Entegris, Inc.
Q1 2017 Earnings Call Transcript

Published: 27 Apr 2017

[Operator:]

Good day everyone and welcome to the Entegris First Quarter 2017 Earnings Call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Steve Cantor, Vice President of Corporate Relations. Please go ahead, sir.

[Steve Cantor:]

Great. Thank you, everyone and good morning and thank you for joining our call today. Earlier, we announced the financial results for our first quarter ended April 01, 2017. You can access a copy of our press release on our website. Before we begin, I would like to remind listeners that our comments today will include some forward-looking statements. These statements involve a number of risks and uncertainties which are outlined in detail in our reports and filings with the SEC. On this call, we will also refer to non-GAAP financial measures as defined by the SEC in Regulation G and you can find a reconciliation table in today's press release as well as on our website. On the call today are Bertrand Loy, President and CEO and Greg Graves, CFO. Bertrand will now begin the call.

[Bertrand Loy:]

Thank you, Steve. I'll make some comments on our first quarter performance. Greg will follow with more details on our Q1 financial results and provide guidance for our second quarter of 2017. We'll then open the line for questions. Q1 was another great quarter for Entegris and a strong start for the year. We delivered record sales, growing 19% from a year ago and 3% sequentially. We achieved quarterly non-GAAP EPS of $0.28. We generated record adjusted EBITDA of $76 million or 23.9% of revenue. We continued to paydown our debt and this week we completed the acquisition of a new filtration product line. While semiconductor production levels were in line with seasonal softness, we performed well due in part to the continued strong performance of a number of new products. The market acceptance of these solutions is a testament to the increasing importance of our value proposition for the industry. During the quarter, part of our business also benefitted from the strong industry CapEx environment, particularly as new 3D NAND capacity is being added. At on March Analyst Meeting, we described how materials will emerge as the primary driver for the next generation chip performance. Yet, the industry is finding that the integration schemes for these materials are becoming increasingly challenging, making it harder for our fab customers to reach acceptable years. Solving these process challenges requires new advance materials, delivered on to the wafer at ultra-high levels of purity in a safe and stable way. Our broad array of engineered materials, filtration, and materials handling solutions makes Entegris uniquely positioned to help the industry ecosystem deal with these emerging process challenges. We believe that the strength of our performance last year and the strong start of this year are validating the increasing value of our solutions to our customers. Looking at our first quarter performance in more detail, our specialty chemicals and engineered materials division grew 13% from a year ago. We saw strong performance for our specialty gas products and for advanced deposition materials. Advanced deposition has been one of our fastest growth areas, and is an area where we have been able to fully capitalize on the broad range of capabilities across the Entegris technology portfolio. Our micro contamination control division grew sales 29% from last year and the strong demand for our advance filters used in both dry and wet processes. These filtration solutions are becoming increasingly pervasive across the electronic supply chain, enabling new levels of purity for process chemicals from the bulk manufacturing stage, all the way to the final point of the expense on to the wafer. The advanced materials handling division benefitting from the strong CapEx environment and grew 17% from last year. We are very pleased to see steady performance from this division, which can sometimes be prone to quarter-to-quarter volatility. Our strategy to grow shareholder value is built upon a consistent capital allocation framework that balances strategic M&A and debt repayment. During our first quarter, we deployed our excess cash in line with our stated strategy. We continued our cadence of regular debt repayment, and earlier this week, we also completed the acquisition of a liquid filtration product line from Gore for $20 million. This acquisition illustrates very well, the type of M&A opportunities we are targeting, [G&A] driven, profitable and synergistic businesses or product lines that leverage our existing platform and expand our served markets. The acquired filtration products are focused on high purity water and chemical applications and semi-conductor OLED, and flat panel display manufacturing that complements our existing filtration offering and leverage our deep customer relationships. We expect this addition to our portfolio to be accretive in the current year and to have high strategic value. We are very excited about our growth opportunities both organic and inorganic. Given the tremendous success of our new products and the unrealized potential of new growth initiatives, we are ideally positioned to continue to outgrow the industry in the years ahead. Before turning the call to Greg, for the financial detail, I want to thank the Entegris teams around the world for their unwavering dedication to making Entegris one of the most critical and dependable suppliers in the eco-system, Greg?

