Q3 2022 Cohu Inc Earnings Call
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Good day, and thank you for standing by and welcome to the call Hugh Inc. Third quarter 2022 financial results 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 this session.
You will need to press star one one on your telephone please be advised that today's conference is being recorded.
Now like to hand, the conference over to your Speaker today, Jeff Jones, Chief Financial Officer. Please go ahead.
Good afternoon, and welcome to our conference call to discuss <unk> third quarter, 2022 results and fourth quarter 2022 outlook I'm.
I'm joined today by our President and CEO Luis Mueller.
Need a copy of our earnings release, you may access it from our website at <unk> dot com or by contacting <unk> Investor Relations.
There is also a slide presentation in conjunction with today's call that may be accessed on <unk> website in the Investor Relations section.
Replays of this call will be available via the same page after the call concludes.
Now to the Safe Harbor.
During today's call, we will make forward looking statements, reflecting management's current expectations concerning <unk> future business.
Payments are based on current information that we have assessed but which by its nature is subject to rapid and even abrupt changes.
We encourage you to review the forward looking statements section of the slide presentation and the earnings release as well as <unk> filings with the SEC, including the most recently filed Form 10-K and Form 10-Q our.
Our comments speak only as of today October 27, 2022, and <unk> assumes no obligation to update these statements for developments occurring after this call.
Finally during this call we will discuss certain non-GAAP financial measures. Please refer to our earnings release and slide presentation for reconciliations to the most comparable GAAP measures.
Now I'd like to turn the call over to Luis Mueller Co Hughes, President and CEO Luis.
Hi, everyone. Good afternoon, and thanks for joining us.
<unk> reported another great quarter with revenue of $206 7 million.
non-GAAP EPS at <unk> 74.
Exceeding the midpoint of guidance.
non-GAAP gross margin of 47, 5% continues to progress toward our three year target financial model and benefited from strong recurring business and sale of differentiated products in the quarter.
Free cash flow was approximately 16, 7% of revenue in the third quarter.
Delivering strong cash generation in line with the model.
Estimated test cell utilization came down two points quarter over quarter to about 82%, reflecting known ongoing softness in mobility and consumer end markets, but also moderating conditions in the automotive and the industrial markets.
Co Hughes significant recurring business has produced a three year compound annual growth rate of six 5% and represented.
Approximately 42% of third quarter revenue at 54% non-GAAP gross margin.
In the last four quarters recurring was $336 million or 41% of sales deliver.
Delivering a profitable and resilient revenue stream through industry cycles.
Our recurring revenue.
Merrily made up of task contractors and device application kits that are mainly IC design, driven and benefit from the introduction of new semiconductor products by our customers.
The balance or approximately 43% of our recurring over the last 12 months comes from service revenue across 280 customers manufacturing facilities in 31 countries.
Our service business unit managers at large volume of transactions through our cloud based automated order management system handling over 1 million part shipments per year.
And provides on site and remote assistant support to go use 23700 equipment install base.
This is not part of our customers' capital budget, but unnecessary operating investment to ensure continued semiconductor production and as such we have many customers engage and support contracts with an annual renewal rate of more than 87% in the first half of 2022.
Moving onto our D. I core data analytics software initially initiative.
We added another customer in the third quarter. This one is a leading European supplier of up the electronics semiconductors.
We expect the <unk> to help fuel continued growth of coke used recurring business in the coming years, delivering greater equipment output and uptime for the installed base.
Data analytics could represent a $15 million to $25 million profitable revenue stream for co you in a few years.
And we remain committed to broadening the penetration of the <unk> software offering expanding functionality with predictive maintenance contactor analytics and more.
Switching over to co Hughes systems business at.
It represented 58% of third quarter revenue.
At 43% non-GAAP gross margin.
System revenue distribution in the quarter.
It was well balanced across end markets, notably stronger in the automotive and industrial segments.
Automotive Adas and EV applications continue to be the primary driver with many customers adopting <unk> T core technology for at temperature test.
During the quarter, we had design wins testing high end processors used in server farms, capturing new orders in system acceptance with large U S headquartered customers.
<unk> differentiated thermal technology was the determining factor to securing these new businesses as we continue to demonstrate the greater test yield advantage of our T core technology.
