Entegris, Inc.
Q3 2017 Earnings Call Transcript

Published: 28 Oct 2017

[Operator:]

Good day and welcome to the Entegris Third 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 Steve Cantor, Vice President of Corporate Relations. Please go ahead, sir.

[Steve Cantor:]

Thank you, and good morning everyone. Earlier this morning, we announced the financial results for our third quarter ended September 30, 2017. You can access a copy of our press release and related slides 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. You can find a reconciliation table in today's press release on our website. On the call today are Bertrand Loy, President and CEO and Greg Graves, CFO. Bertrand will now begin the call. Bertrand?

[Bertrand Loy:]

Thank you, Steve. I will make some comments on our third quarter performance. Greg will follow with more details on our Q3 financial results and provide guidance for our fourth quarter of 2017. We will then open the line for questions. We delivered another record quarter with excellent execution across the company. Our sales grew 16% from a year ago and 5% sequentially reflecting strong performance of both our new products and legacy offerings. We achieved quarterly GAAP EPS of $0.28 and non-GAAP EPS of $0.40. We generated record quarterly adjusted EBITDA of $96 million or 28% of revenue and we took steps to realign our AMH business to expand its future profitability. Finally, we broadened our capital allocation strategy to include a quarterly dividend while continuing to pay down our term loan. Overall, the industry environment remains favorable. With wafer production trends reflecting a widening of end-demand beyond PC and mobile devices. Indeed, the industry continues to invest in new leading-edge capacity as makers of 3D NAND and advanced logic devices continue to drive aggressive technology roadmaps to meet the computing power and storage requirements to support a number of emerging applications enabled by artificial intelligence and other new technologies. As we have stated before, new materials are playing a major role in these technology roadmaps. But the process challenges remain enormous. The reduction of new materials and the purity levels of these new materials will be critical to the next performance of the next-generation devices. These requirements are no longer limited to advanced logic. We are becoming essential to advance memory fabs as well. At Entegris, we welcome these process challenges since they present new and expanded opportunities to leverage our unique array of capabilities to help our customers reach expectable yields faster. More than ever before, the industry's technology leaders are coming to us to develop new molecules and in parallel develop co-optimized purification, packaging and delivery solutions. As a result, our SERC markets have been expanding and we’ve discussed many of our key initiatives including advanced filtration and advanced packaging solutions for bulk chemical manufacturers as well as more resistant coatings for H chamber components, more performance deposition materials and hence mixtures of process gases and new CMP pad conditioners. These initiatives are tracking ahead of plan and are just illustrations of our robust pipeline of customer engagements. We are also addressing emerging opportunities in China with new partnerships that expand our local presence and shorten our supply loops. I am pleased to report that we have recorded our first customer sale of oxygen specialty gas products produced in Guangzhou in collaboration with Spectrum Materials, the leading specialty chemicals company in China. In addition, in September, we announced a new partnership with Jingxing to supply our high-purity TEOS material in the region. This material is critical to enabling 3D NAND device performance and its partnership will help us gain share in this fast growing market. We also continue to invest broadly to better support our global customers. During the quarter, we celebrated the grand opening of the new technology center in Taiwan, which combines our filtration, chemistry formulation and applications expertise in one single site. This new technology center has expanded clean room space and will host our most advanced analytical and metrology equipment. This investment reflects our commitment to support our customer engagements with the best-in-class technical and application support. And we are also adding new manufacturing capacity for a number of fast-growing product lines. During the quarter, we completed the installation of new reactors at our facility in Jangan, Korea to support the ramp in our specialty coating solutions. In addition, we also expect new capacity for our gas and liquid filters as well as for our graphite material to come online during the fourth quarter. From an operational and financial perspective, we were very pleased with our execution as we effectively worked on yield optimization initiatives, while being in the midst of very significant new product ramps and new capacity additions. We are constantly looking for ways to optimize our business model and improve our cost structure to achieve yet stronger financial results. The steps we took this quarter to realign the AMH division are a good example of this relentless focus. While AMH top-line performance has been strong, its operating margin has been below our expectations and we believe that these steps will improve AMH financial performance as we move through 2018. Early this month, we also announced the initiation of a quarterly dividend of $0.07 to be paid to shareholders of record as of November 1. This is a natural evolution of our capital allocation strategy. Our stable business model and healthy cash flow enable us to simultaneously invest in growing our business, pay down our debt, make modest share repurchases and return cash to shareholders while maintaining flexibility for future acquisitions. Finally, I want to take a moment to commend the global Entegris teams for another outstanding quarter. Entegris' 4,000 employees around the world are dedicated to innovation and excellence. Their attitude, their mindset, their relentless commitment is valued by our customers and frankly is what I am most proud of. This is the foundation of our financial performance today and this is what will fuel our success tomorrow. As we look to 2018, we foresee positive trends in the industry and we expect wafer starts to grow at about twice the rates of global GDP. We also expect to continue to grow faster than the industry as we capitalize on the success of our new products and as we fully leverage the new manufacturing capacity that is coming online by the end of this year. I will now turn the call to Greg for the financial details. Greg?

