Nova Ltd.

Good day and welcome to NOVA's third quarter 2021 results. Today's conference is being recorded. At this time, I would like to turn the conference over to Mary Segal, 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 third quarter 2021 financial results conference call. With us on the line today are Mr. Ethan 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 a 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 hand over the call to Mr. Eitan Oppenheim, Novus President and CEO. Eitan, please go ahead.

Thank you, Mary, and welcome everyone to our quarterly conference call. I will start the call today by speaking about our quarterly results and performance highlights. Following my commentary, DRAW will review the financial results in detail, including the guidance for the fourth quarter of 2021. NOVA's track record of consistent outperformance and strong execution was evident in the third quarter results, with both revenue and profit exceeding our guidance and reaching another record high. Although we are not immune to the various challenges in the supply chain, these outstanding results demonstrate the strong momentum in our core markets and our ability to navigate efficiently in this environment to satisfy our customers' demands. Our record performance over the last five quarters also signifies the strength and the agility of our financial model which allows us to keep expanding production output and investing in new technologies while still meeting our long-term strategy of profitable growth. The impact of multiple technology transitions in chip design continues to drive growth across a broad range of applications. The impact of COVID on consumer behavior, along with industry secular drivers like data storage, mobile infrastructure, AI and digital transformation are now augmented by strategic decisions to redistribute capacity over different geographies in order to ensure supply independence. These elements are creating pressure simultaneously on multiple semiconductor technology nodes across different chip manufacturing lines. While we continue to deliver a solution to the most high-end technology nodes we also continue to deliver systems to the trailing edge nodes that support the growth of traditional applications. In the exigent environment, we are well positioned to keep fortifying our market advantages as we continue rolling out new metrology solutions. Delivery of a combination of new and traditional platforms to a wide range of fabrication nodes drove records booking this quarter, which increased our backlog significantly for the following quarters. With our current guidance in place for the fourth quarter and following my comments during the previous earning call about the potential upside for the year end, we now forecast the company revenue for the year to surpass $412 million in revenues. This forecast indicates growth of more than 50% year over year. Turning now to our business highlights for the quarter, revenue contributions was weighted towards logic across different technologies. While we continue delivering our solution to the most advanced nodes below seven nanometers, we also increased our delivery to the more trailing nodes across various traditional applications. The strong demand for our logic solutions is reflected in our geographical distribution with growing activity in Taiwan, China, Korea, and U.S. We expect this demand, along with new site construction, to continue in 2022 as well. On the memory side, we continue to experience solid DRAM demand with expectations for additional NAND spending as we enter The growing demand for our portfolio drove several notable achievements this quarter. The first one to mention is the record contribution of our materials metrology portfolio. Against the backdrop of broad demand for advanced semiconductors, the growing complexity of materials engineering has struck a high note in our offering. The next generation devices require a better approach to control different materials properties along with the ambitious architectural design. As complexity increases, inline materials process control in etch, lithography, and deposition become crucial to yield improvement and drive growing metrology attach rates. Nova's strategy to lead this market resonates well in our results as both our XPS Veriflex and Raman Ellipson products were adopted by multiple customers. Beyond the immediate effect on our business growth, the initiative to move more laboratories' capabilities to inline manufacturing capabilities resonates well with our strategy as we continue to develop new technologies to allow production hubs to better control of each step of their process. Following this encouraging progress, we announced this quarter two major wins for the Veriflex and Ellipson platforms with leading memory and logic customers. These wins represent a solid business potential for 2022 as well. The second achievement to notice is the record income from our software products. Our software stand-alone portfolio is now implemented by our leading customers and allow them to utilize more effectively the hardware platforms. Combining our physical modeling and advanced mathematical training engines over a connected fleet of tools in various stages allows Nova to achieve better results using a smaller data set with much greater accuracy and repeatability. We continue increasing investments in these areas, which we view as our most encouraging competitive advantage. The third milestone to highlight is our new service revenue record. In the current environment, customers are investing simultaneously in both extending their existing nodes and expanding into new ones. Revenue this year from services is expected to hit a record high with a wide range of drivers including upgrades, improved productivity, software enhancement, and advanced service contracts. The growing demand for Nova's innovative portfolio in both memory and logic for materials and dimensions metrology pushes our development cadence forward with new products and offerings. Our focus this year continues to be the Prism standalone rollout, the expansion of the materials offering, and the investment in advanced software prediction capabilities. During the third quarter, we made exceptional progress in all of these directions. This direction putting us in a very strong proliferation position towards 2022. A notable achievement in this regard was the continued adoption by several customers of our standalone OCD Prism platform for advanced memory. In response to the surge demand during 2021, we are working intensively to expand our production capacity, which grew more than 60% this year. With growth in all our product lines, we continue to optimize our output around the globe and plan to open two new clean room facilities next year in Fremont, US and Israel. As other companies Companies mentioned we are not immune to the supply chain disruptions in this dynamic market. As materials and chip keep being short, transportation and increasing prices are constantly changing. Yet, as reflected in our outstanding results, we continue to navigate well these challenges in order to extend our growth into 2022. Before I hand over the call to draw, let me recap my notes for this quarter. It has been yet another outstanding quarter and a milestone for Nova, where for the first time we crossed the $100 million quarterly revenue mark as a direct result of our well-executed plans towards the Nova 500 strategy. Against the backdrop of global chip shortage, the growing demand for our innovative portfolio continues to pave the way to another outperformance year in 2021, and builds a positive and encouraging momentum towards 2022. With that, let me hand over the call to draw to review our financial results in details.

