Ladies and gentlemen, welcome to the VAT Group Full Year 2018 Results Conference Call and live webcast. I am Alice, the conference call operator. I would like to remind you that all participants will be in listen-only mode, and the conference is being recorded. The presentation will be followed by a Q&A session. You can register for questions at any time by pressing star and one on your telephone. For operator assistance, please press star and zero. The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Mr. Michel Gerber, Head of Investor Relations. He will now be joined into the conference room. Ladies and gentlemen, please hold the line. The conference will begin shortly. Thank you.
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Okay. Good morning, everybody, and welcome to this year's VAT Full Year results presentation. Thank you very much for joining us this morning here. I know it's a busy day for a couple of Swiss issuers that have reported results today. We would like to kick it off immediately because I know some of you will have to attend other conferences later in the morning. Today we have with us Mike Allison, our CEO, and for the first time, our new CFO, Stefan Bergamin, who joined VAT on January 1st of this year. We will go through a formal presentation of the results, give you the outlook of what we expect is going to happen in 2019, and how we, as VAT, intend to deal with the market situation. There is plenty of time for Q&A, where you can ask further questions.
With that, I'd like to hand over to Mike. The floor is yours.
Thank you. Good morning, ladies and gentlemen. It's a pleasure to be here, great to be here with my new CFO, Stefan. I also have Marcus Jaeger here today, our Head of Controlling, just like to give him a special thanks for his help in the transition we've had. He helped me tremendously navigate a pretty difficult second half of the year. Thank you, Marcus. I'll start by saying that great companies, it's not how they perform in the upturn and the good times, it's how they perform in the tougher times. I'm going to show you this morning what VAT has done to demonstrate its performance in what was a pretty challenging second half of the year. I'm going to cover the highlights, pass on to Stefan for the full financial review, I'll finish with the outlook and conclusions.
As I said, we had a tough second half of the year. I think despite that, we had record sales in EBITDA. Our operational performance in the second half of the year especially was close to 30%, as you'll see later. That was quite astonishing given the big reduction in sales we saw in the second half. I'll explain a little bit about the flexible structure we put in place and the other measures we took to safeguard that, also the structure that we put in place to ensure that VAT over-delivers in the future. We've also continued our investments in innovation, you'll see later that we had a record number of spec wins. A spec win means when an equipment company like Lam or Applied Materials has a new platform, what is our efficiency in winning that new platform?
We had a record number of them in 2018. That talks about future market share. That guarantees that we continue our market share growth. Nevertheless, in last year, in 2018, you'll also see that we made substantial gains in market share. In 2018, we also completed our new Malaysia site. We've got a brand new facility there ready to go. We've qualified over 30 new products there. As the semiconductor business comes back, we're going to see that facility ramping pretty rapidly. It's looking good. We've got reasonably high quality from there that we would expect, and we really are ready to ramp that in the future. 2019, I'll talk about that, just in general, it's a pretty mixed picture out there. We still see things slow in the semiconductor and display areas. Our general vacuum and service businesses look pretty good.
The lack of visibility we have, especially for the second half of the year, is very low. It made it very hard to give an accurate guidance for the whole year, that's why we're guiding just on the one quarter. Looking at the results in a bit more detail, our overall VAT Group, we're up 1%, with an EBITDA of 30.8. The valves, which is the core part of our business, was slightly down year-on-year on a reasonable EBITDA margin. Service grew 7%, as you can see. Again, a very strong EBITDA margin. The industry sector, which is really the non-valve business, it's our bellows and some industrial components, was up 5%. Struggled a bit in EBITDA, Stefan is going to go into that in a bit more detail as we go through the presentation.
Looking at the market trends in 2018, I'll cover 2019 at the later part of the presentation, but in 2018, we saw wafer fab investments up 16%. As you see, VAT was roughly flat because a lot of those investments in our components were made in the second half of 2017 and coming into early 2018. Although wafer fab investments were up 16%, we were pretty much flat. Second half of the year, we saw a big slowdown in memory, quite dramatic slowdown, and that's prevailing into 2019. There's still a lot of strong technology inflections in logic and foundry. There's a big drive now to get to 5 nanometers. TSMC have started piloting the 5-nanometer processes, and I think there's a high probability in 2019 they'll continue with the second phase of that fab. The large microprocessor guys are also driving the 7-nanometer processes.
That's all good for VAT because they're much more complicated processes, and it drives a much higher CapEx per wafer, which drives a lot more valves for VAT. These are all good trends. In 2018, in display, we saw OLED being reasonably strong in China. That's kind of coming to an end, that investment, in 2019. In 2018, the Gen 10.5 investments in the large-scale LCDs was what really drove the market and drove strong performance for us. We also had a great year in display. We had record sales in our display business, mostly driven by the market share gains we had. Solar was really a China story in 2018. The Chinese OEMs and manufacturers grew dramatic share, and you've seen that compared to some of the European businesses. We do well when China does well.
We have very high market share in China, also our solar business did quite well in 2018. Capacity supply-demand is reasonably in balance, I would say, in solar, but there's quite a lot of investment in new technology still to improve the solar cell efficiency. I think we'll continue to see a fairly stable output from solar into 2019. The general vacuum business we have, industry and research, again, generally pretty strong growth across the board. We saw reasonable performance from that business. Also the research spending in large government programs drives our high complex valves, our all-metal valves in CERN, ITER, et cetera. We saw pretty strong growth last year. In past, we've talked about the 3 dimensions that grow VAT. The first dimension is the end market growth.