[Gregory Graves:]

Thank you Bertrand. We are very pleased with our third quarter and year-to-date performance, which again demonstrated the strong operating leverage in our business model. Q3 sales of $346 million grew 16% from a year ago and 5% from Q2. The strong results were driven by broad based strength across the business. We achieved non-GAAP earnings per share of $0.40 which was above the high-end of our guidance and up 67% from Q3 last year. For the first nine months of the year, sales of $992 million or up 14% over the prior year and non-GAAP earnings per share of $1.02 grew 48% from the first three quarters of last year. Our operating performance reflected a non-GAAP adjusted gross margin of 46.2%, as our manufacturing teams again executed very well and we continued to benefit from higher volumes and favorable product mix. We expect non-GAAP adjusted gross margin to be approximately 46% in Q4. Non-GAAP operating expenses in Q3 were $78 million, which was at the low end of our expectations and essentially flat with Q2. We expect non-GAAP operating expenses to be $79 million to $81 million in the fourth quarter. The slight increase reflects the addition of engineering talent to support our key growth initiatives. Non-GAAP operating margin was 23.5%, up from 22.4% in Q2. These results exclude ongoing amortization expense, severance cost, asset write-downs and an impairment of intangible assets. Net interest expense of $7.6 million declined from Q2 as a result of continued debt repayment. Our GAAP tax rate was 18% and the non-GAAP rate was 22%. The GAAP and non-GAAP rate were both lower than Q2 as a result of a discrete benefit from higher R&D credits. For the full year 2017, we are expecting our non-GAAP tax rate to be approximately 24%. Adjusted EBITDA for the quarter was a record $96 million or 28% of revenue. For the first nine months of 2017, we have generated $260 million in adjusted EBITDA, which is a 26% - which is 26% of revenue and represents a 34% increase over the prior year. The growth in EBITDA relative to revenue demonstrates the operating leverage in our model and it's consistent with our objective of growing EBITDA at more than twice the rate of sales. Overall, we were pleased with our performance by division. Our Specialty Chemicals and Engineered Materials division recorded its fourth consecutive record quarter, up 19% from a year ago and 13% year-to-date. New products continued to drive our specialty gases, coating solutions and advanced deposition materials to record levels. In addition, demand for our graphite materials remains strong, driven by applications in glass forming and aerospace. SCEM’s non-GAAP adjusted operating margin was 28% consistent with Q2 and at the high-end of our expectations. The continued strong profit performance reflects very good execution by the supply chain team and favorable product mix. Our Microcontamination Control division achieved its sixth consecutive record quarter and grew sales 23% from last year and 21% year-to-date. This growth is the direct results of the investments we have made over the four years in technology development, technical centers, new metrology tools and advanced manufacturing capabilities. The MC division also benefited from the steady level of activity across the trailing-edge fabs. MC’s non-GAAP adjusted operating margin was 38% up from 36% in Q2. The strong operating margin reflected higher volumes and favorable product mix. The Advanced Material Family division grew 8% from last year and 9% year-to-date, in line with our expectations and industry trends. Demand for our advanced groups continues to benefit from new fab capacity build-outs and sales of our fluid handling components, which attracts both new fab infrastructure projects as well as OEM shipments of new wet etch and clean and CMP tools. AMH’s non-GAAP adjusted operating margin of 21% was consistent with Q2 and well above Q1 of this year. As Bertrand described, we took steps to realign the AMH business in Q3 to improve the profitability of this division. We expect the full margin impact of these steps to be evident in mid-2018, we expect AMH to achieve targeted operating margins of 22% to 24% consistent with what we outlined at our Analyst Meeting in March. Cash flow from operations for the quarter was $89 million and free cash flow was $64 million. Year-to-date, we have generated $140 million of free cash flow, a 33% increase from last year. DSOs were 48 days, up from 47 days in Q2 and inventory turns of 3.9 improved from 3.7 in Q2. Turning to the balance sheet, our cash balance is $435 million, of which approximately $112 million was in the U.S. Uses of cash during the quarter include CapEx of $25 million, consistent with our full year CapEx plans of $90 million to $100 million related to investments in capabilities and capacity to support our growth initiatives. During the quarter, we reduced our long-term debt by an additional $25 million. Total long-term debt including current maturities was $511 million and our net leverage was 0.2 times. We also repurchased $10 million of stock in the quarter as part of our ongoing buyback commitment. As Bertrand mentioned, we expanded our capital allocation strategy to include a quarterly dividend of $0.07 which represents a yield of a little less than 1% at the current stock price. Through a combination of the dividend and the quarterly share repurchase program we are returning $20 million of cash per quarter to shareholders. We are confident in the cash generation capability and stability of our business model. The strong cash flow supports a comprehensive capital allocation strategy that balances continued debt repayment, building liquidity for potential acquisitions, modest share repurchases, and a quarterly dividend. Turning to our outlook for Q4, we expect sales to range from $335 million to $345 million. At these revenue levels, we expect non-GAAP EPS to be $0.35 to $0.40 per share, consistent with our annual target model. For the full year, we expect revenue to be up in excess of 13% and non-GAAP EPS to be $1.37 to $1.42. In summary, we are excited about our growth opportunities and the progress of our key strategic initiatives. We are pleased with our operating and financial performance and specifically, the earnings flow through we are achieving relative to our top-line growth. Finally, with positive industry momentum, and a product portfolio that is leverage to key industry trends such as 3D NAND, and the internet of things, we are excited about our prospects for 2018. Operator, we’ll now take questions.

