areas of smartphone silicon apps processor compute engines graphics engines AI engines image sensors power management and more our leading position in testing. These key technologies has driven our growth.
At the same time up until recently the traditional compute test market has been relatively flat with slower refresh rates and slower complexity growth.
However, the groundwork laid by mobility designs combined with advanced lithography nodes and design tools has enabled new entrants into chip into the chip design space for compute engines.
The complexity of these chips, whether for laptops servers autonomous driving AI, our graphics is incredible and advancing at an accelerated rate.
For example, laptop Cpus are now crossing the 30 billion transistor level, which is a huge leap over previous legacy designs.
As we've said in the past increase transistor counts drives increased test time and increased tester demand, we've seen that this year and there's more to come.
We're targeting this expanded collection of new players and new designs leaning heavily into our ultra flex families hardware performance and time to market advantages of our software.
We've been adding new design wins every quarter.
And while development pipelines can be long and these new designs can be speculative. We're confident we will see growing production business from these wins in the future.
It's also notable that the traditional chip suppliers in these markets aren't standing still.
They are doubling down on their advanced designs too, which is collectively driving W. FTE investments higher as applications expand and competition heats up we.
We expect this race to lead to higher test times, and given the higher performance and faster design to market cycle times more share gain opportunities for teradyne over the midterm.
Our system test segment last year, sorry, our test system test segment year to date sales grew 11% from 2020 and storage test continued its multiyear growth trajectory expanding sales, 12% in the same period.
Higher capacity hdds in more complex Soc devices, which require system level test are driving this demand.
Both trends are expected to continue into the foreseeable future.
At <unk> sales were up 24% through nine months compared with 2020, driven by Wi Fi 60 production Wi Fi seven R&D demand as well as ultra wideband.
More connected devices demanding more bandwidth more managing growing congestion drives complexity increases in each new Wi Fi standards and more test.
<unk> on the other hand, as a whole new wireless standards and application space. It's a new proximity detection wireless technology with the future of many promising security applications. We expect these trends to continue and to provide a long term tailwind to our wireless test business.
Shifting to industrial automation.
Universal robots revenue grew 50% through.
Through the first nine months of the year, while meal Mir grew 40%.
Despite supply chain challenges.
Each has a unique story at you are its a combination of increase in sales for existing tasks and the expanding number of you are plus offerings, making it easier for customers to deploy our co bots to do new applications.
We highlighted welding in our last call, but other examples include St dry screw driving and Pelletizing.
The U R plus ecosystem is key to expanding these tasks and now totals over 360 products created by over 300 partners, both riding on and broadening the coat tails of our U R platform.
This is a key advantage in the combination of our organic investments and our U R plus and OEM partners R&D dollars and creativity, that's going into expanding the <unk> platform and its unmatched.
At near the story is about new products. The Mir $2 50, which was introduced just as Covid hit last March of last year is now our largest seller by far this.
This year, we added the Mir hook to the $2 50 family to expand and expand its applications into <unk>.
We've introduced higher payload products, such as the Mir 613, 15 to expand our footprint in the fast growing logistics market.
Unfortunately with all this good news come supply chain issues that will limit I E growth in 2021 to between to be between 30% to 40% year on year, but demand is strong.
The long term outlook in <unk> remains very bright.
Looking at the capabilities of you are co bots today, we estimate the penetration rate is less than 2% of the cervical market.
<unk> approximate 45% market share puts us clearly in the lead and we continue to drive R&D and distribution investments to extend our competitive advantages expand the circle bull market and drive penetration higher.
A similar story at Mir, where we estimate the autonomous mobile robot penetration is under 3%.
The market doesn't have a single dominant player like you are co bots and we estimate we're close to number two in the broadly defined market.
And like it you are we're making investments in both the distribution and product level to both reinforce our advantages and extend our product reach.
In both businesses.
Businesses, the fact that our penetration of today's several market is low single digits.
And at the <unk> market continues to expand each year with product enhancements.
That's up a fantastic future.
So even with very high growth rates in our <unk> business, we expect the penetration rates to remain low for many years sustaining our long term annual growth forecast of $20 to 35%.
In January we will update you on the outlook for 2022, and our mid term earnings model between now and then we'll be looking at the rate and timing of new semiconductor fab capacity coming online, especially at the more advanced lithography nodes and we'll also be looking at the rate of adoption of DDR five as key swing factors.
And I E. We will be looking at the manufacturing output expansion onshoring trends and PMI and our principal geographies as tailwind for continued robust growth.
On the other hand in both markets supply chain bottleneck next could slow certain industries and become a headwind to growth demand.
