PDF Solutions, Inc.
Q1 2008 Earnings Call Transcript

Published: 12 May 2008

[Operator:]

Good day, Ladies and gentlemen, welcome to the PDF Solutions Incorporated Conference Call to discuss its Financial Results for the First Fiscal Quarter ended Monday, March 31, 2008. At this time, all participants are in a listen only mode. Later we will conduct a question-and-answer session for which instructions will be given at that time. (Operator Instructions). As a reminder this conference is being recorded. If you have not yet received a copy of the corresponding press releases, they have been posted to PDF's website at www.pdf.com. Some of these statements will be made in the course of this conference are forward-looking including statements regarding PDF's future financial results and performance growth rates and demand for its solutions. PDFs actual results could differ materially. You should refer to the section entitled risk factors on page 10 through 18 of PDF’s annual report on Form 10K for the fiscal year ended December 31, 2007. A similar disclosure and subsequent SEC filings, the forward-looking statements and risk stated in the conference call are based on information available to PDF today. PDF assumes no obligations to update them. Now, I’d like to introduce John Kibarian, PDF’s President & Chief Executive Officer and Keith Jones, PDF’s Chief Financial Officer. Mr. Kibarian, please go ahead sir.

[John Kibarian:]

Thank you, and welcome everyone. Today I’m going to discuss the results of the first quarter 2008 discuss our outlook for Q2. For the first quarter 2008 PDF Solutions is reporting total revenue of $20.3 million and non-GAAP net loss of $0.02 per share. Gain share was $5.3 million. All of these results are in the ranges we provided in update guidance on April 14. Keith will talk more about these results and our guidance going forward in a few minutes. While we believe we made many of the right investments to position PDF for the future, we were surprised by the extent that poor conditions in the general market affected purchasing decisions of semiconductor companies, which resulted in disappointing financial results for PDF in Q1. We found many companies being cautious in general, and favoring spending to accelerate Next Generation processes instead of incremental improvements in existing process efficiencies. We are fortunate that many clients consider PDF Solutions critical for these leading edge investments this is the basis of our outlook for Q2. I am pleased to report that during the quarter we closed some very significant deals that position us well for the future. We signed a LOA with a leading logic manufacturer for a 32 nanometer integrated deal ramp. This is the fourth process node for which the client has relied on PDF and represents their most extensive use of PDF Technology to date. The client is also engaging PDF earlier than ever, allowing us to begin addressing their yield challenges early in process design continuing all the way through volume manufacturing. The contract is intended to span over six years. In Q2, we signed an extension for an engagement at an existing leading memory client. As their business strategy increasingly depends on the successful deployment of Next Generation process technology our solutions for process design are becoming even more critical. In particular, the introduction of copper requires cutting edge characterization capabilities. Something they know they can rely on PDF for. While the engagement we signed in Q1 is limited in scope to R&D, there is a significant potential for follow-on engagements for ramping the production in the clients own fabs as well as those of their licensees. In Q1 we scored a significant win with our yield management system a solution based on data power was selected by a leading U.S. based integrated device manufacturer for their R&D facility. Successful deployment at this site will set the stage for further deployment of data power to all of their daughter fabs. Typically the strongest competition for data power is the customers internally developed systems. Winning this flagship account in a competitive and demanding demonstration shows how strong our solution is compared to even the most advanced internal systems as well as other commercial systems. Lastly, in Q1, another existing memory client accelerated deployment of our FDC solution in their R&D fab. Despite going through an extremely challenging period in their business, our client chose to invest with PDF to improve control in their R&D fab so they can develop new processes more rapidly. While significant progress was made with these new engagements. There were also several contracts that did not close in the quarter. We expect to close many of those contracts in Q2; however we feel that most of the memory engagements will not extend as customers abandon improvements in existing nodes to focus on R&D for new nodes. On the expense side, we achieved the expected improvements in Q1 compared with Q4 of last year; however after the signals we saw in the market in Q1, we decided to further reduce our cost resulting in an expected one-time restructuring charging Q2. Our goal is to breakeven, even if we have revenue performance similar to Q1 and then improve our profitability as we drive up revenue. We believe this proactive cost reduction is prudent given the uncertainty in the market. Our Q2 revenue forecast is based on the assumption that IT companies environment will remain difficult in the quarter. We expect modest increase in gain share and an improvement in the number of new contracts. Going forward we expect fewer contracts for standalone licenses and more for integrated solutions that may include significant software components. In difficult times I see companies look to strategic partners for mission critical solutions. We saw evidence of this with the deals in Q1 as well as the continued activity in early Q2. Although some of the business might not represent significant revenues initially, we are very much focused on investing in long term relationships which bring significant value both to the client and to PDF. Now I'll turn the call over to Keith who will discuss in detail our financial results for the first quarter and our guidance going forward. Keith.