[Greg Graves:]

Thank you, Bertrand. First quarter sales of $317 million grew 19% from a year ago and 3% from Q4. The strong sales were driven by strengths across the business. Our operating performance reflected a non-GAAP adjusted gross margin of 44%, which improved from 42.7% in Q4. We expect gross margin to improve further to approximately 45% in Q2. Non-GAAP operating expenses in Q1 were $78 million, which was in line with our expectations. We expect non-GAAP operating expenses to be $79 million to $81 million in the second quarter. Adjusted operating margin was 19.5% up from 18.1% in Q4. Net interest expense was $8.4 million in Q1 or $600,000 lower than Q4, reflecting slightly lower levels of debt, and lower interest rates as a result of the recent re-pricing of our term loan. Our GAAP tax rate for the quarter was 22%. Our non-GAAP tax rate was also 22% reflecting a slightly more favorable geographic income mix. For 2017, we are expecting our non-GAAP tax rate to be approximately 24%. Our non-GAAP earnings per share was $0.28, which was above the high end of our guidance. As an aside, we've talked about earning a $1 per share annually for some time. I am pleased to report that we achieve that milestone and have earned a $1.5 of non-GAAP EPS for the trailing four quarters. Adjusted EBITDA for the quarter was a record $75.8 million or 23.9% of revenue. I'll now summarize the results by division. In Q1, specialty chemicals and engineered materials or SCEM, recorded sales of $114 million, which were up 13% from Q1 of last year, and up 3% from Q4. The quarterly growth was driven by a healthy demand for specialty gas solutions, and record sales for our advanced deposition materials related to 3D NAND process technology. SCEM segment non-GAAP adjusted operating margin was 24.6% up from 23.4% in Q4. Q1 sales for micro-contamination control or MC of $100 million grew 29% from the prior year, and were up 1% from Q4. The strong sales reflected strength in liquid filters for wet etch and clean applications and strength in gas filtration products driven by strong industry tool shipments. MCs non-GAAP adjusted operating margin was 36% up from 32% in Q4. First quarter sales for advanced materials handling or AMH of $103 million grew 17% from year ago and were up 4% sequentially. The strong year-over-year sales reflected strength in fluid handling products and in FOUPs both of which benefited from the favorable capital spending trends across the industry. AMH's segment non-GAAP adjusted operating margin of approximately 18% improved 100 points from Q4. We believe this improvement reflected the early stages of our ongoing margin improvement initiatives for this division. Cash flow from operations for the quarter was $33 million and free cash flow was $11 million. Recall that Q1 is typically a seasonally lower quarter for cash flow as we payout variable compensation related to the prior year. Accounts receivable and inventory increased from Q4 reflecting higher sales and a modest increase in DSOs to 51 days. Inventory turns of 3.8 were flat with Q4. First quarter CapEx was $22 million. For fiscal 2017, we expect full-year CapEx to be $90 million to $100 million or $10 million higher than previously discussed. The greater level of CapEx reflects our increased confidence in our growth initiatives and includes the increases in capacity for graphite production, additions to our fleet of chemical containers and enhanced metrology capabilities. Our cash balance was $391 million of which $95 million was in the US. During the quarter, we reduced our long-term debt by an additional $25 million. Total long-term debt including current maturities was $560 million and our net leverage ratio was 0.6 times. We also repurchased $4 million of stock in the quarter to offset dilution from share-based compensation As Bertrand said, we are continuing to execute our capital allocation strategy, which balances debt repayment, building liquidity for potential M&A, and modest share repurchases to neutralize the impact of share-based compensation dilution. The acquisition of Gore’s Microelectronics filtration product lines this week fits well with that strategy. Turning to our outlook for Q2, we expect sales to range from $315 million to $330 million reflecting good industry momentum and continued strong demand for our solutions. At these revenue levels, we expect non-GAAP EPS to be $0.27 to $0.31 per share, consistent with our annual target model. In summary, we are very pleased with our Q1 performance. We continue to invest strategically in our key growth initiatives. We are executing on our capital allocation strategy and are excited about the most recent addition to the Entegris product portfolio. Finally, our outlook remains positive. We expect the increasing value of our solutions to help us continue to outpace the industry in terms of revenue growth and to expand our bottom line at twice the rate of our topline. With that, we'll now take questions.

[Operator:]

Thank you. [Operator Instructions] We’ll go first to Toshiya Hari with Goldman Sachs. Please go ahead.

