Q2 2023 MKS Instruments Inc Earnings Call
Good day and thank you for standing by welcome to the MKS instruments second quarter 2023 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.
Ask a question during the session you will need to press star one one on your telephone you will.
Then here an automated message advice.
Right.
So we draw your question. Please press star one again.
Please be advised that today's conference is being recorded.
I would now like to hand, the conference over to your Speaker today, David <unk>, Vice President of Investor Relations. Please go ahead.
Good morning, everyone I am David Richard Vice President of Investor Relations and I'm joined this morning by John Lee, President and Chief Executive Officer, and Seth Bagshaw, Executive Vice President and Chief Financial Officer.
Yesterday after market close we released our financial results for the second quarter of 2023, which are posted to our investor website at Investor Dot MKS Dot com.
As a reminder, various remarks about future expectations plans and prospects for MKS comprise forward looking statements.
<unk> results may differ materially as a result of various important factors, including those discussed in yesterday's press release and in our annual report on Form 10-K for the year ended December 31 2022.
These statements represent the companys expectations only as of today and should not be relied upon as representing the company's estimates or views as of any date subsequent to today and the company disclaims any obligation to update these statements.
During the call we will be discussing various financial measures unless otherwise noted all references to combined company financial measures reflect the combined results of MTS in Aerotech limited, which MKS acquired on August 17 2022.
Unless otherwise noted all income statement related financial measures will be non-GAAP other than revenue.
Please refer to our press release and the presentation materials posted to our Investor website for information regarding our combined company results non-GAAP financial results and a reconciliation of our GAAP and non-GAAP financial measures.
For a detailed breakout of reported and combined company revenues by end market and division. Please visit our Investor website, now I will turn the call over to Kevin.
Thanks, David Good morning, everyone and thank you for joining us today.
<unk> delivered strong results in the second quarter led by excellent execution in our semiconductor market and prudent cost management.
Reflected in our better than expected margins.
We delivered second quarter revenue of $1 billion.
<unk> EBITDA of $254 million and net earnings per diluted share of $1 32.
Revenue from our semiconductor market was above the high end of our expectations. Despite the widely publicized decline in wf spending.
Our operations team executed well and shipping products from backlog, including that was delayed due to the ransomware incident, we experienced in the first quarter.
Demand for our critical vacuum subsystems for deposition and etch applications declined considerably compared to a year ago.
System with capital equipment spending trends, particularly for memory applications. However.
However, photonic solutions demand for the Targa feet metrology and inspection remained resilient offsetting some of the weakness.
We anticipate continued strength in these photonics applications.
Designing activity remains robust demonstrating that customers value the unique capabilities MKS offers in these areas.
In fact revenue from the biography metrology and inspection applications in the first half of 2023 grew considerably compared to the same period a year ago.
Our breadth and diversity across Wi Fi applications.
With our leadership position across most of the product categories, we serve.
Reinforces our belief that we can continue to outperform industry <unk> spending over the long term.
We are a critical enabler of key inflection points in semiconductors, such as atomic layer deposition.
Hi aspect ratio etch extreme ultraviolet lithography and advanced inspection.
And are well positioned for when industry capital equipment spending recovers.
Looking to the third quarter, we expect revenue from our semiconductor market to decline sequentially. However, after excluding the impact of the ransomware incident from the second and third quarters, we expect revenue in the third quarter to be consistent with second quarter revenue levels.
Turning to our electronics and packaging market revenue was softer than we expected amid the well known weakness in demand for global electronics, such as Pcs and smartphones.
<unk> for our chemistry solutions improved modestly on a sequential basis, but this was offset by continued softness in capital equipment spending including for our laser drilling and trading equipment.
Despite the cyclical weakness we remain very excited about the long term opportunity in electronics and packaging.
One of the areas of particular focus is packaged substrates, which are a critical enabler and key building block for high performance computing applications such as AI.
Just to build on that last point on just like what we've seen in the semiconductor industry and over the past 60 years.
Manufacturing of packaged substrates is getting harder not easier.
High performance computing applications require greater interconnect density as.
As layer counts increase to 20 or more while interconnect feature sizes continue to shrink.
This high degree of complexity. It gives MKS with our unique combination of proprietary chemistry cleaning equipment and laser drilling solutions the opportunity to expand our presence in this high growth segment of our electronics and packaging market.
As a reminder, this opportunity is one of the key reasons behind our acquisition of AMETEK and it's why <unk> is strongly positioned for advanced packaging, which will continue to be an area of focus and investment for the company.
