Good day, everyone, and welcome to the Veeco Instruments Inc. Corporate Hosted Q3 2019 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Anthony Bencivenga, Investor Relations. Please go ahead, sir.

Thank you and good afternoon, everyone. Joining me on the call today are Bill Miller, Veeco's Chief Executive Officer; and Sam Maheshwari, our Chief Operating Officer and Chief Financial Officer. Today's earnings release is available on the Veeco website. Please note that we have prepared a slide presentation to accompany today's webcast. We encourage you to follow along with the slides on veeco.com. This call is being recorded by Veeco Instruments and is copyrighted material. It cannot be recorded or rebroadcast without Veeco's expressed permission. Your participation implies consent to our recording. To the extent that this call discusses expectations about market conditions, market acceptance and future sales of the Company's products, future disclosures, future earnings expectations or otherwise makes statements about the future, such statements are forward looking and are subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made. These factors are discussed in the business description and management's discussion and analysis sections of the Company's report on Form 10-K and annual report to shareholders and in our subsequent quarterly reports on Form 10-Q, current reports on Form 8-K and press releases. Veeco does not undertake any obligation to update any forward-looking statements, including those made on this call to reflect future events or circumstances after the date of such statements. During this call, management may address non-GAAP financial measures. Information regarding such non-GAAP financial measures, including reconciliation to GAAP measures of performance is available on our website. And with that, I will turn the call over to Bill for his opening remarks.

Thank you, Anthony. Good afternoon everyone and thank you for joining the call. I’ll first highlight some of our Q3 results then provide an update to our transformation and finally give product and market updates. Q3 revenue was $109 million which was above the midpoint of our guidance. We achieved strong revenue in our Front-End Semi market with shipments of our second production EUV Mask Blanks system and revenue from multiple LSA systems. Additionally sales of ion beam products to the data storage customers remained solid. Non-GAAP gross margin was 40.3% which was higher than our guidance range resulting from improved product mix on higher volume and well managed expenses. We're happy to report non-GAAP operating income was $4 million resulting in earnings per share of $0.05 marking a return to profitability. Our bookings were $115 million which are driven by strength in both data storage and EUV mask blank markets. Now, I will provide an update on the company's transformation. The transformation will be completed in two phases, returning the company to profitability and driving growth. Phase 1 returning the company to profitability is well underway and includes our MOCVD shift from the commodity led markets to photonics and emerging applications. Making general infrastructure reductions and rationalizing our product lines by re-prioritizing R&D expenditures. On our last earnings call, we alluded to slow moving inventory. We also mentioned reducing expenses to improve profitability. We made progress in both areas. Sam will provide more details in a few minutes. Phase 2 of our transformation driving growth is in the early stages. We're taking steps to grow our existing Front-End Semi advanced packaging and data storage markets. In addition to growing in our current markets, we are investing in new applications such as EUV mass blank production and compound semi applications…

Thanks Bill and good afternoon everyone. I will be discussing our non-GAAP financial performance. You can find a detailed reconciliation between GAAP and non-GAAP results in the press release and on our website. Q3 bookings were $115 million and ending backlog grew to $279 million. As a reminder, beginning in 2020 we will discontinue providing bookings and backlog results. Revenue for the quarter was $109 billion, which was slightly above the mid point of our guidance range. Scientific and industrial market made up 37% of total revenue driven by Ion Beam system shipments to our data storage customers as well as sales of Ion Beam Sputtering Systems to high-end optical coating customers. Front-end semi market was 31% of revenue, driven by shipment of our second production EUV mask blank system as well as sales of multiple laser annealing systems. LED Lighting, Display & Compound Semi was 22% of overall revenue and included shipment of our 300 mm single wafer MOCVD system and service and upgrades for our LED customers. Advanced Packaging, MEMS & RF Filter market made up 10% of overall revenue reflecting continued softness in this market. By region, Rest of the World, which includes Japan, Taiwan, Korea and Southeast Asia was 41% of overall revenue driven by our EUV mask blank system sale, data storage products as well as our LSA product sales. U.S. was 25% and included sales to the data storage market and EMEA was 18% of overall revenue driven by sales to scientific and industrial customers. Lastly, China was 16% of overall revenue driven by LSA product shipments to foundries. Now turning to non-GAAP operating results. Gross margin of 40.3% was a two percentage point sequential improvement from Q2 driven by improved product mix, higher volume and lower expenses. OpEx for the quarter was $40…

Thank you. [Operator Instructions] Our first question comes from Patrick Ho of Stifel. Please go ahead.

