Q3 2022 Onto Innovation Inc Earnings Call
Please standby good.
And welcome to the onto innovation third quarter earnings release Conference call. Today's conference is being recorded at this time I would like to turn the conference over to Michael Schafer. Please go ahead Sir.
Thank you Cynthia and good afternoon, everyone.
Onto innovation issued its 2022 third quarter financial results. This afternoon. Shortly after the market close if you haven't received a copy of the release. Please refer to the company's website, where a copy of the releases posted joining us on the call today are Michael Plucinsky, Chief Executive Officer, and Mark Schweitzer.
Financial officer as always I'd like to remind you that the statements made by management on this call will contain forward looking statements within the meaning of the federal Securities laws such statements are subject to a range of changes risks and uncertainties that can cause actual results to vary materially for more information regarding the risk factors that may impact on some innovations results I would encourage you to review our earned.
<unk> release, and our SEC filings onto innovation does not undertake any obligation to update. These forward looking statements in light of new information or future events. Today's discussion of our financial results will be presented on a non-GAAP financial basis, unless otherwise specified and as a reminder, a detailed reconciliation between GAAP and non-GAAP results can be found in today's earnings.
Release, I will now go ahead and turn the call over to Mike <unk> Mike.
Thank you, Mike and good afternoon, everyone and thank you for joining our call today will begin with a brief review of the new U S trade restrictions and their impact on onto innovation.
He will then cover business and financial highlights from the third quarter and close with our outlook for the fourth quarter and calendar year 2023.
So let's begin on October 7th the Commerce Department announced new regulations, essentially restricting U S semiconductor equipment suppliers from selling to and supporting facilities in China fabricating logic devices below 15 nanometer design rule DRAM below 19 nanometers in V NAND with over 127.
Laughs spin.
Specifically to onto innovation packaging and specialty device customers account for over half of our year to date revenue in China and those customers are not directly affected by these new rules. Furthermore, several multinational corporations that produce advanced products have already been granted licenses.
Which extend to key suppliers such as onto innovation.
Total these new restrictions negatively impacted our revenue guidance for the fourth quarter by about $10 million the estimated impact to 'twenty to 'twenty three revenue is roughly $80 million and our closing remarks, who will provide a preliminary view of 2023 accounting for China market headwinds in memory.
And the opportunities we see to continue to outperform the industry.
Now turning to the third quarter were happy to report the onto innovation team delivered another strong quarter of 254 million in revenue an increase of 27% over the prior year more importantly margins were at the high end of guidance, resulting in record net income for the company.
Contributing to that strong financial performance was our Atlas metrology, which set a quarterly revenue record with nearly all of the revenue supporting process nodes at five nanometer and below.
We're projecting our metrology business to grow over 40%. This year well ahead of current wafer fab equipment growth projections.
We believe this outperformance is a result of establishing early leadership positions in several technology transitions, including the adoption of gate all around transistor structures and high stack V NAND.
The new gate all around structures materials concentration is of growing importance for accurate etch and deposition control some customers recognize X ray systems moving into Fabs from labs are too slow for this high sampling application.
Recently, we demonstrated the capability to provide accurate comp composition metrology, while simultaneously measuring critical gate dimensions, all at volume production speeds if adopted in production. We expect this unique capability to increase our attach rate of Atlas metrology by over 10%.
We also see attach rate expansion in the high stack V NAND market, where shipments of our Atlas metrology and powerful AI diffract software are on pace to triple the shipments made in 2021 and.
In addition, we're expanding the adoption of high aspect ratio metrology.
And acoustic metrology for V NAND with over 200 less by year end. We expect these systems to be qualified in four of the top five NAND manufacturers. This increases our attach rate for the eventual market ramp of this memory, which will deliver a data center edge compute and mobile devices a 40%.
Increased some bit density and a 28% smaller form factor.
Wrapping up our highlights for advanced nodes, our expansion into plainer films continues with three new tier one customers taking delivery of five evaluation units in the quarter. This year, we're on track to exceed $50 million in revenue a 34% increase over 2021 with additional growth projected in 2023.
Hi.
Now turning to our specialty and advanced packaging markets revenue contracted in the quarter, primarily due to the revenue recognition of multiple lithography systems in the prior quarter.
Inspection revenue increase over the second quarter led by a 30% increase in demand from the rapidly expanding compound semiconductor power device market.