The context based on combined company full year 2022 results advanced packaging represents just under one third of electronics and packaging revenue.
Driven by our foundational portfolio of a packaged substrate applications as well as smaller revenue streams from our wafer level packaging hybrid bonding and other applications.
Advanced packaging solutions will be a more meaningful contributor to our revenue over the long term.
Looking to the third quarter, we expect revenue from our electronics and packaging market to be consistent with second quarter levels.
We anticipate a slight improvement in chemistry sales due to the seasonality of consumer electronics production as well as an improvement in packaged substrate demand due to high performance computing applications such as AI.
These improvements are expected to be partially offset by a cyclical downturn and plating equipment sales.
Turning to our specialty industrial market.
Revenue was in line with our expectations with stable demand for our chemistry solutions for the automotive market combined with good execution and recovering delayed revenue due to the ransomware incident.
Looking to the third quarter, we expect revenue to be consistent with second quarter levels.
However, after excluding the impact of the ransomware incident in the second and third quarters, we expect revenue to be slightly higher than second quarter levels.
In summary.
I'm very pleased with our team's performance in the second quarter.
<unk> muted demand across some of our end markets, we executed well thinking.
Thinking about our business in the second half of 2023, we continue to expect <unk> total revenue in the second half to be slightly higher than first half levels driven by modest improvements across all three of our end markets.
Longer term, we are very excited about how we are positioned to capitalize on multiple secular drivers.
Hi, <unk>.
<unk> virtual reality and electrification are just some of the examples of what is made possible by advanced electronics, and we are foundational to those trends and now I'd like to turn the call over to Seth.
Thank you John I'll cover our second quarter results, then provide details on our outlook for the third quarter.
Starting with the second quarter, we delivered revenue of $1 billion above the midpoint of our guidance.
Our strong top line results were driven by better than expected revenue from our semiconductor market more than offsetting talk to attract from packaging revenue.
Revenue from our specialty industrial market was in line with expectations.
We estimate we recovered $120 million of the approximately $160 million in revenue impacted by the ransomware incident in the first quarter.
Start to recover substantially all of the remaining revenue in the third quarter.
Turning to our semiconductor market revenues $440 million in the first quarter growing 42% sequentially and exceeding our outlook due to strong execution on shipping products from backlog.
I mean, those are delayed by the ransomware incident in the first quarter.
In the second quarter, we estimate we have at $90 million of.
Of the approximately $110 million of revenue impacted by the ransomware incident in the first quarter.
After excluding the impact of <unk> incentive from the first and second quarters.
Our semiconductor revenue declined on a sequential basis, consistent with softer industry demand for semiconductor capital equipment.
Turning to electronics and packaging market revenue was $225 million, an increase of 1% sequentially and declined 21% year over year with Q2 2022, representing a combined company results, including AMETEK for the full prior year period.
Excluding the impact of foreign exchange and plaguing pass through second quarter revenue declined 15% on a year over year basis.
As a reminder, the ransomware incident had a minimal impact on revenue from electronics packaging market.
Moving to especially industrial market revenue, the first quarter was $338 million growing 29% sequentially.
In line with our outlook due to stable demand trends across our submarkets.
We estimate we recovered $30 million of the approximately $45 million of revenue impacted by the ransomware incident in the first quarter.
As a result after excluding the impact of ransomware incident in the first and second quarters, especially industrial revenue was relatively flat sequentially.
Excluding the impact of the ransomware incident foreign exchange in play and pass through second quarter revenue declined approximately 3% year over year on a combined company basis.
In the second quarter consumables and service revenue across our three end markets comprised 38% of our total revenue.
Turning to our margins second quarter gross margin was 46, 9%.
<unk> increase of 470 basis points exceeding the high end of our guidance.
Higher volumes increased factory utilization disciplined cost management in.
And favorable product mix contributed to the strong performance.
Second quarter operating expenses were $243 million a.
The sequential increase of $3 million, but still below the low end of our guidance, reflecting disciplined cost management.
Second quarter operating margin was 22, 6% adjusted EBITDA margin was 25, 3% both exceeding our expectations due to strong operating leverage in the model.
At $880 million in the first quarter.
Free cash flow in the quarter was a negative $77 million, primarily result of the lingering effects of the <unk> incident, working capital needs and timing of income tax payments.
We expect our cash conversion cycled to improve in the third quarter and free cash flow returns and more normalised levels.
We maintain.
