Ichor Holdings

Good afternoon and thank you for joining today's third quarter 2022 conference call. As you read our earnings press release and as you listen to this conference call, please recognize that both contain forward-looking statements within the meaning of the federal securities laws. These forward-looking statements are subject to a number of risks and uncertainties, many of which are beyond our control and which could cause actual results to differ materially from such statements. These risks and uncertainties include those spelled out in our earnings press release, those described in our annual report on Form 10-K for fiscal 2021, and those described in subsequent filings with the SEC. We should consider all forward-looking statements in light of those and other risks and uncertainties. Additionally, we will be providing certain non-GAAP financial measures during this conference call. Our earnings press release and the financial supplement posted to our IR website Each provide a reconciliation of these non-GAAP financial measures to their most comparable GAAP financial measures. On the call with me today are Jeff Andreessen our CEO and Larry Sparks our CFO. Jeff will begin with an update on our business and a review of our results and outlook and then Larry will provide additional details of our third quarter results and fourth quarter guidance. After the prepared remarks we will open the line for questions. I'll now turn over the call to Jeff Andreessen. Jeff?

Thank you, Claire, and welcome to our Q3 earnings call. Q3 revenues were a record $356 million at the upper end of our guidance range and up 8% from the second quarter. Similar to last quarter, we experienced continued improvement in component supply. Our gross margin improvement in the quarter was well above forecast, improving 100 basis points over Q2 And as a result, we exceeded the upper end of our profitability targets and reported record quarterly earnings of $1.22 per share. Since our last earnings call, expectations for levels of wafer fab equipment investments in the coming year have declined significantly. The initial forecast reduction centered primarily around the increasing softness seen in the memory market. and increasingly conservative commentary around memory capex going into 2023. And then in early October, news of export restrictions to certain domestic semiconductor manufacturers in China effectively reduced WFP forecasts by $8 to $10 billion for next year. We have incorporated the impact of the export restrictions in our outlook and build plans. We estimate that the total impact of these changes to be approximately $20 million this quarter. And as such, the midpoint of our Q4 revenue guidance represents a 6% decline from our record third quarter. Our above industry revenue growth expectation for 2022 is unchanged, however, at 20% year-over-year growth, assuming we come in around the midpoint of our Q4 guidance. So as we are nearing the end of a record revenue and earnings year, our focus turns to the expected spending environment over the next several quarters and our ability to flex our variable operating model to adjust to lower levels of WFE demand in 2023. I am sure many of you recall the last industry downturn, which began in mid-2018 and continued until late 2019. This downturn resulted in a 25% decline in our annual revenues in 2019 and yet we generated over $60 million in EBITDA and over $75 million in free cash flow over five quarters of reduced customer demand. As we look at our business today, however, there are a number of reasons why we believe our revenues will perform better than the expected 20% decline in overall WFE next year. First is the significant reduction in our exposure to the memory market. In 2018, our two largest customers, comprised 88% of our total revenue. And based on their combined memory revenues that year, we estimate that about 70% of our sales were from the memory market. Since then, the vast majority of incremental growth in WFE has occurred in the Foundry and Logic markets. And today we estimate the combined memory exposure for our two largest customers to be less than 45%. At the same time, our business with other customers has grown. From just 12% of our sales in 2018 to now over 20% of our sales in 2022. The growing share of our business from these additional customers also is far less memory driven and a portion of our revenues from the IMG acquisition is completely independent from the semiconductor industry. So in total for 2022, we estimate that only 35 to 40% of our sales this year is memory related compared to over 70% back in 2018. The second reason why we expect our revenues in 2023 to perform better than WFE is because a growing portion of our revenue serves the EUV market. Consistently increasing build rates and higher expected EUV system shipments next year are resulting in EUV revenues continuing to grow in 2023. And our own forecast for next year includes a higher level of EUV-related gas delivery business. We expect to benefit from success in gaining market share and winning new product evaluations. Historically, our customers have taken advantage of temporary slowdowns in industry demand to invest more resources into new product evaluations and qualifications. Our areas of focus remain, qualifying more of our internally developed machining components, leveraging our global weldment footprint to gain additional share, qualifying our next generation gas panel, and moving aggressively to make progress qualifying our chemical delivery system in Japan now that it is open to visitors. Beyond these opportunities, we recently began working with a customer on a gas delivery solution that serves the growing silicon carbide market. This is in the very early stages, but fits our capabilities very well. Lastly, we are not anticipating the same level of impact from inventory reductions as we did in late 2018. The reason why we expect this dynamic is different today is because our industry has been supply constrained for most of the last two years, as was shipping at levels below unconstrained demand through most of 2022. Therefore, we believe that the inventory levels that our customers for our component products have not grown to the same level as we witnessed in 2018. At this time, with our current visibility, we are expecting mid to high single digit percentage declines in our revenues on a sequential basis, at least for the next couple of quarters. Again, this assumes that the majority of WFE declines will be in the memory segment, which we estimate to comprise just 35 to 40% of our sales in 2022. Within a backdrop of more stable levels of investment ahead for foundry and logic markets, we also expect to grow our EV business in 2023. We also see opportunities for increased revenues from share gains and growth in non-semi-markets next year. In this environment, we believe our business model will continue to demonstrate the improvements we made to our gross margin profile over the last few years. We have maintained good discipline on discretionary spending through 2022 and will continue to invest in our R&D programs and optimization of our capacity in support of the future forecast for a $100 billion plus level WFE. In summary, in this highly dynamic business environment we are all navigating, we believe I-Corps continues to be well-positioned to outgrow the industry. Over the past seven years, WFE has grown at an annual rate of 16%, and at the midpoint of our Q4 guidance, our seven-year CAGR will be 24%. This is roughly 50% outperformance. This roughly 50% outperformance reflects the strength of our primarily serve markets within WFP, continued share gains, and strategic M&A. Furthermore, our annual growth in net income over this period is 27%, demonstrating a successful track record in growing earnings faster than revenues. We expect to continue executing on our strategies to outgrow the industry, and we are confident that we will show strong financial results during 2023. which, by the way, is expected to be the third largest WFE year in our industry's history. And with that, I'll now turn the call over to Larry. Larry?