Short term demand is influenced by many factors, but we manage our business aligned to the long term trends.
The trend of growing prevalence of increasingly complex semiconductors, and a myriad of applications drives our semiconductor business and investments.
End of new increasingly smart cost effective automation in a world with labor scarcity and onshoring challenges drives our OE business and investment strategy.
These systemic long term trends pages and exciting future for teradyne.
With that I'll turn it over to Sanjay.
Thanks, Mark and Hello, everyone. In my remarks, I will review, our Q3 financial results discuss our supply line strategy in this challenging environment provide Q4 guidance and comment on our full year financial outlook at the midpoint of our Q4 guidance.
Two the financial headlines for Q3.
Our third quarter sales were $951 million was near the high end of guidance driven by strength in semi test and wireless test.
Gross margin in the quarter was approximately 60%.
Our non-GAAP operating expenses were $242 million or 25, 5% of revenue favorability in Opex drove non-GAAP operating margin of approximately 35% and non-GAAP EPS of $1 59.
A few more components of third quarter data our tax rate, excluding discrete items was 14, 8% on both a GAAP and non-GAAP basis.
GAAP diluted share count was approximately $176 million, we had 210% customers.
Looking at the results from a business unit perspective.
Semi test revenue of $688 million was up 16% from Q3 'twenty.
<unk> revenue was $575 million up 28% driven by strength in applications processors RF industrial.
And automotive applications automotive and industrials doubled revenue year over year.
Memory revenue was the second highest in history at $113 million, but down 21% from Q3 of last year's record.
Flash final test demand was the strongest segment on handset and SSD end market demand.
System Test group had revenue of $103 million, which was down 13% year over year recall storage is the largest business in this segment and as lumpy shipments while storage test will still grow more than 15% for the year.
Sales, including H D D and SLT declined to $56 million on the timing of shipments in Q3.
Defense and aerospace and production Board test combined grew 10% year on year to $47 million.
At light point revenue of $69 million was up 70% from prior year due to early success of our new Wi Fi seven product continued strength in <unk> cellular.
And <unk>.
Now to industrial automation as in July given Covid shutdowns had impaired the <unk> business in 2020, I'll provide revenue metrics comparing Q3 'twenty one results with both Q3 'twenty 2019.
Industrial automation revenue of $91 million was up 32% from both Q3 dollars 19 in Q3 'twenty.
North America delivered the highest revenue growth from last year, but all regions expanded year on year as Mark noted supply issues, primarily semiconductors reduced our shipments in the quarter.
You are sales were $78 million in Q3 up 46% year over year and 31% over Q3 19.
Mir sales were $13 million up 27% from Q3 dollars 20, and 35% from Q3 dollars 19.
<unk> was about breakeven in the quarter and full breakeven in the quarter and full year, we expect low single digit profitability.
As we've noted before we continue our strategy of investing during this high growth era, while maintaining gross margins to enable mid twenties operating profit in the future.
Shifting to supply.
We continue to deal with numerous supply constraints across the company while semiconductor shortages are well reported we're also seeing delays in mechanical parts and logistics, all exacerbated by rolling Covid related shutdowns or labor shortages.
We expect these issues will continue through the first half of 2022.
Despite these issues, we've been able to deliver record ship.
It's in the.
A big part of that performance is a result of the supply line management operations teams and engineering teams working with our supply chain and contract manufacturing partner manufacturing partners.
We view, our operational business model and execution against it as a core competence our gross margin performance over the last 10 years displays the financial value of this model.
And our test portfolio, our execution has kept most of our test or lead times within the range that meet customers' needs to expand their production capacity in this dynamic environment.
The significance of this lead time performance is that customer orders more closely reflect true test demand.
While a bit counterintuitive, we feel that maintaining short lead times are a more accurate indicator of test demand with lower risk than holding orders with lead times far beyond chip manufacturing cycle times.
Of course, our supply line and operations model isn't static.
We began and adding resiliency through both geographic and supplier diversity prior to Covid. Those efforts have accelerated over the last 20 months. This work is paying dividends in the current environment and will continue to invest to harden our supply chain further.
Our lead time performance as an example of our resilience and execution another.
Another example is the ability to scale to significantly increase demand.
So in industrial sales have more than doubled year over year, while we're not perfectly aligned to all customer requested delivery dates we are managing through delivery issues in a reasonable manner. The.
The value of these efforts can also be seen in the operating leverage in our gross margin line.
And I E. We've seen lead times extend from our normal one to two weeks to four to six weeks for some products while this as challenge.
With the business growing so quickly and ongoing industry supply issues, we've already seen the positive impact of our work and material sourcing and manufacturing cycle times.