[Operator:]

[Operator Instructions] We’ll take our first question from Patrick Ho from Stifel, Nicolaus.

[Patrick Ho:]

Nice quarter and outlook. Bertrand, you guys have done an excellent job of leveraging your current capacity, especially as revenues have grown this year. As you look forward to 2018, would you kind of suggest there will be another growth year, how do you feel about your current capacity in-house and whether you need to further increase to potentially drive the increase of revenues next year if industry conditions continue to be very favorable?

[Bertrand Loy:]

Hi, Patrick. Good to hear you. So if you think about the many different programs that we initiated this year, in terms of capacity additions they relate to our gas and liquid filtration products, our graphite materials and our specialty coating solutions. All of those new additions should be sufficient to deal with the expected revenue in the next two to three years. And at this point in time, I do not expect any significant new capacity addition for any existing product lines. The only exception probably to that statement would be the new deposition materials that we are in the process of developing, but I would not really qualify that as capacity addition per se and they really relate to new molecules and new products that we are in the process of developing.

[Patrick Ho:]

Great, that’s helpful. And maybe as a follow-up question. In terms of your specialty chemical and engineering materials business, you’ve talked about in the past your relationships, or you are growing relationships with lot of your customers in developing these next-generation materials with your customers. Can you just kind of maybe give a little bit of an update on that front given that you’ve talked about advanced deposition materials that have now emerged and that’s being a key driver? What are some of the next kind of generation materials that you are working on with your customers and how that could potentially contribute down the road?

[Bertrand Loy:]

So, you are correct, Patrick. Deposition is just getting harder as device architectures are becoming increasingly challenging and that’s really the direct function of further miniaturization of the metal gage, but also vertical scaling. So, to achieve the required conformity the industry is adapting new classes of precursors, solid precursors are becoming increasingly the norm and there was actually new types of materials are really difficult to handle. So we’ve been developing in collaboration with our fab and OEM customers, pure solid materials and we also in parallel developing new delivery systems to ensure the efficient delivery of those materials and also the stability of those materials with our transportation. So, the type of materials that we’ve been focusing on are fluorine-free tungsten, cobalt. So that’s really for some of the solid materials, but then, we also are developing other types of materials in different states and another area of focus has been aluminum chloride and only to name a few. All of those materials have applications in advanced logic but the major area of focus for us recently has been advanced memory and that’s really where we expect most of the growth for advanced deposition materials to come from.

[Patrick Ho:]

Great, thank you very much.

[Operator:]

Moving on, we'll now take our next question from Toshiya Hari from Goldman Sachs.