Thanks, Jeff. First, I would like to remind you that the P&L metrics discussed today are non-GAAP measures. These measures exclude the impact of share-based compensation expense, amortization of acquired intangible assets, non-recurring charges, and discrete tax items and adjustments. There is a very helpful schedule summarizing our GAAP and non-GAAP financial results, including the individual line items for non-GAAP operating expenses such as R&D and SG&A in the investor section of our website for reference during this conference call. Third quarter revenues were a record $356 million, up 8% from Q2 and 35% higher than Q3 of last year. With revenues at the upper end of expectations, gross margin of 18% exceeded our forecast for the quarter and was up 100 basis points from Q2. About half of the sequential increase was due to factory volume leverage, with the other half resulting from the recovery of some of the cost increases we've incurred over the past year or so. Q3 operating expenses were $22.8 million, a bit lower than forecast due to the timing of R&D and other investments shifting to Q4. The resulting operating margin was 11.6%, up 160 basis points from Q2 and about 120 basis points higher than the midpoint of our guidance. As a result of higher interest rates, interest expense increased to $3.2 million in line with our expectations while our effective tax rate was lower than expectations at 7.5%, reflecting the revised full-year effective rate of about 10%. The resulting EPS for Q3 was $1.22, 11 cents above the high end of guidance. The primary driver of the earnings beat was our gross margin performance well ahead of forecast, followed by revenue volume at the high end of the range. The lower tax rate for the quarter benefited earnings by about $0.05 per share, and lastly, Q3 EPS also benefited from slightly lower OPEX. Now we'll turn to the balance sheet. As expected, cash conversion of working capital improved in the third quarter, and we generated $11.5 million of free cash flow. Cash from operating activities was $19.6 million, and capex for the quarter was $8 million. Inventory of $291 million was flat quarter over quarter, returns remaining at four, and receivables DSO were 47 days compared to 44 in Q2. Total cash was $56.5 million at quarter end, up about $10 million from Q2, and total debt was $304 million, down about $2 million from Q2. Now I will turn to our fourth quarter guidance. With revenue guidance in the range of $315 to $355 million, our Q4 earnings guidance is 80 cents to $1.04 per share. The midpoint of revenue guidance at $335 million reflects about a 6% sequential decline from Q3 as a result of the recent export restrictions. At this revenue level, we are expecting gross margin of approximately 17.2%, representing a slight improvement compared to similar revenue volumes as Q2. This is aligned with our objective to continue to increase gross margin by about 20 basis points a quarter through our ongoing cost reduction programs and growth in our components businesses. Given the timing of our R&D expenses and higher audit fees versus Q3, We expect Q4 operating expenses to increase slightly to approximately $23.2 million. As a reminder, we typically see some seasonal increases in Q1 each year, but we are also looking at areas where we can reduce costs in order to offset some of these typical increases early in 2023. We expect our interest expense will be $4.2 million in the fourth quarter, reflecting the recently announced increases in interest rates. Our tax rate in Q4 is expected to be 10 to 11%, and we estimate our fully diluted share count to be approximately 29.1 million shares. Operator, we are ready to take questions. Please open the line.