Q2 2023 Advanced Energy Industries Inc Earnings Call
Welcome to advanced Energy's second quarter 2023 earnings call.
Time, all participants will be in listen only mode.
Question and answer session will follow the formal presentation.
If anyone should require operator assistance during the conference. Please press star zero from your telephone keypad.
Please note this conference is being recorded.
At this time I'll turn the conference over to Edwin Mok, Vice President of strategic marketing and Investor Relations.
Mr Marks you may begin.
Thank you operator, good afternoon, everyone welcome to advanced Energy's second quarter 2023 earnings Conference call.
With me today are Steve Kelley, our president and CEO and Paul Oldham.
The vice President and CFO before I begin I'd like to mention that we will be participating in several investor conferences in the coming months.
If you have not seen our earnings press release and presentation, you can find them on our website at IR dot events and Dot com.
Let me remind you that today's call contains forward looking statements are subject to risks and uncertainties that could cause actual results to differ materially and are not guarantees of future performance information concerning these risks can be found in our SEC filings.
All forward looking statements are based on managements estimates as of today.
Against third 2023, and the company assumes no obligation to update them.
Any targets beyond the current quarter presented today should not be interpret S guidance.
On today's call all financial results are presented on a non-GAAP financial basis, unless otherwise specified exclude from non-GAAP results all stock compensation amortization acquisition related costs facility expansion and related costs restructuring charges and unrealized foreign exchange gains or losses, a reconciliation between.
GAAP and non-GAAP measures can be found in today's press release.
Let me pass the call to our President and CEO , Steve Kelley.
Thanks, everyone and thanks for joining the call today.
Second quarter revenue and earnings per share exceeded guidance.
With another record quarter in the industrial and medical market.
We continued to experience robust design win activity across our product portfolio.
As customers shift their focus from solving supply chain issues to designing innovative new products.
Over the past 12 months.
We've launched multiple new differentiated platforms, which will enable.
Our customers to win in their end markets.
High interest in our new products and technologies.
It's driving a deeper level of customer engagement.
Particularly in the semiconductor industrial.
And medical markets.
As a result.
We expect to generate a record number of design wins in 2020 three.
Which we believe.
Sets us up well for profitable revenue growth in the coming years.
We are also working on a number of fronts.
To improve our operational efficiency.
While the full benefit of these efforts will take time to be realized.
We believed that our action plan will facilitate gross margin expansion as revenues grow.
Moving forward.
We will concentrate our production and large factories, where we can leverage economies of scale.
And common processes.
In Asia, we will continue to reduce our factory footprint in China.
While expanding our capabilities in Malaysia, and the Philippines.
In addition, we have made the decision to build a flagship factory in Thailand to.
To accommodate future growth across our portfolio.
We expect to start production at our Thailand facility and 2025.
In North America, we are executing a plan to more than quadruple.
The output of our Mexicali factory over the next two years.
Moving to the supply chain.
The good news is that the availability of most critical components has improved.
However.
We are still experiencing shortages of selected power MOSFET power.
Our analog and microcontroller components.
These shortages limit our ability to fully address our overdue backlog.
Now I'll provide further color.
On each of our markets.
In semiconductor.
Second quarter revenue.
It was $173 million a bit better than expected.
We generated record revenue in the high voltage part of our semiconductor business.
Largely due to continued strong demand from ion implant Oems.
Our service business also recorded near record revenue.
Helped by high demand for value added services.
These pockets of strength.
Together with gains from recent design wins or.
Partially offsetting broader weakness in the semiconductor market.
At Semicon West last month, we officially launched two new plasma power technologies.
The Everest RF generator.
And the Evo asymmetric waveform generator.
These two new technology platforms offer our customers a step function improvement in plasma control.
With dynamic multilevel pulsing and microsecond response time.
We believe that these new capabilities will enable our customers to expand process windows improved process yield and increase wafer throughput.
Customers are enthusiastic about the new platforms, and we expect to secure multiple etch and deposition design wins over the next 18 months.
Last month, we also launched our new floor optic thermal sensor.