[Toshiya Hari:]

Great, good morning guys, and congrats on a very strong quarter. I guess my first question is on gross margins of the drop through on a sequential basis from Q4 to Q1 was very impressive. Can you talk a little bit about some of the drivers that were behind that? And if there was anything one time in nature in Q1 and sustainability into Q2 and beyond please? Thank you.

[Greg Graves:]

Sure. Hi, Toshiya its Greg. I would say, the margin, it's really more about the fact that the Q4 margins were so weak. Recall that we had pretty significant negative impact in the quarter related to the rapid strengthening of the dollar versus the yen in Q4. As we moved into Q1, the yen moved back and the volatility in the currency was really mitigated. So, we did have some benefit from currency from the quarter. But, I would also say, we just operated very well at the manufacturing level. We had lower scrap levels. We had E&L that was excess and obsolete inventory that was a reasonable level. So, general solid execution. As we move into Q2, we're coming into the quarter with relatively low-priced inventory because of the good operating performance in Q1. So, we feel good about the margin trend as we come into Q2 and for the balance of the year.

[Toshiya Hari:]

Okay, great. And then, I had a follow-up on 3D NAND. Bertrand, I apologize if you went through this at your Analyst Day, but can you remind us what percentage roughly speaking of your business is tied the NAND business, 3D NAND in particular.

[Bertrand Loy:]

Yes, Toshiya, this is actually an information that we don't really share publicly and the only reason is that we have a number of customers that run different types of processes across their fabs. So, our ship to information is not necessarily very crisp. But we have data that we use internally that are directionally interesting. But, are not I would say accurate enough for us to share in very specific ways externally. Having said that, if I look at it on a customer basis, all of our shipments to customers involved in 3D NAND production posted record levels of revenues. We saw benefits coming from obviously the new investments in new 3D NAND fabs and that benefited our fluid business, benefited our fluid handling business. And then for the 3D-NAND fabs that are in operation, we are starting to see the positive benefit of the adoption of a number of new materials that we've been developing jointly with those technology leaders. And we also seeing a much broader adoption of advanced filtration solutions in those advanced 3D-NAND. So, a very important market segment for us, and one in which we are intensifying our degree of focus.

[Toshiya Hari:]

And Bertrand, I appreciate the fact that, you're not willing to give out that information. But, based on some of the commentary from your customers and some of the equipment companies I think installed 3D NAND capacity should be increasing from around 350,000 or 400,000 at the end of 2016 to somewhere around 700,000 exiting 2017 and obviously, more growth beyond that. Should we expect an acceleration in the wafer start driven business within your NAND components? Does that make sense?

[Bertrand Loy:]

That’s correct. And I think that you should expect greater levels of wafers starts in those fabs, which will impact positively all of our consumable products from again our advanced filters as well as, the advanced deposition materials being the metal layers and other dielectric materials that we're supplying for those advanced fabs.

[Toshiya Hari:]

Okay. Great. Thank you so much, and congrats again.

[Bertrand Loy:]

Thank you.

[Operator:]

We will go next to Edwin Mok with Needham & Co. Please go ahead.

[Edwin Mok:]

Great, thanks for taking my question. Congrats, great quarter and guidance. So, first I guess, just on the core acquisition if you give us some baseline information there, if you can share like revenue or OpEx and margin profile for the business and what’s that reflect in your guidance?

[Bertrand Loy:]

Sure. So, Edwin, so first of all, as you noted this is a very important acquisition for us. It demonstrates the commitment that Entegris' has the filtration and commitment to the strategy that we described during our Analyst Day around expanding into adjacent applications, both through internal development, but also by acquisition. So, this acquisition is small. It is less than $10 million in revenue today. But, we believe that it has a lot of room to grow, well passed the $10 million in the years to come. So, we expect the acquisition to be modestly accretive this year and then to add about $0.01 to $0.02 of accretion in the years to come. So, the right now is very actively engaged in transferring the manufacturing equipment to our Billerica facility, but we expect to see a little bit of drag on our P&L as we complete this manufacturing transfers. But, we expect to be done with the manufacturing transfer before the end of the year.

[Edwin Mok:]

Okay. That’s helpful. So, once you can't complete that, is it a tough business that generated similar type of operating margin expect from your micro-contamination line or is it just corporate outreach. And what’s reflected in your guidance?

[Bertrand Loy:]

Edwin, it would be pretty much in line with the corporate average. The operating margins might be slightly higher but the gross margins are relatively corporate average.