That is the growth of silicon chips in general, the digitalization of the world, and really nothing has changed in that long-term trend. In 2018, as I mentioned, we did see a slowing memory market after two and a half years of pretty extensive growth in wafer fabs. We're also starting to see now, and that started in 2018, the build-up of 5G, and that looks like quite an exciting technology that will drive a lot of growth in silicon on the chip side, but also on the connectivity side and what 5G will enable within the overall environment. The second dimension is equipment growth. We saw a huge investment between 2016 and 2018, and I think we knew that would never continue at that pace. We were still optimistic about the long-term trend in wafer fab equipment, but we saw very high growth rates over this period.
I think it was a few things, too much capacity. There were also some yield issues when people went to 10 nanometers, and they over-installed equipment to meet the demand at that point. As they improved their yield, it made the supply situation even worse. I think that's getting in balance. By the second half of 2019, we'll start to see real supply-demand balance across all the technologies. In 2018, the logic adoption, especially 10-nanometer processors, were slower than we expected. Intel under-invested. That was pretty clear, and that was unexpected, because Intel has traditionally been quite a solid spender through any cycle. Their investments were slower than anticipated. I think the other headwind we had a bit was the U.S.-China relationship, which just made the whole market tentative and reduced overall investment. The third dimension, vacuum valve growth.
Valve content continues to grow. We see that especially as you go to 10 nanometers and seven nanometers. EUV lithography is picking up, which is a good thing for us, because EUV enables the seven and five nanometer processes. Although there may be a little bit less etch in CVD equipment, overall it's allowing our customers to bring on that five-nanometer technology on time, which drives a higher CapEx per wafer, which is good for us. We're also seeing general vacuum applications growing as well in the advanced industrial sectors, things like coating, R&D, et cetera. That's a view of 2018. Really key thing for me, in 2018 was our performance in market share. You'll see overall, across all our businesses, we grew 3%, which really is a large year-on-year improvement. That is due to our technology advantage.
There's no other way to put it. We are so far ahead of our competition that our spec win performance is very high. Over the last few years, we continue to grow that. You'll see in the second set of graphs here, is the market share in semi and related. That's semi plus display and solar. You'll see we had pretty dramatic gains there from 51% to 55%. That's mostly driven by our display wins. We made big inroads in 2018 in our display business. In semiconductor, we grew 1 point, which, well, it was a tough year for semi. A lot of the new processes slowed down. The adoption of new fabs slowed down. We didn't see as much of that coming to market, of the spec wins that we made in 2016 and 2017. Nevertheless, we still continued in a positive way.
Also looking at how we performed against the competition. We are the outright technology leaders. You'll see we continue growing, but there's really not one competitor that's made substantial inroads against us in 2018. We really don't expect that to change in 2019. Really strong performance there. It's not just technology, but it's our unrivaled scale that we have. It's our operational performance, it's our quality performance. It's the worldwide footprint we have, especially with the building of our new facility in Malaysia. We have a lot of capacity, which gives our customers trust that as their business grows again, they can give us more business. We also have now strong business continuity capabilities. We're the only major valve player that can deliver same products from Haag, Switzerland and Malaysia. That gives our customers tremendous confidence to give us business.
It also gives us the ability to look at other adjacencies, like our modules business, and continue to grow that without damaging our valve business. I think all that together gives us a tremendously strong market position, and I expect that to continue in 2019. At this point, I'd like to pass on to Stefan to cover the financials, and then I'll look at the 2019 outlook and priorities.
We are reporting stable results in 2018, despite softening business environment in the second half of the year. Net sales grew significantly in the first six months, reflecting strong market demand and customer capacity increases. Orders and sales decreased in the second half, as some customers postponed capacity expansion plans. Nevertheless, VAT could build on its strong market position, gain market share, report slightly higher revenues, leading to another record for net sales. At the same time, the company's ability to quickly adjust its capacity across its global footprint also allowed to maintain profitability at the same level as 2017. We are reporting an EBITDA of CHF 250 million. That is equal to previous year. EBITDA margin is marginally below the margin level in 2017. Free cash flow reflects focus on cash management.
We were able to increase free cash flow by 14%. That situation is in line with the company's goals, and we are in a position to propose a dividend which is in line with previous years. Total order intake in 2018 was CHF 648 million, down 12% compared to previous year. In Q4, order intake decreased by 28%. The backlog amounts to CHF 114 million, down 31%. The lower backlog reflects not only decrease in orders, but also improved customer delivery times. In this area, VAT made substantial progress, especially in the second half of 2018. In a time of lower business intensity, we were able to tackle overdue deliveries with a positive impact on backlog. Looking at revenue, comparing 2018 situation with 2017 status, product mix gains more than offset general volume decline.
General vacuum, global services, as well as specification wins from 2016 and 2017 had a big impact on revenue growth. At the same time, pricing changes are minor. High innovation and new products are key elements for a higher resilience regarding pricing. Net sales grew slightly up 1% compared to 2017 to reach CHF 698 million, a new record. VAT's EBITDA remained unchanged, and EBITDA margin decreases marginally to 30.8%. Despite a substantial sales deterioration 2018 first half compared to second half of -19%, EBITDA margin sinks only from 31.6%-29.9%. Thanks to our flexible business, we were able to react immediately to the market downturn with adequate cost measures. At the same time, we initiated cost reduction program, which will have a positive impact in the next months with lower business activity. Allocation of revenues to the three business segments and regions is in line with 2017.