Which features an ultra wide temperature range.
We have already secured our first design win in a cryogenic etch application.
These new products and technologies are critical enablers for next generation sub two nanometer processes.
Also in the second quarter, we expanded our already strong position in older node processes.
By securing additional wins in ion implant applications.
These wins were directly tied to the surge in demand for silicon carbide based power devices.
Moving to industrial medical.
Following a great first quarter.
Second quarter revenue grew sequentially to a record $128 million.
During the quarter.
We launched six new products into the industrial and medical market.
We secured notable design wins and precision coating.
Industrial laser in three D printing applications.
In medical.
We won major designs and Electrosurgery.
Imaging and life science applications.
Our industrial and medical design win pipeline grew significantly in the quarter.
Due to increased new product output.
A more focused sales and applications effort.
And our ability to quickly customize standard products to meet customer needs.
We expect that these efforts will allow us to drive sustainable growth in industrial and medical for years to come.
In data center computing.
Second quarter revenue was flat sequentially at $59 million.
Sales to several hyperscale customers grew sequentially.
Fueled by demand for AI processing capability.
Sales to enterprise customers declined.
Telecom and networking revenue was very strong at $56 million.
Largely due to improved component availability.
Now I'd like to offer some closing thoughts.
Our second quarter results continue to validate the benefits of our diversification strategy.
Our total revenue declined only 2% sequentially.
Despite the ongoing semiconductor market correction.
We are on track to perform substantially better than in previous down cycles.
Overall 20 twenty-three is unfolding as we had projected at the start of the year.
In semiconductor.
We still believe that the second quarter will be our trough quarter.
And that the second half will be flat to up versus the first half.
In our other markets in aggregate.
We now expected full year 2023 revenue will be up slightly year on year.
We believe that our diverse market exposure.
Our ability to work down the remaining overdue backlog.
And our strong design win pipeline will enable us to continue to deliver solid results in a challenging market environment.
Looking beyond this year, we are encouraged by the strong customer interest in our new products.
As well as the continuing growth of our design win pipeline.
We believe that advanced energy.
Is well positioned for profitable growth in the coming years.
Leveraging our technology leadership.
Operational excellence.
And best in class customer service.
Paul will now provide more detailed financial information.
Thank you, Steve and good afternoon, everyone.
Q2 was another quarter of solid execution with revenue and earnings exceeding the midpoint of our guidance.
Record sales in industrial and medical partially offset anticipated weakness in the semiconductor market, resulting in revenue of $416 million.
Actions, we took to reduce spending offset lower gross margins and enabled us to deliver earnings of $1 11 per share.
Finally improved availability of critical components enables us to shorten lead times to our customers and reduce backlog to $645 million overall.
Overall, we believe the year is shaping up as expected we are on track to perform better than the market and substantially better than previous market cycles.
Now, let's review our financial results in more detail.
Overall revenue was $416 million down, 2% sequentially and 6% year over year.
Backlog exiting the quarter was down over $100 million sequentially and in line with what we expected.
As customers adjust their order patterns around shorter lead times, we continue to expect backlog to normalize to a level of $4 million to $500 million in the next two to three quarters.
Revenue in the semiconductor market was $173 million down, 11% sequentially and 24% year over year.
The sequential decline was better than our guidance with strong revenue and high voltage for ion implant.
The initial ramp of new design wins and near record service revenues, partially offsetting weakness in the broader semiconductor market.
Revenue in the industrial and medical market reached another record at $128 million.
Up 4% from last quarter and 22% from last year.
The record quarter was driven by solid demand in several applications, such as automation battery manufacturing and precision coating.
In addition, improved parts availability helped us address part of the overdue backlog.
Data Center computing revenue was flat sequentially and down 15% year over year at $59 million incremental demand softness in the enterprise server market was offset by higher hyperscale revenue on investments in AI applications by some customers.
Supply constraints continued to prevent us from delivering our full demand.
Finally, telecom and networking revenue was up 16% sequentially and 46% year over year to $56 million.
Driven by substantially improved component supply, allowing us to largely fulfill overdue backlog.
