Coherent, Inc.
Q3 2017 Earnings Call Transcript

Published: 2 Aug 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to Coherent’s Third Quarter Fiscal Year 2017 Financial Results Conference Call hosted by Coherent, Inc. At this time, all participants are in a listen-only mode. At the conclusion of our prepared remarks, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, this call is being recorded. I would now like to introduce Bret DiMarco, Executive Vice President and General Counsel. You may begin your conference.

[Bret DiMarco:]

Thank you, Juliane, and good afternoon, everyone. Welcome to today’s conference call to discuss Coherent’s results from its third quarter of fiscal 2017. On the call we have John Ambroseo, our President and Chief Executive Officer; and Kevin Palatnik, our Executive Vice President and Chief Financial Officer. I would like to remind everyone that some information provided during this call may include forward-looking statements, including, without limitation, statements about Coherent’s future events, anticipated financial results, business trends and the expected timing and benefits of the integration of our recent Rofin-Sinar transaction. These forward-looking statements may contain such words as expects, will, anticipates, intends or referred to as guidance. These forward-looking statements are only predictions and are subject to risks, uncertainties and assumptions that are difficult to predict and may cause actual results to vary significantly. These forward-looking statements reflect beliefs, estimates, and predictions as of today, and Coherent expressly assumes no obligation to update any such forward-looking statements. For a description of risks and uncertainties, which could impact these forward looking statements, you are encouraged to review Coherent’s periodic SEC filings including its most recent Form 10-K, Form 10-Q and Forms 8-K. I will now turn the call over to John Ambroseo, our President and Chief Executive Officer.

[John Ambroseo:]

Thanks, Bret. Good afternoon, everyone, and welcome to our third fiscal quarter conference call. We have a very simple story for Q3

[Kevin Palatnik:]

Thanks, John. Today, I’ll first summarize fiscal third quarter 2017 financial results then move to the outlook for fiscal Q4. I’ll discuss primarily non-GAAP financial results and ask that you refer to today’s press release for a detailed description of our GAAP results, as well as a reconciliation between GAAP and non-GAAP financial results. The non-GAAP adjustments relate to stock-based compensation expense, amortization of intangible assets, purchase accounting, acquisition related costs, restructuring costs, and the related tax adjustments. The full text of today’s prepared remarks and trended GAAP and non-GAAP supplemental financial information will be posted on the Coherent Investor Relations website. A replay of this webcast will also be made available for approximately 90 days following the call. Fiscal third quarter 2017 financial results for the company’s key operating metrics were

[Operator:]

[Operator Instructions] Your first question comes from the line of Patrick Newton. Your line is open.

[Patrick Newton:]

Thank you for taking my questions. Good afternoon. So Kevin, I wanted to get a little bit more detail on the expense side. You talked about debt, FX and some other expenses that led to an op margin being a little bit below the midpoint. I think relative to my model, that pretty much encapsulates the entire miss. Is there any way you quantify those more explicitly for us?

[Kevin Palatnik:]

Yes. I don’t want to drill down too far, Patrick. But we’re talking about a growth quarter-on-quarter of about $1.9 million, and half of that was related to the debt repricing, about a quarter of that was FX and then a myriad of smaller items.

[Patrick Newton:]

Okay, great. That’s helpful. And then John, as always, I got to dig into the FPD side. I guess, in your prepared remarks, you talked about several new fabs that you see that have been announced during the late stages of planning. I’m curious if all of these fabs are targeted towards handsets. Or are you starting to see any shift towards fabs that maybe targeted tablets or other devices?

[John Ambroseo:]

Patrick, we – the fabs target a panel size. What they cut it up into at the end of the day is sort of their decision, not ours. It’s irrelevant to us. But we do hear that there are an increasing number of devices that are being planned for OLEDs beyond handsets, whether they’re next-generation tablets or laptops in addition to the ones that have already been announced that we’ve talked about, I think, on multiple occasions.

[Patrick Newton:]

Great, okay. And then on the capacity extension that you announced. It’s supposed to be completed in FY2018. Could you put a finer point on winningness FY2018 that should be completed? And is it fair to say that, that additional capacity is included when you’re speaking to be in fully booked for FPD through FY2018?