We're also winning new business for test and inspection of non good dye silicon carbide power devices.
This is the growing opportunity across many customers integrating <unk> automation equipment with our proprietary high power contractors.
We have systems shipping to a major U S silicon carbide manufacturer in the fourth quarter.
And we expect soon should have customer acceptance with strong volume forecast over the next two years.
Also in the third quarter <unk> introduced a new integrated task automation and inspection solution for its high signal to noise ratio Mems devices essentially precision sensors.
We anticipate this product gaining market traction with applications across automotive mobility and industrial robotics.
As stated earlier gross margin has steadily expanding with the transition of contactor manufacturing sure Philippines operation.
Ongoing progress to mitigate component shortages and lower costs in development of differentiated products for test and inspection of Silicon carbide, Mems Adas and other advanced semiconductors.
<unk> prospects remains strong and aligns with secular growth applications.
In the third quarter, we repurchased about 638000 shares at an average price of $27.74 reaffirming our belief and co Hughes growth initiatives.
We're executing well against our strategic plans, our positioning to remain profitable during periods of market uncertainty and we continue to make very good progress revamping our product portfolio with differentiated test and inspection solutions.
Let me now turn it over to Jeff to share details on third quarter results and provide our fourth quarter guidance Jeff.
Thanks, Luis before I walk through the Q3 results and Q4 guidance. Please note that my comments that follow I'll refer to non-GAAP figures information about the non-GAAP financial measures, including the GAAP to non-GAAP reconciliations and other disclosures are included in the accompanying earnings release and Investor presentation.
Which are located on the Investor page of our website.
Now turning to the financial results <unk> again delivered strong revenue and profitability in the quarter Q3 revenue was $206 7 million and slightly higher than midpoint of our guidance range.
During the third quarter, one customer in the automotive market accounted for more than 10% of sales.
Gross margin in Q3 was 47.5% about 100 basis points higher than guidance driven by co use recurring business and differentiated products.
Headwinds from cost increases for IC components used on our tester products impacted our gross margin by approximately 130 basis points.
We expect these challenges to persist at a reduced level into mid 2023, as we increase sourcing directly with semiconductor manufacturers and component availability improves.
Operating expenses for Q3 were lower than guidance at $52 6 million due mainly to lower labor costs from hiring delays and higher utilization of vacation.
Third quarter non-GAAP operating income was 22, 1% of revenue and adjusted EBITDA was strong at 24, 5%.
The non-GAAP effective tax rate for Q3 was 23% and higher than guidance due to a shift of projected annual pretax income from lower tax rate jurisdictions to higher tax rate jurisdictions, such as Germany.
non-GAAP EPS for the third quarter with 74 cents.
In summary, Q3 profitability was strong as gross margin and adjusted EBITDA continued to expand toward the midterm financial targets.
Moving to the balance sheet Q3 cash flow from operations was strong at $39 5 million.
And net of share repurchases totaling $17 7 million debt repayment of $11.7 million capital additions of about $5 million and other changes in working capital cash and investments ended the quarter at $369 million overall co Hughes balance sheet maintains a strong position to support debt reduction.
The share repurchase program and investment opportunities to expand our served markets and technology portfolio in line with our growth strategy.
Now moving to our Q4 outlook.
<unk> Q4 revenue to be between $180 million and $198 million, our assessment of the new China export rules as they will have little to no impact on our Q4 revenue.
Q4, gross margin is forecasted to be approximately 47% better than the financial target model, but down 50 basis points quarter over quarter due to lower sales volume and mix.
The IC cost component headwinds in the tester business I mentioned earlier will persist and we're projecting the Q4 impact to be approximately 50 basis points.
With a three year compound annual growth rate of 6.5% co. He was high margin recurring business provides consistent cash flow through industry cycles.
Operating expenses for Q4 are projected to be approximately 52.5 million essentially flat quarter over quarter.
We're projecting Q4 interest expense to be approximately $1 million and offset by interest income of approximately $1 million.
We expect Q4 adjusted EBITDA at the midpoint of guidance to be approximately 21%.
The Q4 forecast non-GAAP tax rate is approximately 22% at the midpoint of guidance full year 2022, non-GAAP tax rate is projected to be approximately 21%.
