MKS Inc.

Ladies and gentlemen, thank you for standing by and welcome to the MKS Instruments second quarter earnings call. At this time, all participants are on a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you need to press star 1 on your telephone. If you require any further assistance, please press star then 0. I would now like to turn the call over to your host, David Rizek.

Good morning, everyone. I am David Rizek, and I am joined this morning by John Lee, President and Chief Executive Officer, and Seth Bagshaw, Senior Vice President and Chief Financial Officer. Yesterday, after market close, we released our financial results for the second quarter of 2021, which are posted to our website, mksinst.com. As a reminder, various remarks today about future expectations, plans, and prospects for MKS comprise forward-looking statements, and actual results may differ materially as a result of various important factors, including those discussed in yesterday's press release and in the most recent annual report on Form 10-K and any subsequent quarterly reports on Form 10-Q. These statements represent the company's expectations only as of today, and should not be relied upon as representing the company's estimates or views as of any date subsequent to today and the company disclaims any obligation to update these statements. During the call, we will be discussing various financial measures. Unless otherwise noted, all income statement related financial measures will be non-GAAP other than revenue. Please refer to our press release for information regarding our non-GAAP financial results and a reconciliation to our GAAP measures. Now, I'll turn the call over to John.

Thanks, David. Good morning, everyone, and thank you for joining us today. We delivered another record quarter with revenue of $750 million and net earnings per diluted share of $3.02, both above the midpoint of our guidance range. We achieved these results despite facing increasing supply chain constraints of certain components. I have previously highlighted the strength of our world-class operations team and our commitment to our customers, and the second quarter was yet another example of this. We're also very pleased with our gross margin and operating margin expansion in the quarter, resulting in an 86% year-over-year increase in net earnings per share. In fact, to give a sense of how MCAS has transformed in the past five years, our net earnings in the second quarter was higher than what we delivered for the full year in 2016. Sales to our semiconductor market grew 5% sequentially to a new record, and as we benefited from broad-based demand across our vacuum and photonics portfolios. Our RF power solutions delivered another record quarter, as demand for our differentiated solutions of high aspect ratio edge applications continues to grow. We believe every single leading edge 3D NAND application in the world today is enabled by our RF power solutions. We continue to invest in our RF power portfolio to help our customers execute on their technology roadmaps. Excluding RF power, the combined revenue from the remainder of our vacuum and analysis division also reached another record, including records in valves and analytical control solutions, and strong year-over-year growth in our plasma and reactive gas business. In fact, we secured multiple large orders for our dissolved ozone and dissolved ammonia systems to support seven, five, and three nanometer foundry expansion plans. This is yet another example of the differentiation of our surrounded chamber portfolio, which will become increasingly important as the industry needs to solve for increasing complexity and smaller geometries. The investments we have made in our world-class optics initiative are paying off, as we secured 10 design wins in the second quarter alone, eight of which were semiconductor applications. Specifically, we are seeing increased interest in shorter wavelength applications with a number of EUV design wins in the quarter. We continue to leverage our optical expertise and state-of-the-art manufacturing and assembly capabilities to increase share of wallet with key OEMs. But our photonics opportunity in SEMI extends beyond just optics. We secured a notable design win for our new picosecond UV laser solution for a back-end semiconductor application. and received a large gradings order for a lithography application. This is yet another example of the breadth and depth of our critical subsistence portfolio and the wide array of advanced semiconductor applications we serve. As we look into the third quarter, demand in our semiconductor market remains strong. However, due to growing supply constraints of certain components, we expect semiconductor revenue to be consistent to slightly up from second quarter levels. including revenue from photon control, which we acquired earlier this month. Barring these constraints, we would have expected revenue from the semiconductor market to be up more significantly in the third quarter. Revenue from our advanced markets accelerated in the second