We expect to bring lead times back to model over the next two to three quarters.
Shifting to the balance sheet and cash flow or.
Our cash and marketable securities at the end of the quarter totaled $145 billion.
We had $493 million in free cash flow in the quarter and through nine months, we've spent $103 million on Capex and we expect we'll spend $148 million for the full year.
We spent $210 million and $16 million on buybacks and dividends respectively.
Year to date, we've repurchased three 3 million shares for $406 million on an average price of $123 53.
In 2021, we expect to return over 80% of our free cash flow to shareholders and from 2015. When we began repurchasing shares we've returned 85% of our free cash flow to owners.
Regardless of our convertible debt.
$302 million of principal was paid in the first nine months to the convertible bondholders ahead of maturity by mid December bondholders will have converted approximately $343 million, leaving the face value of $117 million.
Now to our outlook for Q4.
Sales in Q4 are expected to be between 820 and $900 million with non-GAAP EPS in a range of $1 14.
To $1 40.
On 174 million diluted shares.
Fourth quarter guidance excludes the amortization of acquired intangibles noncash imputed interest on the convertible debt.
Our guidance assumes no significant changes positive or negative and the availability of materials and assumes that we won't see additional pandemic related issues.
Fourth quarter gross margins are estimated at 59% to 60% Opex is expected to run at 28% to 31% of fourth quarter sales. The non-GAAP operating profit at the midpoint of our third quarter guidance is 30%.
Regarding opex for the full year.
We spent a bit lower than plan Q3, and we expect the full year opex will be about $980 million up 17% from 2020.
At the midpoint of our guidance 2021 will be another year of growth in both revenue and EPS while sales growing.
Sorry, with sales growing 18% to $3 7 billion.
And non-GAAP EPS growing to $5 88 up 27%.
Gross margin for the full year should be approximately 59, 5% up from 57, 2% in 2020, reflecting the ramp of new products product mix and operating leverage offsetting component and logistics cost increases.
Our 2021 non-GAAP operating profit rate is expected to be about 33% up from last year's 30%.
Our full year tax rate is expected to be 14, 8%.
These results put us comfortably in the range of our 2024 earnings model this year.
We will update the model on a regular cadence in January.
The breadth of our customer buying in 2021 is also broader than last year. In 2020, we had one customer that drove 25% of sales in 2021, we do not expect to have any customer larger than 20% of our yearly revenue.
This reflects the trend Mark noted about 2021 is higher growth in compute auto and industrial demand compared with mobility demand in semi test IAA.
<unk> growth of over 30% year over year continues to diversify our revenue.
This growth is expected to continue over the midterm and become a larger portion of our revenue.
In summary.
We expect to end the year with another quarter of another quarter of strong year on year revenue and EPS growth on a full year basis will exceed our mid term targets on stronger than expected demand on our test businesses continued high growth and excellent execution across the company.
While we don't have a clear picture of 2022, yet we're confident for the long term industry trends powering our test and IAA businesses remain firmly in place.
With that I will turn the call back to Andy.
Thanks, Sanjay we would now like to take some questions and as a reminder, please limit yourself to one question and a follow up.
Sure.
As a reminder to ask a question you will need to press star one on your telephone keypad to withdraw your question press the pound or hash key please standby, while we compile the Q&A roster.
Okay.
Your first question comes from <unk> Malik with Citi.
Hi, Thanks for taking my questions and good job in a tough.
Fly environment and Mark if I look at some of the recent RMB notebook processors that transistor count is growing two to four times versus prior generation you commented mobility to grow in compute <unk> and allow us to grow faster than mobility in the midterm I understand you guys are generally talk about next year I was looking.
<unk>, how confident do you feel about your SSD growth next year.
Well I think.
At this point pretty confident I mean, we look at the trends that I, just cited and I cited and see that there's very little standing in the way of sort of this increased growth, but the caveat I would mention is there's a lot of supply chain bottlenecks.
In the system, so its end product get bottleneck.
That can slow down the unit.
Volume demand for new semiconductors, and then the other thing we're looking at is when do these new nodes really come online in terms of capacity all of that $90 billion of wf fee.
Was put in place this year hasn't yet had a single impact on test that's all to come but it kind of depends on when do those additional five and three nanometer fabs come online.
That is a kind of a big swing factor in the calendar year.
2022 as to how our growth will chunk out and Thats kind of why we wait till January because we don't get a.
Good enough visibility on that right now.
Yes.
Great and Sanjay as a follow up can you talk about concentration within mobility and compute customer and impact on long term gross margin they have.
Been talks about price discounting and it could be.