Gross margin was 35.6% approximately 50 basis points below our guidance, mainly due to unfavorable product mix.
Premiums, we paid for our critical components improved again this quarter.
But remained a meaningful headwind as costs from prior quarters rolled through inventory to the P&L.
Looking forward, we anticipate mix to normalize and premiums to continue to gradually abate, resulting in gross margin recovering to the low to mid 36% range in Q3.
In addition.
Actions, we are taking to optimize our operations footprint and improve manufacturing efficiency are on track and should contribute to higher margins over the next few quarters.
Finally <unk>.
The addition of the new manufacturing facility in Thailand in the next couple of years will position us for further growth and enable additional consolidation into larger scale highly efficient factories.
This investment in related consolidation are already contemplated within our objective of achieving gross margins of greater than 40%.
Operating expenses were $98 $5 million down from last quarter.
Actions, we took to manage our cost structure and control discretionary spending more than offset annual salary increases which took effect during the quarter.
Operating margin for the quarter was 11.9%.
Depreciation was $9 $4 million and our adjusted EBITDA was $59 million.
non-GAAP other income was $200000 due to higher net interest income, partially offset by foreign exchange losses.
Going forward, we expect our non-GAAP other income to remain around breakeven given our levels of cash and current interest rates.
In the fourth quarter of 2022, we initiated a restructuring plan to optimize our manufacturing operations consolidate some of our smaller sites into our large facilities and achieve other targeted reductions consistent with lower volumes in 2023.
We are on track to our plan and expect to see the full benefits of our actions translating to better margins over the course of 'twenty 'twenty four.
Consistent with this plan, we recognized $3 million in restructuring costs in Q2.
And expect to incur an additional $3 million to $5 million in the second half.
Our non-GAAP tax rate was 15, 3% below our target of 18% to 19% due to several discrete items and favorable mix of earnings.
For 2023, we are now modeling, our GAAP and non-GAAP tax rate at about 17%.
As a result second quarter EPS was $1 11 ahead of guidance, but down from $1 44, a year ago and $1 24 in the previous quarter.
This level of quarterly earnings is approximately two and a half times higher than trough earnings in the previous market cycle.
Turning now to the balance sheet.
Total cash and marketable securities at the end of the second quarter were $455 million with net cash of 92 million.
Cash flow from continuing operations was $24 million.
Lower than last quarter, primarily on timing of tax payments.
Inventory decreased $9 million or 2% sequentially as we continued to rationalize our raw material inventory.
As a result inventory days were 132 and turns remained flat at 2.7 from Q1 to Q2.
Days payable decreased from 62 days in Q1 to 50 days in Q2 on timing of purchases.
DSO decreased from 62 days in Q1 to 56 days in Q2.
As a result, net working capital was 138 days.
During the second quarter, we invested $17 million in Capex in line with our 2023 Capex plan of approximately 4% of sales looking forward. The majority of the spend related to the new Thailand factory is expected to occur in 'twenty 'twenty four and to be largely funded within our capex run rate.
4% of sales.
As a reminder, our factories are mainly final assembly and test oriented and are not capital intensive.
During the quarter, we also made debt principal payments of $5 million and paid $3 $8 million in dividends.
Turning now to our guidance.
The demand environment continues to be mixed with pockets of strength in some markets offsetting cyclical weakness in others.
Consistent with our commentary from last quarter, we expect Q2 semiconductor revenue to be the low point for the year with Q3 revenue up sequentially and second half revenue being flat to up versus the first half.
For our non semiconductor markets in aggregate given our strong performance in the first half we now project 2023 revenues to be up slightly for the year.
In total we are forecasting our third quarter revenue to be approximately flat with Q2 at $415 million plus or minus $15 million.
This outlook implies that second half total revenue will be roughly flat with first half and Q4 greater than Q3.
We expect gross margin in the third quarter to improve to the low to mid 36% range on better product mix and lower component premiums quarter over quarter.
We expect operating expenses to be about flat to up slightly in both Q3 and Q4 on timing of project activity related to our new product launches.
