Good day, and welcome to the ONTU Innovation First Quarter Earnings Release Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mike Schaeffer. Please go ahead, sir.
Thank you, Conor, and good afternoon, everyone. Onto Innovation issued its 2021 Q1 financial results this afternoon, shortly after the market closed. If you have not received a copy of the release, Please refer to the company's website where a copy of the release is posted. Joining us on the call today are Michael Plisinski, Chief Executive Officer and Stephen Ross, Chief Financial Officer. As always, I need to remind you of the Safe Harbor regulations.
Any matters today that are not historical facts, especially comments regarding the company's future plans, Products, objectives, forecasts and expected performance consist of forward looking statements within the meaning of the Private Securities Litigation Reform Act. These estimates, whether expressed or implied, are based on currently available information in the company's best judgment at this time. Within names is a wide range of assumptions that the company believes to be reasonable. However, it must be recognized that these statements are subject to a range of uncertainties that can cause the actual results to vary materially. Thus, the company cautions that these statements are no guarantees of future performance.
Risk factors that may impact Onto Innovation's results are currently described onto Innovations Form 10 ks report for the year ended December 2020, as well as other quarterly filings with the SEC. On to Innovation does not update forward looking statements and expressly disclaims any obligations to do so. Today's discussion of our financial results will be presented on a non GAAP As a reminder, a detailed reconciliation between GAAP and non GAAP results can be found in today's earnings release. I will now go ahead and hand the call over to Mike Plucinski. Mike?
Good afternoon, everyone, and thank you for joining our call this afternoon. Earlier today, we announced Q1 revenue of $169,300,000 which exceeded the high end of our guidance range without any revenue associated with the pending approval of our license applications by the U. S. Department of Commerce. We also raised our expectations for the Q2, which at the midpoint represents 32% growth year over year and is well above our commentary from last quarter.
In total, these positive revisions imply 26% increase in revenue for the first half of twenty twenty one over the prior year, and we expect revenue in the second half of the year to be even stronger. Our better results and outlook reflect the strengthening market demand in our core markets, but also the exciting progress we're making to expand our served markets. So let's begin with highlights from the Q1 starting with our advanced node customers. Demand for our optical CD metrology systems by multiple logic customers more than doubled over the Q4 to support Introduction of new 3 d transistor structures is creating the need for additional metrology steps and additional measurements per step. We believe this increase in capital intensity will favor Onto Innovation's proven metrology performance at optical speeds, which are orders of magnitude faster than X-ray.
We see this value extending through the 3 nanometer node and have already received requests for second Additional systems add a partner using our latest platform to develop that 3 nanometer process. We believe our platform's configurable performance and cost ratio was a key factor in the decision by a top 3 logic manufacturer This selection of an entrenched incumbent is for our customers' next generation product ramp, and we expect shipments to begin in the second half and carried through to 2022. In addition to expanding our opportunities in existing markets, We are making great progress expanding our available markets, including the estimated $400,000,000 planar films market. After shipping the first of our planar film systems in the Q4, we've already booked an additional 7 tools for shipments to that customer in the 2nd Q3 of this year, with follow on orders expected in the second half of this year. In addition, 3 more customers placed orders for our Thin Film solution with deliveries in the second half of twenty twenty one and with further expansions expected by all four customers in 2022.
Similar advances are being made in the Advanced Packaging and Specialty Markets, which continue to experience strong growth from multiple well documented drivers in 5 gs, high performance compute and AI. As we guided last quarter, we saw incredibly strong demand from advanced packaging customers, which resulted in growth of nearly 50% over the 4th quarter, offsetting an expected pause in the 5 gs expansions we experienced in the 4th quarter. The majority of the packaging growth was to support high performance compute and memory devices where our inspection systems Integrated with our AI classification software is proving to be a critical combination for process control. Our unique ability to leverage proprietary AI software to transform process control data streams into actionable intelligence Has migrated from the mission critical automotive market to these leading edge devices where faster and more accurate decisions are crucial to not only detecting, but also resolving process issues before impacting production. Similarly, our StepFAST solution for panel lithography has demonstrated a 2x gain in productivity while simultaneously improving yield by employing sophisticated machine learning algorithms to optimize stepper performance.