Buyers by tier one foundry.
Yeah as I stated in my prepared remarks.
We won't have any customer above 20%, so it's a broader breadth of customers and regarding gross margins.
And throughout the year, we've improved gross margins and as I said.
Earlier calls really driven by a couple of key test systems coming online and we're shipping in volume that have come down the cost curve, we've seen some benefits to product mix shift as well as our operating leverage offsetting the offsetting the component costs and logistic cost increases.
From a look forward in sustainability of that gross margin. Obviously, we will give an update to our earnings model in January but I see the second half of.
Of our gross margin performance.
Going into the first half of 2022.
Great. Thanks.
Your next question comes from Mehdi Hosseini with ESI.
<unk>.
Yes. Thank you thanks for taking my question.
The first one has to do with your largest customer.
Given your commentary in terms of revenue mix. It seems to me that that particular customer.
Is going to be down like a 5% to 6%.
In that context should we assume.
It returned to growth in 'twenty, two and this is a trend that has happened over the past several years and should that happen.
Happen again, you should treat that.
Pattern happen again into 'twenty, two and how the sidewalk.
Yes, we of course made you can't talk about any individual customer and what they might do or not do in the future. So that I have to leave aside but.
Just point out on your first point that yes, our largest customers dropping below 20% and a growing revenue year. So the amount that you might.
Think compute that theyre falling has to be taken against our numerator of.
Higher revenue.
Got it thank you and then one.
One follow up to the question that came up three months ago. When we were looking into your market share in the compute can you update us.
Where you are with that market share in 2021.
As hyperscale ramp their own Onbase Cpus how.
Will your market share.
Change over the next one or two years. Thank you.
Well.
Like the total Soc market year to year market share is very volatile it depends on whose customers are buying what in any given year. So.
What our market share might be in any given year.
It can in a sub market like compute it can swing 20 points year to year, depending on who's buying so for this year.
It tends to be a very good compute year for us our compute market shares up in I would say close to what our average share is in <unk>. This year.
But I would say that it's not steady eddy, it's going to be pretty volatile year to year. It.
It has been in the past it probably will be going forward too.
Yeah.
I know, we're supposed to ask two questions, but just a quick follow up I think what I'm trying to understand is.
On the GPU side, it's pretty clear that your competitor has dominated in assuming that that would remain.
Unchanged I think the incremental.
The change to the compute is all driven by arm base and I was just trying to better understand how you look at your competitive position as these new chips coming to the market addressing the compute that market well.
We look we're very pleased and confident with our progress in arm based compute and design ins in that realm, but I would say that it's not.
The tester market for compute also driven by more traditional X 86 demand as well you've got a couple of suppliers. There that are not standing still as I mentioned in our upping their kind of complexity growth curve and so there will be certainly a lot of growth there as well I believe.
Okay. Thank you thanks for the detail.
Your next question comes from Toshi Hari Goldman Sachs.
Hi, Good morning, Thank you for taking the question and congrats on the strong execution I had two questions as well my first one is on the supply constraints, maybe for Mark maybe for Sanjay.
Just curious how significant the headwinds were for IAA in Q3, and what's embedded in your Q4 guidance. If you can share that that would be helpful.
And just wanted to confirm that.
There was little to no impact on your semi test business and then on gross margin. Similarly, you came in at the high end of your guided range, but was there any impact on your profitability in the quarter from supply chain shortages. Thank you.
Sure So I'll take those so.
So for an industrial automation perspective.
Year to date, we've grown.
40% in IAA.
And Q4 demand is high.
We can't supply at all that's why we.
It's going to be growth year on year of about 30% to 40%.
And so predominantly it's in semiconductors, and I expect we'll be out of the supply chain crunch.
Given our visibility in Q2 or Q3 for IAA.
No.
That's the IAA side, and then from a supply chain perspective on the test side.
We've seen the supply chain.
Tightening on the test portfolio quarter over quarter, where we don't think it's going to be abated until the end of Q2 of 2022.
And again, mainly semiconductor parts.
And really we see that coming back online in the second half really really tied to the.
Wafer and the substrate capacity coming online.
And then from a gross margin perspective.
We've been managing through the component increases in logistics increases in cost and we've as I've said earlier, we've had favorable product mix.
And as our volumes of our revenues are higher we are gaining operating leverage.
Along with.
Coming down the cost curve of our of our new products that we've introduced late last year.
So we're managing through it.
And it's true well publicized component cost increases.
Got it.
Helpful. And then as my follow up Mark I wanted to ask about your Eagle test business.
Your prepared remarks, you Ya.
Noted that the business is up more than two X year to date.
