Good day, everyone and welcome to the Entegris' Second Quarter 2019 Earnings Release Call. Today's call is being recorded. At this time, I would like to turn the call over to Bill Seymour, VP of Investor Relations. Please go ahead, sir.

Good morning, everyone. Earlier today, we announced the financial results for our second quarter of 2019. Before we begin, I would like to remind listeners that our comments today will include some forward-looking statements. These statements involve a number of risks and uncertainties, which are outlined in detail in our reports and filings with the SEC. Please refer to the information on the disclaimer slide in the presentation. On this call, we will also refer to non-GAAP financial measures as defined by the SEC in Regulation G. You will find a reconciliation table in today's press release as well as on our website. I'd also like to remind you that there is a slide presentation on the results posted on our website that may be referenced during the call today. On the call today are Bertrand Loy, our CEO; and Greg Graves our CFO. I'll hand it over to Bertrand.

Thank you, Bill. I will make some comments on our second quarter performance, how we see the industry environment and our expectations for the rest of the year. I will also discuss the organizational changes we announced today. Greg will follow with more details on our financial results, discuss our updated capital allocation framework and provide guidance for the third quarter of 2019. We'll then open the line for questions. During the second quarter, headwinds in the market resulted in a softer-than-anticipated quarter for both the industry and Entegris. Let me provide some additional color. The memory market continued to languish, as inventories at memory makers remained high. As a result, utilization rates and wafer starts remained low at most memory customers. In addition, production levels in mainstream fabs were somewhat weaker than expected, as escalated trade tensions impacted industrial and automotive end markets. Finally, the industry CapEx continued to weaken during the quarter. However, on a positive note for Entegris, we continued to see great momentum with our advanced solutions in new nodes, particularly in logic and foundry. Our SCEM division, as expected, rebounded from a soft first quarter, led by record sales and double-digit organic sequential growth of advanced deposition materials. Our CapEx driven businesses stabilized and have now a healthy book-to-bill ratio as we start Q3. Last week, we acquired MPD Chemicals, further enhancing our advanced materials portfolio. And finally, we continued to return cash to shareholders with a recently announced 14% increase in our quarterly dividend and over $50 million of share repurchases since the beginning of the year, including $15 million in the second quarter. While this has been the most challenging year the industry has faced in some time, Entegris has weathered the storm relatively well. Having said that, Entegris's culture is guided by…

Thank you, Bertrand. Our overall second quarter performance was mixed relative to our expectations. Q2 sales of $379 million were at the bottom end of our sales guidance range and were down 1% from a year ago and 3% sequentially. Q2 GAAP diluted earnings per share was $0.91. GAAP EPS included $122 million of net proceeds we received from the terminated Versum transaction. On a non-GAAP basis, EPS of $0.39 was below expectation. Moving onto gross margins. GAAP and non-GAAP gross margin were both 44% in Q2. The year-on-year decline in non-GAAP gross margin was driven primarily by the addition of the Pure Gas business acquired from SAES to the portfolio, lower sales volume, weaker product mix, and an insurance claim in the prior year that was one-time in nature. We expect gross margin to be approximately 46% on a GAAP and non-GAAP basis in Q3, driven by higher sales volumes and improved mix. GAAP operating expenses were $111 million and included approximately $17 million of amortization of intangible assets and other discrete charges totaling approximately $5 million. Non-GAAP operating expenses in Q2 were $90 million in line with our guidance. We expect non-GAAP operating expenses to be $92 million to $94 million in the third quarter. The sequential increase from Q2 is primarily due to the additional OpEx related to MPD Chemicals. GAAP operating income was $55 million and non-GAAP operating income was $77 million. Our GAAP tax rate was 25.9% for the second quarter and included a total six percentage point impact in discrete items related to new tax regulation and the tax impact of the Versum termination payment. We expect our full year GAAP tax rate to be approximately 23%. Our non-GAAP tax rate was 20.4% and does not include the discrete items previously mentioned. We continue…

Thank you. [Operator Instructions] We will now take our first question from Toshiya Hari with Goldman Sachs. Please go ahead.

Hi, good morning guys.

Good morning, Toshiya.

