Good afternoon, and welcome to the Nanometrics’ Second Quarter Financial Results Conference Call. At this time, all participants are in a listen-only mode. [Operator Instructions] A Q&A session will be held at the end of the call. Until that time, all participants will be in listen-only mode. Please note that this conference call is being recorded today, July 26, 2016. At this time, I would like to turn the call over to your host, Claire McAdams. Please go ahead.

Thank you, and good afternoon, everyone. Welcome to the Nanometrics’ second quarter 2016 financial results conference call. On today’s call are Dr. Timothy Stultz, President and Chief Executive Officer; and Jeffrey Andreson, Chief Financial Officer. Shortly, Tim will provide a recap of the quarter and our perspective looking forward. Then, Jeff will discuss our financial results in more detail, after which we will open up the call for Q&A. The press release detailing our financial results was distributed over the wire services shortly after 1:00 PM Pacific this afternoon. The press release and supplemental financial information are also available on our website at nanometrics.com. Today’s conference call contains certain forward-looking statements including, but not limited to, financial performance and results including revenue, margins, operating expenses, profitability and earnings per share. Such statements may be identified by the use of words like believe, expect and similar expressions that look towards future events or performance. Although Nanometrics believes that the expectations reflected in the forward-looking statements are reasonable, actual results could differ materially from the expectations due to a variety of factors including general economic conditions, changes in timing and levels of industry spending, the adoption and competitiveness of our products, industry adoption of new technology and manufacturing processes, customer demand, shift in timing of orders or product shipments, changes in product mix, our ability to successfully realize operating efficiencies and the additional risk factors and cautionary statements set forth in the company’s Form 10-K on file for fiscal year 2015. Nanometrics disclaims any obligation to update information contained in any forward-looking statement. During today’s call we will also refer to financial measures not calculated according to Generally Accepted Accounting Principles. Please refer to today’s press release for an explanation of our reasons for using such non-GAAP measures as well as tables reconciling these measures to our GAAP results. I will now turn over the call to Tim Stultz. Tim?

Thank you, Claire. Good afternoon, everyone, and thank you for taking the time to join us on our call. Today, I will speak to recent highlights of our business and financial performance, as well as industry trends and our business drivers. I will conclude with our guidance for the September quarter. Following my prepared remarks, Jeff will provide additional details on our financial results, after which we will open the lines for Q&A. Our June quarter results reflect continued revenue growth and increased operating profit. While at the same time our long-term business outlook continues to strengthen. The successful execution of our strategy to target key technology inflection points with industry-leading process control metrology solutions has resulted in improved market positions with every leading semiconductor manufacturer for every leading etch device. The share gains we achieved over the last two years combined with planned investments on next generation technologies and incremental capacity, particularly for 3D-NAND, where we have a commanding market share lead, gives us growing confidence that our revenue growth will not only outperform the industry in 2016, but also that 2017 will shape up to be another sequential year of growth and outperformance. In the June quarter, we achieved multi-year highs in profitability metrics including product growth margin, operating margin and earnings per share with top-line driven by all-time records in NAND, integrated metrology and thin-film metrology. We also turned the corner in free cash flow generation, which was 19% of Q2 sales and added nearly $13 million in cash to our balance sheet. During the quarter we launched the newest addition to our integrated metrology product family, the IMPULSE+. We are pleased with strong customer response to this new product, which contributed to our record thin-film metrology and integrated sales in the quarter. The introduction of the…

Thanks, Tim. Before I begin my comments, I’d like to remain you that a schedule which summarizes GAAP and non-GAAP financial results discussed on this conference call, as well as supplemental revenue segment information by product, end-market and geographic region is available in the Investor section of our website. Second quarter revenues were $55.8 million, an increase of 17% from Q1 and 15% from Q2 of 2015. Product revenues were $47.5 million, an increase of 21% from Q1 and 15% from Q2 of 2015. Service revenues of $8.3 million were slightly up from Q1 and increased 11% from the second quarter of 2015. By end-market, the NAND segment, which is predominantly 3D-NAND represented 67% of product sales and increased 55% over Q1. DRAM and foundry saw small declines to comprise 12% and 10% of product sales respectively. Logic increased to 8% of product sales, and all other devices and substrates comprised the remaining 3% of product sales. By product type, total second quarter revenues were comprised of 48% automated systems, 33% integrated metrology systems, 4% materials characterization systems and the remaining 15% was service. Our 10% customers in the second quarter included Micron at 36% and Intel at 24% of total revenues for the quarter. I’ll now discuss the remainder of the P&L, which are non-GAAP measures, unless I identify the measure as GAAP-based. These measures exclude the impact of amortization of acquired intangible assets. Our Q2 gross margin was 51.8%, 70 basis points lower than Q1 reflecting a decrease in service gross margin which was 37.9% compared to 45.8% in the first quarter. While product gross margin increased 30 basis points to 54.2%. Service margins were negatively impacted by a lower level of field service utilization, resulting in part from our improvements in installation cycle time, as well as…