I guess historically like many other parts of your business I think Eagle test has been quite cyclical you would be up for a year year and a half four to six quarters, and then down a little bit as customers Digest.
Their test capacity based on what you said it seemed like you were expecting in 2022 to be another strong year.
I guess the question is what's different this time.
You think about Eagle test into into 'twenty two.
I realize there is complexity growth, but you could argue there's been complexity growth for a very long time. So just curious some how different this cycle could be relative to past cycles. Thank you.
Alright, good good question and in addition.
Automobile unit volume isn't near its historical peak either so how could this thing keep going beyond the normal six quarter surge in automotive, which is youre right again, thats kind of the traditional pattern.
But I think.
What we see happening and makes US believe this will persist at least through 2022 is there is a lot of.
Silicon refresh going on that's new in the automotive space new.
Kind of racing to get new.
More current generation.
<unk> Fi node silicon into automotive design, because the legacy lines out there are.
Are hard to get at.
Chip suppliers are trying to obsolete those fabs and so the end of the automotive.
Customers don't have as much I would say.
Power in this frothy demand environment on the semiconductor supply side and so the semiconductor suppliers are kind of saying get with the program move to more advanced nodes and a little bit of that is happening which is what that means complexity.
Yield issues.
And that means a little more test than you might expect and I think thats whats, giving us a different view this time.
Yeah.
Thank you.
Your next question comes from John Pitzer Credit Suisse.
Yes. Good morning, guys. Thanks for let me ask the questions. Congratulations on the solid results Mark I wanted to go back to.
Increasing test times in the semi test business, you've done a good job kind of helping us understand complexity in transistor count I'm kind of curious as.
As we move from a world of sort of general purpose compute to one of more optimized silicon youre going to move from a world where you're testing huge volumes.
In one device to smaller volumes across multiple devices, what does that do for test efficiency at your customers and hence test times as that trend takes hold.
It is.
Building, let's say 100 billion transistors on one chip versus four to give an example.
Isn't equivalent test time.
For Chip version is likely these are going to be rough rules of thumb, but lets say, 25% more test intensive than the single chip design.
Because there is a premium on sort of known good die testing when you put those together in an advanced package and then the advanced package itself has more potential defect.
Failure modes that need to be tested so that's one thing around the whole chip lit.
Multi chip package thing.
The other thing, though that is happening and this is really going to become prevalent at three nanometer and beyond is the move from Finfet gate all around.
Transistor architectures.
And if you remember when the world moved from Planer to Finfet. It was back in 2012, 13 14 era.
That drove.
If you go back and look at the history of sort of the test market.
Drove incremental test.
Intensity and complexity in the market and we're headed for another one of those with gate all around theres going to be new.
Defect modes new.
Kind of test intensity boost coming from this new architecture on the transistor so even at equivalent transistor counts.
We're going to see a little bit more test intensity because of that so these two trends have chip lifts and gate all around and three nanometer that's probably all of 2023 and beyond story, given where three nanometer as right now, but it's coming.
That's helpful and that's my second question, Mark just going back to your largest customer I am kind of curious if you can help me better understand.
The diversity of business with that customer I mean, clearly it's been mobility led for the last several years now you've got them doing more in the compute space you've talked about in the past.
The complexity around these are tags are you seeing a meaningful diversification of demand drivers at that customer and can you help me because I just don't know.
How fungible is your is there test capacity across those different product families.
Yes, im not going to be able to talk too much about.
Sort of.
Breath, there I think you can imagine it.
You've rattled off some examples in terms of Fungibility.
Theyre pretty fungible the testers.
Across.
What's used for a compute engine and a phone versus a compute engine.
A laptop or a desktop or anything else, but the one that's a little bit unique.
When you get into things like the.
<unk>.
RF.
Type products of course have a bit of a different architecture power management type products have a bit of a different architecture and so those testers tend to be a little more unique.
But we've talked about in the past that.
I think people have looked at us and said well in a world where cell phones or kind of <unk>.
<unk> doesn't that unit growth of cell phones doesn't that that portends, some kind of slowing for us and what we've always said is that look cell phone unit growth can slow complexity isn't.
And some of these customers are diversifying into more silicon both in the phone and now more silicon outside the phone into compute there are these emerging hyper scalar that are building silicon for both cloud computing and other new yet to be introduced consumer products. So the ability of a design.
<unk> team today to be formed and put together a <unk>.
<unk> 10 billion plus transistor chip for a consumer application is easier and easier and easier.
And as I said in my script, we worked with a lot of them.
Maybe a small fraction of them will be hits in the future.
They can bring entirely new classes of.
Semiconductor hi.