The diluted share count for Q4 is expected to be approximately 48 million shares.
That concludes our prepared remarks now we'll open the call to questions.
As a reminder to ask a question you will need to press star one one on your telephone.
Please standby, while we compile the Q&A roster.
As a reminder to ask a question you will need to press star one one on your telephone.
Our first question comes from the line of <unk> Malik from Citi.
Alright, Thank you for taking my questions and.
Nice job on the gross margin.
And Louis I have a question on your comments on moderation in auto industrial demand is this something that you have been seeing throughout this year or is it incremental and then I have a follow up.
Hi active.
No no thats something that we talked about and expect that you see happening and it is.
Just to remind we think automotive will remain a growing market and frankly, a substantial portion of core Hughes.
Revenue next year, we see some customers tapping the brakes for a quarter.
But also part of the normal year end seasonality as you know typically Q4 Q1 things do slow down in the industry at the same time we.
We do have a few other customers.
Particularly on the power market silicon carbide, even electrification that.
Sort of continuing the team and adding capacity and having some strong forecast for next year.
That's not just for automotive to be honest with you a mix of that as a bit of industrial.
So electrification is a major thing we also have a few other customers that are driving hard on Adas for automotive at the time.
So despite the moderation.
Like I said in the remark here.
It's part of the normal seasonality at the end of the year in automotive and we do think automotive will kind of be.
Kind of an interesting continued growth market and.
Probably even slightly up next year.
Great and Jeff on the gross margin nice job on the gross margin if I look at your recurring business.
The growth the last few years, you've talked about kind of 6% to 7% growth and how should we view that growth into next year.
Utilization potentially coming down.
And then if you can talk about any steps that you have to take.
To move any manufacturing or any supply chain out of China because of restrictions I understand you don't have any direct impact from restrictions.
Yes, maybe I'll just address the first one.
We don't really have any supply chain to speak of either in China. So we've been on a path to move out of China, We've essentially completed that.
So no no issues there to speak of.
Recurring revenue as you know the reason why we like it and promote it so much.
More stable, it's a stable revenue stream and.
And we typically look at it and it's performed over the years.
Versus systems too.
React to a downturn perhaps.
One third of what we might see from the systems business.
So not expecting big changes.
Ultimately either way up or down for next year, just pretty consistent.
Revenue stream.
Got it thank you.
Thank you one moment for our next question.
Our next question comes from the line of Michael <unk> from B Riley Securities.
Hi, This is Michael money on for Craig Allen, Thanks for letting US ask a couple of questions. My first question is just on seasonality I know <unk>.
It's typically a weaker period for the business.
And then the kind of contracts or theme and mobility testers, but also in auto and industrial how should we think about sequential growth.
The first half of next year.
Hi, Michael this is Luis.
You are correct, we typically see seasonally low forfend first quarter of the year, we are expecting sort of the same this year round.
Q1.
Hard to predict right now I'm not going to.
Peg it at somewhere between 3% to 5% down sequentially from Q4.
Which is generally in line I think with what we've been saying.
Generally speaking sort of a softer first half of the year like we talked earlier as well a quarter ago, mostly because of.
The way the markets are in consumer and mobility also Pcs.
And then and then we're forecasting.
More of a pickup on the second half of the year, we do have already some orders on the books for Q2 Q3 delivery related to mobility market process for cast actually.
We do have some strong forecast now for the server market ramping in the second half of the year is much stronger than the first half.
As I said in the prior call. The prior question, sorry expect industrial and automotive too.
Be it be strong next year, probably also stronger in the second half as that continues to grow.
And as we put on the on the slide deck and in our remarks.
We do run a pretty strong recurring business, which in the last 12 months was about $336 million and it's been.
Rowing over the years and we think that that's going to continue as more systems that we have shipped over the last 12 to 18 months start coming out of out of warranty.
So.
Hope that paints a general picture for Q1.
And the <unk>.
Expectations for next year.
Very helpful. Thank you for my follow up on gross margins.
As we look out into the first half of <unk>.
Next year, you mentioned something thats been giving.
Margins are boosting.
Product differentiation so.