[Keith Jones:]

Thank you, John and good afternoon to everyone. Let me again state that this presentation and our press releases issued earlier today include references to certain non-GAAP financial measures. The press releases contain the reconciliation of such measures to the most directly comparable GAAP measures and you may access the press releases and the reconciliation in the investor section of our website located at www.pdf.com. Revenue for the first quarter ended March 31, 2008 total $20.3 million a decrease of 8% and 17% when compare to the first quarter of last year and last quarter of respectively. These results were in the range we provided in our first quarter update press release on April 14. Compared to the first quarter of 2007 the decrease was a result of a modest increase in gain share offset by a decrease in design to silicon yield solutions. Compared to last quarter, the decrease was the result of both a decline in design to silicon yield solutions and gain share; however, we are pleased that gain share was in our original range of guidance provided on February 9th during our fourth quarter conference call. Design silicon yield solution revenue totaled $50 million for the first quarter. A decrease of 13% and 17% in the from the comparable period last year and last quarter respectively. As John discussed, fewer contracts closed than expected and those that did close closed later than expected and contributed lower revenue during the quarter as a result. We closed one LOA with an existing customer for a 32 nanometer Logic Yield Ramp, and expect this to convert into a full contract shortly. We also signed a further commitment to a previous LOA for work on a 55 nanometer R&D memory contract and signed what we consider to be a landmark contract with a new customer for a yield management system solution with a client who is looking to replace its corporate wide system. We did see some upside on the deployment of our PCS solution driven by Maestria, with an existing customer, but in general, the rate and timing of these bookings were such that we could not achieve our original revenue to forecast for the quarter. However, looking backwards, we saw some important trends in clients strategic direction and general business activity was relatively solid. Additionally, we believe we did not permanently lose any business during the quarter. During the first quarter, 30 service engagements from 11 customers each contributed $115,000 or greater in revenue. This represented a drop of two engagements and one customer from last quarter. This decrease along with the natural decline of revenue from certain older engagements with a late start or delay of new engagements or extensions contributed to our revenue shortfall. Gain share revenue for the first quarter totaled $5.3 million, a decrease of 9%, an increase of 9% versus comparable period last year but at an expected 18% decrease from last quarter. Gain share revenue was generated from seven customers and 10 engagements a net increase in one engagement and one customer during the period. Despite this increased participation, gain share declined from last quarter as expected due to lower volumes at customer sites. As you've seen in our outlook press release, we are forecasting modest if any recovery in wafer volumes in Q2 to see gain share increasing as we enter the second half of fiscal year. Overall expenses for the first quarter of 2008 excluding stock based compensation and amortization of core technology totaled $21.2 million an increase of $1 million or 5% from the comparable period last year and decrease of $2.1 million or 9% from last quarter. The increase from last year is primarily result of our acquisition of Fabbrix in May 2007 couples with increased of supported and engineering cost in China. The decreased from last quarter was the result of our conscience control efforts as we knew we would face industry headwinds entering into the New Year. Research and Development expenses excluding stock based compensation totaled $8.5 million for the first quarter and increase of approximately $674,000 or 9% from the first quarter of 2007 but a decrease of approximately $530,000 or 6% from last quarter. The increase from the last year was primarily a result of the acquisition of Fabbrix and the shift of engineering payroll expenses from the field to our development organizations as revenue slowed. The decrease from last quarter was primarily the result of cost cutting measures partially offset by the shift of field resources into development. Selling, general and administrative expenses excluding stock based compensation were $5.4 million during the first quarter of 2008, an increase of approximately $397,000 or 7% from the first quarter of 2007 but flat from last quarter. The increase from the comparable period last year was the result of higher legal and relocation costs only partially offset by lower outside commissions and travel expenses. Flat spending from last quarter was primarily the result of increased legal expenses and trade show costs offset by the Company's cost cutting measures. Reiterating the statement made in our press release in addition to using GAAP results in evaluating PDF's business, management believes it is also useful to measure its results using a non-GAAP measure of net income which excludes stock based compensation expense, amortization of acquired intangible assets and the related tax effects. Additionally our non-GAAP guidance for Q2 excludes the effect of a one-time restructuring charge that will be incurred in Q2. non-GAAP net loss for the first quarter ended March 31 2008 totaled approximately $429,000 or $0.02 per share in the range provided in our update earlier this month. This compares with non-GAAP net income of approximately $3.9 million or $0.14 per share for the comparable period last year and non-GAAP net income of approximately $5.8 million or $0.21 per share there fourth quarter 2007. On a GAAP basis including stock based compensation, and amortization of acquired intangible assets we reported a net loss for the quarter of $2.5 million or $0.09 per share. This net loss included $2.8 million in stock based compensation and amortization of acquired intangible assets. Turning to our balance sheet at March 31, cash totaled $44.3 million, a decrease of approximately $1 million during the quarter primarily the result of the repurchase of Company shares. We repurchased a total of 197,000 shares in the open market at an average price of $5.71 and the total cost of $1.1million. To date we have repurchases 1.4 million shares under both authorized plans. Our accounts receivables remain flat at $38.5 million and the aging and collect ability of our receivables remains very healthy. Now turning to guidance. I will state again that some of the statements made in the course of this conference call including the ones that we are about to make with respect to Q2 of fiscal year 2008 are forward-looking. This statements include expectations about our future financial results and performance growth rates, the success of any business objectives, product and service features and introductions, client products and demand for PDF design to silicon yield solutions. PDFs actual results could differ materially. You should refer to our current SEC filings and understand the forward-looking statements made during this conference call are based upon information available to PDF today. We assume no obligation to update them. Note that the second quarter non-GAAP guidance excludes the effect of a $1.7 million one-time restructuring charge which will be incurred to help better align our resources with our current opportunities in the market place. For the second quarter of 2008, we reiterate the guidance we have provided in our outlook press release earlier today. Total revenue is expected in the range of 20.5 to $22.5 million. Gain share revenue is expect to be in the range of 5.3 million, to $5.8 million. Non-GAAP earnings per share for the quarter is expected to be break even to net income of $0.06 per share, including an estimate of annual tax rate of 30%. I will repeat what John mentioned already, we believe that we have invested in right palaces during 2007 and moving into Q1 2008 to expand and solidify our offering to provide technology and services throughout the entire semiconductor power supply side. We remain optimistic yet cautious as we continue to see industry headwind that we will see favorable turn in the next few quarters, but we will take the appropriate steps to be ready which ever way the market may turn. With that, I would like to turn the call back over to operator to open the floor for questions.

