Earnings Call Transcript - MKSI Q4 2025

Operator, Operator

Good day, and thank you for joining us. Welcome to the MKS Fourth Quarter and Full Year 2025 Earnings Conference Call. I will now turn the conference over to your speaker today, Paretosh Misra. Please proceed.

Paretosh Misra, Vice President of Investor Relations

Good morning, everyone. I'm Paretosh Misra, Vice President of Investor Relations, and I'm joined this morning by John Lee, President and Chief Executive Officer; and Ram Mayampurath, Executive Vice President and Chief Financial Officer. Yesterday, after market close, we released our financial results for the fourth quarter and full year 2025, which are posted to our investor website at investor.mks.com. As a reminder, various remarks about future expectations, plans and prospects for MKS comprise forward-looking statements. Actual results may differ materially as a result of various important factors, including those discussed in yesterday's press release and in our most recent annual report on Form 10-K and any subsequent quarterly report on Form 10-Q. These statements represent the company's expectations only as of today and should not be relied upon as representing the company's estimates or views as of any date subsequent to today, and the company disclaims any obligation to update these statements. During the call, we will be discussing various non-GAAP financial measures. Unless otherwise noted, all income statement-related financial measures will be non-GAAP other than revenue and gross margin. Please refer to our press release and the presentation materials posted to the Investor Relations section of our website for information regarding our non-GAAP financial results and a reconciliation of our GAAP measures. Our investor website also provides a detailed breakout of revenues by end market and division. Now I'll turn the call over to John.