These new products coming online or ramping up the first half of next year.
Headwinds and as we get the benefit of more.
In house manufacturing.
Do you think margins could trend relative to the 40%, 47% target level suite, we've seen this quarter or not.
For the next quarter product.
Yes, Michael it's Jeff.
So margin will trend with with revenue as well, but it's less susceptible to changes in mix.
And that's because we've done a good job of expanding gross margins and our handler business they've delivered in.
In a 43% to 46% gross margin range contactor gross margin, we talked about all the time expanding into the.
The mid 40% range and so with that improvement there it really reduces the volatility we have when we have a mix shift and then with respect to volume.
As you probably know where.
Sort of.
Manufacturing light on systems, if you will we outsource quite a bit we do final assembly and test in house, and so really have a limited infrastructure in house infrastructure and fixed costs.
Most of it's our high percentage of it is variable.
So we're feeling pretty good about the gross margin resiliency as Louis said it first half next year is lower.
As we've talked about in prior calls Im still.
Expecting to be in that 46% gross margin range.
And then probably for the full year something similar to where we are today.
At about a 46, 5% gross margin for the full year.
Got it very helpful. Thank you very much.
Thank you as a reminder to ask a question you will need to press star one one on your telephone again to ask a question you wanted to press Star one one on your phone. Our next question comes from the line of Robert <unk> from Cowen.
Hi, This is Robert Martin one for Chris and car. Thanks for taking my questions.
Could you just take me through some of the cost controls in place through the end of the year and into next year and along with that maybe just some of the progress on.
In sourcing the contactor business.
Overall cost controls not just not just gross margin, but operating expenses as well.
Yes, Robert.
Yes, well I guess I think you probably are aware of the gross margin story I just touched on that we've made a lot of progress over the last.
At 12 months with respect to reducing product costs also with with respect to pulling in.
Work that we would have outsourced to suppliers in the U S and Europe into the Philippines for contactor and.
And so that has done two things its increased utilization there, we've improved and the manufacturing efficiencies and so it's driven costs down overall expanding gross margin for contactor. We also increased handler prices.
The second half of last year. So we have full effect here in the last couple of quarters.
So with respect to operating expense then in the quarter, we mentioned hiring delays what we typically do should we rolled into a soft period, we would freeze hiring we would.
Eliminate temporary.
Personnel.
Would <unk>.
<unk> utilization of vacation, we would reduce travel sort of the norm.
Normal.
Levers that we have when we run into a into a soft spot and so we.
We are.
Forecasting opex to be about 52, and a half which is flat over last quarter, if I look back over time.
<unk>.
Over some soft soft periods, we've been down to $50 million a quarter. So I have I have no doubt, we could get back down to those levels if necessary.
Hey, Rob just going to add a little bit more on the contactor in house manufacturing I think you asked that too we did about 65% of in house manufacturing in our Philippines operation in Q3, and we're targeting should be just shy of sort of a high just shy of 80% about.
70, 879% in Q4.
Which is right in line, what we've been saying all along to get.
Yet you're about 80% by the end of the year.
Great. That's helpful. Thank you.
Thank you one moment for your next question.
Your next question comes from the line.
Of Tyler Burmaster from Craig Hallum. Your line is now open.
Pardon me.
Can you hear me this is actually Christian Schwab can you hear me.
Christian Yes, we can okay, great sorry about that as you know Taiwan.
So we just have a few quick questions.
Andy.
When you guys are looking at your test cell utilization going through calendar 'twenty three.
And we're going into the softer period do you expect that utilization rate to meaningfully change from where we are or given some of the growth areas.
Expecting a material difference.
Hi, Christian this is luis.
Like I said the utilization is about 82% at the end of Q3. It is weaker at all SaaS and stronger at Idms now what you expect going forward.
Yes, seasonally slow period in the fourth and the first quarter I would.
<unk> to say this utilization could drop another couple of hundred basis points to about 80%.
Hard to say be honest with you but.
That's just the gas here that we'll have at about 80% a quarter from now.
Okay.
Okay. So so that being the case you don't think there doesn't appear to be alright.
Some of the things that we're seeing.
In the marketplace.
There isn't a significant overcapacity.