[Edwin Mok:]

Okay. Great. That's helpful. And then, I guess I want to ask you a question about AMH exclusive, I think Greg, you mentioned in your prepared remarks that you guys have some programs that you put in place to drive margin improvement to that group. Where can you go and any kind of color you can provide and what is the timeframe of those programs?

[Bertrand Loy:]

So, we talked about in the Analyst Day, the margins in that business moving up into something closer to the mid-20s from where they are today. That’s not something that’s going to happen overnight. But, what I would say is that’s a business where we continue to look at a number of the business lines that we're operating in. We continue to look at, we've talked about we had made an investment in 450. We continue to look at that investment. So, there are number of opportunities where you could see us make changes around the footprint in that business.

[Edwin Mok:]

And that mid-20s operating margin is -- are we talking about in the next two quarters or is that just still fixed longer than that?

[Bertrand Loy:]

No, I would say this is an ongoing process. I think you can expect slow incremental improvement.

[Edwin Mok:]

I see. So, it’s a medium-term target. Okay. That’s helpful. And then lastly just on your guidance, are we frankly just looking at your numbers, what you did this quarter, which is very impressive and given the strong CapEx commentary from the semi-cap guys have been implying that CapEx part of the business should continue to grow. And it looks like the material part of the side of the business the consumer part of the business also growing. Can you give guidance on what's conservative? If I look at the midpoint it's only up kind of low, very, very low single-digit. Is there any kind of areas that is keeping you guys on providing even more aggressive guidance in that?

[Bertrand Loy:]

Well, if you look at our guidance for Q2, its flat to up 4% sequentially. And so, if you think about the market assumptions beyond that going into Q2, we expect the seasonality for wafer starts in Q2 to be more muted than what we have experienced in the prior year. And then when you think about our CapEx business, we expect that to be flat through only modestly up sequentially and that is consistent with the expected softening in the industry CapEx environment in second half of the year. Remember that many of our components are sold to the OEM customers, our OEM customers a few months prior to the shipments of their tool. So, we're trying to factor that in. And then of course, we continue to have high expectations in the performance of our new products. They’ve done really well in Q1. They’ve done really well last year and we have no reasons to believe, anything different going into Q2 and the balance of the year. So, if you look at the guidance in the slightly different context and think the mid-point of our Q2 guidance that would actually put our first half performance at about 12% up versus the first half of last year. So, to put that into context of the objective I shared with you during the Analyst Day of growth of 4% to 6%, we're feeling good about our momentum and clearly we grew well in excess of that objected in '16 and I would share with you that given the current business momentum it's totally suggesting that 2017 will be another great year for Entegris.

[Edwin Mok:]

Great. Actually, that's really good color. Thanks. That’s all I have.

[Operator:]

And we'll go next to Chris Kapsch with Aegis Capital Corporation. Please go ahead.

[Chris Kapsch:]

Yeah, good morning, I had a question about just the broad-based revenue strength across your different segments and Bertrand you may have answered this in your earlier comments about 3D NAND. But, just curious about the upside relative to your own prior guidance expectations in terms of topline, was the source of the upside mostly concentrated in demand associated with 3D NAND production or was it more broad-based by that. If there's any way to characterize the upside on the top line based on either memory, versus logic, versus foundry related semi-demand or even across nodes. So, just trying to get a feel for it if it was broad-based upside strength or really concentrated on this ramp in 3D NAND production? Thanks.

[Bertrand Loy:]

So, Chris. I am going to try to give some color in my answer. It's going to be probably hard to address every single one of the points that you're raising. But, as you mentioned, it was really broad-based. The industry environment remained very strong in the first quarter. And if you put aside a few notable exceptions, most of the fab, our fab customers run their fabs at levels similar to what we experienced in Q4, which was a little better than what we expected going into the quarter. And then, of course, we continue to benefit from the strong industry CapEx across the Board. So, on top of those favorable industry trends, our new products continue to perform very, very well, as did some of our more mature product lines. So, we saw as I mentioned in my prepared remarks, we saw record demand for advancement filters, and new deposition materials, but frankly we were expecting that, but we also saw some really strong performance for, product line such as wafer carriers, fleet handling solutions and even wafer shippers that benefit from steady levels of activities in the trading edge fabs. So, again, very broad-based across our semi markets, and then if you think the non-semi part of our portfolio, the non-semi business performed very well as well during the first quarter. It represented about 13% of our revenue. And on a sequential basis, it actually outgrew the semi-business, we grew -- we grew our non-semi business 5% sequentially and over a year we grew the business 13%. So, it was great to see strength in our glass forming applications, life sciences and across a number of industrial markets. So, I continue to expect that this part of our portfolio will be another meaningful contributor to our growth performance in '17.