Thank you. [Operator Instructions] Our first question is from Patrick Ho of Stifel Nicolaus. Your line is open, sir.

Thank you very much. Tim, firstly in terms of the industry, you’ve seen better-than-expected DRAM revenues than most of your peers. Do you believe that’s partly due to increase in capital intensity transfer to OCD, metrology and DRAM or do you believe share gains have contributed to your better-than-expected DRAM numbers?

Hi, Patrick, thanks for calling. I think the primary contributor is both the timing of investments for our process control metrology on new fabs, fab ramps, as well as the increase in intensity of OCD to address the scaling and the process control challenges on the 1X type devices.

Great, that’s helpful. And maybe a second follow-up question in terms of your business specifically. You talked about some of the increasing opportunities in thin-film metrology. Can you detail some of the application drivers and also your thoughts on share gain opportunities in that market segment?

So there are a number of areas that - and what was key for us on films is, the films market is one that we can address with our current core competencies. Our optical systems and software requires a little bit of applications development. There are number of areas in the film’s deposition, film thickness that we’re looking at and that we have actually won some on. And we believe that with the focus on these markets, we have a meaningful opportunity to expand our position in that market which is will be relatively new contribution to our total revenues.

Great, and final question from me, maybe for Jeff in terms of the gross margins, two part question. You talked about some of the pressures on the services gross margins in the June quarter. One, do they kind of continue into the September quarter in terms of their effects? And secondly, how long do you believe this roll out of the Atlas III will have a drag on gross margins?

So let me start with service, so service, I think there were some anomalies in service that we would expect them to recover of that. Also on the Atlas III we would expect probably through the end of the year, seeing some of the initial tools rollout between the next few quarters. I’d like just maybe to point out one thing is - even though the margin was down quarter over quarter we were essentially on our model for the quarter. And when you compare first-half of 2015 to first-half of 2016 you will see that we are on a 4% increase in revenue, we doubled our operating profit. So we are on the model. Q1 was a little bit better, so it makes the quarter-to-quarter flow-through look a little bit low. But when you compare the quarter-to-quarter flow-through for Q2 and Q3 versus the prior year or even Q4, you will see that we’re at the model or above the model in each one of those periods.

Great, thank you.

Patrick, I’d also - I add that even though our total margins were down, you’re looking our product margins were up quarter on quarter. So even though there is always a new product launch drag, it’s pretty minimal right now. And once we get through those first builds and first installations, we think that is doing nice contribution, accretive contribution to our gross margins with the Atlas III.

Great, thank you very much.

Thank you. Our next question is from Tom Diffely of D.A. Davidson. Your line is open, sir.

Yes, good afternoon. So I guess just to confirm, so it sounds like the product margins might come down a little bit next quarter too, because of Atlas, but the service margins will come up and all-in-all they’re relative flat overall?

Well, I mean, we don’t want to be too specific on guidance at the product level, but being back on it. I mean our model incorporates some mix change and other stuff. I mean, we are essentially on the model. But with the recovery of service, you could imply that the product margins might be down just a touch.

Okay. And the Atlas III, does this have capabilities that the two didn’t have to do the 1X DRAM and the third generation 3D or is it just kind of an evolutionary change that makes it even more efficient for the customers?

It’s both of those, Tom. The product has additional capabilities both in its precision, its resolution, signal-to-noise. It also has productivity improvements, a lot of new components within the system to address both some of the leading edge on DRAM as well as the 3D-NAND with the optical source. So it’s an evolutionary tool and it’s still fundamentally the Atlas platform, but the optical assembly and capabilities of the tool are materially improved.

Okay. And now that you penetrated several new customers and you’re going to show off your thin-film capabilities, what kind of time would you think there is for just the rollout? I mean, do go into a trial for multiple quarters? And then is this a 2017 opportunities or how do you think it rolls out?