[John Ambroseo:]

So the capacity expansion that we’ve talked about, and I think when I first mentioned it last quarter, was more to make us be able to meet all the delivery requirements for 2019. Some of the service capacity that we’re adding, particularly in Osan, will have an impact in 2018. But the system’s capacity is primarily targeted at 2019 to make us – to put us in line with our delivery obligations.

[Kevin Palatnik:]

And Patrick, in terms of timing of that investment and when it will be completed, as you know, we’re going through our planning process for 2018. So once that’s completed, then I can put some finer points on dollar amounts and timing.

[Patrick Newton:]

Great. And then just one more, if I may, on the services side. If we look at systems that are capable of flexible OLED production, can you help us understand a percentage of the installed base that is off warranty currently and contributing to surfaces?

[John Ambroseo:]

I don’t know that I have a good number because it’s a pretty dynamic situation. But it would be shipments that are six months and older that are pretty much in the service pool at this point.

[Patrick Newton:]

Great. Thank you for taking my questions. Good luck.

[John Ambroseo:]

Sure.

[Kevin Palatnik:]

Thanks, Patrick.

[Operator:]

Your next question comes from the line of Jim Ricchiuti. Your line is open.

[Jim Ricchiuti:]

Hi, thanks. Good afternoon. Just question with respect to the display market. I know you can’t comment on specific customer plans. But I’m wondering, to what extent some of the fab investments that you have been anticipating – has there been any change over the past couple of months? And I’m wondering if you can give us some sense of the magnitude of these changes from discussions you’ve had with some of these customers.

[John Ambroseo:]

I don’t know that the magnitude has changed over the past several months because we’ve always had pretty good insight as to what the customers were planning. We’ve always tried to be very careful about talking about things ahead of the customer. At this point, one major fab has pretty much been confirmed in Korea. There’s another one that is being discussed, widely discussed, and one in China that’s being widely discussed. There’s virtually no backlog for any of those in the current backlog.

[Jim Ricchiuti:]

Okay, that’s helpful. John, I don’t know if this is, if you have – if you can share any observations with us, maybe with respect to the variability of the service revenues as the new tools go into service at some of the newer entrants in the OLED market. Or is there not yet enough data for you to really talk about that?

[John Ambroseo:]

There’s really not enough data. We’re not anticipating any major differences in the operating environments between the different market participants. I think the biggest difference – the biggest delta amongst them, at least initially, will be yields, and that will obviously have an impact on how much product they’ll turn out and what kind of market share they have. But the tools should run in a very similar fashion.

[Jim Ricchiuti:]

Okay. And last question for me on the materials processing side of the business. The demand you’re seeing, sounds like it’s fairly strong. Can you maybe drill down a little bit and talk about it, either with respect to market applications verticals or just some of the geographies. Where it’s been particularly strong? And just in general, how satisfied are you with the progress of the integration?

[John Ambroseo:]

Okay. So let me talk about the fiber laser applications and markets first, geographic markets. And then I don’t know if your question on integration is specific to fiber lasers or if it’s a general question. So maybe you can specify.

[Jim Ricchiuti:]

It’s – well, two parts. General, with respect to the overall integration of the Rofin business, but then you’ve got several fairly important initiatives underway with respect to fiber that I just wanted to get a sense as to where you are with that.

[John Ambroseo:]

Sure. And Jim, if I don’t answer – if I forget one along the way, please remind me at the end. So with respect to what we’re seeing in the marketplace, there – as I said last quarter, the customer engagement for high-power fiber lasers has been very, very good. We had some – an initial hiccup in reliability shortly after the transaction closed. The team did great job of resolving that quickly and convincing customers that it was resolved quickly. The traction that we’re seeing predominantly is in metal cutting and in battery welding, which are obviously two very important markets. Not surprisingly, a lot of that engagement is taking place in China followed by Europe. With respect to how we’re doing on the initiatives, we’ve put in place what we need to do to grow this business. We’ve put the plans in place, and we’re going to be rolling that out, as I mentioned, over the next year or so in terms of being able to meet demand. And right now, we are capacity constrained in high-power fiber lasers. We could – if we could build more, we could ship everything we could build. The activity on the semiconductor side is progressing. We’re making investments there to expand capacity. We have to expand test and measurement. I think the fiber component side we’re probably in the best overall shape in terms of being to ramp capacity. So all of that is going along. Of course, we like it to go 10 times faster, but we’re dealing with the realities of trying to grow this business in an awfully big hurry. With regard to the overall integration, we continue to herald milestones. It’s not always pretty, as you can imagine, putting two organizations together. But I really have to complement everyone for doing just a terrific job of making sure that we take care of customers first and foremost. There continue to be very few surprises, stress in different parts of the organization. But I don’t think there’s anything unusual in any of that.