In the Q1, we received A repeat order for our StepFAST solution in excess of $6,000,000 for delivery in the Q4 of this year. This order brings our backlog for lithography to over $20,000,000 with additional orders expected in the quarter. In addition to the strong demand in our currently served markets, we're encouraged by the progress we are making in 2 new specialty device markets. In the Q1, we received several repeat orders ahead of plan from a top 3 CMOS image sensor manufacturer to support the ramp of their latest imaging device. We're seeing this demand because existing systems were unable to detect critical defects associated with a more advanced process.
For the year, we expect orders from multiple top tier CIS suppliers totaling in the double digits. Likewise, progress with our newly acquired Overlay Metrology business is also going very well. We've already integrated our proven run to run software in to the latest overlay product, which shipped to multiple compound semiconductor customers in the Q1. This new overlay solution will be fully released in the second half of the year and not only optimizes the lithography process, but also has the potential to improve cell productivity, a significant value proposition in an already constrained market projecting a CAGR of 25 Now, I'd like to turn the call over to Steve to discuss the first Quarter Financial Highlights. Steve?
Thanks, Mike, and good afternoon, everyone. As I mentioned on our last We closed on the Inspectrology acquisition after our Q4 book close. So the Q1 of 2021 is the Q1 that includes the results and it will include their results in our numbers. However, the overall amounts were not material to the quarter. As Mike mentioned, our 4th quarter revenue was $169,300,000 above the high end of our previous guidance, up 21% year over year and up 9% from the 20 2Q4.
Breaking down the revenue by market, 42% of sales were from our advanced nodes market, with strength coming from logic, which more than doubled over the previous quarter. We also saw a strong growth from DRAM customers, but that was offset by a weakening in NAND. Advanced Packaging and Specialty Devices represented 37% of revenue in the quarter, It was essentially flat overall with the previous quarter. And finally, software and services represented 21% of revenue in the quarter. Our gross margins continued to stay strong at 54% consistent with the 4th quarter.
Product mix did impact the quarter with over half of the sales volume increase over Q4 coming from established product lines. We expect to see continued improving margins in our new products Providing enhanced value to our customers and the supply chain synergies that we've implemented from the merger begin to impact our product costs. 1st quarter operating expenses were $49,200,000 an increase from $46,300,000 in the 4th quarter. The increase was primarily due to operating expenses of Inspectrology operations and the reset of compensation related expenses such as payroll taxes that occurred at the beginning of the year. While we did experience an increase in operating expenses, our strong financial model resulted in an increase in our operating margins 25%, well within our long term operating model for these revenue levels.
Our effective tax rate for the Q1 was 11% due to a higher than Discrete tax benefit in the quarter. We also expect several other discrete tax benefits to reduce the tax rate in the 2nd quarter to between 8% 10%. With the reduced Q1 and Q2 effective rates, we now expect our full year effective tax rate to be somewhere in the range of 12% to 14%.
Net income increased in the Q1 and
was $36,300,000 or $0.73 per share and above the high end of our guidance. In the 2024 quarter, we reported net income of $35,600,000 or $0.72 per share. 4th quarter earnings was impacted by a benefit from the benefit of a low 5% effective tax rate, mainly due to a closure of an IRS audit. Moving to the balance sheet, which is on a GAAP basis, We had strong free cash flow of $47,000,000 for the quarter or 28% of revenue. We We ended the quarter with a cash position of $393,000,000 up $19,000,000 from Q4 and that's after approximately $26,000,000 in cash used for the Inspectrology acquisition.
Accounts receivable decreased in the quarter on higher revenues and better collections, improving our DSOs and ended at 142,000,000 Our inventory increased in the quarter to $201,000,000 on the inclusion of In Spectrology's inventory, an increase in purchases for higher forecasted sales volume and an increase in the systems and finished goods awaiting shipment to China that require licenses. Now turning to the 2nd quarter guidance. We expect revenue to be in the range of $173,000,000 to $184,000,000 Earnings per share in this revenue range is anticipated to be between $0.76 $0.85 per diluted share. We also expect that within this range, gross margins will be between 54% 55%. Operating expenses, we have active recruiting plans in place for the strong growth we are seeing.