Hi, compute engine semiconductor applications to the market.
And all of those are kind of ultra flex ultra flex plus family.
Devices.
That's helpful. Thank you.
Right.
Your next question comes from C J Muse of Evercore.
Yes. Good morning. Thank you for taking the question I guess market another technology question.
You've kind of taught us to think about transistor count.
Kind of thinking about test times four for mobility.
And curious as we go to more high performance compute.
There are.
More thermal issues, perhaps more complex software algorithms, how should we be thinking about the test times in that transition.
Well I think the test times have less to do with the application the only place where the application drives really.
Fundamentally different test times as automotive because of the.
Issues there it's more of the technology that so I'll go back to see Jay what I said before about three nanometer.
Is going to be more impactful to both test times in phones and in computers and servers and in graphics and in everything else probably than any of those end market applications.
Okay. That's helpful and then I guess Sanjay quick question for you.
Youre, making investments.
Particularly in IAA, but as you look to 2022 can you speak to your outlook for operating leverage.
And as part of that how we should think about opex relative to top line growth. Thank you.
Sure I'd say, we're in the early innings of looking at 2022, and obviously, we'll provide an update.
In January but opex is growing in kind of a couple of key areas. This year, obviously tied to higher volume, we have variable compensation as well as engineering expense tied to our operations to qualify new suppliers etcetera, etcetera, and then we continue to invest in.
Both go to market and engineering across the test portfolio and as you noted we're leaning in obviously as I noted my prepared remarks, we're leaning into our IAA investments really to help drive going forward. The other component is the G&A expenses going forward.
This was a big year of Opex growth.
The only thing I'd say is that next year.
We're not going to be as large percentage wise.
Growth, but that's really all I have to say on it right now.
Thank you.
Your next question comes from Timothy Arcuri UBS.
Thanks, a lot.
I just wanted to see if you could update us on the <unk>.
Yossi Tam you had said 45 last call and in the.
Segments of that was compete was about $1 billion mobility was 108 to 105 autos were about 500 industrial was five $5 50, I'm just kind of wondering if you can update us on those on those numbers.
Yeah. Good question. So fundamentally it's in the same range, it's probably trending more up towards the higher end of that range. So I think the numbers. The Submarkets you got right on what we talked about last time and may be compute is driving us a little bit higher in that range.
At this point in time.
But it's pretty close to in memory still at about $1 billion Tam as well.
Okay great.
And then I guess I guess I had a question just on profitability.
Profitability in <unk>.
I know Sanjay you just answered a question about operating leverage next year, but.
What's the catalyst maybe.
This time last year, we were thinking it would be 10% to 15% op margin and then it got cut to 10, and then went to five and now it's kind of low single digits and I get that the penetration there is very low but whats the whats the catalyst for you to look at maybe.
We shouldn't be investing so much money and maybe we can.
Optimize opex investment so.
So I guess I'm just kind of wondering how you think about about sort of what's going on at IAA in.
What the long term profitability targets. Thanks.
So our range as we said prior is 5% to 15%.
We expect to be low single digits as I said in my prepared remarks, but really how we think about it as we manage the business on a think about it as a rule of 40.
Combining the year over year growth with the operating profit and fundamentally were as we see.
As been noted by Mark where penetration is very very low and we look at all the jobs that can be automated and the scarcity of labor.
And economic growth, we really see a strong tailwind for the portfolio and with that we're very focused and conscious on both engineering and go to market investments and so how do we think about it is quite simple and that is where we have a strong belief that we're going to grow and it's going to accelerate.
Get that revenue growth, we're going to lean into the investment.
And again think about it in the rule of 40 and.
As I said in my prepared remarks, our gross margins are actually improving.
And that portfolio and so when we see that growth start to moderate.
Then we will start to moderate the opex.
To an operating profit of let's say in the mid twenties.
Okay. Thank you.
Your next question comes from Vivek Arya Bank of America.
Thanks for taking my questions. Marc this move to treat nanometer is that a benefit in 'twenty two or 'twenty three.
It would be 20 key but I wanted to confirm and kind of following on from that what are the top one or two end markets that you had the most excited about in terms of growth for next year.
Yeah.
So on the three nanometer question that was one of the things I mentioned that we'll be looking at carefully between now and January when we update you on the 2022.
View.
And.
We've seen some push outs on some of those nodes for by a few months so the ability to intercept them in a meaningful way in Q sorry in 2022 is a swing factor, we don't see that exactly yet but.
But whatever happens in 2022, it might get some early ramping but the bulk of it is going to be 2023, $24 25 kind of and beyond so a little bit could happen in 'twenty two how much we won't know more until January.