The global transition to electric vehicles is driving the need for more productive process control solutions to both improve yield and factory output.
Dragonfly G three with production proven sensitivity below a quarter micron, coupled with new software algorithms to accurately separate critical defects from nearly identical but acceptable process variation is essential for automotive applications, where defect control is not simply a matter of profit but is essential for humans.
Safety.
Another secular trend we've been highlighting is the shift to a heterogeneous system and packages.
Our opportunities to de centered on the jet setbacks 500 for substrates and the dragonfly G III for inspection and micro bump metrology on the wafer.
We now see interest expanding to higher resolution fan out packages on panels.
And have received orders for four Jets step 3500 systems. This customer purchased our connected steadfast technology, which integrates our di placement metrology and discover analytics to provide a fully integrated lithography solution to address overlay challenges inherent to the fan out process.
We expect to ship the first system in the fourth quarter and additional systems in the first half of 2023.
Finally, I'm pleased to announce in the third quarter, we delivered a jet step 3500 to a customer in Korea to support R&D for next generation Foldable OLED displays are step it was selected due the performance benefits and flexibility of our lithography platform.
R&D effort is successful it could open an estimated 300 to 500 million Tam in 2025 now.
Now I'll turn the call over to Mark for a review of the Q3 financial highlights and our Q4 guidance.
Thanks, Mike and good afternoon, everyone.
As Mike highlighted we had another strong quarter with third quarter revenues of $254 million up 27% over the same period last year and $4 million above the midpoint of our previous guidance.
Breaking down the revenue by market advanced nodes revenue of 111.
And the $11 million grew 57% year over year and represents 44% of total revenues specialty device and advanced packaging achieved $101 million in revenue grew 14% year over year and represents 40% of total revenue.
Software and services of $42 million grew 8% year over year and represents 16% of total revenue.
Our gross margin increased to 55% our highest quarterly performance year to date.
We are pleased with the team's ability to execute a quick second sequential quarter recovery driving a 300 basis point improvement compared to 52% in the second quarter.
Our product mix was certainly a factor driving this improvement. However, we continued to experience supply chain disruptions and inflationary cost pressures within the quarter, we have active programs working with our suppliers and logistics companies to manage these gross margin headwinds and to minimize the impact in future quarters.
Third quarter operating expenses were $61 million at the midpoint of our previous guidance.
We did see an increase sequentially by approximately $2 million from the second quarter, primarily for the art further for from further R&D investments and programs are critical to our customers' roadmaps.
However, we continue to drive operating expense leverage is on a year over year comparison operating expenses as a percent of revenue decreased by 200 basis points.
Our record level operating income of $78 million or 31% continues to demonstrate the leverage in our operating model as our operating margin increased approximately 200 basis points, both sequentially and as compared to a year ago.
Our record level net income in the third quarter was 67 million or $1 35 per share up 38% over the same period last year and <unk> <unk> above the midpoint of our previous guidance.
Now moving to the balance sheet, we ended the third quarter with cash of $553 million.
Up 41 million since the start of the year generating $87 million of year to date cash flow from operations, representing 12% of revenue.
Inventory increased to $308 million in the quarter.
To support the increasing certain safety stock levels as a hedge against ongoing supply chain disruptions and to prepare for 2023, given the long lead time nature of our confirms however, as Mike noted earlier with approximately $80 million of our projected revenue for 'twenty three being impacted by the recent China restrictions.
We are now reassessing, our optimum levels of inventory and would expect to return to the mid $200 million range for inventory levels in 'twenty three.
Accounts receivable remained relatively flat at $236 million in the quarter and our days sales outstanding increased one day to 84 days, primarily due to the timing of revenue within the quarter.
As commented on during previous quarters, we continually assess our capital allocation strategy, which includes the balance between internal investment M&A and share repurchases. All three continued to be a primary strategic focus for the company.
During the quarter, we repurchased approximately 172000 shares of common stock, resulting in a return of capital shareholders return to capital shareholders of approximately.
$11 $5 million.
The share repurchase was executed under our existing $100 million share repurchase authorization.
This repurchase reflects our confidence in our strong earnings potential our ability to generate strong cash flow and our commitment to delivering value back to our shareholders.
Now turning to our outlook for Q4.
We currently expect revenue for the core for the fourth quarter to be between $244 million and $256 million, reflecting the impact of approximately $10 million and projected China revenue, Mike had mentioned earlier.
