Nova Ltd.

Good day and welcome to NOVA's second quarter 2021 results. Today's conference is being recorded. At this time, I would like to turn the conference over to Mary Seagal, CEO of MSIR. Please go ahead.

Thank you, operator, and good day to everybody. I would like to welcome all of you to NOVA's second quarter 2021 financial results conference call. With us on the line today are Mr. Eitan Oppenheim, President and CEO, and Mr. Dror David, CFO. Before we begin, may I remind our listeners that certain information provided on this call may contain forward-looking statements, and the safe harbor statement outlined in today's earnings release also pertains to this call. If you have not received a copy of the release, please view it in the investor relations section of the company's website. Eitan will begin the call with the business update, followed by a drawer with an overview of the financials. We will then open the call for the question and answer session. I'll now turn over the call to Mr. Eitan Oppenheim, NOVA's president and CEO. Eitan, please go ahead.

Thank you, Miri, and welcome everyone to our second quarter financial results conference call. I will start the call today by speaking about our second quarter results and performance highlights. Following my commentary, DRAW will review the quarter's financial results in detail and will conclude with the guidance for the third quarter of 2021. NOVA maintained its outstanding performance, delivering another strong quarter with compelling results that exceeded the company's revenue and profitability guidance. The acceleration in our business, as reflected in our continued robust performance, is propelled by our evolving offerings and our growing position across geographies, customers, and technology nodes. Our revenue reached another record high, demonstrating approximately 55% growth year-over-year, while our non-gap net income grew approximately 95% year over year to record level as well. Moreover, comparing our 2021 first half results to the same period last year shows a growth pace of around 45% in our revenues and more than 70% in our non-GAAP net income. Reflecting the leverage that is embedded in our business model and the value our innovative portfolio brings to our customers in this demanding period. The strong momentum and the exceptional performance we are demonstrating are the result of our consistent execution, which is led by our strategic plans to outperform and continue the company's profitable growth in the years to come. Our flexible operating model and the concentrated efforts to strengthen our resiliency across the company allow us to meet our customers' growing demand as we expect to increase our production output by more than 50% this year. As reflected in our financial results, we continue to reap the benefits of our well-executed plans as part of multiple strategic initiatives across technologies and customers. Based on the current positive semiconductor environment and the expectations for continuous demand in both the trailing and advanced nodes, combined with record quarterly bookings for our solutions, we expect another record year in 2021, forecasting approximately $390 million in revenue with an optional upside to cross the $400 million threshold. Achieving that, we represent around 50% growth year-over-year in our business volume. In the current market dynamics, our innovative approach, supported by our solid commitment to our customers, continues to strengthen our position and expand our exposure to a broader customer base across all geographies. This strong impetus we are experiencing in all semiconductor segments is propelled currently by strong demand for multiple traditional and high-end applications that are driving growing demand for stronger computation, extended data management, and powerful network infrastructure. The growing digitization of multiple industries continues to fuel the demand for silicon and support our expectations for elevated multi-year WFE spending. In addition, and against the backdrop of broad demand for semiconductors, increasing device complexity plays well into our growth plan in several new metrology applications, which open for us numerous opportunities to extend our available markets, increase attach rates, and also gain market share. The complexity embedded in building next-generation devices requires innovative solutions for inline in-die metrology, and in this space, we prevail with our combined solutions for both critical dimensions and materials control. On top of these two strong market drivers, which are the demand and the technical complexity, the push by different continents and nations to achieve semiconductor supply chain independence within the next several years expands regional investments, elevate the demand for capital equipment globally, and support even copious WFE spending. These tailwinds resonate well with our results with balanced contribution from the three big territories, Taiwan, Korea, and China, contributing 30% each. Moreover, our position in China continues to improve with several new expansions and penetrations, resulting in a new revenue record in this region. Furthermore, and based on several global manufacturer intentions to expand their position in the US, we expect a growing business momentum in North America as well throughout 2021 and 2022. In addition to the overall demand for new advanced devices, Customers are also focused on utilizing their investment by optimizing existing fabrication lines to improve performance and increase output. As a result, we are experiencing growth in systems delivery also to the trailing memory and logic nodes, driving revenue balance between the nodes in the first half, where around 40% coming from trailing edge nodes. Additionally, to better utilize this high-volume manufacturing line, we are offering