Ultra Clean Holdings, Inc.

Good afternoon, ladies and gentlemen, and welcome to the UCT Q3 2024 Earnings and Webcast Conference Call. At this time, all lines are in listen-only mode. Following the presentation, we will conduct a question and answer session. If at any time during this call, you require immediate assistance, please press star zero for the operator. This call is being recorded on Monday, October 28, 2024. I would now like to turn the conference over to Rhonda Benetto, Investor Relations. Please go ahead.

Thank you, Operator. Good afternoon, everyone, and thank you for joining us. With me today are Jim Schulhammer, Chief Executive Officer, and Sherry Savage, Chief Financial Officer. Jim will begin with some prepared remarks about the business, and Sherry will follow with the financial review, then we'll open up the call for questions. Today's call contains forward-looking statements that are subject to risks and uncertainties. For more information, please refer to the Risk Factors section in our SEC filings. All forward-looking statements are based on estimates, projections, and assumptions as of today, and we assume no obligation to update them after this call. Discussion of our financial results will be presented on a non-GAAP basis. A reconciliation of GAAP to non-GAAP can be found in today's press release posted on our website. And with that, I'd like to turn the call over to Jim. Jim?

Thank you, Rhonda. Hello, everyone, and thank you for joining our call this afternoon. I will start with a high-level summary of our financial and operating results for the third quarter and share our thoughts on the broader industry trends we are seeing. After that, I'll turn the call over to Sherry for a more detailed financial review before opening up the call for questions. During the third quarter, an increase in equipment spend by our customers supporting the expansion of AI infrastructure build-out and demand from the domestic China market resulted in revenue coming in at the high end of our guided range. Using the midpoint of our Q4 guidance and animals consensus for our peer group, UCT revenue is on track to be up over 20% this year over last year, surpassing that of our largest customers. In addition to the uptick in equipment sales for advanced packaging applications that we saw over the past several quarters, Third-quarter demand broadened to include other AI-related processes, such as chemical mechanical planarization, or CMP, specifically for the large AI chips. Because UCT has such a diverse and flexible menu of solutions, customers are partnering with us to accelerate their leading-edge technology roadmaps. Turning to China, revenue from our Shanghai manufacturing facility supporting local Chinese OEMs remained elevated. Recent conversations with local customers and our expectation that regional FABs will continue to expand and new ones will come online, supported by local government investment, leads us to believe that this higher level of spend will continue into 2025. We will continue to meet regularly with our local Chinese customers and watch for any change in sentiment or spending patterns that could alter our opinion. Last quarter, I mentioned some of the metrics we are tracking that could point towards a broader industry recovery, and they continue to improve. Inventories have mostly realigned. Shipments of high-performance computing chips have increased. Data center spending is very robust. Memory is being actively managed to keep supply and demand balanced. And fabs are reporting improved utilization rates. In fact, the world's largest chip maker recently announced that they quote, continue to observe extremely healthy AI-related demand through the second half of 2024, leading to increased capacity utilization rates for leading-edge process technologies with signs of acceleration into next year and beyond, unquote. UCT builds a diversified line of products for the industry that extends our reach far beyond gas and fluid delivery solutions. If you could walk through a FAB, you would see thousands of our parts, components, and modules. UCT indirectly touches nearly every semiconductor chip that goes into every smartphone, smart car, data center, and device that uses artificial intelligence today. We have a roadmap built to last and leverage our competitive advantage by offering a high-value, differentiated solutions across all end markets. Our state-of-the-art manufacturing technology, especially in Malaysia, where revenue has increased nearly 150% since this time last year, is helping our customers reach greater economics of scale, especially at the leading edge. Semiconductor cycles are two-pronged. They are technology-driven and capacity-driven. Strong investment in the technology phase of the cycle has been healthy this year, and one of the reasons UCD has been able to meaningfully grow revenue. The debut of AI-enabled smartphones and laptops is here, and a broad replacement cycle shouldn't be far behind. We remain very optimistic that we are in the early innings of an industry-wide recovery, and as capacity investments begin to increase, we expect momentum to accelerate. UCT has withstood many cycles at varying lengths and has outperformed during every upturn. In summary, our long-term outlook for the semi-industry remains very positive. We maintain our view that the global semiconductor market will exceed $1 trillion by 2030, driven by ballooning demands for integrated circuits and AI, digital economies, and electrical vehicles. To achieve this, investment in WFE will need to be in the $150 billion range, and we are ready with the products, services, capacity, and efficiency to meet the major increases of the BAMBC company. And with that, I'll turn the call over to Sherry for our financial review. Sherry?