[Operator:]

(Operator Instructions). And your first question comes from the line Mahesh Sanganeria.

[Mahesh Sanganeria:]

Hi guys. This is Casey in place of Mahesh. How do you guys see the rest of Calendar '08 shaping up beyond Q2?

[John Kibarian:]

Hi Casey, this is John Kibarian. As you know, we gave guidance in February on Q1 and obviously, we were wrong. So we are skeptical in our ability to give guidance on second half of the year given what we saw was a very sharp change in the customers mind set, as we went through March. We gave guidance for this quarter, as we think we have a good understanding what's going on this quarter. We did and if you listened to Keith's communication express our confidence that gain share volumes will go back up would suggest that customer business should improve as we get to second half of this year, but we haven’t really given or we don’t plan to give any guidance for Q3 and Q4, in general about the business until we get through Q2 and understands what's going on in the market place.

[Mahesh Sanganeria:]

Okay. What would you expect to see turning points which will lead your end customers to start spending more?

[John Kibarian:]

We do believe as we get to the second half of this year the volumes at the leading-edge 65-nanometer primarily will improve, because we see that we do expect to see a customers spending on other you know, on costs control on those note in those beating boundaries, we expect to improve as the second half of this year happens. On memory we do believe customer will make a big push for 55-nanometer once that nodes start going into production and we expect that to be a catalyst as we get into the second part of the year. So for process control on the logic side it's primarily the volumes of 65-nanometer for the memory side as you believe is primarily the 55-nanometer note that will be a catalyst. And from an R&D standpoint, it’s 45-nanometer or the logic end memory both that late stage ramping for logic memory, and 32 day for early stage.

[Mahesh Sanganeria:]

If you were to look at your current device engagements could you give us a rough breakdown between logic versus memory versus FDC?