quarter, growing 13 percent from the prior quarter and more than 40 percent year over year. The strong results were driven by demand from advanced electronics manufacturing applications as well as a pickup in demand from a variety of industrial applications. We saw strong adoption of our leading edge capstone flex PCB via drilling solution, as customers continue to meet capacity and technology transition demands associated with new 5G smartphone designs. We also secured our first multi-unit capstone order in Korea, with an initial focus on standard PCB production, but with the possibility to address more advanced applications. We are pleased with the progress of our HDI solutions acceptance in the market. As you may have seen from an announcement last week, we received our first HDI order from TTM Technologies, a major technology leader in the HDI PCB manufacturing market for their facility in Guangzhou, China. We are excited to support TTM in their manufacturing needs and are focused on driving continued adoption with our differentiated geode HDI drilling solutions. We are gaining traction with our picosecond UV laser platform. And in the second quarter, we commenced volume shipment for a meaningful advanced electronics design win that we previously announced. And we also secured three new design wins in the quarter. Moving to the third quarter, we expect revenue from our advanced markets to decline sequentially, primarily due to normal seasonality in our flex PCB via drilling business. Even with this sequential decline, We expect revenue from our advanced markets to grow considerably on a year-over-year basis. Before I turn the call over to Seth, I want to share a few thoughts on the closing of the photon control acquisition and the announcement that we entered into an agreement to acquire Adatech Limited. We are very excited to welcome the photon control team to MKS. Photon control brings to MKS a rich history of innovation in the semiconductor industry. Its flagship fiber optic temperature sensing solutions fit right into our surround-the-chamber portfolio and enable key trends such as the growing complexity in etch processing. And we believe we can leverage our broad customer relationships to drive cross-selling opportunities for Photon Control's portfolio. From a financial perspective, the benefits are clear. The gross margin profile is attractive, and the acquisition was immediately accretive to earnings per share. We have been and will continue to be a key enabler of semiconductor fabrication, which has been the key driver of miniaturization and complexity for the past 60 years. We believe the next frontier to address these trends is optimizing the PCB interconnect, which connects chips, sensors, and devices. The interconnect is critical to enabling advanced electronics designs, and that is exactly what we are addressing with our agreement to acquire Adatek. Adatek will bring leading process chemistry and equipment expertise to MKS, which will build on our leading VIA drilling expertise, so we can optimize the VIA formation workflow to solve challenges for next-generation architectures. We also see attractive cross-selling opportunities given our complementary strengths, as Adatek can benefit from MKS's expertise and leadership in flex PCB manufacturing, And MKS can benefit from Adatek's leadership in HDI PCB manufacturing. This combination should give a strong competitive differentiation room to grow with an estimated $4 billion PCB laser drilling and chemical processing SAM. Adatek also brings a robust gross margin profile and an attractive recurring revenue stream to MKS. where we anticipate about 40% of the combined pro forma company revenue would be recurring in nature. In addition, we expect earnings per share accretion in the first year and strong pro forma cash generation, which gives us the flexibility we like when looking at deleveraging post-deal. In summary, these acquisitions position MKS to become a driving force for miniaturization and complexity in semiconductor and advanced electronics manufacturing and we're excited about the opportunities that lie ahead. With that, I'd like to turn the call over to Seth. Thank you, John. I will cover our second quarter results, then provide additional detail and guidance for the third quarter, which will include a partial quarter's results for a recently closed acquisition of Photon Control. Sales for the second quarter were a record $750 million, up 8% sequentially and up 38% year over year. Our record performance reflects another quarter of robust semiconductor demand, as well as a strong acceleration in our advanced markets. Sales to semiconductor market set yet another record at $431 million, up 5% sequentially, and up 34% year-over-year, reflecting wide-ranging demand across memory, foundry, and logic applications. Our broad-based product portfolio is leveraged to all of these applications. While growing supply constraints of certain components impacted our second quarter results, we are very pleased with how well our global operations team has responded to