Drawn revolving credit facility $500 million and exited the quarter with gross debt of $5.1 billion.
Our net leverage ratio exiting the second quarter was four three times based on a trailing 12 month adjusted EBITDA on a combined company basis.
Consistent with prior quarter made a dividend payment of $15 million or two per share.
Before I discuss a third quarter outlook to touch upon the non-cash goodwill and intangibles impairment charges in the quarter we.
Total $1.8 billion associated with our materials solutions Division, which represents a form at a tech business.
In our equipment solutions business, which represents the former electro scientific industries business.
The current market environment, particularly soft demand and the P C and smartphone markets as the primary driver both breakdowns with higher market interest rates, playing Pacific enroll in the Adtec impairment analysis as well.
As John indicated prepared remarks mean very excited about the opportunity had enough ahead of us in advance packaging.
The industry has increasingly recognize how much advanced packaging is critical to high performance computing applications, including Ti.
Our leading position in deep customer relationships allows us to see inflection points earlier as we help our customers solve the greatest challenges on the horizon.
That's why we assembled a broader set of capabilities across chemistry and equipment that service attractive market in the growth we see ahead of us.
I will now turn to a third quarter outlook.
We expect third quarter revenue of $930 million, plus or minus $50 million.
By end market our outlook is as follows.
Revenue from a semiconductor market of approximately $370 million plus or minus $20 million.
Revenue from electronics packaging market, approximately $225 million, plus or minus $10 million.
And revenue from especially industrial market, approximately $335 million plus or minus $20 million.
This outlook includes approximately $30 million of revenue, we expect to recover from the <unk> incident in the first quarter.
Therefore, we expect to essentially caught up caught up with the backlog of craftsmen deliveries by the end of this quarter.
Moreover, as John mentioned, we continue to expect revenue in the second half of 2023 to be slightly higher in the first half across all three and markets.
Based on dissipated product mix and revenue levels, we estimate third quarter gross margin of 45% plus or minus one percentage point.
We would expect operating expenses of $245 million, plus and last $5 billion consistent with second quarter levels.
The third quarter, we estimate adjusted EBITDA of approximately $210 million plus or minus $26 million.
For the third quarter net interest expense expected to be approximately $85 million, reflecting projected interest rate increases.
Our tax rate expect to be approximately 26% of the third quarter.
And given these assumptions, we expect third quarter net earnings of 98 cents per diluted share plus or minus 29.
In summary, and cast recovered well from the <unk> incident in the first quarter and despite the soft and market backdrop in the first quarter of the first half of 2023, delivering solid non-GAAP profitability.
This is a testament to are more resilient and diversified business model upon the Adtec acquisition.
Our ability to drive strong factor utilization and disciplined cost management.
And are leading portfolio of foundational solutions essential to the markets we serve.
Moving forward, we are focused on maintaining the high levels execution, we delivered in queue to reach.
Returning to normalize free cash cash flow generation.
And working towards further deleveraging our balance sheet.
With that I'll turn it back to the operator for Q&A.
Thank you.
Reminder, to ask a question. Please press star one one on your telephone and wait for your name to be announced to withdraw your question. Please press star.
One one again.
Please limit your questions to one question and one follow up please.
Please stand by while we compiled the Q&A roster.
Our first question comes from the line of Sydney, how of Deutsche Bank. Your line is now open.
Great. Thank you good morning, <unk> for Sydney.
Yes. My first question is capacity additions I guess.
<unk> and packaging and what I'm trying to <unk>, one with customers returned to these capacity additions I guess.
And the question is it fair to think about this as a call like memory cycle, right, where you would foresee utilization come back first Daniel would be upgrades I guess benefitting your services and then is it <unk>.
Customers would start adding capacity in my thinking about it the right way and I have a follow up.
Yeah July as strongly I think your questions about the electronics packaging market and I think those dynamics are very similar to two semi.
Utilization rates going up and then capacity additions. So I think that is the right way to think about it.
Utilization is something that we see immediately with chemistry revenue.
In terms of service certainly servicing our equipment will be coming next.
And then of course after that is his capacity additions and as we pointed out.
There have been a little bit of weakness and Q2 on equipment the equipment part of our electronics and packaging and that's consistent with the industry trends right now.
Great Okay near term.
Staying on utilization rates within electronics and packaging.
Sort of give us a sense of too where utilization rates are right now and based on conversations with your customers where would you see those that trend.
<unk> I guess in the second half and maybe just to add to that where should investors I guess look.