We don't see significant changes. The business segment Valves is the biggest business segment. It represents 79% of total revenue. In the business segment Valves, net sales were impacted by the lower demand in the second half of 2018, and ended the year marginally below 2017 at a level of CHF 551 million. EBITDA improved by 2% and EBITDA margin went up to 32.3%, driven by a growth of some high-margin products in Display and the Solar business unit. The development in the various business unit varies. The Semiconductor business unit was negatively impacted by the demand slowdown in the second half, and despite sales generated by successful specification wins from the last two years, full-year net sales declines compared with the record level achieved in 2017. In contrast, Display and Solar as well as General Vacuum are reporting record results.
The Global Service segment achieved sales growth of over 7% as a result of successful execution of a focused service strategy. It represents a new sales record while maintaining high levels of profitability. The sales growth in services was supported by three main factors. First of all, growing installed base of valves. Secondly, increasing focus on equipment retrofit programs. Third, a faster maintenance and repair times. Net sales in the Industry segment rose by 5% compared to last year. After a very strong first half year, demand slowed significantly, in line with softening demand seen in semiconductor business as well as in the display markets. Segment EBITDA declined by 37% as the buildup of capacity in the first half year led to under absorption in the second half year. EBIT grew marginally to CHF 180 million. The finance costs are slightly higher compared to previous year.
Adjusted for the 2017 non-cash costs for unwinding the finance structure, VAT finance costs increased from CHF 6 million to CHF 14 million. Earnings before tax went up 24%, reaching CHF 166 million. Income tax expenses increased compared to previous year, leads to a higher tax rate of 18%, but still within the target range of 18%-20%. Higher tax expenses in 2018 is mainly due to the positive tax impact in 2017, which were not repeated in 2018, namely the buildup of tax assets. Net income is at CHF 135 million. Free cash flow amounted in 2018 to CHF 124 million, up 14%. This is primarily the result of a 10% increase in cash flow from operations. Capital expenditures are in line with 2017 and include investments in the buildup of Malaysia.
Trade working capital represents about 23% of net sales. We are aiming to reduce this ratio to 20% of net sales in 2019. As a result, you see it on the right side, free cash flow conversion rate was 58% of EBITDA. End of 2018, VAT's debt amount to CHF 148 million, representing a leverage ratio expressed in net debt to EBITDA of 0.7 times. Gross debt includes a CHF 200 million bond issued last year. The revolving credit facility is largely untapped. Year-end net debt is within our targets. Summing up achievements in 2018, we are reporting record results despite moderation of business activities in the second half of the year. We reacted fast in a phase of slowing demand with adequate cost measures. We proved that we have a flexible business model in place.
Cash generation, there we saw significant improvements. Also for 2019, we see additional improvement potential. Higher net income and earnings per share as a result of all work done in 2018. We are aiming for three main priorities with regard to finance. First, EBITDA margin protection. That's a key topic. Secondly, we want to further reduce trade working capital to 20%. Cash flow management will remain a key topic. Third, the CapEx will be down in absolute terms, but also as a percentage of net sales.
Thank you, Stefan. Thank you. I'm now going to talk a little bit about our priorities in 2019 and give you some outlook at the various sectors and what we can see at this point. Let's start with semiconductor. I think overall, semiconductor order activity is still pretty low. We believe we're close to the bottom of the cycle or at the bottom of the cycle. You never quite know, but our book-to-bill ratio is reasonably stable at this point, so we're kind of seeing the first half of 2019 as the low part of the cycle. Memory activity is certainly driving that, and we're still seeing very little investment happening within the memory sector. They're dealing with weaker ASPs.
I think it's still worth pointing out that their operational performance, the profitability performance at this part of the cycle is higher than it was at the peak in the previous cycles. The key IC makers, Samsung, SK hynix, Micron, et cetera, are still doing pretty well in terms of profitability. I'd say logic chip makers are more confident. I think there's a few things driving that. Data centers, the gaming market, automotive. Intel are pretty bullish on their data center business, and that's driving their expansion in 10 nanometers and five nanometers. TSMC are bringing the five-nanometer processes to market, which I think is quite positive at this part. We are going through an inventory correction phase. There's quite a bit of inventory out there across the supply chain.
It looks like it's stabilizing. The expectation is that by the second half of the year, NAND will be in positive territory again, either towards the end of 2019 or first half in 2020, DRAM should be pretty stable as well. The semiconductor IC market is likely, in revenue terms, to decline 5%. Most of that's driven by pricing, though, because unit demand is still increasing. Semiconductor overall CapEx is likely to be down about 12%, really heavily impacted by memory. Logic and foundry is going to be flat to up. Wafer fab equipment, which dominates our life, estimates are minus 15%-minus 20%, and we're expecting that and planning for that at this point in the cycle. Vacuum processing equipment, where the valves go, probably more on the negative side of that 15%-20% range, so likely to be about minus 20%.
That's the visibility we have at this point. It's kind of changing frequently, and we're constantly having to review our plans around that. Looking at display, there's a lot of activity out there. I think a little bit more positivity on the display market than there was six months ago. There's a few new foldable phones come to market. I think the price point for them is still far too high to have mass adoption, but they will drive that price down quite rapidly. I think that, combined with the adoption of 5G, will bring smartphone demand increasing in 2020. I don't think we're going to see it much in 2019. 2019 is more likely to be fairly flat on 2018, but I think 2020 will see adoption.