our customers a broad range of solutions to upgrade the install base to extend the fleet lifespan and increase its productivity. This activity, over many customers, steered up our service business growth this year with another record high this quarter. Although we are pleased with all our achievements during the quarter, I would like to emphasize two major milestones closely connected to our strategy. The first one is the growing demand for optical CD standalone tools, mainly the Prism, across numerous customers. While our industry is going through extensive technical transition, either in multi-stack memory, scale DRAM, or new logic architectures, Nova's solution that includes multiple optical unique channels along with advanced software capabilities resonates well with our customers as the most suitable solution for faster and more accurate process in 3D devices. As a result of this growing traction, our standalone revenue hit a record high in the second quarter and we expect strong momentum for the rest of the year as well. The second milestone is the progress we made with our software sales towards our long-term business model. At this point, I would like to clarify that when we discuss our software growth engines, we exclude common systems sequence upgrades, service software version upgrades, or fault management solutions, and concentrate only on advanced modeling, deep learning, and fleet management. These three engines drive our business forward and brought in another software revenue record this quarter. Specifically in this space, we are very encouraged by the traction our NovaFit portfolio is gaining in the market. NovaFit, our deep learning solution suite, stands as a key differentiator in our offering to customers who strive to improve accuracy and increase yield while reducing time to market. Our solution handle massive amount of data very fast and deliver process insights based on accumulated knowledge and advanced algorithms. The ultimate goal of our offering is to calculate and analyze a growing amount of data during the process cycle from hundreds of tools along the different process steps and with that to predict the next measurement with the highest accuracy. One example of the immense importance of that to our customers is the device functionality testing. Today's fabrication process is so complicated that it takes several months from the time a silicon wafer is introduced in the manufacturing until a fully functional device is produced that can be released to electrical testing. To make production faster and more efficient, NovaFit analyzes data from over 200,000 optical measurements performed weeks and sometimes months before manufacturing is completed and can predict the electrical test results already during the front-end process with unmatched accuracy. Our ability to deliver solutions like that that is based on having different metrology sensors in the production lines in different steps. In a typical advanced node, we can have hundreds of integrated metrology tools, tens of optical CD standalone tools, and multiple x-ray systems. Encouraged by our consistent achievements and our ability to meet our NOVA 300 model, we recently announced during our Analyst and Investor Day the new strategic plan to organically grow the business to more than $500 million in revenues. The combination of favorable market conditions, increased complexity in device manufacturing, our solid business model, and a diversified portfolio support our expectations for further growth and outperformance. The plan, as presented during the Analyst and Investor Day, is based on four pillars. which are the basis for our success. The first one is the continuous investment in talent acquisition and talent management to nurture our cultures that combines inclusion, diversity, and transparency, along with aggressive approach towards execution and winning. The second pillar is our continuous elevated spending in R&D to keep rolling out new innovative metrology solutions to the market which focus on both hardware and software products. The Ellipson and the Prism are the harbingers of more new technologies to come in the short and the long periods while customers are using both new architectures and materials to improve performance. The third pillar is our increasing install base and the service revenue it drives. On average, we deliver hundreds of tools a year to the market. These are very accurate and highly advanced tools that measure thousands of wafers a day and are responsible for all major yield improvements globally. As part of our roadmap, we constantly develop upgrade packages for these tools, including hardware and software, to be able to provide our customers with more capabilities to handle more complex devices in existing traditional fabrication lines. The final pillar is the leverage we developed in our operational model, which supports our continued investment in new products and technologies while allowing us to deliver on our long-term profitability model. We can see this leverage materialized already this year as we increased R&D investment in new products and grew our production output approximately 50%, all while significantly increasing our profits. Before I hand over the call to draw to extend our financial highlights in more detail, let me just recap our performance this quarter. It has been a remarkable quarter in the first half of 2021, achieving multiple records and heights. Looking ahead, we see an abundance of opportunities to continue growing as our strategy to invest in innovative, unique technologies bears fruit in the form of an expanded portfolio and growing addressable market. I'm extremely proud of our teams across the globe who are rising to the challenge and performing at their best. With that, let me hand over the call to Dror to review our financial results in detail.