John Lee, President and CEO

Thanks, Paretosh, and good morning, everyone. 2025 was a year of impressive execution for MKS in a gradually improving demand environment. Year-over-year, we delivered 10% sales growth, 20% EPS growth and over 20% free cash flow growth. We maintained strong gross margins despite trade policy dynamics while staying focused on delivering for our customers, investing in our business, and proactively bringing down our leverage. We're proud of our accomplishments in 2025 and grateful for the continued support and collaboration of our customers, suppliers, and employees. Our partnerships and engagement have been critical as we work together to deliver the broadest portfolio of differentiated solutions that are foundational to advanced electronics in the AI era. As we begin 2026, the demand outlook across our semiconductor and electronics and packaging markets is strengthening, and we are already seeing this in the ambitious CapEx plans announced by large chip manufacturers. MKS has a long track record of outperforming WFE in rising spending environments and we are in an excellent position with our broad and deep portfolio of designed-in products that are foundational to semiconductor manufacturing and electronics and packaging. I'll highlight some examples as I review our financial and end market performance. Our Q4 revenue, gross margin, and earnings per diluted share all came in above the midpoint of the guidance ranges we provided on our Q3 call in November. Revenue was strong across all three of our end markets. In our semiconductor market, revenue was above the high end of our guidance, driven primarily by subsystems serving etch and deposition applications in the DRAM and logic foundry markets. Our plasma and reactive gases business delivered another strong quarter. We also maintained healthy momentum in dissolved gases for advanced logic applications and in back-end applications related to high bandwidth memory. Order activity in both areas remains robust. NAND-related activity remained stable sequentially, as expected. I'm also pleased to note that our semiconductor business outperformed estimated WFE growth for the full year 2025, consistent with our track record of outperforming industry spending and improving demand environments. Looking to the first quarter, we expect semiconductor revenue to be up on a sequential basis. We believe this outlook is consistent with market views of steady improvement in industry spending over the course of the year. With our global footprint, broad product portfolio, and deep technical expertise, we are ready to respond to demand as it comes with solutions that solve our customers' hardest problems and enable their increasingly complex road maps. On that front, we're excited to be ramping our new supercenter factory in Malaysia in the second half of this year, which will give us added capacity and resiliency to meet our customers' needs. Turning to Electronics & Packaging, revenue came in near the high end of our guidance. The sequential increase was primarily driven by increased flexible PCB drilling and chemistry equipment sales. The Flex market continues to largely follow seasonal patterns tied to smartphone and PC cycles. We also saw continued momentum in orders for our chemistry and chemistry equipment solutions for advanced PCBs related to AI applications. AI is driving increasing packaging complexity, and we are uniquely positioned to help our customers with the broadest portfolio of differentiated solutions. Excluding the impact of FX and palladium pass-through, the chemistry sales increased 16% in the fourth quarter and 11% for the full year compared to the same periods in 2024, reflecting another year of healthy growth. When we acquired Atotech in 2022, we saw the importance of advanced packaging for electronic devices, well ahead of many in our industry. With AI now rapidly driving demand for more complex PCBs with rapidly increasing numbers of layers, we are seeing growth despite multiyear softness in smartphones and PCs. Looking ahead to Q1 and the anticipated seasonal impact from the Lunar New Year holiday, we expect electronics and packaging revenue to be up slightly sequentially and to increase in the low 20% range year-over-year. Key drivers for our expected performance in Q1 include higher flexible PCB drilling revenue and a continued strong performance in our chemistry equipment business. In our specialty industrial market, revenues came in at the high end of our guidance. We saw sequential improvement in research and defense in certain industrial applications. Looking ahead to Q1, we expect specialty industrial revenue to decline low to mid-single digits, mainly due to the Lunar New Year holiday, which impacts our general metal finishing business. Year-over-year, we expect revenue to be up in the mid-single digits, led by the industrial and research and defense markets. Overall, our specialty industrial market continues to deliver steady performance and contribute attractive cash flows. Our fourth quarter performance and outlook for Q1 underscore our strong position across our two key end markets. In semi, we continue to strengthen our position in supporting leading-edge foundry and high-bandwidth memory investments through our vacuum and photonics offerings while also remaining well positioned to capitalize on large-scale investment in NAND equipment upgrades expected over the next several years. In Electronics and Packaging, we are demonstrating momentum with equipment and chemistries ideally suited to support smaller, more complex, and more vertical packaging structures for AI and other emerging devices such as foldable phones. We expect this business to grow over time as we realize long-term revenue streams from proprietary chemistries moving through production lines built with our equipment. The secular drivers powering our end markets are fully intact and present exciting opportunities for MKS in the years to come. Our business is in a strong position with a resilient global footprint and margins that reflect the value we deliver and strong free cash flows that we are reinvesting into the business and using to pay down debt. Lastly, we are proud to have been honored for the third consecutive year as one of America's most responsible companies by Newsweek and Statista. It's an honor that reflects our continued focus and commitment to our people, customers, and suppliers. Now let me turn it over to Ram to run through the financial results and first quarter guidance in more detail.