As a result, we expect Q3 non-GAAP earnings per share to be $1, 13, plus or minus 20.
Before I pass the call to the operator.
Let me make a few important points.
Overall 2023 is progressing as we expected coming into the year.
Our diversification strategy is enabling us to deliver substantially better financial performance than in prior cycles with a more moderated impact to revenue given our strength in industrial and medical and earnings levels substantially higher than prior troughs.
We continue to be focused on improving gross margins.
We believe our efforts to streamline operations secure critical parts reduced material premiums and improved mix towards higher margin products will enable us to deliver on our long term gross margin target of over 40%.
Combined with actions taken to manage our cost structure, we expect to drive meaningful operating leverage in our model and 'twenty 'twenty four as volumes recover.
With that let's take your questions operator.
Thank you at this time, we'll be conducting a question and answer session.
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<unk> indicate your line is in the question queue.
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One moment. Please so we poll for questions.
Thank you and our first question comes from the line of Steve Barger with Keybanc capital markets. Please proceed with your questions.
Hey, Thanks, good afternoon.
Hey, Steve.
You talked about taking orders over the next 18 months for the adverse in the <unk> products. How are you thinking about what that means for your ability to take market share in smaller geometry applications or three D architecture over time.
Yeah. So what I said, Steve was that I think with Everest and <unk>.
We have technology leadership products.
We've sampled those products at all of our major customers over the last six months.
And the feedback we're getting is extremely positive.
No.
Our customers are basically confirmed that these products are best in class.
So what we're doing now is based on the beta units, we delivered to these customers.
We're working with each of our customers to customize those.
Those units for their end application, that's typically a 12 to 18 month process.
We go back and forth of our customer and they deal with their customers. So it's usually a three way type of process.
But that's the runway we see.
And basically we see these evo and Everest products.
Setting us up very well from 2025 onward.
And it will give us definitely the ability to gain market share.
In that space in the plasma chamber space.
Got it thank you for that and for the push into industrial and medical I know one of the challenges has been how broad the market is my question is.
Have you fully defined your channel strategy, meaning do you have X number of customers, where you want to go direct and then.
Thousands of customers that you want to serve through the distribution channel or how is that.
Go to market strategy evolved.
Yeah, so when I just start.
Years ago, when we first.
Third a focus on the industrial medical market we are.
We've developed a more new products expanded the engineering teams formed a couple of new business units and then we basically are focused our sales and apps teams on industrial medical opportunities.
What youre seeing this years aren't really the first fruits of that effort.
As we continue to set records in the item space.
It's a it's a very broad space.
So we do have some direct accounts that are developing quite nicely, but we also recognize there are a number of smaller accounts that we don't call on directly and then we need to rely on our partners in distribution our value added resellers.
And and other partners.
In addition to that.
We're also going to be launching a new.
More customer friendly website later this quarter.
It will be adding e-commerce capability in the first quarter of next year.
So we think that that is going to enable us to reach more customers.
More effectively and for us to to respond immediately to their to their needs.
How are you going to let the world know or let customers know about the website are you going to advertise in trade publications and will that website allowed them to spec out.
On their own to kind of facilitate the selling process.
Yeah, we we have a pretty well developed social media campaign with the usual Oh outlets.
And definitely this website is focused on making it easy.
To figure out.
What products you could be buying from advanced energy, so there's going to be a focus on a fairly simple selection guide.
With the inputs and outputs you're looking for.
As well as a focus on applications. So if you're operating in the medical market. You know, we'll just be able to focus you on products. We think are best suited for medical applications.
Got it thanks I'll pass it along.
Thank you Steve.
Our next question is from the line of Quinn Bolton with Needham <unk> Company. Please proceed with your question.
Hey, guys congratulations on the nice results.
First Paul margins kind of tick tick down again in the second quarter.
Kind of just wondering if you might be able to provide a little bit more color there or is that just kind of the impact of higher cost inventory flowing through is it a mix or you know.
Away from from semi.
Kind of what were the contributing factors there.
Yeah. Thanks Quinn.
The biggest factor was mix.