We expect our gross margins will be between 54% to 55%.
For operating expenses, we expect to be between 60 million to $62 million.
For the full year 'twenty, two we expect our effective tax rate to be between 12% to 13%.
We expect our diluted share count for Q4 to be approximately $49 3 million shares.
Based upon these assumptions, we anticipate our non-GAAP earnings to be between $1 25 per share to $1 40 per share.
And with that I will turn it back to Mike for additional comments on the remainder of 'twenty, two and further insights into twenty-three Mike.
Thank you Mark and.
In the fourth quarter, we expect another increase in demand for our process control solutions from power device manufacturers. We project. This will be our second largest market in the quarter, marking the first time, a specialty device market reaches this level of relative revenue.
Our largest market in the fourth quarter will be advanced logic, which we expect will grow 30%, including initial shipments to a logic factory in Arizona, we expect DRAM to be down slightly in revenue from NAND customers to be down significantly after growing in the third quarter.
In addition, we expect to ship a record number of Nova <unk> tools to support wafer capacity demand for <unk> process nodes.
Based on our healthy backlog supporting commentary from customers and Asml's guidance on EV demand.
We forecast revenue for both Nova <unk> and element metrology will increase in 2023.
Stepping back from the quarter over the last two years global wafer fab equipment revenue has increased 50%.
During that same period onto innovation revenue is projected to nearly double growing twice as fast as the industry.
We achieved this performance by not only focusing on the growing share in our served markets, but also by successfully expanding into new markets with innovative connected solutions tied to secular trends in artificial intelligence edge computing and new power devices.
We expect many of these trends to drive growth next year in several of the segments, we serve such as panel packaging bare wafer and compound semiconductor manufacturing.
We believe this will reduce the impact to onto innovation of our projected 20% decline in global wafer fab equipment spending next year.
At this level of global decline, we expect our revenue in 2023 to decline.
10% to 15%, including the negative impact of about $80 million from new restrictions on equipment sales to China.
Though still early we currently see the first half of 2023 will be the bottom followed by an incrementally stronger second half.
While maintaining the pace of innovation our customers rely on we will take advantage of this pause in the market to focus on untapped product supply chain and operational synergies further strengthening our business foundation to support the next wave of growth, which will surely follow.
With that we'll open the call for your questions Cynthia.
Thank you.
I would like to ask a question. Please signal by pressing star one on your telephone keypad.
Using a speaker phone. Please make sure your mute function is turned off to allow your <unk>.
Signal.
Again press Star one to ask a question, we'll pause for just a moment to allow everyone the opportunity to signal for questions.
We will take our first question from Craig Ellis with B Riley Securities. Please go ahead.
Yeah. Thanks for taking the question and Mike Thanks for providing some color on how you see.
Calendar 'twenty three shaping up for the company I just wanted to start with a clarification on the comments on the China impact. So it sounds like the impact is really inside of the advance node segment is that correct or is it touching some of the other segments as well.
Correct, it's within the advanced node segments, and primarily the domestic manufacturers in China.
Got it got it Okay and then the second question.
It really relates to some of the color you provided for calendar 'twenty three it seems like the Sam expansion that's been a strength of the company in 2022 has good momentum into 2023 with planar films.
Let the one compound semi can you just talk a little bit more about what you see happening there and to what extent does customer expansion or other things at play in each of those areas.
Sure so.
Actually a couple of them are driven by artificial intelligence. So if you look at the advanced compute and the and the constraints that our.
Markets have seen in the high end chips that a lot of that constraint comes from packaging from the IC substrates and so we see continued growth in the in the panel panel packaging to support artificial intelligence now on the front end those are printed on using UV technology.
<unk>.
So the the wafer manufacturers have been increasing capacity and they're very very conservative. So they do this over they plan it out over a multi year cycle.
They've they're planning some fairly aggressive expansions to support specifically <unk> what that means for US is there's higher levels of process quality control required that the Nova surge in the element are uniquely suited for so we've seen we have a pretty.
A healthy backlog for both of those going out actually through 2023, and then into 2024.
So that's driven by the that side and then looking at the compound semi it's all around automotive and electrification of vehicles that surround the.
Renewal the push for renewable energy and the changes in the grid. The smart power grids that are required to to really take advantage of large distributed locations for energy source.