Ramakumar Mayampurath, Executive Vice President and CFO

Thank you, John, and good morning, everyone. We ended the year with a very strong fourth quarter. Demand increased across all three end markets. We delivered healthy margins, robust free cash flow, and made meaningful progress on our deleveraging goals. That progress has continued into the new year with another $100 million voluntary prepayment on our term loan in February, as well as further optimization of our capital structure with the recently completed issuance of EUR 1 billion senior unsecured notes as a refinancing and extension of our term loan maturities. I'll cover these topics in detail in my remarks. Let me start with the results for the fourth quarter. MKS reported revenue of $1.03 billion, up 5% sequentially and 10% year-over-year. Fourth quarter semiconductor revenue was $435 million, up 5% sequentially and 9% year-over-year. The result was driven by strengthening demand, especially in DRAM and logic and foundry applications. The sequential increase was led by plasma and reactive gases products. Year-over-year comparisons reflect more broad-based strength across many product categories, providing further evidence of an improving semi demand environment. Fourth quarter Electronics & Packaging revenue was $303 million, an increase of 5% quarter-over-quarter and 19% year-over-year. This sequential improvement reflected higher flexible PCB drilling and chemistry equipment sales. The strong year-over-year comparison reflected healthy underlying growth across chemistry flexible drilling equipment and chemistry equipment. Chemistry sales in the quarter were up 16% year-over-year, excluding the impact of FX and palladium pass-through, marking another strong year in chemistry revenue. In our specialty industrial market, fourth quarter revenue was $295 million, an increase of 4% sequentially largely due to the improvement in our research and defense markets as well as certain industrial applications. This was partially offset by a decline in automotive. Revenue was up 5% on a year-over-year basis, supported by modest improvement across several of our key market categories. However, the automotive segment remains soft. Turning to gross margin, we reported fourth quarter gross margin of 46.4%, which is above the midpoint of our guidance. While margins were down year-over-year, it was a very solid performance given ongoing impact from higher tariffs, higher palladium prices, which are passed through at 0 margins, and the effect of higher chemistry equipment in our overall mix. Fourth quarter operating expenses were $263 million, slightly above the guidance range, primarily due to higher variable compensation due to stronger-than-expected results. Fourth quarter operating income was approximately $217 million, yielding an operating margin of 21%, which is above our guidance midpoint. Fourth quarter adjusted EBITDA was $249 million, yielding a 24.1% margin and also above the midpoint of our guidance. Net interest expenses were $42 million. The fourth quarter effective tax rate was 1%, which was in line with our guidance. We finished the year strong with fourth quarter net earnings of $168 million or $2.47 per diluted share, which is above the midpoint of our guidance. We closed the quarter with approximately $1.4 billion of liquidity comprised of cash and cash equivalents of $675 million and our undrawn revolving credit facility of $675 million. Net debt at year-end was $3.6 billion. That, combined with improving adjusted EBITDA, resulted in a net leverage ratio of 3.7x based on full year 2025 adjusted EBITDA of $966 million. Quickly summarizing our full year 2025 results, revenue was $3.9 billion, up 10% year-over-year. Semiconductor revenue totaled $1.7 billion, up a healthy 13% year-over-year, driven by plasma and reactive gases and racking products. Our service business remained a steady and meaningful growth contributor. Electronics & Packaging revenue was $1.1 billion in 2025, up a strong 20% year-over-year. Total chemistry sales increased 11% year-over-year excluding the impact of foreign exchange and palladium pass-through. Specialty Industrial revenue was $1.1 billion, down 4% year-over-year, primarily driven by softness in industrial markets, including automotive. Gross margin was 46.7%, down 90 basis points year-over-year, driven by additional costs related to tariffs and product mix, including record chemistry equipment sales. We moved quickly during the year to mitigate the impact of tariffs. That impact was largely mitigated on a dollar-for-dollar basis by the fourth quarter, but will still continue to impact gross margin by about 50 basis points. Full year operating margin was 20.7%, down 60 basis points year-over-year as a result of lower gross margin. However, our operating expenses as a percentage of sales was 26% and improved by 30 basis points year-over-year. Let me now turn to cash flow and balance sheet discussion. For 2025, we generated operating cash flow of $645 million, an improvement of $17 million year-over-year. Even with an uptick in capital expenses, full year free cash flow was $497 million, an increase of 21% year-over-year and reflective of a very healthy conversion rate of our non-GAAP net earnings. In 2025, we made a total of $400 million of ordinary prepayments on our term loan. This month, we made another voluntary prepayment of $100 million. Since February 2024, we have paid down over $1 billion of our debt. We continue to remain focused on deleveraging. We also closed a few key financing transactions in recent weeks. The repricing of our term loan facility reduced credit spreads on our U.S. term loan by 25 basis points and the euro loan by 50 basis points. In connection with this repricing, we increased the size of our revolver to $1 billion. Finally, our successful EUR 1 billion bond offering has allowed us to diversify our capital structure, reduce interest rates on our debt, replace a portion of our secured debt with unsecured debt, and extend our maturities. Based on current interest rates, the combined effect of these actions taken this month will reduce annual interest expenses on a run rate basis by approximately $27 million. In addition to lowering interest rates, these transactions will provide greater flexibility for the company. Finally, during the quarter, we paid a dividend of $0.22 per share or $15 million. As we announced last week, the Board authorized a 14% increase in the next dividend, which is payable in early March. Let me now turn to first quarter outlook. We expect revenue of $1.04 billion, plus or minus $40 million. By end market, our first quarter outlook is as follows: Revenue from the semiconductor market is expected to be $150 million, plus or minus $15 million. Revenue from the electronics and packaging market is expected to be $305 million, plus or minus $15 million, and revenue from our specialty industrial market is expected to be $285 million, plus or minus $10 million. Based on anticipated revenue levels and product mix, including sequentially lower chemistry sales due to the Lunar New Year, we estimate first quarter gross margin of 4% to 6% plus or minus 100 basis points. We expect first quarter operating expenses of $270 million, plus or minus $5 million. Looking to the rest of the year, we will continue to invest in the growth of our business, but we expect operating expenses to grow at a rate lower than revenue. We estimate first quarter adjusted EBITDA of $251 million, plus or minus $24 million. We expect capital expenditures to average in the 4% to 5% of revenue through 2026. We expect a tax rate of approximately 21% in the first quarter. For the year, we expect our tax rate to be in the range of 18% to 20%. Based on these assumptions, we expect first quarter net earnings per diluted share of $2 plus or minus $0.28. Overall, MKS continues to execute at a high level meeting growing customer demand and maintaining strong profitability. We continue to prioritize making the necessary investments in the business and proactive deleveraging. We believe that we are in an excellent position to capitalize on what we expect to be a robust demand environment.