Thanks, Jim, and good afternoon, everyone. Thanks for joining us. In today's discussion, I will be referring to non-GAAP numbers only. As Jim mentioned, total revenue was up quarter over quarter due to increased demand from our customers relating to AI infrastructure build-outs and continued strength from our domestic China market. Total revenue for the third quarter came in at $540.4 million compared to $516.1 million in the prior quarter. Revenue from products increased to $479 million from $452.7 million last quarter. Services revenue was $61.4 million compared to $63.4 million in Q2. Total gross margin for the third quarter was 17.8% compared to 17.7% last quarter. Products gross margin was 16.1% compared to 15.6%, and services was 30.5% compared to 32.7% in Q2. Margins can be influenced by fluctuation in volume, mix in manufacturing region, as well as material and transportation costs. So there will be variances quarter to quarter. Operating expense for the quarter was $56.5 million compared with $55.8 million in Q2. As a percentage of revenue, operating expense decreased to 10.5% from 10.8% in Q2. Total operating margin for the quarter increased to 7.3% and 6.9% in the second quarter. Margin from our products division was 7% compared to 6.2% and services margin was 10.1% compared to 11.8% in the prior quarter. The overall margin improvements were largely driven by improved product operating efficiency and effective management of operating expenses across both business units on a higher revenue. Our tax rate increased from 24.7% last quarter to 27.1% this quarter. representing a year-to-date effective tax rate of 24.3%. Our mix of earnings has been weighted to higher tax jurisdictions like China and the Czech Republic, and as a result, we now expect the tax rate for 2024 to stay in the mid-20s. Based on 45.5 million shares outstanding, earnings per share for the quarter were 35 cents on net income of $15.9 million, compared to 32 cents on net income of $14.4 million. in the prior quarter due to higher revenue. During the quarter, we experienced some foreign exchange headwinds, primarily related to the Malaysian ringgit that negatively impacted EPS by $0.06 per share. Turning to the balance sheet, our cash and cash equivalents were $318.2 million compared to $319.5 million in Q2. Cash flow from operations was $14.9 million compared to $23.2 million last quarter, primarily doing due to timing of cash collections and vendor payments. For the fourth quarter, we project total revenue between $535 million and $585 million. We expect EPS in the range of 34 cents to 54 cents. And with that, I'd like to turn the call over to the operator for questions.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star followed by the number one on your touch-tone phone. You will hear a prompt that your hand has been raised. Should you wish to decline from the polling process, please press star followed by the number two. If you're using a speakerphone, please lift the handset before pressing any keys. One moment please for your first question. Your first question comes from the line of Charles Shi from Needham. Your line is now open.

Good afternoon, Jim and Sherry. The first question is about China. What's the percentage of revenue coming from China in the third quarter? But maybe it's a related question I'll ask altogether. When I look at the PowerPoint you posted on the website, your revenue from land is up. The revenue from AMAT is actually probably down a little bit. Is China the main contributor to the non-LAM, non-AMAT revenue growth in the third quarter? That's the first question. Thank you.

Yeah. Hi, Charles. So, yeah, I think we did about 50 something million, 52, 50, 55 million. this quarter from China direct, right? So, I'm talking about, like, what we sell directly to our Chinese OEMs. And so, as you look at percentages from our different, you know, flight and LAM, you know, you can't read too much into that. It's just simply, you know, we're seeing some more strength from Chinese OEMs, but we're seeing also some strength from LAM. and ASM and ASML and others. So those percentages are going to move around a little bit, but I think when you look at that way, I think you're seeing, you know, the fact that we're continuing to see, you know, some significant strength from our direct sales to Chinese equipment makers.

Got it. $55 million from China direct. I just want to clarify.

Yeah. And just to give you like a reference, Charles, so, you know, in the past we did like, you know, 10 million a quarter, maybe 20 if we had a great quarter. So this has been continued strength. And I just actually met with the CEOs in China and they continue to think that that's going to stay strong through the year and through next year as well.

Got it, got it, got it. Obviously, the access for you guys to the Chinese Semicap is pretty unique in the industry. Maybe I want to ask you, maybe this is a technology question, maybe it's a product question. You talk about the AI infrastructure build-out. We all know that part of your revenue is tied to lambs, electroplating, which has done very well. They said it's more than double this year. Strengths may continue next year. But looks like this quarter you're talking about some CMP-related strengths. Can you talk a little bit more about that? First off, because we tend to associate your product more with the dampened edge, but what is this CMP exposure? That's number one. But number two is Why there's a CMP ramp related to AI infrastructure build-out? Is it just going general with advanced nodes, or there's something specific about CMP for the, as you said, the large-size AI chip manufacturing? That's the second question. Thank you.

Sure, yeah. I mean, as you just mentioned, I'll reiterate, you know, the wet-edge electrochemistry strength that we've been seeing. for the interconnect business has continued to remain really strong out of our Czech Republic factory. But what we started to see this quarter, and one of the reasons for our outperformance as well, is we started to see CMP business increase. Now, we have a really good position. We have a significantly high footprint in CMP. And CMP is very body on and off. But what we're seeing is chemical mechanical cleanerization is kind of something that people do to get their yields up in the chips that they're making. So this is becoming where we're starting to see more investment in that space. And since we also, like I said, we have a very diversified platform that we cover across many different types of equipment and technology. So we have a really solid position there. And then we're starting to see companies invest in CMP to take their yield up, especially in the AI area.

Thank you.

Your next question comes from the line of Edward Yang from Oppenheimer. Your line is now open.

