Ladies and gentlemen, thank you for standing by. My name is Krista, and I will be your conference operator today. At this time, I would like to welcome everyone to SkyWater Technology third-quarter 2024 financial results conference call. [Operator instructions] I would now like to turn the conference over to Claire McAdams, investor relations for SkyWater. Claire, you may begin.

Thank you, operator. Good afternoon, and welcome to SkyWater's third-quarter 2024 conference call. With me on the call today from SkyWater are Thomas Sonderman, chief executive officer; and Steve Manko, chief financial officer. I'd like to remind you that our call is being webcast live on SkyWater's investor relations website at ir.skywatertechnology.com. The webcast will be available for replay shortly after the call concludes. On our IR website, we have posted a slide presentation to accompany today's call as well as a financial supplement summarizing our quarterly and annual financial results for the last three years, including all non-GAAP adjustments and comparisons to our GAAP results as well as the impact of tool sales on our gross margins. During the call, any statements made about our future financial results and business are forward-looking statements. These forward-looking statements are subject to risks and uncertainties that could cause our actual results to differ materially. For a discussion of these risks and uncertainties, please refer to our filings with the Securities and Exchange Commission, including our earnings release filed on Form 8-K today and our fiscal 2023 Form 10-K. All forward-looking statements are made as of today, and we assume no obligation to update any such statements. During this call, we will discuss non-GAAP financial measures. You can find a reconciliation of these non-GAAP financial measures to GAAP financial measures in our earnings release, our financial supplement and in our Q3 earnings presentation, all three of which are posted on our investor relations website. Also on our investor relations website Events page, you will see that we plan to participate in two investor events between now and our next earnings call, the New York Summit on December 17 and the Needham Growth Conference on January 15. With that, I'll turn the call over to Tom.

Thank you, Claire, and good afternoon to everyone on the call. I'm pleased to announce another record quarter for SkyWater with $94 million in revenue, driven by unprecedented levels of customer co-investment and $0.08 positive non-GAAP EPS. Combined ATS and Wafer Services revenue totaled $63 million. Tools revenue, which represents customer-funded capex investments increased to an all-time record $31 million, driving our ninth consecutive quarter of sequential growth and record revenue. ATS development revenue of $56 million demonstrated year-over-year growth of 5%, but declined 9% from our record Q2. ATS activity was a bit softer than we expected, largely due to funding constraints at some of our A&D customers as we near the end of the government's fiscal year. Our ability to quickly balance ATS activity requirements with Wafer Services demand allowed us to move more production wafers through the fab, which resulted in Wafer Services revenue exceeding our expectations at nearly $7 million. We delivered 22% gross margin for the quarter, well above expectations. This was driven by our continued focus on operational efficiencies and improved execution on a significant A&D program, which enabled us to deliver key milestones with lower-than-expected costs and recover the majority of the $8 million cost accrual recorded in Q1. Steve will provide greater detail on our strong gross margin performance during his remarks. In all, Q3 was an important quarter of execution on key programs, resulting in significant gross margin and earnings upside in spite of the temporary softening in ATS revenue. Now, I will highlight several positive developments in our business and provide our current outlook within the overall customer demand environment. First, consistent with our expectations throughout the year, we expect to deliver double-digit revenue growth in our ATS business this year. We expect to return to sequential growth in ATS…

Thank you, Tom. Third-quarter revenue reached another record for us at $93.8 million. Within this new record, ATS revenue was lower than forecast at $56.4 million, given the government fiscal year budget constraints Tom discussed earlier, while Wafer Services was higher than forecast at $6.7 million. Combined ATS and Wafer Services revenue was $63.1 million in the quarter and tools revenue reached an all-time record at $30.7 million. As a reminder, the additional metrics discussed today are non-GAAP measures. Our gross margin performance for the quarter exceeded our expectations entering into the quarter. On our August call, we guided Q3 gross margin in the mid to high teens or approximately 17% at the midpoint. We also guided an expected 7 percentage points of negative gross margin impact from tools revenue for the quarter, equating to an effective 24% margin at the midpoint expected for our combined ATS and Wafer Services business in Q3. Our reported Q3 gross margin was 22.3%. The record level of tools revenue impacted gross margin by about 10.5 percentage points, equating to an effective 32.8% gross margin for our combined ATS and Wafer Services business. The most significant driver of the gross margin upside was the reversal of the majority of the $8 million cost accrual recorded in Q1. We made strong progress delivering on key program milestones and recovered $5.6 million of the accrual during Q3. This had a 9-percentage point positive impact on gross margin for the quarter. So, with a reported gross margin of 22.3%, the 10.5 percentage point negative impact of tools and the 9-percentage point positive impact of the reversal, Q3's gross profit equated to 23.8% gross margin performance for our combined ATS and Wafer Services business. The continued strength in gross margin was driven primarily by improved operational efficiencies and…

[Operator instructions] Your first question comes from the line of Krish Sankar with TD Cowen. Please go ahead.

