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spk04: Good day and thank you for standing by. Welcome to the Fortronics Q3 fiscal year 22 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during that session, you will need to press star one one on your phone. Be advised that today's conference is being recorded and I would now like to hand the conference over to your speaker today, Ms. Rachelle Burr, Executive Vice President Chief Administrative Officer and General Counsel. Ms. Burr, please go ahead.
spk05: Thank you, Chris. Good morning, everyone. Welcome to our review of Photonics Fiscal 2022 Third Quarter Results. Joining me this morning are Frank Lee, our Chief Executive Officer, John Jordan, our Chief Financial Officer, Chris Burr, our Chief Technology Officer, and Eric Rivera, our Corporate Controller and Chief Accounting Officer. The press release we issued earlier this morning along with the presentation material which accompanies our remarks are available on the investor relations section of our webpage. Comments made by any participant on today's call may include forward looking statements that include such words as anticipate, believe, estimate, expect, forecast or in our view. These forward looking statements are based upon a number of risks, uncertainties and other factors that are difficult to predict. Actual results may differ materially from those expressed or implied, and we assume no obligation to update any forward-looking statements. At this time, I will turn the call over to Frank.
spk06: Thank you, Richelle, and good morning, everyone. Q3 was an outstanding quarter. We achieved new records in both revenue and profit. Demand for photo masks remains strong for IC and FPD, both high-end and mainstream applications. With our global presence, store production capacity, and deep portfolio of customer partnership, we increased revenue 8% sequentially. Once again, it is our sixth consecutive quarter of record revenue. Growth margin and operation margin also reached 25-year record highs. of 38% and 29% respectively, as we benefit from higher price, operation at capacity in most locations, and superior cost control. The net result was earnings of 51 cents per share. Cash generation was also strong. and we end the quarter with $324 million in net cash, positioning us to continue investing in profitable growth opportunities. I'm very proud of the entire Fortronix organization and what we have been able to accomplish by working together and serving our customers to deliver great results. There has been pronounced mass capacity shortage since the beginning of second half 2021. Consequently, our customer has been dealing with low mass delivery time. Since Fortroni's full commitment is to our customers' success and growth, we have evaluated the situation and will be making the next wave of capital investment. to closely align with our customers for their technology and production capacity roadmap. This strategy has been extended across geographies for both IC and FPD. These actions will help us continue to build a strong partnership with customers and establish several long-term agreements. Recently, there have been some slowdowns in customer new tap-out activities, more in high-end than mainstream. However, our experience has shown that customers will embrace megatrends in the market that drive development of new ICM LPD designs, such as the rollout of 5G telecommunications the expansion of electronics in automotive applications, and, of course, the continued expanding need for consumer electronics. As a result, we believe the negative impact of any slowdown on electronics will be minor, as reflected in our Q4 guidance. We join our semiconductor peers in approaching the passage of chips and science act. Petronas, a critical member of the U.S. semiconductor ecosystem for 53 years, is the largest global photo mask manufacturer and the only domestic supplier of high-end commercial masks, including U.S. Trust products through 14 nanometers. In cooperation with CHIPS, we stand ready to invest and support the expansion of our customers' domestic manufacturing and technology needs. We performed very well in the third quarter, and we believe we are on track to have the best year in the history of the company. I'm proud of our team. And I want to thank all of our employees for their extraordinary work to achieve the quarter's results and look forward to accomplishing even more in the future. Thank you. At this moment, I turn the call to John.