Hi, Jim. Congrats on a great quarter. I wanted to dig a bit deeper into your demand outlook, and you mentioned growing faster than your customers. And I wanted to understand, is this a function of customers outsourcing more and relying on partners like UCT, your win rates, or are you exposed to right technology platforms? That is, you know, your customers have such broad base and market exposure. Are you overweight or underweight any particular areas that would help you meaningfully grow faster?

Yes. Hi, Edward. So, yeah, we definitely, as you start to see the market start to turn back and the industry start to bring up, and we've seen this over the years, we typically outgrow the industry in the up years. So what happens is you start to see, you know, our customers begin to outsource a bit more. So we have some of that. We also have gains in lithography. that we've been exploiting, and also, you know, our new platform in Malaysia where customers want to take advantage of that, you know, that low-cost region that we've been growing. So, yes, we are starting to see our outperform, you know, in these areas, you know, from those basic strengths. So I think those are, like, the main things. But if you were to look back through our history over the last 10 years, you will see... you will see that when the industry starts moving up a bit, we do experience a higher level of outsourcing, and we do experience a higher level of market share gain.

And I just wanted to piggyback on Charles' question on China. You mentioned your quarterly revenue there was $55 billion, and that is up triple digits year over year, but it is down about $4.5 billion from the prior quarter. Is there any seasonality there, or... you know, is that, you know, did you see any moderation or is it just kind of lumpiness within China that you're seeing?

Yeah. So, yeah, Edward, I can't go into details, but we had you have two main customers there. One is dealing with some internal issues on quality in the open, not our issue. Another one is growing faster. So we had It is lumpiness, but it's nothing to be concerned about the long-term prospects.

Thank you.

Your next question comes from the line of Christian Schwab from Craig Hallam Capital Group. Your line is now open.

Hey, guys. Thanks for taking my question. In the last quarter, you guys talked about seeing broader market improvement. you know, in the second half of 24 versus the first half of 25, which has obviously been correct. We also kind of talked about WFE being really strong on a year-over-year basis in 25, but I didn't really hear an update on that. We understand what your largest customer, you know, talked about seeing growth, but I think we kind of talked about percentages on the call last time. Do you have any update for us there?

Yeah, I think, you know, we've been looking at, and we continue to update that, Christian. So, you know, we continue to look at like 14, 10 to 14%, you know, and it all depends, you know, obviously on how the year ends in 24, right? So, you know, the baseline changes a little bit, but we are still very positive that the WFE is going to increase, whether it's up 10% or 12 or 14, very difficult to say. We will do better than that in the next year. But I think we need to see how 24 ends before we could come out with like a really good estimate for 25. But we definitely believe 25 will be up. And we believe we will be up more than that.

Great. No other questions. Thanks, guys.

Your next question comes from the line of Krish Sankar from TD Cowen. Your line is now open.

Hi, this is Robert Mertens on for Krish. Thanks for taking my questions. Maybe just real quick to jump back on the domestic China strength that you're witnessing. Have you segmented out that before between if it's more foundry or memory-based or broad-based And then also, what sort of visibility do you have at customers within China? I know you are expecting it to still remain strong in the December quarter, but just sort of what sort of visibility and confidence you have heading into next year would be helpful.

Yeah, so hi, Robert. So we have not segmented it out to the chip type. Mostly what we provide for them is deposition and etch modules, especially in the gas panel area, which was our, you know, obviously 45% of our business. And as I mentioned before, you know, I just made the trip there. I just, you know, had dinner with the CEOs of those companies. And they continued, you know, they're going to continue to gain market share. That's a clear thing. they are definitely over-investing right now trying to get every piece of equipment they can. Not every piece of equipment is actually going out to their customers, but we basically, from everything I could see and every discussion I've had with these customers, is that 2025 is going to continue to be at the same level that we've been experiencing in 2024. So that, together with a broader market recovery at some point, together with the you know, the AI strength that we're seeing in different, you know, parts of our diversified products, you know, we're very comfortable and confident that we're going to continue. As we guide it up in G4, we're going to continue to see things get better and better.

Great. Thank you. That's helpful. And then just one more, if I may. In terms of the product margins, they've been doing well in the September quarter. Is that more due to a mix or does just the sales volume have a bigger play into the puts and takes of margins on a quarterly basis?

They both do. It just depends. You know, sometimes we'll have a mix where there's, you know, higher margin shipments happening, you know, specifically, you know, if we ship more out of certain locations for certain product types. But volume definitely plays a huge factor for us in general just because, With the volume coming up, it's covering more of our fixed costs. You know, we've added capacity over the last couple years, so it definitely covers some of those expenses associated with that. So, that's probably the more major factor out of it.

Got it. Okay. Well, congrats and thank you for letting me take the time to ask questions.

Thank you, Robert.

There are no further questions at this time. I will now turn the call back to Jim Schallhammer for closing remarks. Please continue.

Thank you, everyone. Thank you for joining our call today. I think you can pick up. We're really excited about the go forward, and I hope you can join us next quarter. I'm looking forward to it. Thank you.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.