[John Kibarian:]

Yeah, so the FDC versus logic and memory is a difficult one, because we have FDC engagement for all types of manufacturers including logic and memory manufactures, so that one I don’t think I could really give up a clear answer on, Casey in terms of memory versus logic, logic is still the majority of our business. We do see strengthening in memory market in terms of customer interest especially in the R&D solutions we have at this point, but logic is still dominates out business.

[Mahesh Sanganeria:]

Okay. And lastly do you find any improved [stations] from the Data Power side of business?

[John Kibarian:]

Yeah, I think it’s a good question Casey. So as one of the bold points that I made and I think also Keith talked about we were excited about the win that we achieved with data power with the leading integrate device manufacturer here in the us looking to replace internal systems really is why we are able to win that is the data management and the data systems that data power have are rally vastly superior to what's available on the commercial market. We were able to demonstrate abilities to work with large chunk of the data very effectively and that’s really a growing problem for our customer base. We now have coming out in the Q3 time frame that 8.0 version of data power which is the Q3 powered in terms of automating and providing more functionality to the customers to drive a tremendous amount of efficiency really to leverage the kinds of advantage that we have in terms of data capability and what we've really been leveraging on this win that we had in this quarter, this past quarter as well as what we will see going forward is really combining data power in total solutions, where we can really get a customers bigger business problems. And that’s something we were very happy about this Q1 win we are really -- the problem that customer wanted to see solved was how can you manage really huge chunk of the data and be very efficient with them as we get out to the second half of the year, there going to be more solutions that we build around not just Data Power but Maestria or FDC Systems all around our volume manufacturing solutions. It's really just expanding our yield to our FDC concept across a broader set of our product portfolios.

[Mahesh Sanganeria:]

This IBM customer who has purchased your data power do they use your other products as well?

[John Kibarian:]

That’s a good question Casey. This is a new customer for us, I mean very much like the way that we got into Elpita in Japan, it really started with them doing a pilot development -- pilot deployment of data power customized around their R&D problems, than they actually expanded that to broader cost-set production and then Elpita expanded into our other solutions eventually using basically a broad range of PDF Solutions for process development ramping and volume manufacturing. A lot of our technology, this is a customer that really is it at the very beginning in terms of their expansions with PDF focusing primarily on data power solutions, targeted R&D and the next obvious thing is to roll Data Power out across their daughter fabs and eventually discuss with that customer how our other solutions and systems can be applicable to their business problems.

[Mahesh Sanganeria:]

Thanks folks.

[Operator:]

Next question comes from the line of Matt Petkun.

[Matt Petkun:]

Hi, good afternoon. Actually John speaking specifically about that Data power contribute to a nice improvement and the actual license revenue this quarter. How should we think about that line item as softer a license in particular as we transition through the year and with that individual customers daughter fabs and might?

[John Kibarian:]

Yeah, Matt actually it’s a good question. That was really a solution sale, so that didn’t show up as standalone license revenue in that line item and actually is relatively modest contribution in revenue in this past quarter, really primarily in a more traditional -- well I think Keith can talk about the revenue recognition, but the more typical completion is I think that headline. As we rollout what we call more solution sales, the revenue will be more back end loaded on those kinds of contracts. The license revenue you saw this quarter were really of historical contracts primarily I think a mix between yield management systems and fault detection systems at customers, purchase orders and deployments at customers that were customers we had had before.

[Keith Jones:]

And Matt, just to kind of help clarify, that particular cell did not come up well up into our license revenue simply because it was not a license sale per se. It was a services solution that we wrapped around our Data Power technology, so in essence, instead of selling them seats, we sold them a solution to help really address their needs with the customer and to the extent we have, we combine our technology from our other service offerings and combine that with our software cells, the accounting for that is going to be very much like what we do for our standard yield ramp engagements for its percent complete because they're very much synergistic, they're very similar in scope and size and that's where you particularly see that deals like that to be reported in the future.

[Matt Petkun:]

Okay. So other than the fact that you're calling it a solution. It implies that there is future derivable's and can you be a little more specific about in this type of instance what does future deliverables for this customer would be?

[Keith Jones:]

Well on this particularly sales it really trying to help calibrate that solution to there operating environment and then trying to find a synergies within their buisness and their solutions and data formats and layouts to address their needs. So there's a lot of services there's a lot of customization and there is a lot of consulting around our technology to give in value added suggestions as they roll out the software applications and the services that we develop for them.