You can kind of look at the results and kind of see the impact of that but even within some of our product categories. We saw a little of favorable mix than we've seen we expect that to bounce back I think it was more a function of the products we shipped this quarter.
The material premiums are being a little bit stickier than we thought I think the good news is they are getting better.
But that cost is beginning to roll through the inventory and so that was a little bit of the headwind relative to our guide as well.
When we look forward, we feel pretty confident that Q2 is our trough quarter from a gross margin percent perspective, we think you will see those margins back in the 36, the low to mid 36 range in Q3.
And as we've talked about before we have a number of of activities in place that will allow those margins to continue to grow over time I think one piece of good news is the material premiums there.
The intake of that is abating and so that's that's getting better and so that suggests to us. Its just a matter of time as those costs rolled through inventory for us to see see some of the uplift related to that.
Is that.
Cost headwind still sort of Paul on the 200 to 250 basis point range I mean, I would imagine that it's probably at most what three to four quarters for that to kind of roll through.
It's actually starting to come down probably a little bit lower than that this quarter. When you look at the anatomy of Kennedy intake being being a little bit lower certainly and then has that's flowing through but yeah. That's right I think it's about three to four quarters. We said earlier that by the end of this year. We think those are largely abated and therefore, you just kind of got some of that roll through still to.
So I think that's a that's a reasonable time, but it's certainly narrowed from where we were a year ago, and we were well over 300 basis points of <unk> of impact from a material premiums.
Okay, Great and then just quickly for Steve.
The industrial and medical business, obviously very strong first half record.
Results I think in both Q on Q2, how are you feeling about your general visibility there I know the semiconductor business has gone through a pretty.
Strong downturn in inventory correction, but do you have better visibility in some of those other markets.
Industrial and medical I know, they're pretty fragmented.
Yeah, Yeah, that's a good point to see industrial medical market is made up of a number of different submarkets or sub segments.
And where we are gaining some pretty good insights into some of the segments, where we're having success.
So you know it's a conversation we have on a weekly basis at the company and so I.
I think the I think the visibility is relatively good.
At the macro level. So if we look across all of these segments.
You know some are down some are up.
But at the end of the day.
It's very stable.
What gives me.
No reason for optimism is just the sheer amount of design win activity, we have going on at the company today and the industrial medical space.
So these investments we've made in new products and in our in our sales team and their channel and our website.
They're they're paying off and I think the opportunity just going to get bigger moving forward.
We bring some pretty strong competitive advantages.
To this market.
<unk>.
First is staying power.
We have a strong balance sheet, we've been in the business for 40, plus years, and we're going to be around for many years to come.
You know our manufacturing prowess is second to none.
We have great technology, leading platforms in really good service. So we have a widely dispersed sales and applications team.
And so we're basically competing against smaller companies in this space and I think with their focus we are bringing to it.
We're going to grow much faster than the market moving forward.
Great. Thanks for that additional color.
Thanks Courtney.
Thank you.
As a reminder, you May press star one at this time to ask a question.
We'll pause a moment to assemble the queue.
Thank you. Our next question is from the line of Pavel <unk> with Raymond James. Please proceed with your questions.
Thanks for taking the question I want to start by zooming in on the on the medical slice of that mix we've seen.
Some of the kind of big Mad Big pharma players, taking down guidance in the post pandemic.
Stage.
Given the lower demand I know that you have never had a lot of linkage traditionally too.
<unk>, specifically, but I am curious.
What your.
Kind of adaptation has been.
Into the post pandemic environment.
And for Bill I think.
The biggest move we made was by NASA power last year.
The deal closed in April of 'twenty two.
And that brought a pretty big chunk of medical business, which complemented our medical business very well and.
And so what we've been doing for the past year and a half is doing a lot of cross selling so going to accounts, where S. O power was strong in selling traditionally products and vice versa.
So what we're seeing here.
He is a really a significant uptick in design wins in the medical space.
Because oh.
Our our value proposition you know long term player willing to invest focus on quality is very compelling.
Two medical customers.