Apple are moving all their phones over to OLED screens, which will drive, I think, investment in especially the Samsung OLED fab in Korea. There's been rumors that that's going to move faster, rumors that it may come into the second half of 2019. We haven't actually seen physical activity on the site to drive that. We're watching that closely. There's a lot of rumors that Samsung are readying investment for their OLED business. I think there's still excess capacity, especially in the LCD area, and pricing on LCDs are extremely challenging for the makers. Estimates from 2019 is that display equipment will be down about 20%. I've even seen estimates recently it could be as low as 30%. We shouldn't be impacted as heavily as that because of the share gains we've made and making, but it still is a challenging year in display overall.
2020, as I say, looks better. I think we'll see possibly up to 40% increase in OLED CapEx in 2020. Solar is still a crystalline story, mostly. There was a big thin-film investment in 2018, but I expect it to be mostly that sort of mix going forward. Again, we see fairly stable business there, and that continues, I would say, on a flattish outlook into 2019 compared to 2018. What are we focused on as a company? In the second half of the 2018, it's a difficult time. When you've got difficult times, you've got to focus the employees on some really key themes. I focused on these three: growth, profitability, and free cash flow. I'll go into these in a bit more detail. Innovation is the driver behind growth. I think VAT have a really outstanding growth process.
It's a real economic engine behind the company. We've introduced a strategic planning process that dives deeply into each of our sectors, getting inputs from our key customers, competitors, our field teams, the market in general, analyzing technology trends. We look at initiatives for each of the business units, and we make sure we're prioritizing our R&D programs around about the highest growth initiatives. We have a very, very robust product development process. We call it our Stage-Gate process, where we have a really strong way of measuring the performance of our engineering teams and their ability to bring products to market. We have over 100 programs running today in VAT. It's a tremendous number. Some of them are small customizations that are maybe only a few man months or one man year or whatever, but we also have some large programs as well.
We have more than 150 R&D direct engineers working in R&D. Our efficiency of turning them into spec wins, which you'll see in this graph here, is pretty strong. In 2018, we had about 30% more spec wins than we had in each of the previous years. I've also put a big focus around our general vacuum business and service business, and I'm focusing them also on this innovation process and driving spec wins into the market. I think especially that will drive our service performance in 2019 and 2020. I think overall, a really strong process and, in times of trouble, it's great to get people really focused on this type of program. Another way of looking at our innovation is, this is an index, a patent index looking at the strength of companies' patents in a given sector. It's two axes here.
One is the quality on the y-axis, the quality of the patents. The higher the number, the more enforceable and protected your patent is. On the x-axis is the quantity that we have. You'll see VAT's on green. We continue to grow that up to a very strong quantity of possessions, but also defendable possession. That puts us in a really, really great position versus the competition. You see the competition hasn't moved much. Some of these are pretty old patents that they have. Again, very, very strong position in innovation and technology. The second thing is cost and our operational cost structure. You see these graphs here show you of FX adjusted performance over the last 10 years or so. VAT has done tremendously well to hold our financial performance over this time.
You'll see the cyclical low in EBITDA that we've had is around 23% in the past. Through this cycle, we'll do substantially better than that. That's really focusing on agility. Bringing our new low-cost country manufacturing plants up, so Malaysia and Romania. It's focusing harder on our supply chain. We've made a lot of changes to our supply chain group, driving much stronger supplier performance, especially in cost, but also looking at strategic suppliers and larger suppliers that can provide us better quality and better cost performance. Innovation, by the way, is excluded from any of our cost savings. We haven't reduced any of our focus on technology. I think all this that we've done in the second half has really allowed us to keep that EBITDA position in place like Stefan talked about.
One of the other things we did in 2018, with the lower utilization of our manufacturing plants, we got people really, really focused on cost reduction. We set up a team. We have an internal program that has over 20 direct people working in it full-time. With a lot of part-time people, but we have 20 or more full-time people working in this program. We have a weekly steering committee in which my exec team all play a part on. We have a project office that looks at ideas from across the company. We assess them, and we decide the priority for implementation. Through this program, we've managed to make pretty substantial savings in 2018. Not just that, but get ready for 2019 and 2020. The savings we're making, especially in the supply chain, are gonna help us tremendously in the future.
We've also done I'd say in the short term, purchasing the supply chain will help us improve EBITDA the most. Some of the other things we're doing in terms of re-engineering products, value engineering of products, commoditization, standardization will also help us in the future. We've also done a little bit of insourcing of products because of the lower utilization of our plants. We have to be careful because our supplier volumes are down quite dramatically, and they are really key for us to be able to ramp in the future. We've been quite selective on where we've insourced, because those suppliers are a very valuable part of our operational footprint, and we can't destroy that. Overall, I think this has been a great program and allowed us to perform. We've also implemented short-term work, and we're continuing that at the moment.
Obviously, I would like to get off that as soon as I can. As soon as the market's in a little bit stronger position, we'll definitely go there. Looking at cash and working capital, we're not where we want to be. We're at 23%. That is certainly not where VAT wants to be. We've worked hard in 2018 on inventory reduction. We had a very strong reduction in our finished goods inventory because I've said before we grew our inventory levels at our key customers quite heavily in the first half of 2018. We brought that down substantially in the second half, but we still have a lot of raw material, because we stocked up also pretty heavily in raw material. That gives us an opportunity in 2019 to continue that positive cash flow performance. We're also bringing our CapEx down.