Of your testing product out there is that fair to say.
I think thats fair to say, particularly on cash and.
As you know our biggest exposure is around analog Ics and then end market exposure, mostly around automotive and industrial.
I think thats faring pretty well and analog Ics has a very broad distribution of end market users. So youre not youre not really pegging it to a specific customer or specific.
Small node manufacturing for a high end processor or any of that it's a very very broad market distribution of.
Semiconductors that we serve so yes, I don't expect it should be.
A major issue in the test area, which has been growing tied more so to end market demand.
And I wouldn't I would.
Just be careful in caution everybody to be careful not to buy too much of a correlation with wafer fab equipment.
Equipment spending that has a different dynamic.
Right right right and then lastly can you give us some greater color on the new wins server CPU area.
This expansion with an existing customer a new customer.
Calling it out is that something that over time could be.
Substantial annual run rate business.
For Ya.
Yes. It is it is realistically, it's an existing customer and we've been doing we've been doing business for years.
And it's hard to really get on to too many new customers in this space, but there is.
There is an existing customer who.
We're done.
Some level, but not substantial business over the last decade and here, we're seeing an opportunity to.
Expand have qualified new products, it's really very much tied to this T core thermal technology that we have as you know, it's one of our core Ips in the company.
It's very differentiated it helps them achieve.
Faster test times.
Yes, less power issues less thermal issues higher yields and.
And if you look at our computing business. It has actually been growing on a quarter to quarter basis.
Revenue in computing systems for computing grew 50% Q3 over Q2.
And 80% relative to Q3 of last year. So it's been a nice ride there are a couple of new customers as well as smaller revenue levels.
These are companies that are now designing their own server chips and getting the manufacturer outside they don't have operations themselves.
Largely the the revenue growth is tied to an existing customer that we have been increasing business over over over the last few quarters.
Okay. That's great no other questions. Thank you.
Thanks.
Thank you one moment for our next question.
Okay.
Our next question comes from the line of Hans Chung from Darko. Your line is now open.
Hi, This is Linda on behalf of <unk>. Thank you for letting us ask questions.
So I guess my first question given all of that is going on in the macro environment.
Heading into 'twenty three.
I'd love to hear how you're thinking about 2023 semi unit growth.
Maybe how we should correlate that with our system business.
Hi, Linda this is luis.
I made some comments on a on a prior question.
Maybe just.
Go back to that.
We do see seasonally slower fourth and first quarters. So not surprising we're expecting Q1 to be a soft start of the year. In fact, I would venture to say probably first half will be a bit of a soft start for the year.
With that said.
We do have.
Sort of consistent.
Consistent and strong expectations here in the automotive and industrial market.
With a forecast.
Continued growth in the market may be a few a few hundred basis points growth for the overall Tam for next year in the auto and industrial.
We do have orders in the books for mobility already in the second and third quarter. We do have a surfer ramped forecast, which is quite steep in the second half of next year.
We are doing.
Device test program development for certain applications in mobility with deadlines that support again incremental business starting in Q2. So if you put it all together well I guess and I touched on recurring as well which has been.
On a last 12 months basis.
42% I think of our business 41, 42% at $336 million and growing and should continue growing as more of our recent shipments start to rollout of roll off of warranty periods.
So you put it all together what do you expect for the market for next year. It's.
We're maybe a little little early maybe almost a quarter too early to make that call.
But I'm going to venture to estimate that the test and inspection market could be about.
Mid single digit down next year realistically speaking because of because of a softer start for the year.
That's very helpful. Thank you and so on to supply, but our next a lot of companies are saying and I don't know if I missed this in your remarks, but I was wondering in your view.
But our supply chain issues, having on your company, especially in the third quarter.
And maybe to what extent do you think softening demand might help mitigate the supply chain issues.
Yes, I can comment on the supply chain and Jeff maybe you can add someone what we expect for headwinds on that.
On the P&L, but.
It has it has been improving frankly, we have now two quarters of actions around it as well and working to go direct with certain suppliers and source material. So it is a situation that is improving and it was still a headwind in the third quarter, we expect that to remain although that's much smaller.
<unk> in the fourth quarter, and maybe Jeff can put some numbers on that but the plan here is we should be able to eliminate that.