Energy creation, so that's where we see all the driver driving coming from compound semi in 2022. Despite the growth. We've seen I think it was somewhat constrained by a lack of ability to get in particular lithography equipment. We had several customers that that couldn't expand because they couldnt get litho.
We would expect that as the markets sort of cool down on the on the front end or in some aspects of the of the front end that that will free up some demand and allow allows some of our customers and compound semi to maintain their expansion plans.
Hopefully that helps yes.
That helps and then the last one before I hop back in the queue, Mike I think towards the end of the year. The company has in the past engaged with volume purchase agreement tight cap type of activity with its customers and so the question is as you get to the end of the year and look ahead to 2023, what's the indication you're getting from customers.
In terms of.
The company's share of wallet in share of new programs that are that are going out there.
So good question I'd say, it's mixed so from the the volume purchase perspective customers are you know various levels of customers who are doing different things memory is certainly down.
Logic is down but a lot less so.
So from that perspective, it's captured in the numbers, we're talking about from a share gain perspective, which you might have been really trying to get at there I think the indications are quite positive for us as I mentioned much of that expansion into new markets like for planar films is against <unk> and <unk>.
Competitor.
Some of what we're seeing on the use of the Atlas platform to do compositional metrology as against another competitor and it's all around the value proposition we brought to the table. Shortly after the merger when we said Hey look we can push OCD beyond the limit.
Optical CD metrology beyond what we believe our peers can and they've been pushing X Ray solutions, which challenge our customers because they're too slow so by being able to drive more and more applications onto our platform. We think we're getting a bigger piece of that spending pie.
Got it thanks, Mike.
Okay.
We will take our next question from Mark Miller with the Benchmark Company. Please go ahead.
Hi, congratulations on another record quarter.
In terms of the.
A rebound in the second half of next year, what do you see driving that is that some of the new fabs that are just starting to come up.
So it's different overall, we're seeing a down year for next year, but I think in some areas. We're seeing strong growth. So panel level packaging planar films, which is really around just spreading our technology into <unk>.
More mark into more of the customer base, so I, even though that market may be down or.
Our ability to grow revenue within it is going to grow because we're gaining share.
And then in the power devices the electrification of vehicles, we still see that compound semi going up next year that said, we we certainly see DRAM or memory coming down both NAND and DRAM.
And we see larger coming down as well so some of the advanced nodes are coming down a bit.
Hi, you have five five.
<unk> Iris tools.
And in the email is how many total email tools do you have out there.
Oh.
Yes.
It's probably a little bit more than five but you have to remember these tools we've already done.
Let's say $30 million or so in revenue in 2021, and we're on track to do another 50. This year. So it's not these tools for evaluation less to prove the technology more to prove that we can measure against their baseline. So it's very fab specific evaluations so as we.
To add more customers. Their first step is generally an evaluation unit to prove it out and then and then roll it out across their prostate factors.
Thank you.
Okay.
Yep.
Yeah.
As a reminder, if you would like to ask a question. Please press star one at this time and we will take our next question from Hans Chung with D. A Davidson. Please go ahead.
Thank you for taking my question so.
First I don't want to talk about the gross margin so.
Okay.
Some puts and takes for 2020.
And given that we have.
Uh huh.
Dr Rizo product, which has lower margin.
Also have some new product continued to right now.
Your margin.
Same time, we probably see topline.
Topline Chang.
Dynamics that may help.
On the Cogs side.
But we also have lower revenue.
Scale. So just wondering how should we think about our gross margin trend going into next year given dose.
Those factors.
Yeah, no. Thanks, Tom it's Mark Yeah.
I won't give specifics on the gross margin rates, but certainly.
As we look to 'twenty three I mean, it's certainly a focus item.
As we look at the mix and what that generates from a gross margin perspective, I mean, obviously, we've commented on the litho tools.
That margin profile going up during the year were certainly focused on that from an optimization standpoint to drive further benefit to gross margin.
So that we expect and we will have that certainly in our models for next year.
When we look at.
The full gross margin picture.
We're looking at operational efficiencies, we're looking at our plant network.
And how we're driving.
Alignment and leverage within that so that will hopefully drive gross margin improvement, we're not actually right now seeing any decreasing headwinds or lessening of.
Costs, I mean labor costs are up across the board our suppliers.
Freight costs, they haven't returned to pre COVID-19 levels, but they've come down but they are still higher.