[Jim Ricchiuti:]

And then one last question, just with respect to the capacity constraints in fiber. So what is your sense as it relates to what’s happening in the market? You had a competitor out today with very strong numbers. Is this just a case of an accelerated shift toward fiber? Or are there some other dynamics in the market? Are you perhaps taking some share from some of the weaker players?

[John Ambroseo:]

So look, our numbers are still a small part of a very large market. I don’t know that I could use ours as a litmus test for very much of anything. We’re very happy with the growth that we’re seeing, we’re very happy with the customer engagement. Those are sort of critical to drive forward. I’m not at all surprised by the activity in battery welding. Obviously, there’s a tremendous amount of emphasis these days on electrified and autonomous vehicles, which is driving demand across many of our submarket verticals. With respect to metal cutting, it has been and continues to be a robust environment. I think less and less of that is about CO2 displacement because if I look at our CO2 business, and now looking at sort of a global CO2 business that ranges from low power to high power, that’s a stable to growing business. It’s not growing at a high rate, but it’s holding its own. So it would suggest that the displacement of CO2 by fiber at least in new installations is – has abated, if not completely abated, but largely abated. I don’t know that I’m ready to call a victory on market share gains. I think we’re taking pieces of the market as we can as capacity allows us to. The key message, again, for me in looking at this business is performance seems to be fine. The reliability seems to be fine. Products are sticking with customers. That’s a great place for us to be at this point in the development.

[Jim Ricchiuti:]

Okay, thanks a lot.

[John Ambroseo:]

Sure.

[Operator:]

[Operator Instructions] Your next question comes from the line of Larry Solow. Your line is open.

[Larry Solow:]

Great, thanks. Most of my questions have been answered. Just a quick one, John. Since you have – you’re taking orders today that won’t be delivered until 2019, is there a sense that – because by then, we’ll actually be entering the – even the next-generation cellphones. Is there a sense that some of the drivers of OLED expansion, like higher PPI and stuff like that, are starting to be incorporated into these orders that won’t be delivered for a couple of years? Or is that sort of hard to read?

[John Ambroseo:]

I think what we’re seeing right now, Larry, is just continued build-out of the handset market in general terms. I don’t think ppi has played a major role in it. That’s a spec that customers want in their displays and I mean, the handset manufacturers want in their displays, and it’s probably consistent with capabilities that are in the market today. As that ppi grows, it will put pressure on the systems to be able to keep up with it.

[Larry Solow:]

Right. And then what’s the thought as that ppi or other things grow? I mean, would you – if the demand goes up threefold, would they – would these car machines become obsolete? Or would they be a – we just have to add to them?

[John Ambroseo:]

It is difficult to say because a lot will depend on the process that is used to produce those higher ppi displays. We have seen in earlier generation tools that they can’t keep up with the higher ppi demand. That may be true as the ppi goes past 600 to 800 to 1,000, we may see the same thing. It’s a little bit early to be calling that particular outcome.

[Larry Solow:]

Okay. Then how about on your side? Is there – just on your equipment, is there a gen 8 likely in the – material sales in the future or near future or…

[John Ambroseo:]

So I think I’ve commented on this in the past that we have told customers if they want a gen 8 tool that we know how to get there, we’ve mapped it out, we can do it. But we would want to engage them in a thorough discussion around what they’re trying to achieve and what the most efficient way to do that is. And it may not be a gen 8 tool, it may be using a gen 5 or a gen 6 tool and a double pass. And quite frankly, a lot of it is going to depend on other equipment suppliers that would have to get to gen 8 before we do. So I think the short answer is we wouldn’t be the long pole in the tent there because we want to be sure that it’s going to meet not only the technical requirements but the financial requirements.