spk02: Thank you, Frank. Good morning, everyone. Design activity remains strong in the third quarter, driving growth across both IC and FPD businesses. Our operations teams did a tremendous job of meeting demand in an environment that remains challenging. As Frank mentioned, we achieved our sixth consecutive quarter of record revenue and grew the top line to $220 million, up 8% sequentially and 29% compared with the prior year quarter. This quarter's performance is another data point that we believe validates our growth strategy. We have strategically invested in capacity and capabilities that are aligned with the high growth sectors of our markets, such as AMOLED displays for mobile applications in our FPD business, as well as both mainstream and high-end IC nodes. We are pleased with the results and believe we are well positioned to continue to outperform the market. IC revenue of $161 million was 11% higher sequentially and up 37% year-over-year on strong demand growth and improved pricing across both high-end and mainstream. For high-end, U.S. and Asia demand increased, particularly for 22 nanometer and smaller nodes, as demand remained strong and we saw a pickup for EUV applications. Mainstream demand also continued strong driven by applications across the industry. The ubiquitousness and continued proliferation of the use of semiconductors in everything we use is widely discussed in the industry and our customers continue to innovate and bring new products to market resulting in new design starts and driving the increase in mask demand. Our investments in capacity across the organization expand our operations to supply more masks that enable product development initiatives. There are also selective opportunities for pricing action across our IC business to help capture the value that we deliver to our customers. FPD revenue of $59 million increased 11% year-over-year, driven by strong high-end demand during the quarter, as both AMOLED for mobile displays and G10.5 Plus for ultra-large screen TV were up strong double-digit percentages compared with both last quarter and last year. Although demand was robust in both high-end and mainstream FPD, The dedication of production capacity to the higher margin products resulted in decreased mainstream FPD revenue. Revenue from products shipped to China continued its strong growth trend. Our investments and work to build our business there have paid off, and we expect to remain the market leader. Gross and operating margins continued to improve during the third quarter and benefited from improved pricing operating leverage from higher volumes, and continued cost discipline. Gross margin of 38.1% and operating margin of 29%, both 25-year records, improved sequentially 380 basis points and 480 basis points, respectively, and are both entering into the bottom end of the ranges in our long-term target model. Based on our outlook and the continued focus on cost reductions, we expect to continue to deliver sequential margin improvements as our revenue moves into the targeted ranges. Operating expenses were well controlled during the quarter, and we were well below the implied target in our long-term model of 10% of revenue. We expect this metric to trend toward our long-term target model as we invest in resources to support growth and continue to qualify more products. Income tax provision increased on increased earnings, and net income to non-controlling interests increased with the strong performance of our Taiwan and China JVs. The totality of the operating results, together with an unrealized gain on foreign exchange, resulted in diluted earnings per share of 51 cents. We generated $93 million in cash flow from operations during the quarter due to strong earnings, good management of working capital, and VAT refunds we received in China, which we used to further reduce long-term debt. Since the beginning of the fiscal year, we have reduced long-term debt by $54 million. We ended the quarter with $324 million in net cash, maintaining our ability to invest in growth opportunities and providing the wherewithal to weather potential economic troughs. CapEx for the quarter was $12 million, bringing year-to-date CapEx to $45 million net of government subsidies. We still project a spend of $100 million this fiscal year, although some of the remaining spend could lapse into next fiscal year. While it is too early to provide precise CapEx guidance for fiscal 2023, Early indicators point to continued expansion of demand and an abundance of investment opportunities, especially in IC, that will likely cause CapEx next year to increase. Before I provide guidance, I'll remind you that our visibility is always limited as our backlog is typically one to three weeks and demand for some of our products is inherently uneven and difficult to predict. Additionally, the ASPs for high-end mask sets are high, and as this segment of the business grows, a relatively low number of high-end orders can have a significant impact on our quarterly revenue and earnings. Given those caveats, we expect fourth quarter revenue to be in the range of $205 to $215 million. driven by a continuation of favorable end market demand trends across both IC and FPD. At the midpoint, this represents an increase of 16% over last year's Q4 revenue, and for the full fiscal year 2022, an increase of 24% over full year fiscal 2021 revenue. In line with our expectations, somewhat tempered by economic uncertainty, the effects of foreign currency, and typical Q4 seasonality. Based on those revenue expectations in our current operating model, we estimate adjusted earnings per share for the fourth quarter to be in the range of 44 to 52 cents per diluted share. At the midpoint, a 45% increase over last year's Q4 EPS, and for the full year, more than double the full year fiscal 21 earnings per share of $0.89. Our outstanding performance for the first nine months of fiscal 2022 is on pace to deliver another record year in revenue with expanding margins, strong cash flow, and a solid balance sheet to support our growth strategy. We are making palpable steady progress toward achieving our long-term target model that we believe will ultimately lead to greater value creation. for our shareholders. I will now turn the call over to the operator for your questions.
spk04: Thank you. As a reminder, to ask a question, you'll need to press star 11 on your phone. Please stand by as we compile the Q&A roster. Our first question will come from Hans Chung of DA Davidson. Your line is open.
spk03: Hi, this is Linda on behalf of Hans Chang. Thank you for letting us ask questions. First of all, congratulations on a great quarter. So I guess my first question, in terms of the moving pieces in the demand environment, as well as supply constraints, I was wondering, from your perspective, if you saw any supply chain issues in the quarter and how much the constraints are limiting you in terms of potential revenue or output, and if any of the constraints are embedded in your outlook. And then I have a follow-up.
spk06: The supply chain impact on our output actually is very minimal. We do see some small shortage in LPD blank supply, but we are able to deliver, develop second and third source. So to answer your question, this is not a factor on our Q4 output.