We are also seeing an increase in other variable compensation expenses currently anticipate operating expenses for the quarter to be between $51,500,000 $53,500,000 Even with this new increased level of OpEx, we are confident we will continue to be operating within our long term operating model as we grow towards our next benchmark of $800,000,000 in revenue. With that, I'd like to turn the call back to Mike for additional insight into Q2 and 2021. Mike?
Thank you, Steve. I'd like
to note that the guidance Steve provided for the Q2 does not include over $25,000,000 in bookings that are pending license approvals from the U. S. Department of Commerce. Due to the uncertainty of timing of these licensing decisions, we will leave them out of future discussions until we have greater clarity. So clearly, the demand for semiconductor technology is strong and broad based.
The increasing number of connected smart devices drives Both chip volume and data center growth to support explosion in data being generated by each device and enable greater remote work Life Experiences. These data centers are becoming digital gold mines and they are increasing the demand for high performance compute engines to mine that data and transform it into valuable information. The value of this information to the consumer then drives higher product adoption, thus creating a virtuous cycle. ON2 Innovation sits at the center of this virtuous cycle, providing comprehensive process solutions to challenging metrology Problems from 3 d transistor formations to 3 d and heterogeneous packaging, which is a key enabler for future product innovations. To that point, in the Q2, we project the strongest growth to come from advanced packaging and specialty customers.
We see expansions from 5 gs and packaging customers leading that growth. We expect DRAM revenue to increase for the 4th straight quarter and NAND to hold steady while Logic revenue declines following a 2x surge from the Q1. In summary, we see solid growth within our existing markets We're making great progress expanding into new markets such as the planar films and the CMOS image sensing market. In addition, we're beginning to realize revenue synergies through our broader sales channels. For example, we currently Expect to add over 8 new customers for our optical metrology suite by the end of 2021 simply by leveraging our existing inspection channels into the specialty device markets.
Likewise, we're beginning to see the potential for revenue synergies with our overlay products and inspection systems outside of the compound semiconductor markets. Each of these dynamics, many in the early stages of realization, It's certainly an exciting time to be a part of On2 Innovation, and I want to thank the entire team for their continued dedication to our customers' success. I also want to call attention to our 1st annual corporate social responsibility report for 2020, which is available on our website. The report outlines several of ON2 Innovations' ESG initiatives and our commitment to have a positive impact on our communities, the environment, both local and global, and our dedicated employees. Thank you.
And Connor, we can now open the call for questions. Thank
And we will take our first question. This will come from Craig Ellis with B. Riley Securities.
Thanks for taking the question and guys congratulations on the strong execution in the Q1. Mike, I wanted to start just by following up on one of the Points you made early in your remarks and then came back to on your conclusion you talked about an even stronger second half. And I was wondering In the past, you've sometimes characterized year on year growth over a period encompassing 2 quarters like you've done with The Q1 of this year, any color on magnitude of increase in the second half, either half on half or year on year? And as you look at the second half, would you expect revenues to rise sequentially through the year Or for different dynamics that you see, would you expect things to potentially peak in the Q3? So that's first question.
For what we see right now, we believe revenues will rise sequentially throughout the remainder of the year. So we expect Q4 to be stronger than Q3 and we expect Q3 to be stronger than Q2. So that's what we're seeing right now. Contributing to that is not just the general market dynamics, But also the expansions that we're making into some new markets for us, where we're seeing, like I mentioned earlier in the planer films, Additional adoption there. We've also mentioned the increasing backlog in lithography, which We begin shipping those systems in the second quarter, in this quarter and start to see revenue impacting in the second half.
So Yes. So that's what's giving us the confidence in our statement, which has improved since the last time we spoke In the second half, in the strength of the second half. So as Matt mentioned, as you know, I won't give you that, but.
Yes. Okay. Had to try and nice to see the broadening customer traction in the thin film market, just Real nice momentum there. And then Steve, for my second question, I'll ask one to you. So I just wanted to understand some of the dynamics that are leading to what looks like Potentially a 70 basis point gross margin increase quarter on quarter in the second quarter.
Is that more from Inter segment mix, a more of a sequential gain in software and services versus the Q1 of things going on Inside of some of the segments, intra segment mix and then any color on what we should expect with gross margins as we look to the back Half of the year in that strong demand environment that has good potential to grow quarter on quarter as Mike just described.