[Toshiya Hari:]

Hi, good morning and congrats on another set of very strong results. Bertrand, I had a question regarding your Q4 outlook and some of the comments you made on 2018. For Q4 specifically, I think if we take the midpoint of your guide, you are expecting revenue to decline somewhere between 1% and 2% sequentially. I think, your biggest customer in Taiwan this week or last week talked about their Q4 revenue being up 10% sequentially at the midpoint and as you guys know, there continues to be pretty severe tightness in memory both in DRAM and NAND. So, I guess, what’s driving the sequential decline in your guidance for Q4? Could it be lumpiness in AMH or something like that? Some commentary there will be helpful. And then on 2018, Bertrand, you talked about wafer starts potentially growing at 2x the rate of GDP. I think it’s rare for you at this point of the year to give commentary on 2018. So what gives you the confidence to guide so far out? Thank you.

[Bertrand Loy:]

Great. Thank you for the two questions, Toshiya. And let me start with the Q4 guidance and you are right, I mean, the guidance that we’ve been providing represents a modest sequential decline versus Q3. I think this is mostly in line with normal seasonal trends and you are correct that we continue to expect steady levels of activity in advanced memory and advanced logic fabs. But I think it will be offset by lower utilization levels in fabs running at 28 nanometer and above. So, that’s on the one hand and that will impact our unit-driven business, which represents about 75% of our revenue. On the CapEx front we expect the industry standing to be modestly down, which I would say is probably a little better than our original expectations, but we continue to believe that it’s going to be a modest down quarter for our CapEx business. So net-net, overall on a full year basis, if you take the midpoint of our guidance, we expect to grow our top-line in excess of 13% as Greg mentioned in his prepared remarks and this would represent and outperformance of about 100 to 200 basis points over the underlying industry growth and this is consistent, of course, with our stated growth objective. As it relates to your second question under the 2018 guidance, so, yes, we expect 2018 to be another good year for the industry and a great year for Entegris. We think that, again there is pent-up demand for a number of those chips that will be absolutely essential in building the architectures supporting a number of emerging new applications and we think that the demand for 3D. When you think that the demand for artificial intelligence chips will continue to grow very steadily in 2018. This is what we are hearing broadly across a number of our fab customers and this is really what gives us the conviction to stay that wafer starts in all likelihood will be growing at about twice the rate of GDP. The one part of our business, where we don't have that level of visibility is really the CapEx and at this point in time, it’s really hard for us to provide a quantified growth number for this part of our business. We will do that in February when we report our Q4 earnings and at that time, we expect to provide a more comprehensive guidance for 2018. And then, the last point that I want to make around our optimism around 2018 has nothing to do with the industry, but really has to do with the richness of our opportunity pipeline. And we continue to – because of again the health of the opportunity pipeline. We continue to expect to outperform the industry by 100 to 200 basis points and that’s going to come from capitalizing on the product momentum that we’ve seen from a number of new solutions we introduced in the market, but also leveraging the new capacity that will be coming online later this year in 2017.

[Toshiya Hari:]

Great. I had two more if I may. So first, in terms of your MC segment, Greg, you mentioned very nice profitability in the quarter, 38% adjusted profit margins. In AMH, you talked about a potential 200 to 300 basis point improvement over the next couple of years. Can you maybe talk about sustainability or profitability in the MC segment and if that could improve going forward? And then separately, in terms of your cash allocation strategy going forward, very nice to see the dividend initiation, but how should we think about mix going forward between organic investments, potential M&A and shareholder return? Thank you so much.

[GregoryGraves:]

Okay, that relates – hey, Toshiya, but as it relates to the divisional performance and if you - both MC and SCEM are performing above the targets that we laid out at our Analyst Day. So, we feel very good about the performance. We’ve had very good – we got very favorable mix in both of those divisions. And so, I would expect barring of significant shift in mix or change in our operational performance which has been very good that you’d expect to see performance at similar levels for those two divisions. And then we would see improving performance in the AMH division as we get into the middle of next year. As it relates to capital allocation, we’ve got a strategy that really amounts to an annual capital allocation of about $180 million and that breaks down as a $100 million in annual debt reduction and then returning $80 million to shareholders in the form of $10 million a quarter in buybacks and $10 million a quarter in the form of the dividend.

[Toshiya Hari:]

Very helpful.

[Bertrand Loy:]

And in doing that, we don’t expect to be pinching ourselves in terms of what we need to do internally from a CapEx perspective or frankly we would need to invest from an ER&D perspective.