the unprecedented effect of the global pandemic. Given perspective of how our team has executed since the start of COVID-19 disruptions, we've grown our vacuum analysis semiconductor revenue by 75% compared to pre-COVID levels in the fourth quarter of 2019. Not only does this reflect our world-class operational execution, but also our flexible and asset light manufacturing model. Complementing our strong vacuum analysis results, we also delivered record revenue in our light and motion division sales to the semiconductor market as we were gaining traction with our photonic solutions for lithography, metrology, and inspection applications. As John highlighted earlier, the target investments we are making in our world-class optics initiative Our yielding results will continue to leverage our scale and technical expertise to drive additional design wins with key customers. Sales to our advanced markets accelerated in the second quarter, setting a record at $319 million, up 13% sequentially and up 43% year-over-year, led by strong demand in advanced electronics applications, in particular for Flex PCBV drilling systems. We are very pleased with the performance of our equipment solutions division, with revenue of almost $100 million in the second quarter, and as inclusive of the revenue headwind from our discontinuation of low-margin semiconductor market products that occurred late last year. In fact, the disciplined returns-based approach to our portfolio, combined with strong revenue and favorable mix, has led to a record equipment solutions gross margin of over 53 percent. For the second quarter, The revenue split between our semiconductor and advanced markets was 57% and 43%, respectively. Second quarter gross margin was 47.4%, up 100 basis points sequentially, and up 210 basis points year-over-year. The strong performance was due to higher volumes, product mix, and effective cost control. Second quarter operating expenses were $147 million, up $4 million sequentially, primarily due to higher R&D product costs and variable compensation due to our strong financial results. Second quarter operating margin was 27.7%, up 190 basis points sequentially, and up 610 basis points year-over-year, which reflects the strong operating leverage in our financial model. Adjusted EBITDA in the quarter was a record $229 million, resulting in an adjusted EBITDA margin of over 30%. Net instance expense for the second quarter was $6 million, and our tax rate was approximately 17%. Net earnings for the second quarter were a record $168 million and a record $3.02 per diluted share. On a year-over-year basis, our EPS increased 86 percent, more than twice our revenue growth rate, exceeding a long-term target operating model that we announced at our analyst day. Exiting the second quarter, we maintained a strong balance sheet and liquidity position, with cash and short-term investments over $1 billion, and $100 million of incremental borrowing capacity under an asset-based line of credit, subject to certain borrowing-based requirements. Our term loan principal balance was $829 million at the end of the second quarter. We exited the quarter with $210 million net cash balance, up over $130 million sequentially. In terms of working capital, day sales outstanding were 52 days at the end of the second quarter compared to 55 days at the end of the first quarter. And inventory returns were three times in the second quarter compared to 2.9 times in the first quarter. We remain focused on improving our cash conversion cycle. In second quarter, operating cash flow was a record $165 million, up 19% year-over-year increase. Free cash flow in the second quarter was also a record $149 million, a 26% year-over-year increase. We increased our dividend in the second quarter by 10%. It made a dividend payment of $12 million, or 22 cents per share. I'll now turn to our third quarter outlook. Based on current business levels, we estimate third quarter revenue of $720 million, plus or minus $30 million. It's worth noting a few items that are impacting our third quarter outlook. First, due to typical seasonality within the flex PCB market, our advanced markets revenue is expected to decline sequentially. However, we expect revenue from our advanced markets to grow considerably on a year-over-year basis. Second, increasing supply constraints on certain components are expected to be a headwind in the third quarter. Excluding the impact of these component constraints in given current business levels, we have expected our overall revenue to grow sequentially. Based on anticipated product mix in revenue levels, we estimate third-quarter gross margin of 47 percent, plus or minus one percentage point, and operating expenses of $149 million, plus or minus $4 million. For the third quarter, net interest expense is expected to be approximately $6 million, and our tax rate is expected to be approximately 17 percent. Given these assumptions, we expect third quarter net earnings of $2.74 per diluted share, plus or minus 26 cents. I'd now turn the call back to the operator for Q&A.