Yes. I would say there was again, when I go back to my remarks when you analyzed Q1, we did have We had obviously a nice growth quarter, but when you look at it, I think some of it was people expanding in line. We had existing tool sets This is some of the newer products that we've talked about that I think would add give some incremental to the gross margin. So it did have a The incremental revenue was impacting with some older product lines that have healthy margins, but maybe not as good as we're anticipating with some of the newer stuff. Going forward, for sure, I think, you'll see that just the growth In the product mix, we do have the lithography tools that are that Mike talked about that will be starting to ship In Q2 forward, so
it will add a little bit of it will
be a give and take, though, that a little bit of pressure on the margin there. But again, we'll have increased volumes, so we think we can offset that and stay within our model. I'm pretty comfortable if you look at our model in these ranges up to $800,000,000 you're talking a tough our continued model is between $54,000,000 $55,000,000 to $800,000,000 to the beginning of $800,000,000 And I think we feel pretty comfortable that we're going to be in those revenue ranges or in those margin ranges.
Sounds good. Guys, thanks very much. I'll hop back in the queue.
We can take our next question. This will come from Patrick Ho with Stifel.
Thank you very much and congrats on a nice quarter and outlook. Mike, maybe first off in terms of some of the advanced packaging Can you discuss whether some of the upside you're seeing right now It's coming from increased capacity expansion plans from existing customers versus wins that you've gotten on new applications, Whether they're on the high performance computing side, you mentioned heterogeneous packaging. Can you just, I guess, kind of provide a little bit color
Kind of
the mix of increased capacity expansion versus new application wins on your end?
It's a little bit of a mix and I don't have the exact split. But by new, in the last So a lot of the growth is what I would call new, but it's not wins in a quarter or 2. It's wins from last Even 18 months ago, where we were installing systems to help customers develop some of these more advanced processes, Help them develop them, yield them and then work them into product designs. So that's What now we're starting to see in both the DRAM and the advanced logic markets. And in the last few quarters, we've tried to highlight that with the Share gains that we've anecdotally put together and described to the investors about our growth within the, let's say, the 5 IDMs Where they're driving a lot more dollars and a lot more R and D into advanced packaging such as heterogeneous die, such as 3 d die stack sorry, Heterogeneous or fan out packaging, substrate manufacturing or panel packaging as well as 3 d stacking for high Bandwidth memory and TSVs.
So we're seeing a lot of the expansions coming there and we're seeing more devices being applied to that. So for instance, some of the foundry customers, they're having more demand For that advanced packaging technology also running through and that's adding to our growth trajectory as well. Great.
That's helpful. And maybe as my follow-up question for Steve, you guys generated really good cash flow during the quarter And your working capital management was particularly sharp given a lot of the constraints in the environment. Can you discuss, I guess, some of The supply constraints may be in the ecosystem and how that's impacting, 1, your ability to build inventory And also just make ensure that you're able to deliver to the higher demand that's out there right now by your customers.
Yes. Thanks, Patrick. I mean, it's clearly something that's industry wide we're looking at. We're keeping a pretty good pulse On the overall supply chain, from that perspective, we are seeing kind of vendor times Stretch a little bit, especially in actually transportation side of it more than cargos, things that come on cargo ships we're starting to see expand a little out a little longer to get here, but we're working that into our plans. So right now, we don't see a supply constraint With what we're doing, but we're obviously planning for the fact that we see these longer time stretching on some key components, especially coming from overseas.
So Yes. We're working those with the growth we're seeing and we're planning accordingly and we got them built into the plan. So we don't expect any at this time.
Great. Thank you very much and congrats again.
Thanks, Patrick.
Our next question will come from Quinn Bolton with Needham and Company.
Hey, guys. I'll Also offer my congratulations.
Mike, I wanted to start on the planar films traction you talked about in the script. It Sounds like you're seeing multiple systems at multiple customers. Can you just sort of give us a sense of the total number of planar films Systems you expect to ship in 2021 or perhaps a dollar basis, how much how significant is this to the overall business?