Operator, Operator

Our first question comes from Steve Barger with KeyBanc Capital Markets.

Steve Barger, Analyst

Thank you. I wanted to start with the 46% gross margin midpoint guide. How much of that is from chemistry equipment mix? And does the lower 1Q sequentially suggest an upward inflection in 2Q from higher chemistry sales volume? Or how do you expect that to play out as the year progresses?

Ramakumar Mayampurath, Executive Vice President and CFO

Steve, this is Ram. I'll take that. I'll start with your second question. The answer is yes. It is due to the seasonality from lower chemistry driven by the Lunar New Year, and we expect the mix to improve in Q2 and further in Q3. So mix is the main reason for the 4% to 6% plus or minus 100 basis points guide.

Steve Barger, Analyst

Got it. And so that should be the low point of the year? Understood. And John, can we just talk about the memory shortage? It seems like that could be both good or bad for you. Can you talk about what you're seeing with NAND tool upgrades and other memory investments that could be coming? And then can you talk about what happens with consumer products just given the increase that you're seeing in the market?

John Lee, President and CEO

Yes, Steve. So I think the customers and our customers' customers are putting a lot of the investments in DRAM, obviously, for AI, and that's causing this crunch in terms of availability of memory. I would say this, the industry is moving very fast to try to meet those demands. You see a lot of announcements of fabs going up and whatnot. And then more recently, NAND has become potentially a bottleneck as well in terms of availability. So you saw one large chip company announce a new NAND factory, brand new greenfield us out a little ways, but that's good because it extends the ramps, as you will. In terms of upgrades, I think our customers are best to answer that. I would say this. We have plenty of capacity to meet those upgrades should they come. And as a reminder, our position in RF power for NAND vertical channel etching allows us to enjoy upgrades almost as much as greenfield. So I think NAND is something that's going to be kind of icing on the cake as that happens throughout the year and the next couple of years.

Steve Barger, Analyst

Got it. And then just any comment on consumer products, what the potential effect could be?