Thank you very much and nice work on the quarter, getting back to non-GAAP profitability. Bill, maybe my first question in terms of the LSA business, you mentioned that you saw some strength there. Is it for the same application that you had won previously and you're just seeing increased capacity buys? Or have you broadened it out to additional applications and that's why you're seeing the strength?

I think it's actually both, Patrick. It's we saw some order activity and business activity as that node ramps. And we're also working with that customer on their next node where we will have an opportunity to broaden out beyond the one application to two or three applications.

Right. And that's my follow-up. Additional target of $4 million a quarter, are those additional facility consolidation or how can I characterize what type of OpEx cuts these will be?

Sure. Patrick, this is Sam. I'll take your question there. So what is happening there is we have been working on a number of products and product development efforts. So there is a little bit of facilities and administrative oriented signing and optimization that we are going to be working through. But a larger portion of the reduction is going to come from the R&D line. And that is really driven by optimizing and reducing consultants, contractors and project material related spending as a number of our products are getting towards the late stages in terms of their development cycles.

Great. Thank you very much.

Thanks, Patrick.

[Operator Instructions] We'll take our next question from Brian Lee of Goldman Sachs. Please go ahead.

Hey guys, thanks for taking the questions. Sam, maybe first just on the out quarter guidance, always appreciative when you give a bit more full color. Just want to clarify, when you say similar – Q1 similar to Q4, that's top line and gross margin. I guess that would be the first part of the question. And then I suppose you'd start to see some of the OpEx reduction coming in, in Q1 as well as you get some portion toward that $4 million quarterly reduction.

Yes. Thanks Brian. Yes, I think you have a good understanding there. My color in terms of Q1 trending similar to Q4 is in fact around gross margin and top line, like you just said. And then in terms of OpEx, as I said, we are targeting up to – targeting $36 million by Q3 of 2020. So in a linear fashion or in some sort of a staircase down, the spending in Q1 is expected to be lower than Q4. We won't hit all the way to $36 million by Q1. But it's expected to be lower than Q4.

Okay, fair enough. That's helpful. And then maybe just one more modeling one. I might have missed this, but the cash flow from operations in the quarter was negative mid-teens number. Can you kind of outline what was going on there? I didn't see anything meaningfully off from a working capital perspective. And I know the inventory is kind of staying in the same range. Can you tell us what the drivers were there and then what we should be thinking about for cash flow in 4Q?

Sure. So I covered that a little bit in my prepared remarks, Brian. So what happened is as you look at the accounts receivable line you see that, but then there is another line which is the contract assets line. And essentially what that is, is it went up by about $10 million or so, quarter-over-quarter. And as per following the revenue recognition rules, we shipped the tool to a Japanese customer and we are following the Japanese business practice where the tool is shipped. But then we invoice the customer only when the tool has been received by the customer, installed and then accepted by the customer. At that time, we invoice the customer but following the GAAP rules here, when we ship it, we recognize the revenue and we recorded as contract asset. So essentially it is kind of an uninvoiced accounts receivable. So when you add that to the accounts receivable line, you would see that overall, call it proxy accounts receivable, including the true AR and the contract asset. It's gone up. And that is in line with our growth here. So that is where a significant amount of cash went in terms of cash flow from operations. The second piece I would like to highlight and provide some color is that in our business, cash kind of moves from quarter-to-quarter. It is lumpy depending upon the timing of the machine shipments and the proportion of the machines that ship in third month versus first month of the quarter and some of those factors. So if you put all of that together, essentially this quarter in Q3, we consumed cash. But in Q2, we generated cash. In Q1, we consume cash. And in Q1 and Q2, we are also generating operating income loss. So I expect Q4 with that type of a background. Essentially, what I'm trying to say is cash is lumpy in our business. And in Q4, I'm expecting cash to be neutral to positive from here on, compared to Q3.

Okay, great. I appreciate the color. And then maybe just one on the product side, the VCSEL opportunity, it sounds like last quarter you had the customer take the beta tool. It sounds like you have one more customer lined up for a beta tool. If I heard you right. Do you anticipate that occurs in 2019 or is that a 2020 event? And then I guess given the six to 12 month beta conversion cycle you've talked about in the past, is it fair to assume, there really isn't a P&L impact from VCSEL tools until probably 2021? Thank you, guys.

Sure, sure. Brian, just follow-up on your question, we did say that we shipped one arsenide phosphide tool to a customer as a beta eval agreement that's actually going very well. We've actually turned the tool over to the customer and they're actually putting it through its paces and going through the qualification process. I would expect that to revenue early – excuse me, early 2020, maybe the first quarter or second quarter of 2020. I did not say we have a second beta customer. We're working with a number of customers trying to close an agreement or a commercial sale and have not been successful with that to-date. Obviously, that's a very high focus for the company and remains as such. And I think the final point was, will have a material impact on – was it 2019 P&L? The answer is no. It will not.