Good morning. I had three if I may. First, in terms of the operating model improvements that you guys talked about, I was hoping you could elaborate a little bit more in terms of what you're doing exactly perhaps by segment or product line to the extent possible and kind of the split between COGS and OpEx. That will be my first question. Thanks.

Yes. So Toshiya, let me give you maybe a high-level context for what we're trying to do here which is really part of broader strategic initiatives that we started in the fall of last year and that we've put on hold during the merger discussion with Versum. So as a company, we're always looking at ways to improve our operational efficiency, improve our customer intimacy. And what we really want to do is to make sure that we can find ways to reduce our time to solution and ways to more closely align our development and engineering teams with our customer-facing teams. So you should expect actually the reorganization to have an impact across multiple financial statement lines, most notably in SG&A, but it will really impact each of the three divisions. And the whole idea behind that again is to make us more responsive to customers, more competitive and also allow us to be more effective in integrating future acquisitions.

Got it. Thank you. And then my second question is on the second half outlook. Bertrand you talked about setting pretty conservative assumptions for the broader market and more kind of relying on company-specific drivers. And I think that's consistent with what you had said three months ago. But curious what sort of assumptions have you embedded in your second half numbers or your full year guide, both in terms of wafer starts as well as CapEx in the second half perhaps relative to the first half? And then more on the company-specific stuff, if you can remind us what the goals are in terms of some of the product line that you talked about three months ago like graphite specialty coatings some of the node transitions by your customers and things like that?

Yes. So let me start with some of the industry assumptions that we used for the second half of the year. And as you said, we are using what I think is a set of fairly conservative assumptions, we expect MSI to be flat in the second half of the year versus the first half. We expect CapEx to continue to slide. And to put that in a quantitative form, I would say CapEx down probably another 9% in the second half versus the first half. So a lot of the growth that we expect to generate in the back end of the year will come from node transitions. And we have felt a little bit of that already in Q1 of this year. We expect to see actually additional momentum in logic and foundry in the back end of the year. We also expect to see the benefit of a number of memory customers transitioning to additional layers in the back end of the year. So the impact will be felt mostly in micro-contamination and SCEM. And as you mentioned it's going to be specialty coating, deposition materials selective etch chemistries as well as advanced liquid filtration solutions.

Great. And then my last one. In terms of some of the geographical information that you gave out in your deck, I was positively surprised by how Korea kind of hung in and I was negatively surprised by how weak Taiwan was in Q2 on a sequential basis. I would have thought given customer commentary in memory I would have expected weaker performance in Korea. And then on the flip side, given the largest foundry customers' comments in the Q3, I would have expected better trends in Taiwan. So if you can kind of comment on both regions what went on during the quarter and what the outlook was into the second half? Thank you, that’s all I had.

Sure. So let's start with Korea. So Korea, sequentially good performance. We saw a stabilization of level of affectivity in memory fabs so no further deterioration which was good. And we picked up actually some activity on new fab construction in Korea. So that's really what explains the relatively good performance in Q2 given the overall industry context. We expect the picture to continue to improve in the back end of the year, as we expect some modest improvement in fab activity and memory in Korea. In the case of Taiwan, if you look at the first half performance, we are growing actually 6% organically in Taiwan, first quarter of this year or compared to first quarter of last year. So that's what I would have expected. We knew that we benefited from a number of unusually high orders in Q1 related to a number of ramps and tape-out activity. And as we said in our Q1 results, we really were expecting a softening in microcontamination in particular sequentially, and we saw that in Taiwan. On the going forward in Taiwan, we expect a big reacceleration in the back end of the year, and we expect Taiwan to have a very, very solid year for us.

Great. Thanks so much for the detail.

We'll now take our next question from Sidney Ho with Deutsche Bank. Please go ahead.

Great. Thank you and good morning. My first question is, I appreciate you reaffirm your full year guidance of $1.6 billion. So based on your Q3 guidance of what implies a pretty healthy rebound of sales in Q4 of at least 10% and EPS of 55% or more can you maybe walk us through -- I know you talked about Q3 dynamics, but what exactly is driving the Q4 growth assumptions there?