Yes, hi. Thanks for taking my question. I had two of them. First one, Steve, I just want to make sure that I got your guidance right. On the gross margin side, you said is 19% to 23%. Is it mainly because backing out the tool revenue, the revenue is effectively flattish sequentially ex tools?

Yes, that's right. Probably a flat quarter to quarter on the ATS and Wafer Services revenue, and therefore, a very similar margin for ATS and Wafer Services business in Q4. So, 19% to 23% was the range provided.

Got it. And then I had a question just on 2025. A two-part question. One is, how should we think about the March quarter? Are we going to see seasonality for ATS and Wafer Services? So, revenue should be down and therefore, gross margin should be down? And what to think about ATS and Wafer Services for calendar 2025 as a whole? Would you expect it to grow? Or is it still dependent on semi market recovery?

Yes, so the way we're looking at Wafer Services is we see overall growth next year in 2025, again, with a higher concentration of our ATS to Wafer Services conversions being the primary driver. And then, of course, ATS, we still expect to see growth in ATS next year. The real seasonality we typically see is in Q3 as we end the fiscal year given the current concentration in A&D. But overall, we expect to see combined core growth or ATS plus Wafer Services going up next year. And Steve, do you want to answer?

Okay, thanks

Your next question comes from the line of Quinn Bolton with Needham. Please go ahead.

Hey, guys. Nick Doyle on for Quinn. The tool revenue guide for 4Q is, I think, coming in a little softer than expected and then 2025, I think, coming in a little softer as well. So, it seems like a little bit of a pause here in the next couple of quarters. Anything specific you can talk to on that line? Thanks.

Yes. I mean, typically, we project when we think tools are going to arrive, the timing of some of those tools, again, is highly dependent on our tool supplier. So, that's part of what you're seeing. And then again, as we get into 2025, we're projecting based on current delivery schedules, what we anticipate coming into our fabs. What we're confirming is the $200 million over the '24 to '26 period and the specific cadence will be highly dependent on when our customers engage with us to place the orders and then, of course, when we actually get the tools delivered.

Yes. With what we're seeing for the fourth quarter, we said up to $80 million for 2024. With what we just guided for the fourth quarter, we would just be under that at around $76 million. So, still in line with what we thought for 2024. I think the other important thing to think about is looking at the overall $200 million, we're still confirming our expectations for co-investments in that range over a three-year period. We did bring down our expectations for 2025. And I think also the important thing to know is we're really seeing maybe only $1 million to $2 million of tool revenue in the first quarter and probably a similar amount in the second quarter. And a lot of the tool revenue will come from the tools going into our Florida facility in 2025, where the majority was coming into Minnesota in 2024. So, given the timing of that project, we're seeing it back-end loaded in the second half of 2025, and that's when the majority of the $40 million to $50 million of tool revenue is expected to be recognized.

Okay. Understood. Very clear. And then I think last quarter, you indicated maybe four customers have transitioned to Wafer Services in 2024. And then you kind of mentioned some of the strength you're seeing - you're expecting in 2025 should be further transition. So, have any more transitioned this quarter and visibility on that for 2025, the number of customers transitioning?

Yes. Well, as I mentioned in my prepared remarks, NanoDx, we just concluded a supply - long-term supply agreement with them. The timing for when they'll actually move to production like our other customers is highly dependent on their qualification schedules, which are somewhat out of our control. But we continue to be very confident in our conversions, and that's why overall, we're looking at Wafer Services growth next year even in the soft macro environment we're dealing with as it relates to our traditional legacy business, which was really our main driver of [wafer services as we entered this year.

Thank you.

Your next question comes from the line of Richard Shannon with Craig-Hallum Capital. Please go ahead.