Age how utilization rates are trending through the second half.
Yeah, I think what we're seeing with our customer base certainly that utilization rates are incrementing upwards I think thats why are guys for the second half is slightly higher than the first half.
And a lot of that is driven by those cyclicality of the consumer electronics parts of our electronics or packaging chemistry revenue and so I think that's consistent with what happens every year with the consumer product cycle.
So that's why we're guiding second half to be slightly better than the first half.
Thank you.
Thank you one moment please for our next question.
Our next question comes from the line up James Vacuity upbeat Hammond company here line is now open.
Hi, good morning.
John is talking about revenue synergies from out of tech and the legacy E&P business.
The overall.
Market weakness does that does that incremental benefit.
At this point just get pushed further into 24 or are you seeing any indications of.
Some some of it too in that area.
Yeah. Thanks for the question.
Think we pointed out even a quarter ago.
That we're getting some of that bluebirds coming in a little earlier than you would expect.
And I think what we're seeing is that the interest in that are combined solutions remains very high.
We talked about.
<unk> home, a tech center, where we have a new planning tool new.
New chemistry, new laser tools, so that interest remains very high I think the synergy and revenue will certainly come when when ramps occur.
And hopefully that happens of 2024, but of course, we're prepared for whatever eventuality that is today. We're just focused on getting those design wins and showing our customers the benefit of having that combined solution.
And a follow up question.
You may have address this but with the gross margins coming at a little better than expected can you elaborate or a little bit more about what drove that.
Is it mix was it just you know the <unk>.
Revenues coming.
Coming in a bit above target.
Yeah. Thanks, Jim I mentioned prepared remarks, as a combination of all of those factors mix.
Very strong execution the factor utilization cost containment.
Yeah.
To me, it's a testament of kind of how well, we execute it really difficult environment.
That's fundamentally why we drove the margins up the way we did so really have to execution teams done a great job.
I think that's really part of our DNA historically speaking.
And your guidance this quarter, a less favorable mix or is that just trying to reconcile it just in terms of the way you're thinking about gross margins at the midpoint.
Yeah, that's the way I would think about it as well I think the the mixes more normalized and the Q3 guidance little bit light on the revenue side, obviously is a piece as well, but fundamentally it's.
It's really mix in Q3, low lower volumes and again can execute very well in the quarter.
Thank you.
One moment. Please for next question.
Our next question comes from the line up crash Sankara TD Cohen. Your line is now open.
Yeah. Thanks for taking my question.
First one John if I look at your guidance for semi excellent somewhere.
It looks like it's going to be flat sequentially, which kind of makes sense for the.
Industry is but it also your customers are talking about drawing down their own inventory. So if I put those two together does it <unk> the semi revenues could potentially dip sequence you need the December quarter.
Okay, great. Thanks for the question that's not what we're seeing right now crash and the reason I would say that is customers have been drawing down the inventory for a few quarters already.
And so that's why we have guided kind of flat to slightly up in our semi revenue. So I understand and I've heard that some customers are drawing down have said they are drawing down the inventory, but what we've seen is that's been happening for multiple quarters already.
Got it got it pretty helpful. I'm in a similar one on electronics packaging site, you said advanced packaging lived in one third revenue, but it's growing which makes a lot of sense.
Part of the business day or even on the P. C. D. So it looks like that business is not inflicted so I'm. Just curious like is the advanced packaging strength is kind of what informs you that you're.
<unk> revenues can be similar to two Q given the other parts of the market are pretty weak.
Yeah, I think that's the way to think about a crash.
Advanced packaging, especially package substrates and packaged substrates of the.
Latest kind of most advanced 20, plus layer type packaging of triplets, if you will and that's the area, where we think there's going to be more of a an uptick driving the overall E&P segment of our business. The other parts like HDI, an MLP those areas.
Any kind of muted.
So I think it's really about these new technologies that we think will be helping us.
I have a slightly better second half and first half and E&P.
Got it got it thanks very quick housekeeping for sure.
<unk> 900 million left or is it lower than that.
I'm sorry, what was the question again Christian I missed that.
The term loan a is it $900 million left in term loan a or does it come back yeah.
That's right that's correct.
Thank you very much.
Yep, Thanks correct.
Thank you <unk> for next question.
Our next question comes frontline up Steve <unk> Keybanc capital markets to your line is now open.
Thanks Uhm just.