Thanks, Seitan. Good day, everyone, and thank you for joining our third quarter 2021 conference. Total revenues in the third quarter of this year exceeded our guidance and reached a record of $113 million. This represents a 62% growth compared to the third quarter of 2020 and a 15% sequential growth compared to the second quarter of 2021. Products revenue included record software revenue in the third quarter of the year, hitting our target level of 10% of the overall company's product revenues. Product revenue distribution was approximately 70% from logic and foundry and approximately 30% from memory. Blended gross margin in the third quarter was 58% on both gap and non-gap basis within the company's target model of 56% to 59%. Operating expenses for the quarter increased by approximately 3% to $30 million on a gap basis and to $27 million on a non-gap basis as the company continues to increase its global headcount to support the steep growth in business activities. Operating margins in the third quarter significantly increased record levels, reflecting the financial leverage built into the company's operational model. On a gap basis, operating margins increased from 28% in the second quarter to 32% in the third quarter. On an on-gap basis, operating margins increased from 31% in the second quarter to 34% in the third quarter. The effective tax rate in the third quarter was approximately 12%. Earnings per share came in at all-time record and crossed for the first time the level of $1 per share. On a GAAP basis, earnings per share were $1.02 per diluted share, and on a non-GAAP basis, earnings per share were $1.16 per diluted share. Finally, I'd like to share our guidance. We expect the following for the fourth quarter of the year. Revenues to be between $113 million to 123 million, gap earnings per diluted share to range from 78 cents to 96 cents, and non-gap earnings per diluted share to range from 94 cents to $1.12. At the midpoint of our fourth quarter 2021 estimates, we expect gross margins to come in at approximately 57%. Operating expenses are expected to significantly rise in the fourth quarter as a result of year-end activities and provisions and continued headcount increase and reach approximately $34.5 million on a gap basis and approximately $31.5 million on a non-gap basis. Looking forward into the beginning of 2022, we expect operating expenses on a non-gap basis to start from a level of approximately 30 million and to gradually grow as we continue accelerating investments and recruitment in all areas and departments, including expansion and establishment of new and existing offices and clear rooms globally. The effective tax rate in the fourth quarter of 2021, excluding adjustments related to a potential change in tax rate in the U.S., is expected to be approximately 13%. Looking at 2021 as a whole, as Eitan mentioned, we are on our way to a record year with more than $400 million in annual revenues, reflecting more than 50% growth year over year. Also, we expect to conclude 2021 with operating margins of around 30%, slightly higher than the company target model, of 26% to 29%. I will conclude by noting that cash reserves increased to more than $500 million at the end of the third quarter of 2021, following a positive free cash flow of more than $50 million in the same quarter. With that, I will turn the call back to Eita.

Thank you, Dror. We will be pleased to take your question now. Operator?

We will now begin the question and answer session. To join the question queue, you may press star, then one on your telephone keypad. You'll hear a tone acknowledging your request. If you're using a speakerphone, please pick up your handset before pressing any keys. To withdraw your question, please press star, then two. We'll pause for a moment as callers join the queue. First question comes from Jamie Zakalik from Bank of America. Please go ahead.

Hey guys, thanks for letting me ask a question. For my first question, one of your large peers talked about strong momentum into the first half of 2022. They even suggested their process control system sales could grow somewhere in the 10% range, half on half in the first half. So I'm not asking for a specific guide, but are you guys seeing a similar momentum into the March and June quarter? How strong is your visibility, given I think your lead times are in a somewhat more normal range?

Yeah, all right. So first of all, regarding the lead times, so lead times for Nova systems today is around three to five months. That's around the lead time. This is somewhat our visibility for next year or so. Definitely when we're looking on next year and following my comments on the backlog, although we don't give guidance for more than one quarter, we do see continuous momentum in the first half as well. I can't say right now, and we don't have the visibility to say if H2 will be higher than H1, but definitely it's going to be a growth year for us.