John Lee, President and CEO

Yes. I mean I think it's going to depend on how much availability there is. I think you read some analyst reports, people are kind of thinking maybe low single-digit decreases in PCs and phones, but that really is going to be dynamic throughout the year. I think it's really going to be a function of how fast the industry can make those chips for that segment of the market. So I think if we have a little decrease in PCs and smartphones, I think it's going to be more than made up by AI.

Operator, Operator

Our next question will come from the line of Jim Ricchiuti with Needham & Company.

James Ricchiuti, Analyst

Thank you. Yes, I'm wondering if we look at the electronics and packaging business, the 20% plus growth in 2025, John, any sense as to how much of that was a function of capacity additions? And I'm curious how much of a tailwind would you anticipate this being in 2026 in this area of the business?

John Lee, President and CEO

Yes, good question, Jim. I think what we said also is that while the electronics and packaging grew 20%, chemistry grew about 11% year-over-year. So that's great growth too. So chemistry would be more utilization dependent. And then the rest of that growth is capacity additions from chemistry equipment as well as flex drilling equipment. So we've talked about our chemistry equipment. That's a nice leading indicator of future chemistry revenue. We're now into the fifth quarter of strong bookings and revenue for that. I think in the past, we talked about the first half of '26. Our factories are full through then. I think we're not going to guide bookings going forward in equipment, but I would say the difference between 90 days ago is we continue to see strong chemistry. So I think that continues, and that's really just something that over time will lead to that high gross margin chemistry revenue that will be on our production equipment.

James Ricchiuti, Analyst

You mentioned the improving demand in CD drilling equipment. How would you describe the recovery you are witnessing in this area of the business compared to previous cycles? It's been quite some time since we've experienced a significant upturn in this sector.

John Lee, President and CEO

Yes, I know you've covered ESI for a long time, Jim. I would say there was a supercycle maybe 4 or 5 years ago. This is more like a normal cycle. So probably 2 years now where it's kind of been more normalized. So we're happy to see that. I have to see that our share continues to be very strong, and that some new devices that we talked about, foldable phones, are driving more flex demand. So I think I would characterize this as not a supercycle, if you will, for Flex, but more of a normalized cycle that we have expected on a more consistent basis throughout the years.

Operator, Operator

One moment for our next question. Our next question will come from the line of Melissa Weathers with Deutsche Bank.

Melissa Weathers, Analyst

Thank you for the question. John, I was hoping to ask you to pull out your crystal ball and get your opinion on WFE growth this year. So we've heard some pretty strong outlook from some of your customers and peers on WFE. Any sense of magnitude or how are you guys thinking about the magnitude of growth the equipment spending could have this year? And then how should we think about that flowing through to your semiconductor system sales?

John Lee, President and CEO

Yes. I'll pull out my crystal ball, Melissa; it's cloudy, but I guess it's positive. A couple of our edge customers are talking about 20% year-over-year WFE growth, a couple of our lithography customers are talking more in the mid-teens, if you will. So if you put it all together, WFE will be a large grower. And I think more importantly, everybody is kind of assuming it's more than just a one-year thing. It's going to be a cycle that maybe lasts longer than that. MKS has always outperformed during the upturn. That's just math. Everything is designed in already in an upturn. People are just ordering things that are already designed in. We have to ship before our customers could ship. At the same time, during a ramp, our customers are going to try to build inventory. And so all that leads to outperformance. Even in 2025, when there wasn't really a ramp, I believe we will have shown that we outperformed WFE even in a relatively stable 2025. And I would say in my commentary a couple of months ago, the ramp has started. We have started. Supply chain teams are working hard with our suppliers. We're in constant communication with our customers, and everybody in the industry is getting ready for this ramp. And MKS, as you know, is supporting 85% of WFE. So we're going to see all of that. And we're really looking forward to meeting that demand. I think we also talked about the Malaysia plant, which will come online midyear. That will give us just extra flexibility in the future. But our factories today are ready to meet the demand that we see in the next year or two.