Thanks, Eitan. Good day, everyone. And thank you for joining our second quarter 2021 conference call. Total revenues in the second quarter of this year exceeded our guidance and reached an all-time record of 98 million. This represents a 56% growth compared to the second quarter of 2020 and a 16% growth compared to the first quarter of 2021. Product revenues in the second quarter grew 18% quarter-over-quarter. This growth was attributed to a significant increase in revenue from the standalone optical CD product line, which reached an all-time record revenue level during the second quarter. Service revenues in the second quarter grew 9% quarter-over-quarter as a result of higher time and materials and install-based management revenues. Looking at product revenue distribution, approximately 70% was attributed to logic and foundry, and approximately 30% to memory. Geographically, Taiwan, Korea, and China each contributed approximately 30% to our product revenues, with China representing an all-time record level. Blended gross margin in the second quarter was 57% on a GAAP basis, similar to the first quarter of 2021. Blended gross margin on a non-GAAP basis increased to 58% relative to 57% in the first quarter of the year. Operating expenses for this quarter increased by 2% to 29 million on a GAAP basis and to 26 million on a non-GAAP basis. Operating margins in the second quarter significantly increased, reflecting the financial leverage built into the company operational model. On a gap basis, operating margins increased from 23% in the first quarter to 28% in the second quarter. On a non-gap basis, operating margins increased from 27% in the first quarter to an all-time record level of 31% in the second quarter of 2021. The effective tax rate in the second quarter of 2021 was approximately 12%. Earnings per share on a GAAP basis were 77 cents per diluted share, and earnings per share on a non-GAAP basis were 90% per diluted share, exceeding the company guidance for the quarter and representing a new record high for quarterly earnings per share. Finally, I'd like to share our guidance. We expect the following for the third quarter of 2021. Revenues to be between 99 million and 106 million, gap earnings per diluted share to range from 71 cents to 84 cents, and non-gap earnings per share, per diluted share, to range from 85 cents and 98 cents. At the midpoint of our third quarter estimates, we expect gross margins to remain similar to the second quarter of the year, operating expenses to reach approximately 30 million on a gap basis and approximately 28 million on a non-gap basis, and effective tax rate to be approximately 14%. Looking at 2021 as a whole, as Eitan mentioned, we expect another record year forecasting approximately 390 million in revenues with an optional upside to cross the $400 million in annual revenues. To support this steep growth in business, we are accelerating our investments and recruitment in all areas and departments, including expansion and establishment of new and existing offices globally. The timing of these investments may vary due to execution progress and due to the COVID-19 environment. As communicated in our recent Analyst and Investor Day, the company target financial model is comprised of gross margins between 56% to 59% and operating margins between 26% and 29%. At these expected levels of revenues in 2021, which represent a major year-over-year increase there is a potential upside to present operating margins which are higher than our target model. With that, I will turn the call back to Eitan. Eitan?

Thank you, Dror. Before we take your questions, I would like to use this opportunity to mention our press release for Monday about modifying our name from Nova Measuring Instrument to Nova. Following our expansion, driven by several software and hardware growth engines, the company believes The previous name no longer represent its technology portfolio and diversified offerings. The company continues to retain the NVMI sticker and its process insights tagline. With that final note, we will be pleased to take your questions. Operator?

Thank you. Ladies and gentlemen, if you wish to ask a question, please signal by pressing star 1 on your telephone keypad. Please ensure that the mute function of your telephone is switched off to allow your signal to reach our equipment. Again, please press star one to ask a question. The first question today comes from Jamie Zakalik of Bank of America.