Got it. And then on gross margins, very strong this quarter, but your guide suggests they're down quite a bit despite record revenues. So what are the puts and takes there?

So as I mentioned in my prepared remarks, we are investing a lot in opening new sites globally, also because of the penetration to new customers in several areas, including in Europe, China, and other areas. So as a result of that, some of the expenses are related to the service organization and the spread of our field service engineers globally. On top of that, obviously, there are pressure from the supply chain in terms of cost of materials, deliveries, and this is obviously building up quarter of a quarter. On top of that, we had in the third quarter As I mentioned, record revenues from software, this is probably going to normalize a little bit in the fourth quarter. And all these elements together have some impact on the gross margins.

Got it. And if I could squeeze one last one in on the balance sheet, it looks like deferred revenues took a pretty large step up in the quarter. Anything to read in there?

Sure, yes. Just by mention, deferred revenues are customer payments which were done before the company recognized the revenues. The reason for this increase is a combination of several elements. It's across a significant portion of our product portfolio and also relates to the fact that the company is proliferating new technologies at existing and new customers And in some cases, the payments are coming in before the final acceptance of the system.

Got it. Thanks, guys. Thank you. Once again, if you have a question, please press star, then 1.

The next question comes from Chris Senka from Cowen & Company. Please go ahead.

Yeah, hi, thanks for taking my question, and congrats on crossing the $100 million quarterly revenue mark. Eitan, the first question I had is you spoke about NAND growing in 2022. I'm kind of curious, is that a NOVA-specific comment, or is it more what you're seeing in the industry? Can you just help us build some color on how you think, how and why NAND is growing in 2022 relative to this year?

Yeah, so thanks for the question, but I don't think that this is a novice comment. This is an industry comment, and I think that my peers talked about it as well. So if you're looking right now on 2021, it was a very strong logic year, augmented by strong DRAM demand because of the pressure in the DRAM market as well and the increased prices. If you're looking right now on NAND, we're starting to see in Q4 increase in non-demand, and I think that it will go into the first half of 2022. It's coming from a combination of shortage in supply in this market, together with new non-technologies or new layer memory that needs to come to the market. So the combination of the new technology together with some kind of demand to the NAND memory, creating a growing demand for NAND in the next couple of months.

Got it. So it's coming more technology-driven rather than capacity-driven?

So I think that it's a combination. If you're looking right now on the leaders in the industry, it's coming from both technology and capacity. So We do see that, so again, but if you're looking right now at 2021, it was a DRAM and a logic year where NAND was a bit lower than DRAM. And I think that if we're looking at the first half of 2022, it will be more NAND than DRAM. We see that everywhere.

Got it, got it. That's very helpful. And then just a quick follow-up. You know, obviously you're easily outgrowing WSE this year. I'm just kind of curious, is there a way to figure out how much of the outperformance this year is actually driven by process control intensity increasing or how much is driven by your own share gain or how much is driven by the new products you've introduced? Can you help us quantify the outperformance in those three buckets if possible?

Yeah, so we will not get into the numbers, but if you're looking right now on WFA in 2021, the prediction of The prediction is talking about 35% to 40% growth. And process control probably will be, from the forecast perspective from the analyst, probably will be the same. So if we are going to do more than 50, actually, it means that it should come from something else. It cannot come from a touch rate. So it's coming from a couple of areas. First, of course, it's coming from the new technologies that expand our total available market and create more application for us to come in. It's coming, of course, for market share, as we discussed about the PRISM and other tools. And also, it's coming from opening new places where materials metrology was measured in the lab, and now it's measured in the FAB. So if you're looking on the combination of all that, you can see that actually we outperformed the WFE, and we outperformed also the prediction for process control. which usually process control is including also metrology and inspection. Nevertheless, we are more, we are growing more than that significantly.

Got it. Super helpful. Thanks a lot, Ethan, and congrats on the good results. Thank you very much. Thanks. The next question comes from Mark Miller with Benchmark Company.

Please go ahead.

Let me add my congratulations. This record quarter after record quarter is very impressive. Your largest customer, Taiwan Semiconductor, they're just starting with building a plant in Arizona. They also announced, I think, a new fab coming in Japan. When do you think orders will start to flow into you from these opportunities?

Okay, so when we're looking right now on this customer, so we're talking about a new fab in the U.S., a new fab in Japan. I think that the order is first the Arizona fab and then the Japanese one. And our forecast right now that orders will start to flow, to fly in around the end of Q3, Q4 2022. The other question is the...