[Larry Solow:]

Got it. Okay, great. Thanks, I appreciate it.

[Operator:]

Your next question comes from the line of Mehdi Hosseini. Your line is open.

[Mehdi Hosseini:]

Thank you. A couple of follow-ups. On the Rofin side, can you give me an update on what’s going on with the insourcing of parts and components that was – that is going to help you with a bit of margin profile? And also, if I’m reading the P&L right, your SG&A went up by $9 million on a sequential basis. Is that GAAP or non-GAAP and what is driving that? And I have one follow-up on the OLED side.

[Kevin Palatnik:]

Yes, hi, Mehdi. It’s Kevin. So specific to the $9 million SG&A, that’s – you’re reading GAAP. So that would include your intangibles, it would include some PPA or inventories step for PPA, stock comp and the like. If you net that out to non-GAAP, sequentially, you’ll see round numbers of $2 million increase sequentially.

[Mehdi Hosseini:]

Okay. And on Rofin, on insourcing?

[John Ambroseo:]

So the insourcing work is continuing. As I mentioned, we were doing the first roads of material and that work is progressing. It’s not a quarter-to-quarter update, if you will. We’re doing what we need to do to make that transition. And then you said you had a follow-up question on OLED?

[Mehdi Hosseini:]

Yes. On OLED side, it seems like you have pretty good visibility into perspective shipment in calendar year 2019. And I’m just curious if you can qualitatively help us understand where these incoming orders – is that China and Korea? Or is that the mix of China and Korea that is – that will drive the incremental order that will give you this kind of visibility?

[John Ambroseo:]

The comment that I made in response to an earlier question is that there are multiple fabs that have been announced or are anticipated, and those currently are planned in Korea and China.

[Mehdi Hosseini:]

Okay. But when you say China, is that – sorry, go ahead.

[John Ambroseo:]

But again, the backlog through 2018 and starting into 2019 has virtually no content from those fabs in it.

[Mehdi Hosseini:]

Got it, got it. And then when you refer to China, is that some of the fabs that are operated by non-Chinese or is indigenous Chinese fabs?

[John Ambroseo:]

We can’t comment on that.

[Mehdi Hosseini:]

Got it. Thank you.

[John Ambroseo:]

Sure.

[Operator:]

Your last question comes from the line of Joe Wittine.

[Joe Wittine:]

Thank you. In microelectronics, could you talk through the quarterly trajectory of the segment at all going forward, at least qualitatively? I asked because it sounds like the capacity expansion at least the big slug, is coming in fiscal 2019. So is it most accurate to assume for 2019 in the segment, trends that are relatively steady state quarter-by-quarter before a directionally increase in 2019?

[Kevin Palatnik:]

So Joe. It’s Kevin here. We don’t give specific guidance long term. We just go quarter-by-quarter first off. But just anecdotally, if we look at microelectronics, we will

[Joe Wittine:]

Thanks, Kevin. And I apologize if I missed this, but did you give an update on where we are in the Rofin synergies to date?

[Kevin Palatnik:]

We haven’t in this call yet. In terms of the announced $30 million of synergies on the OpEx side, we had – a couple of quarters ago, we said we probably will achieve about 10% of that in fiscal 2017, a little more than half of that in fiscal 2018. And at the end of the two-year period, meaning at the exit rate, we would achieve $30 million annual run rate, if you will, on that exit. That’s the primarily the OpEx synergies. Last quarter, we had talked about the insourcing of the third party semiconductor chips that legacy Rofin had acquired or purchased externally. It is our plan, and it’s well under way to insource that. That represented an opportunity of close to $10 million as well. So that’s the only synergy update we have at this point.

[Joe Wittine:]

Thanks, Kevin.

[Kevin Palatnik:]

Thank you.

[Operator:]

And at this time, we have no further questions in the queue. I will turn the call back over to John Ambroseo for any additional or closing remarks.

[John Ambroseo:]

Thanks everyone, for joining us, and we look forward to speaking to you again in three months.

[Operator:]

This concludes today’s conference call. You may now disconnect.