We've been running almost close to CHF 50 million. The Malaysia facility is more or less completed. There's a little bit of assembly CapEx I'm going to have to bring in when the products there ramp. Pretty much, I expect CapEx to be in the CHF 30 million-CHF 35 million level. Bear in mind that there's quite a large sum in there for replacement of our ERP system this year. There's somewhere around about CHF 6 million or so just for the ERP system in 2019. All of this I'm trying to do while maintaining the readiness to support. Things like the Kurzarbeit, short-term working, allows us to move quickly if we see a change in demand. It's really important we keep that in place. The problem in semiconductor, it increases as fast as it comes down. When one memory maker invests, the others jump on immediately.
You go from having a very low level to a very high level very quickly. That's why it's important to keep the suppliers ready, but also our manufacturing footprint and the manufacturing workforce in place. Conclusion, it was quite tricky to come up with a conclusion for 2019. I think we're still very optimistic about the future. I think you can tell that. There's nothing really changed from the past. Yes, some supply-demand challenges. It was steeper than we thought. I didn't think we'd see as big a correction as we did. I think the trends out there are going to grow this business, possibly in the second half of 2019. I think it's looking more likely into 2020, though. There's not enough signals to tell me that the second half of 2019 is going to be strong at this point.
Quite tricky to put a number on the whole year. Visibility is extremely limited. We have tremendous visibility into the OEMs. You're hearing the same story from them as you look at their earnings announcements. At this point, really all we can see is the first few quarters of the year. I think in the service and general vacuum area, reasonably positive. We expect to grow both of those businesses in 2019. They're not of the magnitude that makes up for a decline in the semiconductor business. I think with all that in mind, we expect 2019 sales to be lower than 2018. I think that's pretty obvious. EBITDA and EBITDA margin will also be lower. I think you've seen from the second half that we'll maintain them at pretty strong levels.
We very strongly believe that the 33% EBITDA margin that we've said we're capable achieving, we will achieve at some point in the future. Obviously, that depends a little bit on volume coming back, because I do need to keep the readiness of our manufacturing capability in place. When that comes back with the cost reductions we're making with a flexible structure, with the innovative new products, you'll see from our gross margins that those new products keep our pricing at pretty strong levels. That we're in an excellent position to achieve this 33% EBITDA on the medium term. Net income will be lower, CapEx in the CHF 30 million-CHF 35 million. Free cash flow will be higher, as Stefan mentioned earlier.
Looking at guidance, we decided with the lack of visibility in the market that we would guide what we know, and that is right now the first quarter. We expect that to be in the range of CHF 120 million-CHF 130 million. That shows you the operating environment we're in. There's still a lot of variability. Even with 25 days till the end of March, I'm giving a range. Normally at this time I would know exactly what I'm gonna do this quarter, there's still quite a bit of movement. Some of that's positive, some of that's negative. The range, fairly confident, CHF 120-CHF 130. As we get better visibility in our midterm, we'll try to update you as professionally as we can with guidance for the rest of the year. At this point, we decided to just keep it at the first quarter.
That's all of our formal presentation, at this point I'd open to any questions you have.
Okay. Thank you very much, Mike and Stefan. We'll go into the Q&A. As usual, I will first take a couple of questions from the room, and then we move over to callers on the phone. Please wait until you get the microphone, because otherwise people on the webcast or the phone will not be able to hear you. The first question goes to Remo here in the front.
Thank you. Remo Rosenau, Helvetische Bank. What are the conditions for the short-time work? I.e., for how long can you keep it up if the market does not recover as you expect in the second half?
Short-time work maximum is roughly a year. Obviously, it does not create a positive environment when you're in short-time work, we're quite motivated to end that as soon as we can. We had a big buffer in our temporary workforce. We reduced that in sort of midpoint to second half of 2018. We're not far off the number of people we need to operate at this number. I'm hoping, within a second quarter timeframe that we would come off the short-time working. We're also losing people, as you can expect, from general attrition. With that and performance management, we can adjust our total workforce.
Just for the sake of the argument, if you would assume that the CHF 120 million to CHF 130 million sales level would be the level for the next four quarters.
Just for the sake of the argument.
The short-term work would run out in August, I think, yeah?
Yeah.
Right.
Well, probably more like, I think October.
October.
Yeah.
Okay.
Yeah.
What would you do then if the sales level would not improve?
Yeah. We've obviously planned various scenarios for the business. In this environment, you have to run multiple scenarios. We have a very strong plan to deal with that if we see a second half that's negative, but also if we see 2020. I think the 2020 landscape is the important one. The problem is with restructuring, it costs you a year of cost, pretty much to restructure. Then you're left with the inability to ramp. You've got to be very sure the market's not coming back in any way before you restructure. I've done everything possible to avoid a full restructuring. If that comes, we'll obviously do it if we need to. We've so far managed to keep a readiness in place and still perform pretty solidly.
May I make the assumption that if the outlook for 2020 was still a bit doubtful, but-
well, you're not sure, you rather keep your people than to restructure, right?
Within reason. Obviously, we would reduce the infrastructure to a sensible level that we would perform. We wouldn't take it to the point that we couldn't recover. In the semiconductor world, traditionally, that's been the fine balance of trying to find that right point, not just internally, but also with your suppliers. You can imagine the supplier volume in the second half of the year was maybe 50%-60% of what it was in the first half. We've also got to watch very closely, how we deal with suppliers.