[Toshiya Hari:]

Very helpful. Thank you so much.

[Operator:]

Moving on, we'll take our next question from Edwin Mok from Needham & Company.

[Edwin Mok:]

Hey, thanks for taking my question. First, actually or just to follow on that capital allocation, just to be clear, so you expect your CapEx to come down in 2018?

[GregoryGraves:]

I would expect our CapEx in 2018 will probably actually be modestly higher. We have some pretty significant investments next year, Bertrand mentioned one of them in particular meaningful investment in our deposition materials business, which is growing very rapidly. So CapEx will probably be - we are not prepared to give 2018 guidance, but I would expect it would be up modestly from where we were in 2017.

[Edwin Mok:]

Okay, great. Yes, just want to clarify that. I have two questions actually. First is, Bertrand, your commentary that you guys are outperforming the industry by 100 to 200 basis points, right? Kind of, I think it will be point of guidance you are growing 13% this year, right? So that imply this year's industry is growing at 10% plus? Is that right or are you guys outperforming even more than that - more than 100 and 200 basis points that you talked about?

[Bertrand Loy:]

So, our estimate right now, Edwin is, about 8% to 9% for wafer start and then, of course, a higher number for CapEx. So the blend for us would give us about an 11% to 12% underlying industry growth rate. And again, we expect to achieve something greater than 13%. So that's really the basis from our statement about 100 to 200 basis points above the market.

[Edwin Mok:]

Okay, great. Okay that's helpful. And then, I have a question regarding your – that Jingxing agreement for manufacturing the TEOS, right. I guess two-part question, right, first is, do you guys have – is there any capital you have to invest in that production or is it the JV partner to do all the manufacturing this first part? Second part is, kind of if I look longer term beyond just kind of near-term what update you get, right? How do you kind of think about that business evolve long-term. Do you see that those kinds of JV type relationship be a way to go to get more footprint into China or do you envision yourself investing in the building facility in China?

[Bertrand Loy:]

Yes, so, Edwin, I think, first of all, as you can imagine, we are really focused very intensely on China as the market, this is a market that is growing very fast. This is also a market that is changing very quickly. And it's not necessarily clear today how this market will be looking like in three, four years from now. So, our strategy will evolve as we learn more. But – so today, let me just clarify that we don't have any JVs. I mean, the two relations that we have structured with Spectrum and Jingxing are both online partnerships. So we provide the technology. We own the manufacturing assets that they will be using to purify and fill in the cylinders. We will buy those cylinders and we will be, if you want, the channel to the end-customer. So it's a subcontracting, it's a manufacturing subcontracting arrangement with those two entities. So this is what I think is the right approach for both – some of the processed gases that Spectrum will be manufacturing for us and the TEOS material that we will be making in China. In both cases, those are legacy product lines. So older product lines, but the recipe may actually change as we may identify the need to make newer products in China and in which case we may decide to have our own fully-owned manufacturing capability in China. We haven't crossed that line yet. But this could be part of the strategy going forward.

[Edwin Mok:]

Okay, great. That’s very helpful. Thank you.

[Operator:]

Moving on, we'll take our next question from Sidney Ho from Deutsche Bank.

[Sidney Ho:]

Thanks for taking my questions and congrats on the great results. For the actions that you are taking in your AMH segment, can you give us a little more color of what you are doing there? And just to be clear, should we think about these actions will get you to the target margins? I think you mentioned 22%, 24% by mid-2018, and how much more runway do you think there will be beyond those targets?

[GregoryGraves:]

Okay. So, specifically, what we've done in the AMH business is we've reduced the cost structure through potentially rationalizing the headcount. So we had a headcount reduction that will be – that's a permanent reduction that will benefit us really beginning in the current quarter. We have exited or are in the process of exiting, what I’d call two product lines that we view as non-strategic. And so we've written the tooling off and in one case it's a small facility that will be ultimately hope to sell the business. And both very low margin businesses and both businesses that frankly weren't growing or contributing to the growth to the division. Those are the primary changes with regard to that business. The 22% to 24% target that we laid out in March and we obviously would hope to do better than that, but I would say at this point, we are not prepared to make a commitment beyond that.

[Bertrand Loy:]

Okay, the only thing I would add to that final statement that Greg made is that the, the product mix in this division can actually vary very drastically from one quarter to the next or from one year to the next. So it's really hard to commit to a much greater set of numbers at this point in time.