Melissa Weathers, Analyst

Perfect. Following up on your earlier points about AI, could this help mitigate potential slowness in consumer electronics? You've mentioned the increase in board complexity and layer counts for AI boards. Is there a way to quantify the revenue opportunity with the 2027 Board compared to past experiences? Any other insights on how we should view this content opportunity and the extent to which it might offset weaknesses in the consumer electronics market?

John Lee, President and CEO

Yes. One way to consider this is by examining smartphones. The number of layers and PCBs for smartphones typically ranges from 10 to 12 layers, and this is gradually increasing. In contrast, the HDI type of boards for AI are already within the range of 15% to 20%. Additionally, AI requires multilayer boards that consist of 30 to 40 layers, along with package substrate layers. Thus, while the number of layers in PCs and smartphones remains fairly consistent, increasing only a few layers each cycle, AI is seeing a significant increase in the number of layers. Previously, we mentioned that our revenue from AI chemistry in 2024 accounted for about 5% of our total chemistry revenue in Electronics & Packaging, which is expected to rise to 10% in 2025. I anticipate a sequential increase each quarter throughout 2025. Therefore, we expect AI to take up a larger share of our chemistry revenue, even with a somewhat subdued PC and smartphone market.

Operator, Operator

And one moment for our next question. Our next question comes from the line of Michael Mani with Bank of America Securities.

Michael Mani, Analyst

To start, I just wanted to ask about your capacity position with this Malaysia facility fully ramping over the next course of the next year? How much revenue do you think that could ultimately support for your business? And if there's any way to quantify how much that footprint has expanded for you over the last couple of years, that would be great. And then as you look out, are there any other areas where you feel like you need to invest in your capacity position? I know there's a Thailand facility that you're ramping up, I believe that's for chemistry, but anywhere else where you anticipate any supply constraints?

John Lee, President and CEO

Yes. Thanks, Mike, for the question. I think with Malaysia, it was built as a business economy replan. It wasn't built to anticipate needing more capacity for this particular ramp. So we already have plenty of factory capacity for that. I think Malaysia is kind of think about it as future capacity needs for WFE. We haven't sized it. I would say this, we always build our factories in phases. So we have the shell and then we'll put in a certain amount of lines and product lines beginning in the middle of this year. Then we'll plan on what makes sense to grow there. But it will give us a lot more capacity than we have currently. I would say we've added a little bit of CapEx here and there, kind of nip and tuck with our factories in anticipation of this particular cycle. But we had talked about being ready for $125 billion WFE three years ago, and we did that. And remember that $125 billion is run rate. We always have 30% surge capacity in addition to that. So I think we're quite comfortable with our capability. I think always in ramp constraints or supply chain. Our suppliers are better, they're bigger, they're ready, but the golden school effect will happen. And so that's really where our execution has always been among the best, is finding those issues and then dealing with them and delivering to our customers on time. And we've always done that through every cycle. So I'm very confident we'll have the capacity. We have the team and the supply base to help us deliver to our customers this ramp as well.

Michael Mani, Analyst

Very helpful. Moving on to electronics and packaging, as you consider the upcoming year, is it accurate to say that most of the growth, if sustainable in this double-digit growth area, would primarily derive from increased chemistry revenue given the significant equipment orders seen in recent months, which are expected to ramp up in utilization? Additionally, as you mentioned previously, for every $100 million in installed equipment, it translates to $20 million to $40 million in annual chemistry sales based on utilization. What are the sensitivities associated with that? Is the revenue function significantly higher if it's for substrates, especially as customers aim for over 100 layers? How does that impact the revenue attach rate?