[Matt Petkun:]

Okay. And that leads me to my next question which is as you move more of these license sales into your solutions line item I would expect that you have better visibility in the solutions business and so I need a little more clarity on exactly how the shortfall came this quarter. To begin with did you say that the number of active engagements declined from 15 in Q4 to 13 in Q1?

[Keith Jones:]

That’s correct , Matt. So in this quarter what we had seen as part of the decline was some of the engagements that we had signed that had come to near completion, we had expected an extension, a major extension associated with that. As we continue to see further business and we still see opportunities in that regard, so that was a little bit of a surprise to that extent and we weren't anticipating seeing that decline as we expected that business to continue. But as you mentioned with these types of engagements that we're referring to the software cell that it combines with solutions, it's not kind of necessarily a one-time event. There's a long period deliverables and so it adds a revenue contribution over multiple quarters.

[Matt Petkun:]

Is it fairly ratable?

[Keith Jones:]

Not necessarily. You can say it's fairly ratable but there's probably a little bit of spike in the earlier period when we have a little more development effort in the front end versus the back end.

[Matt Petkun:]

Okay. And then Okay, and then can you refresh my memory, the number of IYR customers from Q1 versusQ4? That dropped by one customer is that what you said?

[John Kibarian:]

Yeah it dropped by one customer.

[Matt Petkun:]

To what number?

[John Kibarian:]

To 11.

[Matt Petkun:]

From 12? Okay and then so in particular the few deals or extensions that you are hoping to get his quarter and to not get. Where those more correlated to memory or logic or was there no real specific driver there?

[John Kibarian:]

I think it was more correlated to memory than logic. We saw that more mature nodes that memory customers were basically saying hey there is no yield we can get to or where we cn make money on this we've rather move on to the next node.

[Matt Petkun:]

So John that leaves me to one more question which is so with those engagements if memory customers are forced to make no transactions more rapidly then they would have originally forecast. Does that eliminate your opportunity for gain share then on the work that you would have done on those nodes?

[John Kibarian:]

Yeah so I think there is a couple of things going there Matt. Typically what we've been seeing in our initial memory business we started really with one of the developers of memory technology that's been licensing in Taiwan and followed them out to licensees in Taiwan so when you move on to just R&D there's really only a small number of memory players that do R&D and a larger number that do production. You see a fall off in terms of the number of opportunities you can sell to when you look at R&D versus production as those things transfer into production you will get those opportunities back. Secondly as we did say. Secondly as we did say, the early memory engagements that we did, the gain share, traditional gain share was not a subsequent contracts, it was really targeted towards usage rights on scribed technology and amount of scribed technology that could be able to pass it on. You were right as they stop running those products ot stopped monitoring those products we loose revenue opportunities there. However as we've said before the gain share numbers that you were seeing in our forecast for gain share really does not include any memory production at this time not until we understand have contracts and understand how to monitor those and their contribution to gain share.

[Matt Petkun:]

Okay. Final question and then I will turn it over to somebody else. Can you provide some more specific metrics beyond -- in terms of what's getting cut here in the $1.7 million charge, what areas are you specifically targeting and how should we adjust our models going forward to reflect these changes in Q3 and Q4?

[Keith Jones:]

Well, I think I think the answer to your question is what we see is comparing our 2007 spending versus 2008, we see that to be flat to down from year-over-year , so there's -- you take a look at what we're ramping up to at the end of Q4 we are at a very high run rate, roughly $23 million and in Q4 you can see with our action that we taken place that we've had a pretty healthy savings in Q1 and we continue to see that throughout the remainder of the year. In particular, what we've done in areas of savings has been some consolidation of our development groups. We also leverage greater on our. subcontractors and then from a head counting re-sourcing standpoint, looking to source people or hire people in lower cost areas is our primary focus.

[Matt Petkun:]

Changes to the salesforce?

[Keith Jones:]

Not significant, no. Not really any changes at all.

[Matt Petkun:]

Okay and what do you use subcontractors for?

[Keith Jones:]

We use subcontractors for the development and deployment of our services for R&D and for the deployment of our contracts.

[Matt Petkun:]

Okay. Thanks. It's somebody else's turn.

[Operator:]

At this time there are no more questions. I'll now turn the call back over to Mr. Kibarian for closing remarks.

[John Kibarian:]

Thank you for joining our conference call. Good bye.

[Operator:]

Ladies and gentlemen this concludes the program. Thank you.