In terms of.
Markets next year that are interesting and exciting I think it goes back to these are emergent.
<unk>.
Hyperscale or <unk> that are developing some new applications and very complex silicon for those new applications. Some of those could latch in the market with new product introductions and drive a whole new sort of demand stream for semiconductors and the testers associate.
With them, so that's kind of.
What we are rooting for it and what we're close to and we're.
We're seeing could be breakouts for 2022.
Got it very helpful and maybe just following up on that is it a way mark to contrast.
Additional complexity in a product that's going into a hyperscale application bushes and mobility.
Application I understand die sizes might be different than packaging.
That might be different but in.
Secondly, what does the mix shift from a more mobility heavy end market to something that is making you more into the computer in hyperscale on land mean for teradyne in terms of future growth prospects and also the.
Just the seasonality because you know mobility tends to be a lot more seasonal markets those other markets or perhaps less seasonal so what does that mix shift meaningful downtime over the long term.
Yeah. That's good question.
The range of devices being developed at Hyperscale is quite.
Large some of them are simpler then.
A classic cell phone device apps processor and a cell phone so those aren't going to have much of an impact even if they latch, but some of them that are more I would say.
Leveraging AI machine learning.
And.
Hi, Ray.
<unk> displays are.
Equal to or greater complexity than what you might find in a typical cell phone application for those technologies. So its a broad spectrum as I guess the bottom line, but if you sort of.
Lay it out.
I'd say the Hyperscale those are going to on average bring cell phone like complexity applications to the market, it's probably not going to be something thats.
Take the $50 billion transistor.
Device that.
Kind of surprised everybody, it's probably not at that extreme it's probably more on the $10 billion transistor range on average and then moving up year over year over year after that as they iterate on the design.
Thank you.
Your next question comes from Krish, <unk> with Cowen <unk> Company.
Yes, hi, Thanks for taking my question two of them are just wonder has the three nanometer question in a different way you spoke about how test investments have to catch up to front end WC spending.
But doing the three D. NAND investment cycle WC grew in 2016 and 17, while the memory test spending kind of came in in 2018 in a meaningful way so kind of curious how should we think about the time lag effect.
Test to front end foundry logic W. Feed this time without.
Yes, good questions. So all of the Wip investment gets recognized before single testers.
Associated with that investment so the way to think about test as well.
Whenever you see some silicon coming off a new node assumed that the testers were installed.
Maybe three months or so prior to that.
So once a three nanometer fab comes online.
And you'll start to see product coming off of it in reasonable volume more than sort of pilot line volume.
Assume that the test or <unk>.
Installations occurred about three months prior.
The best guidance I can give you there and then the only other thing I would caution about memory versus <unk> is that.
The.
Curve of test time.
Two bit two transistor count is not the same in memory is it isn't a soc.
Memory tends to be a bit more efficient for reasons I won't get into here.
So you can double transistors, and memory and youre not going to probably move test time.
More than.
20%, 30% or so let's say.
Whereas in <unk>, it's not quite linear but it's closer.
Got it got it that's very helpful Mark.
Follow up for Sanjay on gross margins. Despite the constrained environment gross margins have stepped up about 200 plus basis points over the last four quarters or so two of 59% to 60% range is this kind of a new baseline we should assume that these revenue run rates. Thank you.
Yes, I think I talked about that earlier, so we're going through our strategic planning process in Q4, and it's really the basis of our of our earnings model update in January.
I've said, just having some visibility into the first half of next year I think you should expect to see that gross margin.
Be similar in the first half of next year as we have in the second half of 2021.
<unk>.
From and so theres many different variables in there I noted that we've been managing through the component and logistics cost increase we've had good mix and come down the cost curve of our new products and gaining operating leverage. So there is many variables in there that we're going to look at it closely and as our revenue.
It gets more and more diversified.
So theres a lot of puts and takes but we'll provide more guidance on that in the in the January call.
Thanks Sanjay.
Your next question comes from Brian Chin Stifel.
Excuse me either good morning, nice results and thanks for letting us ask a few questions sorry first to clarify something.
Going back on the commentary.
If you had more chips, you would be able to ship to an appreciable appreciably higher level of revenue in both semi test and industrial automation businesses in Q4 did I hear that correct correctly.
In industrial automation percentage wise, we'd be able to ship more.
In the test portfolio.
We think we're going to manage through.
The majority of the supply issues at this point.
Okay, Okay great.
And then interesting discussion.
On three nanometer and sort of like a fulcrum event in terms of test intensity again at three nanometer or gate all around maybe a couple of questions as my follow up.
What is it about that.