[Sidney Ho:]

Okay. Then I have a couple follow-up questions. First on, maybe this one is for Greg. You guys have done a really good job on the OpEx side. I think, third quarter was $78 million, fourth quarter, maybe $80 million at the midpoint. There is a lot of leverage, I think in 2017, that's 13% revenue growth. I know you only grow 2% of OpEx. How should we think about next year OpEx on a runrate basis or year-over-year growth basis?

[GregoryGraves:]

What I would say, our philosophy around OpEx particularly as it relates to the SG&A line is we want to hold that as tight as we possibly can on the areas of finance, IT, HR. We are very focused on keeping those numbers as near to flat as possible. I think flat is not necessarily possible, but I think sort of a couple of percent increase in those types of areas. ER&D, honestly, I would like to see spend more next year. If you look at our ER&D, it was actually down for the quarter versus Q2, we expect it to move up a little bit in Q4, but we are continuing to invest, continuing to hire people, continuing to expand our capabilities. So the increase in the ER&D will probably be more in line with sort of an inflationary rate maybe 3% to 4% next year.

[Sidney Ho:]

Okay, that's great, that's helpful. Well, my last question is, on a blended basis, your operating margin is at 22% in Q2, 24% in Q3 is doing well. If you look at the full year calendar 2017, you are offering like 2 percentage points ahead of your target model. Does that mean your operating margin target is conservative now? Or do you think there are reasons why operating margins would normalize to assure your model over time?

[Gregory Graves:]

I would say today, it all feels pretty conservative, like I say, we would like to invest a little bit more in ER&D. Historically, we've tried to keep that target model pretty consistent meaning we have changed it typically every two or three years. We just rolled this one out, about six months - little more than six months ago. So, we are not prepared to formally change it. But today, I mean, there is no doubt it feels pretty conservative.

[Bertrand Loy:]

So we will have an Analyst Day in March of next year. And I think this is probably the time for us to refine those numbers and start projecting forward as well.

[Sidney Ho:]

Okay. Thank you very much.

[Operator:]

[Operator Instructions] Moving on, we'll take our next question from Amanda Scarnati from Citi.

[Amanda Scarnati:]

Hi, good morning. Just a quick follow-up question on the arrangement, the manufacturing arrangements in China. What are you doing to kind of protect your IT in China? And do you view that as any sort of concern as China continues to develop out its semiconductor business, but there could be some IT concerns there?

[Bertrand Loy:]

Hi, Amanda. So, I mean, of course, as you can imagine, we are very focused on protecting our IT. We are a technology company. We strive on having differentiated technology and solutions and IT is a very important part of that. So, it starts with selecting the right partner. And I think in those cases, we are dealing with companies that share our values, our integrity and are committed to a very high manufacturing standards in terms of quality and safety as well. So, but again, I think selecting the right partner is essential and then again, we have control over the manufacturing process and we are very, very focused on making sure that the way we’ve set up the manufacturing locally allows us to protect our IT through embedded software solutions and other ways around it.

[Amanda Scarnati:]

Okay. Could you just talk about the percentage of sales you have? And the leading-edge node versus 28-nanometer and above nodes? And as we start approaching 7-nanometer introduction, do you see any improvement potential in gross margin?

[Bertrand Loy:]

So, I mean, we don't really break that down in terms of what is leading-edge and trailing-edge. It's difficult for us to do. But, if you look at the vitality index, we've been fairly consistently now tracking at about 30% of our revenue. The end-products and solutions introduced in the last three years and those products usually would end up in a leading-edge logic or memory fab. So, we've seen, actually that ratio expand overtime, which is a good sign. It shows that we are getting the return that we are expecting from the R&D investment. The other thing that we are tracking is whether or not those new products are yielding greater gross margins and that is the case. So I think that, overall, I am very pleased with the return we are getting in R&D both in terms of growth, other top-line, but also in terms of our ability to create value for customers and capture some of that value into greater margins.

[Amanda Scarnati:]

Great. Thank you.

[Operator:]

Moving on, we'll take our next question from Chris Kapsch from Loop Capital.

[Chris Kapsch:]

Yes, good morning. I had a follow-up on Bertrand's comment about the sales growth in the quarter being sort of broad-based across both legacy and advanced nodes. Could you just provide some color in that context? How the growth looked across memory logic and foundry customers? Was it similarly balanced? Or was it skewed towards memory if you have visibility into that?