And we are still experiencing significant.
Headwinds in that regard, we're winning with regard to pricing and price increases. So I mean, those are all factors and we're trying to work.
As I said in my comments with our vendors and our logistics partners to work on better contract terms pricing and how we can negotiate.
Things in a favorable manner that will continue to put that pressure on gross margin.
Yes, so Hans just to add a little bit of color.
You articulated all of the variables Mark describe the various actions, we're taking along those variables, but if you look at our track record even with lower revenue levels. We've been we have a history of maintaining gross margins in and doing what is necessary to.
To maintain those gross margins. So I think you'll see more of that as we look forward into 2023.
Got it and then.
Can I follow up with the.
Just the overall cost structure megawatt protein out.
Cogs and Opex.
Red Bull.
Fixed.
Trying to get a sense.
We see.
Revenue down 10.
15% then.
What kind of debt.
The decline or training for their overall operating costs.
Yes, I mean, we don't we don't have the specifics on that ons, where I mean, certainly the process, we're going through right now as we look at our annual operating plan for next year.
We're looking at all costs.
Cost across.
The company.
I'm trying to see where we continued to drive.
Reductions that don't disrupt our innovation.
And make sure we're balanced in what we do cut or reduce.
So again I don't have the split by exactly whats variable and non variable, but we are.
Certainly look at the variable cost first and look at the profile of the operating structure to make sure that it's as Mike just mentioned.
Still moving in the direction of meeting the financial commitments that we had in our long term operating model.
Got it.
Lastly.
Can you elaborate.
Okay.
Clarity.
It seems like it's kind of a very.
Tom.
Our position in Florida.
How strong is the obligation.
More than 200.
You highlight and then what kind of.
Revenue opportunity are we looking at.
Yes, so as we discussed it would be about a 10% increase in attach rates.
So I would say you know maybe it's.
Two to three tools per 20000 30000 wafer starts you know again. This is still early so customers are still optimizing their lines and working out there sampling strategies and things like this so it is an incremental improvement that's an incremental attach rate on an already strong position that we have in NAND.
But it is a unique capability, so you're right to call out both the EKO acoustic metrology.
For hard mask glare, it's very unique in being able to measure the hard masks are critical for etch control and then the aspect of metrology for high aspect ratio.
Metrology basically those bit channels growing vertically across those layers.
Very difficult to measure over.
Over 200 layers or 200 stacks.
Got it thank you.
We will take our next question from Trevor Janofsky with Needham. Please go ahead.
Yeah, Hey, Mike Hey, Mark This is Trevor on for Quinn Bolton. Thanks for letting me ask a question.
Can you provide any more color on the China impact specifically, what is causing the quarterly impact to pick up in 2023 versus the $10 million in fourth quarter.
The quarterly impact to pick up in 2023, So I don't think we said it was going to pick up.
Go ahead Mike.
So run rate.
If you just take the $80 million run rate.
Yeah. So then I think it would still be a pretty a bigger impact than the $10 million right.
Yeah, Yeah exactly exactly yes, okay. So why it's Scott yeah. So when you said <unk> I thought you meant growth no.
I think it's just the orders. So you know the customers that are ordering in Q4.
Wasn't going to be the same mix we expected.
It actually had.
Booked throughout next year. So we gained some share in and some of the other areas.
And give details but.
We expanded our customer base on share within our customer basis, which would have been reflected a nice growth in 2020.
2023, which now will not not be there is.
Does that makes sense.
Yeah definitely thank you for that and for my second question. It's about your backlog have you seen any cancellations, yet or a pick up and order delays over the recent months.
We've seen some pushing around of orders for sure.
No cancellations due to market, we had one single tool cancellation due to basically.
Something unrelated to markets. So that's a financial issue with that particular company.
But outside of that there's been no cancellations some movement on orders and that's about it.
Okay. That's helpful. Thank you Mike.
Welcome.
And at this time there are no further questions. Mr. Schafer I would like to turn the conference back to you for any additional or closing remarks.
Thanks, Cynthia and we'd like to thank everybody for joining us today, a replay of the call is going to be available on our website by about 730 P. M. This evening.
We'd like to thank you for your continued interest in onto innovation Cynthia. Please conclude the call. Thank you.
Thank you. This does conclude today's call. We thank you for your participation and you may now disconnect.
Okay.
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