Well, hi, guys. Thanks for taking my question as well. Maybe a question on the accrual reversal, the accrual you took in the first quarter, you said you reversed a good chunk of here. I guess how do we think about the potential for a full reversal? And what does that mean about the program involved here? Does this mean we're back to where we were before? Or how should we interpret what this means for that program?

Yes, good evening. So, Richard, this is Steve. I'll start with it on the accounting side, and then I'll give it over to Tom to talk about the program. But just to make sure we're clear, it was an $8 million accrual that was recorded in the first quarter, and we released the remaining $5.6 million of that in the third quarter. So, essentially, if you look at that on a year-to-date basis for 2024, it's almost like it never happened. So, the full accrual now has been recognized and reversed through the P&L. So, from an accounting perspective, it's all behind us. Tom, do you want to talk about the program?

Yes. Richard, you on the other side. The way to think of this program, again, it's a technology development program. And when we were exiting Q1, we were working through some technical issues that we have resolved. Really excellent progress by the team to get the platform stabilized so that we can launch it in the second half of next year. Our PDK will be released in the early part of next year. And while production is still several years away, again, this is our rad-hard program that has a significant qualification beyond just the chip manufacturing, we expect this program to continue to move forward at a pace that is consistent with our customers' expectations, and we really feel good about where we are given some of the challenges we were facing earlier this year.

Okay. I appreciate that update. And Steve, thanks a reminder about the prior accrual reversal, I guess I forgot about that one. My second question is really kind of looking at your aerospace and defense customers and you talk about budgets that were a little soft ending the September quarter of the fiscal year for the government. Maybe if you want to discuss both what you're seeing here as an impact in the current fourth quarter, but obviously, as we have a new administration coming in, in the following quarter here, what do you get a sense either way about what this might mean for the programs you're involved with?

Yes. So, we feel very strong about all of our programs. I think as we enter the new fiscal year, which began in Q4, of course, the funding and the commitment to the programs is as strong as it's ever been. And a lot of that has to do with the progress we've been making as the technology development matures. But the real question related to the administration and all that, that obviously has to work its way through the process. But we're as confident again as we've ever been in our ability to not only execute on these programs, but where they are in their development cycle, and the ability, again, for us to make them successful is really all about execution, and that's what we're focused on.

Okay, fair enough. I appreciate the detail, guys. That's all for me.

Your next question comes from the line of Robert Aguanno with Piper Sandler. Please go ahead.

Yes, thanks, guys. This is Robert on for Harsh. Just one here for me on gross margin. The gross margin trajectory had been growing steadily through the year, and it seems like you guys are guiding it down here for Q4. Can you give us some of the drivers, I guess, looking forward for 2025 since you mentioned in your presentation, increasing revenues and operating leverage kind of impacting here the number for 2025. So, I was wondering the puts and takes there.

Yes. First off, let me address the fourth quarter. Gross margin isn't expected to go down in the fourth quarter. It's expected to be very similar to what it was in the third quarter, especially when you're looking at it from the tool impact on a basis point perspective. So, ATS and Wafer Services revenue levels are expected to be the same in the fourth quarter as they were in the third and also the gross margin driven from ATS and Wafer Services business is likely to be the same in the fourth quarter as well. With those levels, if you look at margin expectations for 2025, I would expect our margins to increase given the lower amount of tool revenues coming through. Again, we're looking at more like $76 million or so of tools in 2024 compared to $40 million to $50 million in 2025. So, your margin on a basis point impact will be less in 2025 given the lower amount of expected tool revenue. But the ATS and Wafer Services business is expected to grow, as Tom mentioned. And with that, we still believe that we're going to get better than a 55% flow-through at these revenue levels on a margin. And with that, the gross profit should increase in 2025 as well.

Fair enough. That's all for me. Thanks, guys.

And we have no further questions in our queue at this time. I will now turn the call back over to Thomas Sonderman, CEO, for closing comments.

Thank you, operator. I want to close today's call by conveying the strong confidence all of us at SkyWater have and our ability to execute successfully toward our long-term growth opportunities and profitability objectives, and we intend to continue to build your confidence in our ability to execute. Please reach out to Claire directly to arrange a follow-up, and we hope to see many of you at the New York Summit in December or the Needham Growth Conference in January. We look forward to providing an update on our 2024 results in February. And with that, I'll conclude today's earnings call.

And this concludes today's conference call. Thank you for your participation. You may now disconnect.