There's several ramps of new technology. EUV is really starting to heat up. I think ASML is doubling the number of litho tools they're going to be shipping. And also, next generation DRAM. Does this expand the use of your equipment on these trends?

Sure. So I'm using to say in every investor presentation that I'm doing that for us, the best environment is when complexity is getting is getting much more difficult to produce. So everywhere that the technology transition is complex and it involves both architectural and material changes, usually at the beginning a touch rate is growing up and the need for process control and metrology is getting higher and the touch rate is, of course, getting stronger. So if you're looking right now on the combination of transitions that we see in the market, starting from logic, moving from 5 nanometer, 3 nanometer, and 2 nanometer, which involves not only the scaling, but also moving from one structure to another, like from FinFET to gate all around. And then if you go to DRAM, you see that it's starting to scale aggressively. And you look also to the NAND that need to cross 200 layers. Each one of those transition in each one of the segments, actually increase the touch rate and creating more opportunities. So for us, it's very good that LITO is growing, etch, deposition. So everywhere that it's growing, it's creating more opportunities.

Well, the next generation chips require any changes in terms of light sources or detectors that you use in your equipment?

No. So usually what we do When we come out with a tool or with a solution, it usually keeps up with several technology nodes, and the hardware that is in place right now can take us for several nodes ahead of us.

Thank you very much, and congratulations again.

Thanks, Mark.

Thank you.

The next question comes from Patrick Ho with Tifo. Please go ahead.

Thank you very much, Anne. Congrats on the nice quarter and the outlook. Actually, maybe one first to start off with in terms of the supply chain. You managed to do it very well based on your results and outlook. Can you just specifically give a little bit of color of some of the challenges you faced in the third quarter specifically? Because it seems like the situation actually worsened in 3Q. What were some of the specific challenges and how did you mitigate the those problems, especially looking forward going into Q4?

Patrick, several things. First of all, if I'm looking right now on the supply chain challenges and disruption, it's coming, I think, from a couple of areas. First of all, the obvious thing of transportation, insurance, delivery, cost of delivery, it's becoming a bit challenging. as well as very expensive, and it's creating some issues. Second is the issue of raw materials that is in shortage. We're starting to see some of the materials that you can actually, never mind the prices, you start to see that they are in shortage. And if you can reach them, it's with very high prices. And the third element is when we look on our suppliers, they start to be challenged by the capacity. Okay, so not all of them are big and some of them starting to see capacity issue. And on top of it, we need to understand that we are suffering from the shortage of chips exactly like the rest if we need it for our computers and other controllers in the system. So this is where we see the challenges in the supply chain. I don't think that this is surprising. I don't think that it's different from other vendors. We have the benefits as part of our suppliers are spread around the world and some of them in Israel. We have dual source for almost everything. And basically we increase our inventory a lot and we usually buy equipment or materials for four to six quarters ahead. So we can mitigate that. Nevertheless, there are things that money cannot buy, and we see some shortage. I don't think that it will damage any of our plans for the next few quarters, but it's becoming challenging.

Now, I appreciate the color. And again, like I said, the results and outlook obviously show that you guys are managing it very well. Maybe as my follow-up question, you just briefly touched upon it, I wanted to get your take on some of the broader implications for NOVA. Gate all around is something that's around the corner for the industry. How do you see that both from what you talked about, a complexity and a materials opportunity for NOVA specifically? Do you see that transition as being big for both of those market applications?

So definitely the move for gate all around or the nanosheets, the movement itself is extremely challenging. It's like you're taking a vertical gate and you make it horizontal. And actually only from this simple fact that it's becoming horizontal, you start to see a lot of challenges in the structure itself. and you start to see some physical challenges as well as material challenges. And basically the whole structure, the building of the structure needs different control schemes that you don't see in a different gate technology. So for the logic providers, this transition is a huge complex issue. And then of course you need to create When you're talking about gate all around, you need to do it with multiple gates. So the separation of the gates is an issue. The strain is an issue. And definitely when we came out with our portfolio, starting from the Prism, the new integrated, the Ellipson to measure the stress, everything is built in order to measure those challenges. So when you're looking right now in gate all around, It will not be like FinFET, a dimensional challenge. It will be a dimensional challenge, a material challenge. And also when you're looking on the material challenges, it starts to be a chemical challenge. And definitely stress, strain, composition on how you build the gate will become a huge issue. So it's playing to our strategy. So we want to be the leader in this market where it's a combination of materials and dimensions.

Great. Thank you very much again, Karat. Thanks, Patrick.

This concludes our Q3 call. I would now like to turn the conference back over to Mr. Ethan Oppenheim, President and CEO, for any closing remarks.

Thank you, Operator, and thank you all for joining our call today. Thanks.

This concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.