[Chris Kapsch:]

That's very helpful, thanks. And then, in your comments -- your forward-looking comments, I think you had just mentioned that you expect the seasonality of wafer start growth to be more muted then I guess typical seasonality. So, I am just wondering is that based on some, industry pundit or is that based on something that you're seeing with based on feedback and insights with your specific customers. Any more color there would be helpful?

[Bertrand Loy:]

So, Chris, it really has to do with input we're getting from our customers. So, traditionally the sequential growth for wafer starts from Q1 to Q2 would be in 10% to 15% range I think we should be counting on something closer to low single-digit growth rate sequentially. But, collaterally to that is that we expect MSI to be a wafer starts to be more evenly distributed than normal throughout the year. In other words, we expect the backend of the year in terms of wafer starts to be a little stronger than normal. And that really comes from the fact that, there are a number of several important new devices are expected to come to the market and there are a couple of important customers that will be gearing up to ramping up their 10-nanometer node and all of that should actually play to our strength. So, on an annual basis, we continue to expect wafers starts to grow at about 5% year-over-year, which in that context, should lead you to expect Entegris to grow at about, 7% to 8% this year and we certainly expected to do better than that.

[Chris Kapsch:]

Okay. That's helpful. And then, just one follow-up on the WL Gore acquisition, vaguely familiar with that company is having very good expertise in membrane. So is the product line that you're acquiring, is it just a membrane or are there also filtration devices that they’ve designed and manufactured for the end markets, which you target. And then if it’s focused on their membrane technologist, just curious if that is applicable to, across -- to the extent that it’s applied in semi space, is it across technology nodes or is it a solution that's really targeted at more of the advanced manufacturing? Thanks.

[Bertrand Loy:]

That’s a good question Chris. We are in fact acquiring the devices and only the devices. We are not acquiring the membrane manufacturing capabilities of Gore. So, we will be transferring the device manufacturing capabilities to be recurring. We will continue to rely on Gore and other suppliers to supply certain types of membrane that we do not make. Gore has been one of the many long-term strategic partners for -- as a membrane supplier for Entegris and we continue to act in that capacity going forward.

[Chris Kapsch:]

That's helpful. Thank you.

[Operator:]

[Operator Instructions] We will go next to Patrick Ho with Stifel. Please go ahead.

[Patrick Ho:]

Thank you very much. Just had a follow-up question on 3D NAND opportunity for you guys, a lot of it obviously is benefiting your specialty materials and the chemistry solutions there. On a going forward basis, is this more dependent on the number of layers that these devices will be trending towards or is this more of a fab opportunity to drive sales for your materials business?

[Bertrand Loy:]

So, Patrick it will be a little bit of both. First of all, I would say we're just at the very beginning of what I would think is an inflection point for us in terms of new material adoption. We are currently selling a number of new materials into those processes. But there are a number of new molecules that are currently being evaluated by those players. And frankly, when you think about the magnitude of that opportunity for us, today it's still very small. Its growing very fast, but it's very small. I think we will see a positive impact to our growth momentum and that will be a lot more meaningful sometime later in '17 and certainly in '18. So, that’s for the deposition materials and then as I mentioned, as you continue to add more layers, those device architectures are becoming increasingly prone to contamination, and we are very, very focused on developing very unique filtration and purification solutions for those fabs. And there again I think that we are at the very beginning for fully realizing this opportunity. So, I think, we think about 3D NAND, it is growing very fast for us. It remains a very smaller component of our overall business. But, I think it's going to become a lot more meaningful going forward.

[Patrick Ho:]

Great. Thank you very much.

[Operator:]

And with no more questions in queue. I will turn the conference back over to Mr. Steve Cantor for any additional or closing remarks.

[Steve Cantor:]

Thank you. I just want to remind listeners that in May and June, we will be participating in investor conferences in San Francisco, New York, and Boston. And if you want more information about those, you can contact me, and we look forward to updating you on our second quarter results in July. Thank you all again and have a good day.

[Operator:]

And ladies and gentlemen, this concludes today’s conference. Thank you for your participation. You may now disconnect.