spk03: That's helpful and I guess as my follow up in terms of the demand side of things, you noted strong demand in the quarter, but with concerns of potential slowdown in the coming year in different end markets. Are you seeing any order push-outs or any actual cancellations? And then as you think about 2023, obviously a lot of changes in the end markets. I'm curious how you're thinking about net effect into 2023 and whether we could see any growth or declines. And I'm wondering what you think.
spk06: At this moment, the mainstream product, we don't see any slowdown. in customer tap out activities. However, we do see a little bit push out in the high-end mass tap out, not necessarily in all customers, but we do see some slowdown in the customer tap out. For 2023, actually, as John mentioned, our business model, our backlog normally is three to four weeks.
spk02: So at this moment, we... So Linda, we had at the beginning of the fourth quarter, we saw a little bit of push out from some of our major customers. But from our discussions with them, that demand is going to be coming back. When we put our long-term model together, the 2024 model, as we've discussed, we anticipate that there's going to be a pullback sometime during the cycle. We're three years into a pretty good cycle now, and we all know that, notwithstanding some people's contention that it's different now, it never has been different. So we expect a pullback sometime during our forecast period, and our growth anticipation through 2024 has been muted to factor a slowdown in the industry. Whether that slowdown is occurring now or not, we don't know. We expect our demand to pick back up during the quarter, and we haven't put our budget for 2023 together yet, so actually we're about to do that next week. we'll have a better feel for what we expect for 2023. As you know from the past, we do well to forecast one quarter at a time, and we never give guidance for the full year or for the following year. So the best we can do at this point is our guidance for Q4 with the knowledge that we have now.
spk01: And this is Chris. I can make one additional comment. You know, there's still a lot of capacity constraints in the global photo mask industry, which will not be easily solved over the next year or two years. So even if demand pulls back a little bit, utilization should remain quite high in commercial photo masks. The other dynamic that often happens is as fabs utilization goes down in the way for fabs, you tend to see design activity pick up because they're working harder to try to refill that capacity. It can be a little bit countercyclical if the downturn is not severe where design activity improves while FAB utilization goes down. So these may give us buffers as well to not see the same kind of impact that some of the chip makers will see.
spk03: I appreciate the color. And then as my last question, a bit about pricing dynamics, could you talk a little bit more about pricing changes in the quarter? And because we saw a good strong quarter-over-quarter growth in mainstream and advanced auto mask revenues, can you maybe break down how much of the growth was coming from the pricing versus volume, which seems to be having a significant effect on revenue and gross margins?
spk02: Thank you for that, Linda. It's difficult to fix and quantify But the effect is significant. We've seen an improvement in the pricing environment for our high-end business in Asia, so we've been able to take advantage of that. And as you know, we've had a very supportive pricing environment in Asia since our second quarter of last year. We used to approach customers to try to put long-term purchase agreements in place and that helped us support our revenue predictions for our investments in China. Over time since then, it's now more symbiotic, and the customers are coming to us for long-term agreements as much as we're going to them because they want to ensure their capacity going forward to get the masks that they need. So as a result, the number of long-term purchase agreements we have in place continues to increase. Many of those rolled over in March and April, March 15 and April 1. And we got the benefit of those price increases in third quarter. I think if we just look at the differences in gross margin over the time period since the pricing environment started to improve, we can come up with a rough estimation on our own of what that pricing effect has been. We can't really put a fixed number on it.
spk03: Great. Thank you for your time today.
spk02: Thank you, Linda. Thanks for the question. Take care.
spk04: Thank you. One moment, please, for our next question. And our next question will come from the line of Patrick Ho of Stifel. Your line is open.
spk07: Thank you very much, and congrats on a nice quarter. Maybe first off as a follow-up to the comments you made about the high-end market and seeing some push-outs, are you able to discern if they're in marketplaces that are currently weak today? So what I'm getting at is, are they in markets like PCs, low-end smartphones, consumer electronics, where we've we've seen tangible reductions in overall orders across the semiconductor chain, or are you seeing them in other markets that haven't been as, quote, weak?
spk06: I think from customer to customer, the situation may be different. But one thing we see, one of the main factor is the inventory build up in the end user, especially the IC design house. So before the clean out of the inventory, some customer reluctant to make a new product. So according to our input and interface with customers, the high end tap out activity should start to recover perhaps by the end of September or in October. So we believe there's a push out due to inventory, high inventory, but the design activity should continue. And as Chris mentioned, because the wafer flap utilization is a little bit down, and that allows customers to have the room to do table pilot activity. So we hope and we believe this is a short-term effect.
spk07: Great. That's helpful. And maybe my follow-up question for you, John, in terms of CapEx, Obviously, customer demand is quite high, particularly in the mainstream IC business. Is there any nuances or differences in the type of CapEx you need to acquire for either the high-end versus, say, mainstream? And does that affect the overall CapEx dollars? Or are they kind of fungible, the type of equipment you buy?