So Sidney, I would probably reiterate what I was just saying, answering Toshiya's question. It's all about the node transitions. We expect additional momentum coming from that both in logic as well as in memory. That will primarily impact positively the microcontamination and SCEM businesses, and you should expect a sequential increase or increases in Q3 and then in Q4 for both of those divisions.

Okay. That's helpful. Maybe switching to the gross margin, the gross margin obviously in Q2 was a little challenging, and I think you guys talked about the year-over-year decline. I'm just trying to understand the quarter-over-quarter decline as well. And is that kind of seen across the different segments? And related to that Q3 is going back to 46%, what's driving the recovery of that on the sequential basis?

Yeah. I can let Greg potentially add some more financial details to your question, but before he does that I'd like to provide maybe some high level perspective. What I want you to appreciate is that, some time halfway into the quarter, say, mid to late May, we realized that the environment would be a little softer than expected, and then we also realized that the mix would not be very favorable in Q2. So in other words, we realized in May that we would most likely be testing the low end of our EPS guidance. So as a management team, we looked at our options. We considered slamming the brakes. But in the end, we decided not to do that. And instead what we tried to do is really to curb some discretionary spendings. But, again, we chose not to really flex down the labor cost, SG&A or R&D. And I really think it was the right decision. So, why was that the right decision? Well, first if you think about margin and cost of goods sold, we were getting in May, and of course today we even have further evidence that the back end of the year will be very strong for Entegris. So, we felt that it would have been very foolish to flex down our direct labor in the plans in Q2 only to have to rehire and retrain workers a few months later. So that's the way I would answer your gross margin question. But to extend my comment to other parts of the P&L, I would say that we also chose to continue to spend in R&D. I mean our development teams have been working very closely with customers on a number of promising opportunities and it was very important for us to allow proper funding both in CapEx and in R&D which we did in order to continue to increase the quality of the opportunity pipeline. So, it's not -- don't get me wrong, it's not pleasant not to deliver on an EPS number and to be slightly below the guidance but in this particular instance it was a calculated choice and I think it was the right choice.

Yes. And Sidney just to follow-up your question the decline really was across divisions. Our volumes were down in two of the three divisions and then the third division which would be SCEM our volumes were up. We were impacted more by mix.

Okay, great. Thanks for the color. That's great. Maybe one last question for me. In terms of the MPD Chemicals acquisition, how much should we expect the revenue contribution from them in Q3? And Greg when you talk about accretion next year, what magnitude of accretion are you kind of expecting? Thanks.

Yes. So, we would expect next -- in Q3, we would expect revenue to be in the high single-digits. We don't own it for the whole of the quarter. And when we think about accretion next year, we think about $0.05 to $0.10 per share.

Great. Thank you very much.

[Operator Instructions] We will now take our next question from Amanda Scarnati with Citi. Please go ahead.

Hi, good morning. Just wanted to talk a little bit about the China business. It looks like it was up quite a bit in the second quarter. But I've been hearing a lot lately that China is increasingly tying subsidies or incentivizing subsidies to use sort of non-U.S. suppliers. Have you been seeing any of that in the market? And sort of what drove that strong growth in China this quarter?

Yes, good morning Amanda. So, let me just say that our business has not really been directly impacted by any of the trade tensions or export restrictions and we don't expect that to be the case going forward. So, what drove the nice sequential growth is really a number of new wins at actually some of our large Chinese domestic fab customers. So very, very pleased to see that we've been able to find ways to continue to engage with domestic Chinese fab customers and continue to win new business in spite of being a U.S. supplier. So, I agree with you that there is a long-term risk that you characterize that some of the Chinese fab customers may choose to lessen their reliance on U.S. suppliers. But as of right now, we have not seen any of that impact meaningfully our business.

And then just going back to the margin question. As you sort of worked through your due diligence with the Versum acquisition did you notice anything different in how they approach margins in different ways in which you can sort of expand your EBITDA margins? I know you talked today a little bit of restructuring that you're doing, but is there anything in there that could be something longer term that you could work on in your model?

I mean Amanda I think we've implied before we certainly learned some things out from a competitive perspective but around sort of business process and organization. And I think some of what we announced today and Bertrand has already talked about would be a byproduct of that. As it relates to the gross margin, specifically, I would say we didn't really learn anything specific and I feel good about how we execute and how we manage our gross margin line, more specifically how our team manages the supply chain in the factories.