All right. Fair enough. Thanks guys.

Our next question comes from David Duley of Steelhead Securities. Please go ahead.

Thank you. Thanks for taking my question. I guess, first question is on the backlog, could you give us some idea about the relative breakout of the backlog and it's – I guess, it's more than a couple of quarters now. Is there any way that you might be accelerate the delivery of this backlog?

Sure. David, this is Sam here. So we've been growing backlog, although the pace of growth of backlog has moderated. And what has happened is we've been shipping tools. The reason for a significant growth in backlog, say six months or nine months back was really driven by EUV tools and a lot of bookings in the data storage side of the business. In that part of our business, the lead times run anywhere from nine months all the way up to 12 months. So we just started shipping EUV tools beginning one tool in Q2 and we shipped another tool in Q3. And we now are in a position that we keep on servicing this demand at a measured pace. How our customers are able to digest this demand and how we are able to supply these orders. So that is the reason backlog has been growing. Going forward, I hope that our book-to-bill remains greater than one. Again, we are doing pretty good in Q3 with it, greater than 1.0 in terms of book-to-bill. So it's always a good situation or good setup for us that we are increasing the revenue and at the same time our book-to-bill is greater than one. So that's the setup where we are, how we are entering 2020 and seems to be a good setup for us.

And can you give us the rough breakout within the four segments that you report or any sort of idea of the relative size of the pieces just for reference point?

Sure. Yes, generally, we do not provide it and quantitatively the breakout of the backlog by the four segments we report. However, I would say that the backlog contribution of Front-End Semi and Scientific, Industrial and Data Storage segments, those two segments are very strong. In our revenue results for the recent quarter and similarly is the case. As you look at our Q3 ending backlog, I would say that the advanced packaging segment in terms of our backlog makeup is weak. And then the Lighting, Display & Compound Semi sector is also I would say, somewhat on the weak side. We are trying to penetrate a number of opportunities in power semi. And also, you know, about our commentary on the VCSEL side and certain other arsenide phosphide applications including edge-emitting lasers and photonics related applications. So with all of that, we are providing our progress there but the backlog is weak and similarly in the advanced packaging, the backlog continues to remain weak, driven largely by the smartphone, smartphone unit related softness. There is a little bit of an improvement in the smartphone driven business in Q3, but overall I would characterize it as still soft.

I guess, I would just add, David, that the advanced packaging market does work on more of a book in turns. So we wouldn't expect to be carrying large backlog there but.

Okay. Very helpful color. Now could you help us understand perhaps what the EUV opportunity – incremental opportunity might be next year, the next couple of years, however, you'd like to characterize it, so that we can understand what sort of growth driver this is for the overall business?

Yes, we've been kind of working with our customer to understand that model. It is a bit of a challenge to model it out. It varies pretty significantly obviously based on the number of EUV steps the lifetime of a mask blank, the yield of mass blanks and obviously the number of tape outs or applications that are using EUV can really cause this number to move around a lot. What we've been booking business that kind of around the $40 million, $50 million kind of range this year. We're expecting to be in that, about that size range next year caveated by those four or five variables that I just mentioned to you. So I think the number could move around a fair amount. ASML is continuing, I think that they are going to ship 26 systems this year, 30 next year. The demand is real, the demand is there. We’ll have to keep monitoring to see how this industry matures here. But I – we're sizing in that $40 million to $50 million range next year.

And since you had the relative orders this year, that's kind of what you would expect for revenue next year just to be clear.

Yes, yes.

Final thing from me, and I guess it's a little bit of a follow on from Patrick's question on the LSA business. I know you've penetrated at least one customer at an advanced node. Did you mention that you have now two customers at advanced nodes or I guess 10 nanometers or 14 nanometers and below, however you'd like to characterize the advanced node?

Yes, David, that's actually a great clarifying question actually on Patrick's question. I was kicking myself for not mentioning that. So thank you for bringing that up. We do have a second customer and I would say an advanced node is seven nano meter or better. And we are working with a second customer as well. So we're and each of those customers today we have one application and at the next node we are working to qualify a second or a third application at each of those customers. I wouldn't expect that node to be of significant volume for another few years out though.

Okay. And just a final question from me, I'm sorry I keep rambling. But the overall TAM of the annealing market, do you have a number there on an annual basis so we can just understand what the overall potential opportunity is?

I would say that's about a $100 million opportunity.

Thank you.

Thank you.

Our next question comes from Gus Richard of Northland. Please go ahead.

Yes, thanks for taking my question. Just a little bit of color on the MOCVD market. You had a nice step-up in the quarter and I was just wondering if you could give us a little sense of whether that was RF or that was more power.