I think it's still in the early stages. So as far as significance, I would say, It's less than 10%, certainly less than 10% of revenue. I think for us right now, We're encouraged by that rapid adoption from the first top three customer, but then also the Seeds that we're planting and the adoption we're seeing with other customers, that's all going to mean more expansions in the following year, 2022. So I think for us, it's all about we're seeing a lot of growth right now just from the markets. We're planting a lot of seeds for future growth and then we'll see that become a much more significant part of our revenue stream.
Just a reminder, we said that the overall market is $400,000,000 in size, split between some critical films and then some more common films. And it's the common films we're going after right now, so roughly $250,000,000 or so. And so 20% of that is another $50,000,000 We would hope we can achieve maybe a little better than that going in 2022.
Great. Thank you for that additional color. And then the second question I had is, I think in the press release, you talked about the inspection business Growing roughly 20% quarter on quarter. So, the back end of Advanced Packaging certainly feels like it's seeing good momentum. Your main competitor in that space sort of talks about seeing 80% growth And its inspection business in the first half of twenty twenty one versus the first half of twenty twenty, so perhaps a different time base.
But wondering if you could give us Your thoughts on just overall market share position in the inspection segment of the market? Do you think you're keeping pace with With your largest competitor there in terms of market share?
I think it depends on How you segment the market? So we're certainly extending our position at all of the leading edges. We've talked about that multiple times. That's I think we've got plenty of data points there. Where we're certainly struggling is in China.
And I think that's an area that the competition is taking advantage of. With the restrictions We've talked about significant amount of orders, pending licenses. That's what we have in hand. There's also the dynamic where Many of the 2nd tier suppliers prefer to work with a non U. S.
Option, non U. S. Non American company as an option. So there's some Low hanging fruit that the competition is taking care of there. I think that that's a temporary dynamic.
I believe that the What we're seeing from the Commerce Department, what we're seeing from Gina and the communications that there's a desire to find a way to work and not Punish the U. S. Equipment industry, which is so critical to the overall growth and success of semi over the last several decades really. And so I think that that's going to turn around. But we're happy
Thank you, Mike. And we will take our next question. This will come from David Duley with Steelhead Securities.
Hello. Thanks for taking my question. Mike, I just want to clarify one of the statements you made earlier on. I think Craig was also asking about it. You mentioned that growth in the first half of the year versus the first half of last year, I think was up 26%.
And you made a reference how the second half growth would be stronger than the first half. Do you mean that the second half of this calendar year will be More than 26% versus the first half or excuse me, second half of last year? Or just help me understand what you mean by stronger than up 26% in the first half?
Sorry, that's a good question. So what I meant is it will be stronger than the revenue in the first half. So we see the second half As stronger than the first half of twenty twenty one.
Okay. And as far as when you look at your, I guess front end wafer business and metrology business, is it kind of we've heard From the big wafer fab equipment companies, the market is growing somewhere around 30% in calendar 20 21, do you think your metrology business will grow at a faster rate or a slower rate than that?
Let's see if I can see I think we're growing around that rate. I think there's opportunities for us to Grow faster, depends on timing of some of the adoptions of the new products we've talked about. Certainly, we're seeing some Activity in the 3 d NAND, which could drive accelerations in aspects, our channel home metrology Tool, that we right now we're not seeing a huge impact in this year, more to next year. That could pull in and that could change. But I think right now that's a the 30% number is reasonable.
Okay. Excuse me. And then I think generally people have talked about unit volume growth of 12% or 14% this calendar year and I suspect that that will continue given all the big wafer fab equipment investments we're seeing. If 12% or 14% is kind of a unit volume growth, what would you expect to kind of annual growth to be for your back end business?
Well, last year, our back end business grew over 20% and we think it's going to continue at those kinds of levels. Back end, what we're seeing for demand for our advanced, the advanced equipment is It's pretty strong and it's driven by a lot of different products, but also by those top IDMs that are migrating And now competing on the advances they're making in packaging, and you can hear it from nearly all of them. TSMC has talked about, Intel has talked about, Samsung has talked about it. So that's helping to propel this Massive transition or demand we see for our advanced systems. And part of the advanced systems isn't just Can we see the defect to measure it?