Great. Thank you.

We will now take our next question with Chris Kapsch from Loop Capital Markets. Please go ahead sir.

Yes, good morning. I just had really follow-up on formal comments that Bertrand you had about sort of witnessing an inflection of sorts or stabilization of orders. I'm just wondering if you could characterize that by either fab, foundry, logic, memory, just any sort of characterization about why you feel that there is some evidence of inflection any sort of color around that. Then I have one follow-up.

Yeah. So usually the greater level of visibility that we have is directly related to those node transitions. So -- and we are seeing that in advanced logic and foundry and in advanced memory. The other area which was actually a very important signal that we've been waiting to see is really in our CapEx-driven business. And across all of our CapEx-driven business lines, we are actually seeing very, very healthy book-to-bill ratios. And that's the first time in a very long time. So, in other words, we believe that we are no longer trying to catch a falling knife on that part of our business and that gives us a lot more comfort for what's ahead.

Okay. That's helpful. And then just the follow-up is on the sequential rebound that you're suggesting you see in margins and sort of maybe your -- the answer to my other question sort of explains that. But is it just a function of the node transitions driving demand for advanced products that's helping margins sequentially and continued weakness on some of the equipment side? Or if you could just provide some color there. Thank you.

The sequential improvement in the margin really, Chris, is -- we expect things to turn -- return to a more normalized level in terms of both mix and we expect some moderate increase in the volumes. So, if you look at -- if you look over the last six quarters or so, I mean, we've been right -- with the exception of early last year where we had some peak margin, we've been right at about 46%. There is nothing systemic on the margins. Our ASP trends are good. We continue to execute well. So, it really boils down to continuing to see some improvement in mix and some better volumes.

Okay. Thank you.

We will now take our next question from Patrick Ho with Stifle. Please go ahead.

Thank you very much. Maybe first up for you, Bertrand. In terms of the materials intensity for logic and foundry, it's clear that their new device structures, the smaller lines which are driving more materials engineering. Can you give a little bit of color whether you're seeing new materials using either advanced deposition action areas like that? Or is it just that the content for existing materials has increased at some of these new node shrinks?

So, Patrick, this is actually -- we are seeing both. We are seeing greater materials intensity as a result of greater gate density in the new architectures, but we also -- I mean, the material intensity is also defined by the introduction of new highly engineered materials. That is certainly an area where we see growth far exceeding the industry growth. This is an area where we have the objective of establishing Entegris as a leading supplier and that's really what has led us to the acquisition of DSC and MPD. We wanted to increase our capabilities in that area. We wanted to have access to high-volume manufacturing synthesis capabilities. We wanted to take greater control on our supply chain. We wanted to be in a position to purify the materials that we are supplying to our customers and really offer to our customers a very complete series of capabilities from synthesis to purification and delivery of those new materials, all of which present daunting challenges that I believe Entegris will be uniquely positioned to solve. So, again, what we're seeing on the logic side of things, in terms of industry road map is very, very exciting. What we're seeing on the memory side is also equally exciting and that's why we are so focused on those opportunities.

Great. That's helpful. And maybe, Greg, as my follow-up question in terms of the new investments. You guys continue to make -- I mean, strong upside on that front, which has led to a lot of these new products that are now starting to pay dividends. How do you look at R&D spending over the next year or so in terms of, I guess, future product development and opportunities that are still forthcoming with future years, particularly on the material side of things?

Yes. So first of all I would just say on ER&D, all of our -- any project of any significance has an ROI attached to it. And I mean, it's a very sort of analytically driven approach in terms of where we invest our ER&D dollars. I think I said as part of the capital allocation discussion, I mean, we were at 8% of revenue in the most recent quarter. We've been trending sort of around that 7% level. Our commitment going forward is to be in that 8-ish range. And if you look at our OpEx year-over-year, we've been pretty consistent on the ER&D front. I mean in terms of -- that's the lifeblood of the company. So I think you can expect us to continue to prioritize spending on the ER&D even as we make adjustments in other areas.

Great. That’s helpful.

And we'll now take our next question from David Silver with C.L. King. Please go ahead.