John Lee, President and CEO

Yes. Thanks, Michael. I think in general, our model is still the same, $20 million to $40 million is per $100 million of equipment sales. And it doesn't really change too much between particular types of boards. It's really a function of utilization. So if that tool is running at 100%, then you're getting into that $20 million to $40 million range. And then I think, in general, we're just very happy with the continued shipments of our equipment, as I said in the earlier question; it continues to get better. It continues to be consistently strong even from a quarter ago. So if that's the case, then we will have had potentially two good years of record-level chemistry equipment shipments. Now I also think we've talked about how long it takes for a piece of equipment to turn into chemistry revenue. We've said 18 to 24 months. That's still the case. So a lot of the chemistry revenue that you saw grow in 2025 was with equipment we shipped in 2021 and 2022. So that's why I think the equipment we're shipping now will be great capacity for future chemistry going forward. So I just want to make sure that was clear. The chemistry revenue now is not constrained by the equipment more shipping. That chemistry revenue is growing because of the capacity we've already shipped in terms of equipment a few years ago.

Operator, Operator

Our next question comes from the line of Shane Brett with Morgan Stanley.

Shane Brett, Analyst

I want to follow up on Mani's question. Just based on the knowledge you currently have, should we be anticipating chemistry revenue to accelerate or decelerate in 2026? And I'm asking this because I want to better figure out just how much of this chemistry revenue is associated with just higher growth AI or should be kind of benefiting from a higher installed base. But how much could be impacted by just weaker consumer electronics sales?

John Lee, President and CEO

Yes, Shane, there is seasonality to the chemistry revenue, as Ram mentioned. The first quarter tends to be the lowest for consumer products due to the Lunar New Year. However, chemistry related to consumer products is expected to grow throughout the year. If there is a slight decrease, we may see that reflected in chemistry revenue for that market. On the other hand, we anticipate continued growth in AI chemistry. Our customers in the AI supply chain are operating at capacity and are consistently adding and upgrading tools. Therefore, I believe that even with a small decline in PCs and smartphones, the growth in the AI segment will compensate for that.

Shane Brett, Analyst

Got it. And for my follow-up, on the E&P tooling side, late last year, you mentioned that your book through the first half of 2026. How should I think about this E&P relative to your current capacity for E&P tools compared to the existing demand for these tools?

John Lee, President and CEO

Yes, I believe we've increased our capacity. We didn't need to construct a new factory to address this. We've managed to meet our customers' timing demands even at these higher levels. As I mentioned earlier, based on developments from 90 days ago, we continue to experience strong bookings. Therefore, I anticipate another robust year for equipment. Our current capacity is adequate to meet our customers' timeline requirements, and we are not restricting them.

Operator, Operator

Our next question comes from the line of David Liu with Mizuho.

David Liu, Analyst

Let me ask the question. On for Vijay at Mizuho. Maybe the first one just back on WFE. I think your customers and peers have mentioned second half-weighted strength and acceleration. Do you think like we can see that and revenue hit probably a 5-handle starting in September, December?

John Lee, President and CEO

Sorry, David, 5-handle...?

David Liu, Analyst

On semis revenue.

John Lee, President and CEO

Semis revenue is projected at 450 million for the year. If wafer foundry equipment demand grows in the range of 15% to 20% as many of our customers have indicated, we will need to ramp up our shipments accordingly to support their inventory needs. In the past, we reached that 5-handle during the last ramp, but that limitation was due to supply chain issues, not our factories. I believe we have improved our supply chain management, so reaching a 5-handle wouldn't be unexpected. I just can't say exactly when it will happen. To achieve a 20% increase in wafer foundry equipment, we likely need to reach that 5-handle, especially as MKS, otherwise the industry may struggle to hit that 20% target.

David Liu, Analyst

Got it. And then a longer-term question, I think part of the industry is beginning to look at moving to panel for advanced packaging. I'm just wondering what kind of conversations you guys are starting to have there in the advanced packaging side, and if there's any sort of outlook or timeline that benefits MKS.