I know it probably is a longer form discussion but.
In short form what is it about three nanometer three nanometer gate all around is it sort of what the yield modeling suggest for kind of lower yield rates their compounded by die sizes.
Compounded by transistors are advanced packaging or.
Is it also sort of combination of the types of devices that you think that that enables in terms of the intersection point of various customers and theyre kind of chip roadmaps.
Just kind of wanted to get at that and then Mike kind of bigger picture at the high performance compute test Tam is a little bit more secular a little bit more growth, if you've kind of benchmarked test growth that sort of 4% to 8% how much of a premium do you think we're looking at over the next several years in terms of HBC Tan.
Okay.
There's a lot in there Brian So let me first of all I'll take on three nanometer. So the issues about three nanometers certainly enables more.
That would absolutely be something that would give us a positive outlook for the next midterm. There is the chip lit thing that we talked about where you have mixed nodes going into chips and then you need known good die testing and then the multi packaging needs increasingly test intensity, that's not what I'm talking about.
Real and Thats there too.
The things that I'm talking about what three nanometer thats.
Unique let's say is the change in the transition transistor architecture from Finfet gate all around.
That happens once per decade again, it happened and it happened with Finfet earlier in the last decade, it's happening with.
Gate all around here in the next few years.
Those transitions everything else being equal introduce additional <unk>.
Typically.
Failure modes that need more test.
Methodologies.
Methodologies to make sure that devices functionally correctly.
And so.
Let's say the average test time per transistor can tend to be higher.
Because of the additional verification needed related to that new architecture now early in the architectures life that tends to be higher as the as the architecture matures over time that premium, let's say comes down.
So.
And the world doesn't ship shipped to three nanometer in mass day, one either so theres this bleeding up.
Certain devices using three nanometer that are highly test intensive.
And more and more come online year after year and then the learning curve comes on but net net again.
If you look at the test market from 22000 to 2012.
It had been a declining market in 2012 to now it's been growing quite well in excess of 10% part of that is the parallel testing ameliorating that we've talked about part of it's the Finfet story that we've talked about and the growing transistor counts. So we're at another one of those junctures with gate all around.
Okay.
Alright.
And.
Test HBC higher okay, yes, so the heightened growth rate in compute is certainly going to be at the higher end of our mix of sub markets, we think over the midterm.
So if you think the average market growth rate, we're going to update this in January but pick a number is 8%.
We think compute is probably leading that by at least a couple of points.
Okay, great Great. That's helpful. Thanks for all the color on that.
And operator, we have time for one more question. Please.
Thank you. Your final question comes from Sidney Ho Deutsche Bank.
Yeah.
Thanks for taking my question. So I have two quick ones. The first one is you talked about supply constraining constraints impacting your business.
I'm just curious.
The gross margin has been pretty good overall, you talk about operating leverage is one of the reasons to the extent that your input cost on logistics and freight costs increased both in your test in IAA basis I.
Are you able to pass along some of those costs to your customers.
So at this point, we've been managing through it so.
Materially no.
Okay.
Maybe my follow up question is lot.
The discussion on three nanometers today, but it's really an opportunity in 2023 and beyond.
But if you kind of look at next year, I know you're going to update us.
In January how does it impact your like test and the test.
Chooses to move from going to three nanometer as they go to a different generation of five nanometers. What is the test to reuse rate when you compare the two notes between the three nanometers and the alternate.
Yes.
The test you reuse people will reuse five nanometer generation testers in the three nanometer era. So a new test is not required.
<unk> tend to have a useful life of a decade or more.
At a customer and they can span usability across many many nodes and many many generations of devices.
So theres nothing in terms of a new test are here it comes with.
Three nanometer and yes by and large it's a 2023 and beyond type story, but absent that story, what we've been seeing for the past 10 years in test.
Three nanometer in 2022 is likely not going to be a huge event.
It's likely to be later in the year.
People will still move down the complexity curve at 5% and five plus nanometer nodes and increase transistor counts in such along that path.
Pat So even absent three nanometer we have an optimistic view of what 2022 looks like we'll probably start out the year similar to how we started out years in the past.
And at the beginning of the year with some modest growth in the first quarter and then it kind of swings on what's going to happen over the summer, which is our peak quarters.
Around the refreshes will those refreshes of silicon be in three nanometer will they be in five plus with the traditional normal transistor count growth that we've seen for the past 10 years. Those are things that we have to get closer to next year that really understand.
Great. Thank you very much.
Okay, everybody we are out of time, thanks, so much for joining us today and those in the queue I'll get back to you later later today and again, thanks, everyone for joining bye bye.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating you may now disconnect.
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