Hey guys, thanks for letting me ask a question and congrats on the great quarter. You highlighted a few times record revenue from China. Can you quantify how much domestic China was in this quarter of that 30%? And how does that compare to last quarter and maybe a year ago? Was China demand in line with what you expected when you guided? And how do you remain confident that customers are ordering to true end demand?

So I think, it's Eitan here, and thanks for the question.

So I think I'll start first from the the market perspective and then the work can conclude with the financial element. So regarding the demand in China, we do see a growing demand in China year over year. So if we compare this year demand from last year, actually it's higher and mainly it's coming from the investment in the logic customers in China. And this is one. And second, following the trade limitations between the US and China, we do see some opportunities that are coming from the fact that we are not shipping our tools from the US and we are not part of those obligations. So we can continue shipping tools. And I think that the third element is we do see growing investment in China as a result from the trade war. We do see investment in new greenfield customers. We do see increasing capacity and increasing investment in some of the customers that actually expedited their expansions. And we do see that China is growing this year. And by the way, we expect the same thing next year.

If I may add some color on that, so as Eitan mentioned, in the last few quarters, we did see at least one local domestic Chinese customer as a 10% customer of our product revenues. China as a whole was around 20% in the last two years, 2019 and 2020. In the first half of 2021, it's around 25%. So it is an incremental growth in that aspect.

Got it. Thanks. That's very helpful. And then on gross margins. So gross margins, the quarter came in slightly ahead, but are still down slightly year on year despite really strong revenue growth. So what are the puts and takes there? And what can drive gross margins towards the higher end of your portfolio? long-term target? Is it just a function of mix or a certain revenue level or something else? Thanks.

So as we discussed in our analyst day, obviously on one hand, we see increasing revenues and the company has the new technologies which are coming in, which are with high ASP and high gross margins. On the other hand, we do see challenges. in terms of the cost of employment globally, costs related to COVID-19 manufacturing, and also supply chain aspects, including the cost of deliveries, cost of raw materials, and so forth. We do believe that the combination of these elements as a whole will still enable us to be within the target model of the company, which, as I mentioned, is 56% to 59%. In addition, we need to remember that we need to balance between being competitive in the market and creating robust gross margins which can facilitate R&D investments. So overall, we do expect to remain within these levels of 56% to 59% where in years and areas where the new technologies are coming in and revenues are growing significantly, in a fast manner, we would be at the high end of this range.

Got it. Thanks, guys. Our next question comes from Atif Malik of CISI. Hi.

Thank you for taking my questions and good job on the results and guide. I have a question on... your supply situation. Curious how long the equipment lead times are now. You guys have been running at 80% of your manufacturing capacity and are planning to add a new clean room by middle of next year. So are you supply constrained right now? And how should we think about your production capacity, everything this year and next year?

So, Atif, thanks for the question. So regarding, I want to divide it into two. First is the production capacity, and we have enough capacity to increase capacity even more. And we don't see ourselves close to the limits regarding clean room, bays, productions, and things like that. And we do expect that if there's going to be upside this year, we can accumulate it and we can answer the customer demand as they as it grows. Regarding next year, we expect the new clean room to kick in somewhere next summer, and we are all secured in production to reach there. And once it's coming in, it's supposed to smoothly increase the capacity. So this is from production perspective. Regarding the supply chain itself, as I said in a couple of previous earning calls, we did increase our inventories and we did um, purchased, uh, some of the lead long lead items early enough in the COVID period. So we enjoying right now from shorter lead time. And we are, uh, existing our supply chain, uh, actually four quarters ahead. So we know by now, uh, to manufacture the tools for a full quarter ahead. So, uh, I think for in that, in that perspective, we are also secured. There are some risks, as everybody understands, in this period of increasing material prices, some constraints on supply chain delivery, shipments and flights, and also travel. And it's becoming more difficult logistically to deliver our system to customers. But nevertheless, looking right now on the last few quarters, And based on the situation and the dynamic changes, we can control it and we can overcome it and continue growing.

Great. And as my follow-up drawer, you mentioned record software sales, but can you quantify what the software sales was as a percentage of overall revenues?

Yes, software in the last two quarters, software revenues out of the total revenues of the company were between 7% and 8%.