Okay. The last question, if-
If
If the short-term work would be over and you would decide to keep your people-
What would then the impact be on the margin?
It really wouldn't change dramatically. We're only talking about a small number, 20% or so of our workforce in Haag is in the operations side. We don't have short-term work in our R&D or marketing or other functions. It's only a production area. As I mentioned, we're also adjusting that slightly. It's not a dramatic change.
Still, do we talk about 100 basis points or 600 basis points or?
Closer to the first.
Yeah, I'd say closer to the first. Yeah.
Okay, great.
It's not dramatic, put it that way.
Okay.
Yeah.
Fair enough. Well, thank you.
Remo, can you pass to Michael?
Thank you. Michael from Bank Vontobel. Obviously, net working capital management will be key to achieve improved cash flow. In 2019, you mentioned raw materials and inventories. Can you maybe elaborate a little bit more on all the factors, or all the levers that you have to control net working capital? Would be my first question. The second one is, if you see a significant ramp again in the later part of the year, let's say in Q4, what's the risk that your net working capital is actually going to move up quite rapidly towards the end of the year, and with that, what's the risk that your free cash flow improvement target is then at risk? If you can comment on that. Thank you.
Yeah, I don't want to get into absolute inventory numbers. All I would say is we still have a substantial amount of raw material. In the first half of 2018, we had to make a lot of strategic buys, because at that point, we were forecasting a 24% increase in the business. You can imagine the amount of raw material we needed for that versus 2017 was quite substantial. We ended up with quite high levels of raw material, and we haven't been able to bring that down as much as finished goods in the second half. I would say at this point, even if you look at a fairly flat market from where we're running at the moment, there's still enough inventory we can take out of our overall network to improve cash flow versus 2018. That's the first part of the question.
The second part, around our ability to ramp. It really depends on the magnitude of the ramp, and how that would impact. If we saw a return, say, to the first quarter of 2019 where we had close to CHF 200 million in sales, then it would be a different scenario. It would be a challenging one, and I think that could impact our free cash flow a little bit in that fourth quarter. That would be a very substantial ramp. We've obviously modeled various scenarios for the year, and we're fairly confident around the sort of consensus numbers that we can deliver improved free cash flow.
Okay, maybe then last add-on. The 20% net working capital intensity, is that a target that you could reach also, let's say, going forward in 2020, even if you have a, say, 20% higher sales level? Is that going to be challenging if the sales increase in 2020?
Yeah, I think if you look back historically, where net working capital % was when we had a substantial ramp, yes, it tends to go up a little bit. If we saw that type of ramp of a 30%-40%, I would expect it to not be 20%. Probably within the band we've been operating in, sort of 20%-23%. Would you say that?
It's a challenging target, 20%. It's the aim. In an upturn, it could be slightly higher.
Okay, next question from Jörn.
Thank you very much. Two to three questions, please. The first one would be, please, on your market underperformance in 2018. Wafer equipment CapEx was up around +10%. If I would exclude your market share gains of around adding CHF 30 million-CHF 40 million sales, you would be down 5%-10% in the valve end market at the end of the day. Why is this underperformance happening? Do you think a big inventory correction on your customer side? Does it not mean then that in 2019, when the CapEx is down 15%-20%, you should be up and the inventory is normalizing again? I'm lacking here to understand this. Second question, please, on the gross profit, I think impressive contribution of CHF 80 million in 2018. This would mean your new products are priced 10%-20% higher. Is this trend continuing in 2019, 2020? Thanks.
Okay. I think let's do the latter one first. Yeah, our new products definitely contribute, without a question. The amount of new products we bring to market, it really impacts our ability to keep that pricing. If you look at the bridge from 2018 to 2019, you'll see that the pricing was almost negligible year-on-year. Those products absolutely drive that improvement. Looking at underperformance, I think if you look at all the component suppliers, a good comparator is Advanced Energy or MKS. You'll see we all underperform versus the CapEx number. Part of that is, yes, the inventory that was built up within the system. Some OEMs were much better than others. One of them had a very large ERP implementation and drove a lot of extra inventory.
That's another reason why forecasting 2019 is quite difficult, because it's hard to even say where the run rate is right now because of the burn down they've had in their inventory. For that reason, I kind of expect the second half to be a little bit better anyway, because we should see an improvement in that run rate as they complete the depletion of that inventory. It really wasn't a market share issue. It wasn't a reduction in valve content. I think it was the whole supply chain. We saw a big buildup at the end of 2017, as you know. Record sales in fourth quarter 2017, first quarter in 2018, probably above the demand at that point.
Thanks. On the product mix, this should continue in 2019?
In terms of profitability?
Yeah. The product mix improvement we have seen in 2018.
Yeah, absolutely. I mentioned we've got nearly 30 new products qualified in Malaysia that are not shipping in volume.
Okay.
As we see them come to market, that should be favorable for us.
Thank you.
Okay. Before coming to the next question here in the room, probably we take one or two from the call. Operator?
Our first question from the phone comes from Sandeep Deshpande with J.P. Morgan. Please go ahead.
Yeah. Hi. I have two quick questions. Firstly, regarding in terms of your customers, what sort of lead times do your customers give you? In the sense that when we look at the inventories at your key customers, they are very high at this point. So following on to one of your earlier questions, does this mean that in 2019, if semiconductor equipment sales are down 15%-20%, it would mean that your sales would be down less, or would they be down more, or it'd be much more in line with that because of this inventory situation at your customers? Secondly, regarding the new facility in Malaysia and the CapEx that has been spent on it, how should we be looking at the depreciation of that facility, and how will that impact under utilization of that facility impact your margin in 2019? Thank you.