It's also what do we do with that data? And customers want fast decisions. They want that actionable intelligence that they can make Adjustments to the process right away and that's what we're providing and have been providing to the automotive industry for better part of a decade. And now that whole value proposition is resonating very well with the advances in the high end here and More traditional semiconductor.
Okay. Final question from me is, could you just elaborate a little bit more on your lithography business? You mentioned, I think that you picked up another order and that your backlog is now greater than $20,000,000 Could you talk about the shipment of those tools? And What is the reason that they're so to speak that everyone all of a sudden wants to take ship delivery of Panel lithography tools, what has changed in the development processes of your big IDMs that has all of a sudden But they're starting to order panel lithography tools.
Well, one thing we talked Is there some and the reason we've had orders and been driving a backlog is there's customization, there's some new features and capabilities We'll be announcing as part of these systems. So that's one thing. That's opening up the doors and capabilities into another aspect of Panel where we're seeing tremendous amount of not just interest, but ramping of volume production. And that production is what we talked about early this year that we could see and count to volume Moving not just in 2021, but through the next several years, 2022, 2023. So we're seeing Nearly well, every major all the high performance compute engines that we're Seeing are moving towards this type of technology, this panel level packaging technology.
I
would like to just add as a follow
on to that. It sounds like you kind of have a broad base of customers that are going to take systems. The largest customer in this segment is the big foundry in Taiwan and they did mention on their conference call, They've raised our CapEx like 3 times in 3 or 4 months, but they're going to spend 10% of the CapEx budget on the back end, which is roughly $3,000,000,000 Do you see them adding a bunch of capacity and fan out which will require a bunch more litho systems this calendar year?
From a panel side, I would say They're not leading, but from the fan out, you know what the info process and some of their other advanced packaging COWAFs, They're certainly investing heavily and gaining more customer demand for those products.
Thank you.
Yes.
We can take our next question. This will come from Tom Diffely with D. A. Davidson.
Yes, good afternoon. First, Mike, a question on the $25,000,000 of bookings that were booked but not shipped. It's going to China. Is that are those been built and they're in inventory right now? Are they in process?
Some have been built and are in inventory. That's we didn't expect Such long delays, we did foresee a lot of growth and didn't want to double up in particular quarters, so having whole influx hit all at once. So we did build some. Now we're working with customers Managed through the build, so it's not the full amount, but I did mention it's over $25,000,000
Okay. But those could be reconfigured for other customers, worst case scenario?
Yes. Worst case scenario, yes. And we also got Payments upfront because of the uncertainty. So
Okay. Excuse me. So Steve, you talked about lead times and supply challenges. Have your lead times changed at all for your tools going to customers?
No, not really, Tom. Yes, we've only just starting to see some of this new commentary on Shipping dates from the incoming, but we're not we're ramping for the volumes we're seeing and we're not stretching out our lead times anything Got it. Good per se.
Okay. That's encouraging. And then finally, when you look at the software and services space, When you look at your projected growth over the next few years, is it more heavily weighted to software side or the traditional services side? And What might that mean for the margins?
So
I would say some of that the growth is probably more on the services side and software. Software is going to I think as you recall, we always kind of consider it as the steady Eddie. It's got this nice Progressive Growth, but unlike the days prior to the merger, software isn't as big as the overall It was to Rudolph. So, its impact on the margins while helpful, clearly, it doesn't really it moves it doesn't move the needle as much as it used to. So, I mean, I expect software to continue to grow.
I think it will continue to enhance the margins, but we're talking percentage of a percentage point Impact on the overall margin. On the service side, I think we've seen some steady growth in the service over the last day, if you actually track back a year and a half, Services is continuing to grow. We expect that to continue to grow obviously in this environment. And our service business overall It's a pretty healthy margin business.
Okay. And then I guess finally, is the services business more leveraged to the advanced node Products or the Advanced Packaging Products?
Yes. So more of the Advanced nodes, that was a bigger piece of our business. So yes.
All right. Thank you.
I would now like to turn the call back to Mike Schaeffer.
Thank you. We'd like to thank everyone for participating in the call today and for your interest in ON2 Innovation. That concludes our remarks for the call. Connor, please wrap it up. Thank you.
Thank you. This concludes today's conference. Thank you for your participation. You may now disconnect.