[Bertrand Loy:]

I would say that the performance in memory continues to be very strong as it has been since the beginning of the year. We saw actually some improvement in our foundry and logic customers in Q3, which was actually welcome. So, then this is probably one of the most notable changes in the trends that we saw in Q3 versus what we have seen in the first part of the year.

[Chris Kapsch:]

Okay. And then, just sort of following up, if I focus on the MC segment in particular. The nice acceleration in year-over-year growth, at least compared to the second quarter. I am just wondering, so given the increasingly stringent purity requirements at the advanced nodes. I am just wondering if in that business is the growth also balanced across demand from legacy nodes, as well as advanced nodes or are you seeing, sort of an acceleration in growth in MC associated with just the purity intensity of the production and the architecture of chips at the advanced nodes.

[Bertrand Loy:]

So, well, I would say that the rate of growth is certainly higher at the leading-edge. But we are certainly very pleased with the performance across the board. Both in the semi leading-edge fabs, and as well as the trailing-edge fabs as I described in my previous comment. But the one part we haven't talked about is, the non-semi part of our business. As it relates to filtration, that market segment has been doing extremely well since the beginning of the year. Our display business has been growing and a number of other non-semi applications have been doing very well as it relates to the filtration. So, it's really broad based and that really is what has been driving MC to new record revenues quarter-after-quarter.

[Chris Kapsch:]

Got it. Thank you. And then just one follow-up on the actions you are taking to improve the margins in AMH. I guess, you mentioned 200 to 300 basis points of improvement, sometime middle next year. Is that something that is you would sort of gradually show up in the numbers? Or are these actions such that, it's kind of like flipping a switch in one quarter all of a sudden we’ll see that lift. And then, also just to get at those target margins for that segment, what sort of industry backdrop do you need in terms of the CapEx environment to achieve those – the targeted margins that you refer to? Thank you.

[Gregory Graves:]

Okay. So Chris, it's Greg. It will be relatively gradual. I mean, we announced that we were closing a facility last quarter. That facility doesn't actually close until the end of Q2 of next year. One of the product lines we are exiting is actually likely to be a sale of the business. That will take some - that's going to take some time as well. So, it should transition in by, like I said by – certainly by, we should see the benefit – some benefits in Q4, Q1, but the total benefit should be in place really by Q3 of next year. I mean, if you say, one is everything that would be cleaned up so to speak. From a backdrop perspective, I mean, that business on the capital side really benefits as much from new fab construction as it does from tool shipments. And so, if you said, what's the perfect environment, it would be both a combination of significant new fab constructions, new plumbing, or, I call them plumbing systems in the - in sort of the subfloors and that type of thing, as well as tool shipments.

[Chris Kapsch:]

That’s helpful.

[Gregory Graves:]

And then obviously, - and obviously the business is - about half the business is units. So units helps it as well.

[Chris Kapsch:]

Great. Got it.

[Gregory Graves:]

But it is our most capital-intensive business and like I said, it's both fab construction, as well as tools.

[Chris Kapsch:]

Got it. And then, maybe just one last one because, I think in the past you've characterized the more leverage in SCEM and AMH vis-à-vis the Microcontamination segment in terms of, I guess gross margin leverage really. And so, yet in this quarter, it sounds like at least, if operating margins are a proxy for gross margin trajectory, that seems you are definitely seeing some leverage in MC as well. So is there – is it just unit cost-driven? Is it mix or is it just across the board helping?

[Gregory Graves:]

Bertrand made a comment earlier around the AMH business and it is probably our most mix-dependent business. And so, in the current quarter, it wasn't an operating issue. On a relative basis, I mean, we were pleased with the performance, but to your point, you are comparing it on a relative basis. It clearly wasn't as strong as SCEM or MC and I would attribute that to a less than favorable mix.

[Chris Kapsch:]

Okay, thank you.

[Operator:]

And at this time, I would like to turn the conference back over to Steve Cantor for any additional or closing remarks.

[Steve Cantor:]

Great, thank you. Before closing today's call, I want to note that as Bertrand mentioned, we will be participating in a number of upcoming investor conferences in Boston, Singapore and London and we are planning an Analyst Day in March. And please look for more details on that in the coming months. Thank you again for joining the call and have a great day.

[Operator:]

And again, that will conclude today's conference. We do thank you for your participation. You may now disconnect.