The first question, with all the OEMs, we have consigned inventory, and those consigned inventories are managed on a min-max level. The min-max by the OEMs is generated by what they see in their outlook. We're obviously running those consigned inventories at the lowest level we can because of the market uncertainty. I think with at least two of the large OEMs, we're in a fairly good supply-demand balance. What we see in their system represents reality. One of them, they're in a higher inventory position, so it's quite difficult to see exactly what their true demand is. I think by the end of the first or second quarter, we should overall be in a reasonable supply-demand visibility within the OEMs. Really, that's all I can say on that topic at this point.
The second question, Stefan, do you want to comment on that?
The CapEx
Hello?
CapEx investment will have an impact on depreciation. It will be not significant.
Hello?
Hello?
Can you hear me?
Thank you.
Okay. Thank you very much, Sandeep. Operator, next question, please.
The next question from the telephone comes from Nigel van Putten with Kempen. Please go ahead.
Hi. Good morning. Just pushing on that inventory point again. Just summarizing your answer to the last question, you're not willing to call the bottom in sort of that inventory burn that's still going on at least one of your OEM customers. Is that correct?
Yeah, I think we're very close to that position. I mentioned our book-to-bill is quite stable. The question is there a little bit of additional sales we're going to see as that large OEM depletes the inventory? I'd say right now it certainly feels like we're at the bottom overall.
Okay. Clear. Also, again, pushing that point, I think my numbers imply sort of a -20 Q-on-Q for the semi business. That compares to maybe high single digits for most of your supply chain peers like MKS, Advanced Energy, Ichor. They're more in the range of high single digits. Could you explain where that difference comes from?
Yeah, well, MKS, for example, I'd put someone like INFICON in the same sort of basket. They have more than 50% of the revenue coming from non-semiconductor businesses. They hold up pretty well in this type of market correction. They don't see potentially the upside that we'll see when semiconductor comes back, but they certainly get a benefit. That's one of the reasons that we've been trying to push or trying to grow our service business and also general vacuum business. I think when you see someone like Advanced Energy who's maybe closer to VAT, when they report at the end of Q1, I would expect them to be in a very similar position to VAT. They don't have the same exposure to a large advanced industrial market that MKS has.
Got it. That's very clear. Maybe my final question, could you give us a sense of sort of your look through end market demand in the semi space? You've alluded to both Intel and the memory space. Just maybe quantifying that a bit, what % of your semi revenue would be more towards memory side and what would be logic foundry?
Well, we're pretty well balanced in market share across the three large OEMs, it really depends on the distribution with them. It's hard for us to really segment our products into memory sectors. It really depends on where the OEMs are selling at any one point. It's just too difficult for us to correlate. We don't get exact visibility on our product by product shipment from the OEMs where that goes to exactly. I think whoever spends in 2019, we're kind of going to mirror that overall market spend.
Got it. Thanks.
Okay. We're coming back to the room here.
I would like to ask you about the morale in Haag. What is it like amongst your staff there, and do you face some increased attrition as people just decide to quit? We are in a tight labor market, and if you maybe just could comment on the overall change of the workforce there, and how has it changed against last year? Final question, in Malaysia, how many people do you have there now on the ground, and how many more do you intend to add?
Okay. First question on morale. I think it depends which part of our employee base you talk about. If you take our production people, they had a very challenging 2018 first half. They were working long overtime, huge production pressure to ship things. They were under a lot of pressure then. The move to short-term working obviously is tough for them. It does create a negative environment. We're working very hard to keep our communication open to the employees. I think the decision to do Kurzarbeit, short-term working, was very well received, though. Rather than us laying off people, we communicated carefully what we were trying to do as a company is to keep our workforce in place to enable us to ramp in the future. I think overall it was received pretty favorably.
Of course, there are some employees that are going to be negative and not like that. Our engagement, we have an employee engagement score, and the engagement score that we did in September of last year was up on the year before. That was done just as we introduced short-term working. It wasn't a dramatic reduction, but I've really encouraged the management team to get out and talk to people, keep them communicated. We're now very transparent as a company. We're letting the employees know what's happening and trying to involve them in our decision process. That certainly helps. We're also targeting our high talent people to make sure that we have retention programs in place for our key talent. That's not just in engineering and product management, for example. Some of our machine operators, they're invaluable. You can't find them within the Rhine Valley area.
We're trying to make sure the most important people we keep. Yes, there has been some attrition. Of course, people will find other opportunities and don't like the Kurzarbeit. In Malaysia, we are at 270, total number. We maxed about 300, roughly, I would say that was first quarter into second quarter 2018, and we've allowed that to come down with attrition, and we're at 270. We've probably got a little bit too many than we need, but as I mentioned, we've got more than 30 products there ready to ramp. I'm really trying to keep that base. We're also spending or using a lot of that labor there to qualify the products and qualify the suppliers. That's a big challenge, and we need a strong, motivated, and capable workforce there to do that.
Concluding question, in Haag, how many people do you have now there left, and how does that compare to the year before?
I'd say about 950 total in Haag. That's not including, previously we had about 200 temporary workers. They're more or less gone. Our full-time workforce hasn't reduced dramatically. I'd say less than 100. Is that about right? We are doing some pretty fairly intensive performance management as well, when you hire the amount of people we did in 2017 and 2018, you end up making some wrong decisions, and we're really driving performance management of our people pretty hard.