Just staying on the advanced packaging theme I think there's been a lot of talk about chip on wavefront substrate capacity being added and I know you sell laser drilling packages to substrate manufacturers now, but I think that requires planning to write so can you talk about how ramping cohorts volume would benefit you or is some other packaging scheme more.
Sure better for your mix.
Yeah, that's a great question.
The short answer is yes that will benefit us.
<unk> on wafer part there were a little less exposed.
In terms of chemistry.
But then the the last part of two will the chip on substrate part that is where we play and that's the substrate part and so even as people package chips onto.
Onto wafers eventually that gets then package onto substrates and that's really where at attack in our laser drilling tools, which those so yes we.
We hope Carlos continues to ramp and will be of benefit beneficiary of it.
And I guess.
The second part of the question any specific packaging schemes beyond co us, which are which are most beneficial to you or is that all just kind of variation on a theme.
Between the variation on a theme Steve. So however, you get the chip packaged eventually have to put it on a substrate.
So <unk> is one approach there are multiple other approaches depending on the need.
But they all end up going onto a substrate.
Yep.
And you know as we've gone through this downturn have you been able to pick up any share with PCB makers or can you talk about conversations there and are there any signs of consolidation at the lower end for those those manufacturers.
Yeah, I think consolidation has always been a theme in that industry. So I don't but I don't think there's anything new in terms of trends are there.
And it certainly in terms of share pick up the conversations we've had with many customers has really been very very good in terms of the package of.
Solutions, we're bringing to them.
So we hope that that ends up turning into market share wins and that's what we're working hard on.
Got it and can I get a quick one <unk>.
I just tried to do the math on the fly but for the past three quarters. It looks like you've run primary working cap in the mid 30% range of trailing 12 months revenue.
Seeing that come down to the low 30% range part of the comment about cash flow normalizing, our what metric would you point a studio to watch that.
Yeah, I think is a good question, Steve So the first half of the year, obviously had a lot going on rants, where in the first quarter and recovered a lot of that in the queue too as we talked about so the working capital metrics. Those first half of this year a little bit.
Typical for sure and the reason, we use free cash flow negative free cash flow and Q2 was really normalizing the working capital metrics. So.
So on the theory March we said as we think Q3 to be more normalized where capitals in pretty good shape relative to our guide in mid point on revenue and that's why we believe the cash will be more normalised in the third quarter.
You can go back in history, and look at kind of a free cash flow metric relevance revenue and.
This or that you know.
Probably that low teens, right 12, or 13% they'll move around while working capital requirements, but that's.
Kind of I think about in the third quarter again, we don't guy that level of detail, that's probably a decent way of looking at for Q3 again it'd be much better than the second quarter for sure.
Understood Yeah. Thank you.
Yep you're welcome.
Thank you one moment. Please for next question.
Our last question comes from the line up Joe <unk> up Wells Fargo. Your line is now open.
Yeah. Thanks for taking my question.
One on the semi side I think last quarter you talked about.
Further clarity on the the trying to export restrictions.
And I think that's in part you shipping to.
To your customers that can then ship to Chinese customer, they're Chinese customers and that and also you shifting to Chinese equipment, Oh Owens I was just curious how how that factored into kind of the the results are the upside and semi side.
<unk>.
Yeah sure. Thanks for the question I think the short answer is no change.
You know in terms of how we look at the China revenue going forward.
The last quarter, we talked about more clarity in terms of what's allowed to be shipped by our customers.
Shipping to their Chinese customers that hasn't really changed.
We also talked a lot about how we.
Alright.
Posed to the Chinese Oems and the restrictions there.
And that has not changed either so even though we're guiding semi to be flat to slightly up it's not because of any change in our view of.
The dynamics for what we can and can't shipped to China.
Got it the total and then this is a follow up and talked about improving free cash for looking into next quarter should we think about voluntary payments on the debt is starting.
Starting to.
See that again next order.
Yeah, I would probably.
He said many times, we plan on deleveraging pretty aggressively so there's no change obviously in our policy and our calls.
No.
I wouldn't guide on that and a third quarter at this point.
Okay. Thank you.
Yeah, Yeah sure I'll, maybe I'll add a little comment to the semi Ah comment ahead.
The guide of flat to slightly up is excellent somewhere yup, so an apples to apples in Q3, just to make sure that's understood and clear thanks.
Yep. Thank you.
Thank you out now like to turn the conference back to David fishing for closing remarks.
Thank you for joining us today and for your interested MKS operator, you may close the call. Please.
This concludes today's conference call. Thank you for participating you may now disconnect.
Mmm.
[music].