Yes, it might. Thanks Gus. Good question. In my prepared remarks I did mention that we have shipped and the customer has accepted a 300 millimeter single way for a gallium nitride cluster tool. That it does make up probably most of that step-up that you're seeing in the MOCVD. The end application is pretty confidential. But I would say that the GaN tool is capable for RF 5G as well as micro-led blue/green applications as well as power.

Okay. And is this in a development environment or is it in a moving into our production environment?

Today it’s in, I would call it a development pilot production, maybe environment. And we are working with the customer to see how this application matures.

Got it. And then on the drive business, that's running quite strongly. It's still ion beam etch and depth. Is it better for you if it's MAMR or is it better for you if it's HAMR?

We're actually pretty, pretty agnostic either way.

Got it. And are you seeing multiple customers ramp energy enhanced heads recording?

Yes. Yes. We're seeing a number of customers have had a HAMR and MAMR programs going on for years, maybe even coming up to a decade. I've been involved in various programs with many of these customers. So they each have their own integration schemes, but they're all actively working it. And I think it's really important because historically the last five years, six years, the CAGR of aerial density growth has been less than 10%. With the HAMR or MAMR they can increase that aerial density growth to over 20%. And that's how they can really start driving performance and cost per bit down to stay competitive with other memory storage types.

Right and okay. And then where, what inning would you say we’re in terms of the upgrade to enhanced energy enhanced recording? First inning, 10th inning, late innings, what would you say?

I would say this is a very long baseball we've been in it for a long time, but I would say we're very much in the early innings. I think Seagate has said that they've shipped, can't remember the number of drives, but not very many drives so that they're just starting to ship.

Got it.

Fairly early.

Yes, the last one for me. In terms of your litho offering, what's the competitive environment in China and elsewhere?

We do see some competitors in China. Most of our business, a lot of our business for our advanced packaging lithography is not in China today. It's really at the larger IDMs and OSATs predominantly in Taiwan where we still maintain, we think a very strong market share.

Okay. And is it for - just – what are the applications driving it? Is it fan-out high-bandwidth memory? Is it flip chip? Can you give a little bit of color there as well?

Sure. I would say Gus we've had some success with high bandwidth memory this year having winning a key memory customer there. We've also seen some order activity this year from OSATs for GP use and AI type applications. We have not seen a lot of follow-on activity in a fan-out wafer level packaging. As Sam mentioned in the smartphone market the AP lithography there's a lot fair amount of excess capacity that need to be worked down.

Got it. That's it for me. Thank you so much.

Thanks Gus.

[Operator Instructions] We'll take our next question from Mark Miller of Benchmark Company. Please go ahead.

Thank you for taking my question. When we are talking about your backlog and trying to break that down, you said that the AP was fairly weak in terms of the backlog distribution. Does that mean if you would look at the margins of the tools and backlog, they'd be somewhat lower or about the same than what you had last quarter.

Mark, I think margin profile, I assume you're saying gross margin, the margin profile versus the backlog situation they're quite different. In the sense for the advanced packaging business, the way that industry works, at least for our products there is that we get I would say low lead times. And when I say lead times, meaning from the time we get the order to the time we ship the tool and that typically for advanced packaging side is three, four, maybe maximum five months. And I was just contrasting there that compared that to the EUV and data storage industry, we get upwards of eight or nine months or even 10 months.

So you're projecting a $3 million lower in terms of non-GAAP OpEx by the third quarter of next year. How does that break out between COGS and expenses, operating expenses?

Mark that is largely related to OpEx.

Okay, so most of it. And is that split equally between R&D and SG&A?

Correct. And a little bit more towards, skewed more towards R&D than SG&A.

Alright. Tax next year, 10% tax rate, 8% tax rate. What can we a model?

So from a modeling perspective for taxes, we have about $280 million in U.S. NOLs. So really percentage tax doesn't really work for our P&L, we pay very small amount of taxes because of the NOL position. You could model, anywhere from $0.5 million to $1 million of taxes for non-GAAP purposes a quarter. So it could be $2 million to $4 million of taxes per year.

Thank you.

And, we really do not pay taxes in the U.S. whatever taxes these are, that is really driven by the taxes we pay in foreign jurisdictions. And depending upon which specific jurisdiction the sale is and what the tax rates in those countries are. That's why it varies, but we really aren't paying taxes in the U.S. due to the NOL position.

Thank you. It appears there are no further questions at this time. I'd like to turn the conference back to Bill Miller for closing remarks. Please go ahead, sir.

Yes. So we're excited that we got back to non-GAAP profitability and we look forward to meeting with you again next quarter to discuss our progress. Thank you.

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