spk02: They're hardly fungible, Patrick. Thanks for that question. During my comments, I mentioned that our capex for next year will increase. And as I also mentioned, we're having our planning meeting next week when we're going to determine just what that increase is going to be. As you've observed over the past several years, we've been doing very well with our investments. The criteria that we use to make sure that our investments are going to produce improvements in ROIC have been effective in making sure that we do exactly that, and we've seen the result of that scrutiny over CapEx, and we've seen the improvement in ROIC. We've already, as we mentioned in prior calls, the CapEx for this year was primarily for mainstream and also deposits on high-end tools for IC for next year, and there are going to be a lot of tools delivered next year. We've expanded a couple of facilities, and we've got high-end lithography tools, inspection tools, et cetera, to really expand our high-end capabilities, especially in Asia. We did that in the U.S. last year, and we're going to do it in Asia next year. To the extent they're available, we're also buying point tools for mainstream, as we've discussed previously. So as specific as I can be, we're buying almost full lines, if you put everything together, to expand our capabilities in high-end IC. They are full lines, but if we took the tools that we're putting in real expansion in our high-end capacity.
spk06: Patrick, this is Frank. Actually, in Taiwan, we are building a FAB expansion, and the facility will be ready by the end of this year. And after the clean room is ready, we do have several writer and inspection tour moving next year, including the high end and also the middle end tour. So we do have some capacity in 2023 to meet our customer demands.
spk01: And the only other thing I'd add, Patrick, is, you know, we can run mainstream products on high-end tools. I mean, the capabilities there, it just doesn't make sense, you know, economically and for cost reasons. So we really look very, very hard at price on mid-range tools and productivity. We also look at that on high-end tools, but capability tends to be the overriding decision factor in how we look at CapEx for the high-end tools. And cost of ownership, ROI, those sorts of things get a lot more scrutiny for mid-range, mainstream tools. So the capacity is a little bit fungible, but if we need to, we can run lower-end products on higher-end equipment. But it isn't really the right way to operate the FAB.
spk07: Great. That's really helpful. Thanks again. Thank you, Patrick.
spk04: Thank you. And again, to ask a question, please press star 1 1 on your phone. One moment for our next question. Our next question will come from the line of Gus Richard of Northland Capital Markets. Your line is open.
spk08: Yes, thanks for taking the question. Just real quick on the slowdown and tapeouts, is there any regional
spk06: you know impact on that is it you know China or Asia in general or just across the board actually China we don't see any slowdown a little bit slow down in other regions China activity remain very strong so that's why our China operation still run at an overcapacity. So the slowdown is in our region, and as I mentioned, we do see some coming back recovery happening.
spk08: Okay, thank you. And then, you know, as I recall over the last few decades, is Q4
spk02: your q4 are seasonally down quarters it typically up so because if we didn't have incremental revenue coming on from capex additions during the year q4 typically would be lower seasonally than q3 but for the last several years starting with the big investments in China q4 has benefited a from the incremental revenue from CapEx during the year, so it's been stronger. In this case, we don't have as much incremental revenue coming on, and we also have the dampening effect from foreign exchange in a couple of the locations where they record revenues in the local currency, and then they have to translate them into dollars. So we know the dollar's strong, so that's giving rise to some some muted translation and muted translated revenues.
spk08: Got it. And then the last one for me, when I look at your FPD revenue, it was flat sequentially. It's had nice growth over the last few years. I'm just wondering, are you at a point where you're fully utilized and there's
spk06: not much upside in that part of your business until more capacity comes on and so when would you expect that incremental supply to come on uh in fpd uh we are focusing more on the higher profit uh product and uh our booking is uh over the capacity uh but at this moment We finished our first major capacity, especially in Hefei last year. So at this moment, we focus on making profit, and we kind of cherry-picking our orders for the time being before we make the decision for our next wave of investment.
spk08: Got it. Very helpful. That's it for me. Thanks so much.
spk02: Thanks for joining the call, Gus.
spk04: Thank you. And I see no further questions in the queue. I would now like to turn the conference back over to Frank Lee for closing remarks.
spk06: Thank you. Thank you for joining the meeting this morning. We performed well in the third quarter, and we are on the way to delivering another record year. Air market demand remains strong across the business, and our entire team is working hard to serve our customer. I'm proud of our achievement this year, and we look forward to continued success in the future. Thank you.
spk04: Ladies and gentlemen, that concludes the conference call for today. We thank you for your participation and ask that you please disconnect your line. Have a pleasant day.
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