That’s a good question. So I’ll speak a little bit to our film strategy without going in to a lot of detail for competitive reasons. But the first and foremost is to understand that the films’ market is closely adjacent to the OCD market. It’s a little more fragmented and it’s addressed by a number of different types of technologies and tools. But within the area, where you can use optical metrology, we have the core competency with the ellipsometry and scatterometry. And it’s really about applications development and just some of the format specifics that are directed for films’ applications. Our strategy in general is that now that we’ve penetrated all the major accounts that do both OCD and films, and we’ve established ourselves with a highly differentiated OCD product, we have a very - the threshold and the barriers to entry are lower for us to go after the thin-films market with our core competencies and the platform strategy we have now. So we expect this to be kind of - what I call a land and expand strategy. We’ll go after specific layers. We’ll go after specific nodal areas. And we have the benefit of tools that are already on site, so the valuation and testing of our platform for those new applications is pretty straight forward. And so we think that this is going to be - it won’t be a step function, but I think it’s going to see continued and gradual increase in our share, and as we mentioned earlier that we had record films revenues in this last quarter.

Yes, great. Okay. And last question, when you look at the 3D-NAND business in the second-half, does that require a new round of spending? Are those just - is that just the timing of orders that were placed earlier in the year?

It’s both, there are some incremental spending that’s in forecast, that we’ve got in our pipeline and there is also some delivery against forecast and orders that have been given to us.

Great, all right. Thanks for your time.

Thank you. Our next question is from Weston Twigg of Pacific Crest. Your line is open, sir.

Yes. Hi, thanks for taking my question. First, just wanted to come back to the low service gross margin, so I think the two reasons you already say were a lower level of field service utilization and then higher than expected materials costs. But both of those sound like surprises to me. And so I’m wondering if you could be more specific about what you are doing to fix those in terms of increasing your field service utilization and how you can - I don’t know, get better visibility into materials costs?

Yes, well - so I’ll take the material costs question first. And when you have service contracts, it’s like a warranty on your car. You’re never quite sure when things break. The costs were a little bit higher; sometimes they’re a little bit better. So they do have an unpredictable nature to them. And so they will come out and hit, say - but they’ll average out over time. This quarter we had higher than expected. On the service utilization, as we continue to drive improved cycle-time particularly and product reliability, we’ll reduce the need for as many hours we apply to our installation and warranty. And then, what we need to see is an offsetting growth in service-related labor revenue, where the guys will work it, otherwise we get these types of disconnects, which you can get in the short-term. But we also - we have pretty significant revenues in the last few quarters and a lot of installations going on. So some of that is just timing as well in the quarter from when we entered the quarter to when the tools actually started to install.

So, Wes, I would add to that, to the - there is an element of this, we’re a victim of our own success. We put a lot of energy into our installation warranty efficiency and our cycle-times. And the success of reduced cycle-time means that we have service time that would normally be allocated to that, that is now not directly - is basically unallocated and gets moved in FX margin, but it doesn’t reflect the efficiency improvement. So as we redeploy those resources to address either growth and/or other areas of business, then you’re going to see an improvement in the margins.

Okay. That makes sense. Other question I had was just I was pretty surprised at how concentrated your customer base was last quarter. And so, just wondering if you could help us understand if you expect that to broaden out through the balance of the year and maybe if you give us an idea of the upside and downside risks, not by customer, but maybe by category like NAND, DRAM foundry in terms of being overly concentrated?

Right, so I mean the concentration is a direct reflection of the strength of the 3D-NAND business. Our two large customers are - our greater than 10% customers will has to do at 3D-NAND. As you start to look forward in the four quarters, we expect 3D-NAND spending to continue, but we also expect DRAM spending to come back. And we also expect the improvement in foundry, which will give us a little broader customer contribution to our overall revenue matrix.

So I guess the question should be maybe more specific, since you had such high business at Intel and Micron this quarter, presumably they took a lot of tools they might do some digestion. Your revenue guidance as I understand that you expect some DRAM spending to come back in. But, I don’t know, there are enough other customers in 3D-NAND to make up the difference? I know you said it might be down a bit in the second-half. I just kind of want to get a sense for like your level of confidence in the DRAM and NAND mix in the categories that I guess the revenue through the second-half?