Great, thank you. The next question comes from Patrick Ho of Stiefel.

Hi there. Good afternoon. This is Brian on for Patrick. Congratulations on the continued strong results, and thanks for letting us ask a few questions. Maybe first, just in terms of the second half commentary, I think three weeks ago, you spoke about the potential for flat to mostly higher revenue. Clearly, you're revising this higher today. Maybe can you provide, Eitan, a little color on what has incrementally strengthened driving this better second half and also what is that optionality that that will drive you closer to the 400 million level? Is that tied to acceptance of new products or a particular end market?

So, uh, Brian, I think that there are two answers to that. So, um, when we're looking right now on the rest of the year, I think that, uh, the upside can be led by two things. One is the, is that is the rate of adoptions of the new technology in the market and, uh, We are doing our best that some of the evaluations that currently are ongoing will be concluded and the systems will be accepted by the end of the year. This is one. Second, we do have some opportunities to increase market share on some of the competitive selections that are going on right now. And we hope that the decisions will be made during the next couple of months. So, you know, the bottom line is it's a combination of new market share and selection and penetration with the growing rate of adoptions of the new products.

Okay, great. That's very helpful. Maybe doubling back on China, just curious, you obviously quantified sort of what your sales contribution is this year. It's stepping up from last year. Just curious, if you try to break that down, maybe standalone CD versus integrated, how do you think you would calibrate your market share in China for those two particular platforms relative to your overall position in the world?

So we are not breaking down the numbers per integrated and standalone, but I can comment that... Our market share percentage in China is very high. There are customers that we have around 100% market share, by the way, on both product lines, both the materials and the dimension. And I think that if you're looking right now on specific customers or specific segments, I think that during 2021, the there were two main investment in China or two main area of investment in China. One is the logic customers, which are not SMIC. The government is moving investment to other logic customers. So this is one area of investment. And the second is new R&D investment that's happening in different provinces in China. Okay, so each one of them may be small, but there are multiple of them. So the combination of establishing new R&D and production line with the increasement of investment in those logic customers or logic providers that will need to gap or cover the gap that SMIC cannot provide are the main drivers for growth in China.

Great. That's great, Keller. Thanks.

As a reminder, ladies and gentlemen, if you would like to ask a question, please press star 1 on your telephone keypad. The next question today comes from Mark Miller of Benchmark.

Congratulations on another record quarter. I was wondering, you've done this previously, could you break out the product cost and service cost?

So as you saw in the press release, we did consolidate some of these elements. As you know, the company shifted gears in terms of its business level, so we have decided to align the reports with the reporting benchmark for such business levels. In general, these reports are more condensed and are in correlation also to the target model of the company, which includes mainly blended gross margins, we decided not to report separately gross margins for the different product lines or revenue streams.

You mentioned you're growing momentum in North America. Does that represent, North America represent 10% or more of your sales next year?

So, Mark, it's Eitan here. So I think that even this year it's very close to 10%. If I'm looking right now, next year, Everything depends on the timing of the investment in Arizona. Okay? And the question is how fast the two major logic customers would invest. And additionally to that, we have another Korean memory customer that's supposed to expand or open a new facility. So that's from... greenfield spending by these two customers. Additionally to that, we do see recovery by other customers in that region. We have the leading logic provider in North America actually increased capacity this year and supposed to increase capacity next year in the R&D facilities. We have also other logic global customers that started to invest this year as well in 28 and 20 nanometer. So all in all, we see both investment in the trailing edge nodes by the traditional customers as well as new CapEx being spent for new facilities starting next year as well. So we definitely see North America growing next year.

You mentioned one Chinese domestic was a greater than 10% customer. How many greater than 10% customers did you have?

Normally, it's between three and four customers every quarter. Thank you. If there are no further questions, I would like to turn the call over to Eitan Openham. President and CEO, for any additional or closing remarks.

Thank you, operator, and thank you all for joining our call today. Please stay safe and healthy.

Thank you and bye.

Ladies and gentlemen, that concludes today's conference call. We thank you for your participation. You may now disconnect.