Next question from the room here.
Yes, Felix Ramos from zCapital AG. One question on the semi end market. I question myself, what is actually driving the increased demand? If I look at the end demand for semis, automotive is down, smartphones units are down, server CapEx is not increasing as much as before. What is your view on the end market for semis? What is actually driving the increased demand? Obviously, the wafer CapEx spend. Is it just the move to more advanced nodes or the inventory clearance or?
Yeah, you'll always see a move to advanced nodes. That will drive CapEx. Unit volume is not down dramatically. NAND will still grow approximately 40% bit growth year-on-year, and DRAM about 20%. Pricing is down a lot, for sure. Inventories are up a little bit, but actual unit growth is still pretty reasonable. Cell phone is down, or flat to down. That will continue in 2019. DRAM content in smartphone is also increasing. Automotive is down, but silicon content per car is increasing, so that offsets a little bit. Server demand, as I mentioned, year-on-year, is going to be up about 24%, is the current estimate. Some of that will be second half. One of the byproducts of reduced pricing is, it drives adoption itself.
When you've got NAND priced at record highs, the cost of, for example, SSD cards is too high for a lot of applications. A much lower price point will drive adoption. I think that's what's forecasting the NAND to come back in the second half of 2019, but DRAM maybe not into 2020. It's a complex picture, as you can see. It's not one driver. That's why forecasting the year makes it really, really tricky.
Okay, operator, we might take one last question from the phone. Then we'll see whether there is another one here in the room.
Next question from the phone comes from Peter Testa with One Investments. Please go ahead.
Hi. Thank you very much. I'll go one at a time, please. Just looking on the display business, you gave some view on OLED and LCD. Could you give us some help in understanding what your mix is between OLED and LCD, say, in 2018, and whether you think that'll change a lot in 2019?
I don't really have a strong answer on that. Our market share in both sectors is, I'd say, pretty equal across OLED. We're maybe a little bit more OLED share orientated than we are on LCD. I think overall, not much difference across either sector. There's also quite a lot of difference when you look at OLED. There's OLED small panel, there's OLED large panel. The OEM base supporting Gen 6 versus Gen 8 and 8.5 is very different. You've got quite a big dynamic there in which OEM is getting the business. Again, our market share is fairly even across the Japanese, Korean, and the U.S. providers. I'd say, actually, we're probably better in the Japanese than we are in the U.S. ones at this point, and that's one of our big market share focuses.
It's really hard to say how the CapEx split across the generations and technologies impacts the business. We don't have as much visibility on that as we do in the semi area.
Right. Okay. Then when giving a view then on OLED being up 40% or so in 2020 perhaps, when you look at overall display or including LCD, how would you take that into account or maybe even on 2019, just to give us an overall display view?
Yeah, I mentioned before that I think overall display will be 20%-30% down in 2019. We'll be less than that because of our share gains.
Yeah.
I think 2020 will be up, driven by OLED. I expect OLED to be up 30% or so in 2020. I expect LCD to be down in 2020. Overall, though, I expect display to be up when 2020 versus 2019.
Right. Okay. Thank you. Then just trying to understand a little bit more on the gross margin. As the business goes through a downturn and you look at the mix of products that are still spending, as obviously you tend to get more advanced product spending because the customers are trying to push the envelope. When you look at how the down cycle, it has maybe some countercyclical aspects on gross margin. Can you give any help there just to understand that, please?
Yeah. I'd say our pricing, we tend to enter long-term contracts with the OEMs, we don't see dramatic change in pricing. Some we have rebates depending on volume, you get a little bit of a downside actually on volume. We make up for that obviously with our operational leverage. New products, yeah, they're not high volume. Right now you see this is what I call the technology part of the cycle, where you're seeing people like ASML with the latest EUV technology driving. You see KLA doing pretty well because they're focused on yield and shrinks. We don't have high volume sales into that because you don't need as much deposition and etch. Yes, there's some new products, but they're pretty low volume. In general-
I was thinking also your spec wins. I was thinking also your spec wins. As you advance your product, your spec wins are going to customers more developed, advanced product. They tend to stay a bit better versus the older capacity products in a downturn. I was trying to understand how much that might help you in terms of that mix might be helping you on gross margin.
There's definitely an improvement with the new products, for sure. I don't have an exact number between them because it's quite difficult to calculate. Definitely, a few points improvement with the new products.
Right. Okay. Last question is just as you work on cost structure and supply chain and so on, thinking about the 33% target and your views on whether it could achieve in 2020 or not. Do you think you need just sales levels to be above 2017 levels to get that because of all the, to get everything to work? Do you think you could get that level of margin below 2017 sales level?
Well, you saw in Q4, we had pretty strong EBITDA performance in Q4 at a fairly low sales level. I think if we got back close to 2018 levels, for sure we've got a chance of hitting that number. Again, it also depends on the environment, how much we're investing and how much we're growing our infrastructure at that point. We're not far off that number. The question is, can we get it to a sustainable long-term platform of around that number? I think the fundamental changes we're making in our cost structure and moving facilities will allow us to get closer to that. We're not far off.
Right. Okay. Thank you.
Okay, maybe we take one last question here from the room. Somebody has a cross question? This seems not to be the case. Thank you very much for joining us today. That concludes today's presentation. Thank you.