Yes. Let me see if I can get closer to what you are trying to get here. So that we have five 3D-NAND customers, two of them were very strong this last quarter. But we have three others where that will be taking products. And we expect some spending in the second-half of the year on 3D-NAND. We have a couple of DRAM customers and we expect some spending in that area to strengthen, which gives us - brings another customer to the matrix. And we also have one major foundry customer as well, so a couple of smaller ones. But we expect foundry to increase. And so, we have confidence in foundry and DRAM. And we have pretty decent visibility. And we see additional contribution in 3D-NAND from some of the other ones that weren’t as strong as last quarter.

That is very helpful. Thank you.

Thank you. Our next question is from David Wu of Indaba Global Research. Your line is open.

Yes. Good afternoon. I just wondered, at this point do you have any visibility into Q4 to ensure us that the uptrend in revenue continues from the level of Q3 based on DRAM spending and possibly some catch-up in foundry in 10-nanometer and 20-nanometer nodes?

And so, David, that’s a good question. And we certainly have some visibility in Q4, but our industry is one of those ones where the visibility isn’t as crisp as you’d like it to be. But there is also the timing of some of the tools we’re shipping out with the new products, the Atlas III that have to go through or sending those to multiple customers. And there is a revenue recognition element with new installations that get tied in and some of it could be Q3, some of it will be in Q4. We have a very high confidence that second-half will be stronger than the first-half. And then obviously we have confidence in our guidance on Q3. And we also believe that our year on year, our performance is going to be at least cresting in the double-digit performance. So we have a pretty good confidence in the overall business, a little bit of the timing uncertainty between Q3, Q4. And then Q4 is starting to come into more clarity, but there is still more to be sussed out.

If I were to look at your guidance for Q3 and by implication Q4, the only reason why you’re not showing double-digit guidance for Q3 really is that the while the DRAMS and the foundries are ramping up your 3D-NAND businesses peaked in Q2, and shipments second-half in both third quarter and probably fourth quarter can be below the level of second quarter. Is that generally accurate?

No, I think there is a different mix and I think part of it is just the timing of the investments in the new ramps. 3D-NAND again just kind of - I know I’m repeating myself, but 3D-NAND has been very robust for us for - going on three quarters now. And I think that there is not a full appreciation of the fact that 3D-NAND should be fairly stronger than the second-half. There was some concern in the industry that 3D-NAND was going to roll off pretty far - drop down. But we’re kind of looking at 3D-NAND be more like a 60/40 split first-half and second-half. And if I look at kind of the DRAM it’s the other way around, on the order of a 40/60 split, first-half to second-half. And foundry, we think could be as high as like 30/70, first-half to second-half. So we see strength in foundry, improving DRAM and continued spending on 3D-NAND, because there are so many big players in it.

Okay. And last question is the Intel 3D-NAND startup at Dalian, those orders already shown up in your books, right, as opposed to still to come?

Yes, although, we don’t - I’m assuming you mean revenues, because we don’t report on orders, David. But, yes, we are shipping tools, installing tools and benefiting from the Dalian fab. We’re looking forward to that phase, the first phase to be closed out. And we’re hopeful that as that customer starts to see yield, that is their second phase which is planned, starts to benefit us in the not too distant future.

Thank you.

All right.

Thank you. [Operator Instructions] Our next question is from Mr. Mark Miller of Benchmark Company. Your line is open.

I was just wondering if you could break out the sales to TSMC and Hynix last quarter, what percent?

If they don’t make 10%, we don’t break them out, Mark. And so the only thing that we had for - right, for Micron and Intel, they’ve crested 10%.

Okay. Deferred revenues doubled in the quarter from what they were at when the 2015 ended. I assume that’s the Atlas tools that are needed to be recognized, most of that increase?

Yes, most of that increase are the Atlas III tools that are pending acceptance.

Okay. And then finally, because it jumped around so much last year, tax rate guidance, it was up last quarter. What do you expect for the second-half of the year?

21% to 22%. And for the full year, based on the guidance I provided last time it’s about the exact same level, it’s just the timing shift between the quarters.

Okay. Thank you.

Okay.

Thank you. At this time, I see no other questions in queue. I’d like to turn the call back to Mr. Timothy Stultz for any closing remarks.

Thank you. And thank you once again for participating in our call. A special thanks and continued appreciation to all our employees and our business partners, whose passion and commitment, hard work and support of our mission and business objectives are helping to build a better Nanometrics each and every day. With that, we conclude our conference call for today. Thank you.

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the program. You may all disconnect.