So I think medium to long term, we're in great shape and medical so our objective right now is to move from being the number two player in that space to be number one and we see that in the near term horizon.
As far as what's going on right now I think it's a mixed bag in the market today.
If I was going to make one general statement I would say that.
First for smaller less expensive medical equipment, the market's pretty healthy.
And for some of the larger pieces of medical equipment.
We're seeing some constraints there as the budgets are trend at some of the the medical centers and hospitals.
Okay interesting.
Can we get a similar kind of update on what youre seeing with solar manufacturing, particularly given pretty extraordinary boom in capex solar capex on both sides of the Atlantic as well as India.
Yeah. So there has actually been pretty good for us per valves I mentioned.
In my prepared remarks specialty deposition was an area of strength for us and I think that goes that goes to the solar market. So there has been no investment there that's one of the areas where we're.
We're seeing some strength within within the industrial market you know some of those deposition products arent caught up directly in some of the export compliance rules, but there are some requirements. We have to do to make sure that those products are going to the right applications. So I think you know on balance that's been a pretty good mark.
<unk> for us.
Alright appreciate it guys.
Mhm.
The next question is from the line of Krish Shankar with Cowen and company. Please proceed with your question.
Hi, This is Robert Mertens on for Chris Thanks for taking my questions.
Let's say last quarter, you mentioned that you were actually experiencing a reduction in demand from hyperscale errors, but this quarter. It was.
Driven by demand for jet AI and the need for power management. There I guess, just looking at all the new product introductions and design wins within the industrial and medical markets and our focus there would you reconsider and putting more resources onto the hyperscale side.
Yeah, So what we've done in Hyperscale.
It's really focus.
On opportunities, where we add value and so we're not competing head to head.
With other power supply makers.
And so we started that transition two years ago.
And so what you're seeing now.
Is some of those design wins are ramping to volume.
And that's that's helping our business.
You know help me.
Maintaining good profitability.
In the data center space.
So we just changed our strategy, there, which is really focused on making sure we take business that meets our our Bottomline guidelines.
And in the strategy is working pretty well actually.
Yeah, and Robert just to add on if you look at our just to add on if you look at our results.
You know we are flat in arguably a pretty down market in data center, and that's driven because while units of servers are lower.
We are seeing wins in areas that play to our strengths like AI and some of the higher power requirement applications and so yeah. I think that goes to the strategy. We've talked about is focusing on where where we have capability and we're seeing we're seeing success there.
Okay got you and then just one follow up.
Have you quantified the pent up demand, which.
And your supply constraints have prevented to be shipped in D. C sort of some of those.
Some of the tightness abating in the second half or is it a slow process.
So it really hasn't.
Hello.
Yeah, I'll kind of talk about that and then Steve can give you an update on the types of products that are still <unk>.
<unk> certainly the overall kind of supply chain improve that there are some there are some challenging areas in terms of quantifying that we haven't gone out and quantified it per se, but to give you a little color you know our backlog is coming down I think that's indicative of the environment getting better and as counting shorter lead times, which is basically allowing our customers.
For us not to have to keep putting demand in at these longer these longer lead time. So I think that's a suggestion that it's that things are getting better we talked about in T. N N. We'd be gotten quite a lot of parts of the last couple of quarters. So that that market has over performed I wouldn't necessarily expect that continue we said that that we have.
Largely fulfilled the the overdue backlog there, but we're still not able to ship to all of our upside and in datacenter and clearly in industrial and medical there's components were not able to get and that's constraining us is as well so I think there's still opportunity.
As some of these parts come available for us to continue to.
Outperform.
But it's a more limited set of set of parts I think that are kind of becoming the most sticky challenges.
Yeah, maybe just to add a few words it has a much shorter list.
A problem products that we're chasing.
But I'd say I think the biggest issues still power MOSFET <unk> by far.
And we're still encountering problems of power analog and microcontroller, but it's a more isolated.
Okay got it that's very helpful. Thanks, that's all for me.
Thank you at this time. This concludes today's Q&A session and today's conference you may disconnect. Your lines at this time and we thank you for your participation.
Thanks, everyone. Thank you.