By the middle of 2023.
That's the plan when we look at our customers. There's also supply chain challenge there with that limits. When we can ship products generally has to do with availability of wafers.
Our automotive customers are starting to get more wafers and some of them have new fabs as you as you are aware.
Ti with our fab two in the Lehigh acquisition.
Some of the Silicon carbide companies, having new Fabs launching now in the first half of next year, others talking about expansion of Fabs in Italy.
With some capacity coming online in the second half of the year. So I think in general by Middle of next year, we expect supply chain issues for us.
And hopefully here true as well for our customers on the wafer side too to abate so that we can.
We can get this behind us.
So with respect to the to the Q3 impact it relates to.
A higher cost for Ics that we use on our tester products and.
So that just having to pay a just because of due to availability or lack thereof, we have had to pay a higher than standard cost for those Ics.
We had and we had an impact in Q3 of 130 basis points.
And.
Thankfully availability is loosening and we're working directly with semiconductor companies.
Many of which are customers.
And we see a much reduced impact in Q4. So it's 50 basis points is the forecasted impact in Q4 now this will dribble into Q1, and Q2 of next year as well but at.
Likely less than 50 basis points for each quarter.
Thanks for the color and lastly could you also give us.
Some color on the lead times for your different products testers handlers and contractors.
Sure Linda.
Let's see handlers.
Handlers are running approximately 2022 weeks lead time.
Casters approximately 14 weeks contactor is about 10 weeks.
And like I said that those are on average right. I mean, there are products that we can ship faster and some configurations that take a little longer but that's about where it stands.
That's helpful. Thank you.
Thank you one moment for our next question.
Our next question comes from the line of David Dudley from Steelhead Securities.
Yes.
Yes, Thanks for taking my question Luis you mentioned something about.
Our silicon carbide opportunity in Q4, I am sorry, if you could just elaborate a little bit more on which product that is and what sort of opportunity that might be over time that would be great.
Yes, Hi, David.
Obviously, I can't tell you the customer but.
It is.
We have we do have a multi unit order already from that customer it's essentially four.
Test automation in.
Inspection and metrology.
And contact our interface products, so it cuts across quite broadly.
Being silicon carbide, obviously very very high voltage application.
We.
We'll be shipping the products in the fourth quarter, maybe maybe not we get acceptances in the fourth quarter fourth quarter as well.
And.
There is a pretty decent forecast for the next.
Two years from that particular from that particular customer they are.
Ramping capital expenditures I think that's public knowledge.
We we.
We hope to be enjoying.
A significant portion of that capex from from from that customer. They have spent quite a bit in the front end side recently.
And I think they are essentially backend.
Backend test and yield bottleneck at the moment, so we're hoping to help resolve that.
Excellent.
I don't recall, you mentioning silicon carbide on conference calls before.
Is this kind of a tough.
First big opportunity in that segment of the power market or have you just not have I.
Or could you just elaborate on it.
Are there more customers to come or how should we view the overall opportunity.
Yes, they are not the only ones actually David we have had some business in the space predominantly with the two European customers. The two large European customers.
One in Italy, one in Germany, but but that.
Now we're talking about this other one that I elaborated before was essentially a new customer in the U S.
And we have some business already in Europe in this space. So it's not new it's been migrating from.
Sort of OLED MOSFET technology into silicon carbide overtime and.
And it's starting to pick up momentum, it's still a relatively small number relative to two hour 200.
$207 million revenue in the third quarter, but it is it is a key part of our forecast for ramping over the next two years.
Thank you.
I'd now like to turn the conference back over to Jeff Jones, Chief Financial Officer for closing remarks.
Thank you and before we sign off I'd like to mention the investor conferences will be attending over the next few months, including the Stifel Midwest growth conference in Chicago on November 10th and the Needham Virtual growth Conference on January 12, 2023, if you'd like to attend.
Either of these events please reach out to your respective banking and conference contacts to arrange a meeting with <unk> and we look forward to speaking with you soon thank you for joining today's call and have a good day.
This concludes today's conference call. Thank you for participating you may now disconnect.
The conference will begin shortly to raise Johan during Q&A, you can dial star one one.
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Okay.
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