Yeah. Hi. Thanks very much. I guess, couple of questions. First one would just be kind of on a baseline. So I think, Bertrand, you mentioned that you expect second half of 2019 to be flat sequentially with the first half, in terms of MSI. I don't recall, but could you just clarify what your expectations are for the first half? In other words, what the baseline for the first half might be, whether it's MSI or wafer starts or whatever you consider the relevant metric? Thanks.

Right. So the first half of 2019 compared to the first half of 2018, MSI was down about 2% as per our estimates and CapEx was down about 12% as per our estimates. Is that your question, David?

Yes. Just wondering how you're looking at the market. So thank you for that clarification. And then, the second thing I -- excuse me, go ahead.

No. So, I was just maybe trying to provide a slightly different perspective on our full year 2019 guidance. I mean, we are assuming strong industry headwinds to the tune of minus 8% year-over-year, so 2019 over 2018. And you get there with the assumption that CapEx will be down into high teens year-over-year and MSI will be down 3% to 4% year-over-year. So to offset that, we expect to pick up about 600 basis point from a number of acquisitions that we did over the last 12 months and then we expect to generate about 500 basis point of organic growth in excess of the industry. So the only thing that has changed really between this quarter and last quarter is the view that the market and the industry is probably a little bit weaker than we were estimating a few months back.

Well, now, that's interesting. And just a quick follow-up with the 500 basis points of organic growth above the market baseline. That's higher than your traditional targets, I guess, your longer-term targets for your overall business mix. Bert, is that correct?

That's correct. Our long-term target would be 200 to 300 basis points over the industry. We expect we will be actually beating that target, which is something you would expect us do to, given the number of node transitions that we are seeing this year.

Yes. Okay. Thank you for that. That was more than I anticipated. Appreciate it. I wanted to ask a quick question, maybe for Greg, and I hope I'm not too confusing, but you laid out your M&A criteria very clearly and I wanted to focus on accretion with this year's two acquisitions I guess Digital and MPD. And so more than $200 million of CapEx and -- sorry of expenditure. And I'm assuming -- or should I assume that the combination of those two will be accretive over the next 12 months? And then I, also would ask you to maybe parse the $20 million of cost savings. In other words, would the acquisitions be accretive ex the implementation of the $20 million in annualized cost savings? Or is that inclusive I mean, in other words is there a little double counting there to -- does a meaningful portion of the anticipated efficiencies come from integrating MPD and Digital? Or is it more broad-based and they would be accretive and meet your targets on a stand-alone basis? Thank you.

Yes. They are really two very kind of discrete events or projects so to speak. With regard to MPD, we had a question a little bit earlier and we said $0.05 to $0.10 accretive in 2020. So we would expect -- I mean DSC is a much smaller transaction, but we would expect that to be accretive in 2020 as well.

All right. Thanks very much.

We'll now be taking our last question from Krish Sankar with Cowen & Company. Please go ahead.

Yeah. Hi. Thanks for taking my question. I had a few of them. First one Bertrand, do you guys break out your revenue by end customer type like DRAM NAND logic et cetera?

No, we don't do that with a very high degree of precision. We have given some directional perspective to that, but we don't do that on a quarterly basis.

Got it. Got it. That's fine. And then how much of the weakness you saw in Q2 was related to some of your memory customers throttling back wafers?

So it wasn't really coming from our memory customers directly, but we saw some indirect impact from their supply chains, particularly by chemical manufacturers lowering their production levels and that had an impact on both our pure drums and that's AMH, but also sales of some liquid filters and that would be MC. So -- and that's something that we have not really probably well forecasted going into Q2.

Got it. Got it. And then the last question Bertrand is some of your customers -- memory customers are talking about moving wafers from DRAM into CMOS image sensors. If they do such a thing, is that good, bad or is it agnostic for Entegris?

I think it's a case-by-case answer and I wouldn't want to go into customer specifics, but you should not be worried about those types of rumors.

Got it. Thank you very much.

Thank you.

That is all the time we have for questions. I'd like to turn the conference back over to the presenters for any additional or closing remarks.

That will be it for today. Thank you for joining the call. Have a great day.

This concludes today's call. Thank you for your participation. You may now disconnect.