John Lee, President and CEO

Yes. I think you're referring to redistribution layers going from wafer-shaped to panel rectangular shape. Many customers are working on that. And of course, when they go to panel, that's MKS. We are participating in the wafer type of packaging. Our strength has always been in panels. That is a tailwind for MKS. But as I mentioned in the past, that's kind of 1 or 2 layers of redistribution layers, and that is still relatively small in terms of market growth for us because the HDI and MOB are growing at 10 layers a year or more each. So while it's a tailwind, I think we don't want to miss the bigger picture, which is that the number of layers of MLB and HDI and package substrates are growing much faster.

Operator, Operator

Our next question will come from Peter Peng with JPMorgan.

Peter Peng, Analyst

Some of your semiconductor customers are already discussing inventory buildup. Have you noticed that in the second half of 2025, or are you beginning to see it now regarding inventory buildup?

John Lee, President and CEO

Yes. Well, you can look at their inventory numbers and see if it's building. But I would say this, Peter, a lot of the conversations on getting ready happened in that Q4 timeframe, and they have continued to accelerate in the Q1 timeframe. We're ramping our factories and our supply chain. I think it will take a little while to show up as inventory build in our customers because right now, as a supply chain, we're all just getting ready to meet the higher demand. So you'll probably see that build-up in their inventory numbers over the next couple of quarters. But we are still shipping to demand at this point just because we're just in the early stages of that ramp.

Paretosh Misra, Vice President of Investor Relations

Got it. In the discussions, there seem to be many constraints and new capacity challenges from your customers' perspectives. Are you noticing any limitations where customers simply lack the space to relocate equipment? It would be helpful if you could elaborate on that situation.

John Lee, President and CEO

I've not heard that, Peter. I think our customers are well-run customers. They have large factories located globally. At the last ramp, we all added capacity, got more efficient. So I don't see that as a constraint in terms of not enough space to build the tools, if that was your question.

Operator, Operator

And one moment for our next question. Our next question will come from the line of Joe Quatrochi with Wells Fargo.

Joseph Quatrochi, Analyst

Maybe just kind of on that line of thinking on the semi business. You're guiding for kind of 3-ish percent sequential growth, and I think some of your main customers are guiding for high single-digit, low double-digit sequential growth through the first quarter. So just kind of curious if you could kind of give us the puts and takes there.

John Lee, President and CEO

Yes, Joe, we are providing guidance based on our current best estimation. You're experienced in this industry, and when growth occurs, it tends to pick up quickly. This is the picture we have right now. However, as you know, growth can happen rapidly during a ramp. We intend to maintain this guidance but definitely provide a range. Last quarter, we also provided a range and ended up exceeding the upper limit. This is typical during growth phases. Currently, if we could produce more, our customers would likely take it. Therefore, we are working to accelerate our ramp as much as possible.

Joseph Quatrochi, Analyst

That's helpful. And then maybe just as we think about the ramp of the course of the year and think about just the puts and takes on gross margin, should we still think about 50% is kind of incremental gross margin leverage just thinking about the tariff dynamic as well?

Ramakumar Mayampurath, Executive Vice President and CFO

Joe, this is Ram. I'll take that. The quick answer is yes. We are very pleased with the gross margin for 2025. If it weren't for tariffs, you would be to your point or 47%. Last three quarters, we were focused on mitigating the cost of the tariffs. And we offset the cost dollar for dollar. Going forward, we'll be focused on mitigating the impact on the gross margin itself. Yes, the volume and the right mix will certainly get us back to the 4%.

Operator, Operator

Our next question will come from James Schneider with Goldman Sachs.

James A. Schreiner, Analyst

Just to clarify, you mentioned your semi customers are projecting a 15% to 20% outlook, and you believe you can operate towards the higher end of that range due to the mix of your customers and your business. You also mentioned potential constraints on ramping up production. Can you clarify if you anticipate any limitations in your ability to ship in the upcoming quarters? Do you think you will be able to meet your customers' full demand by mid-year?

John Lee, President and CEO

Yes, I'd say this, Jim. During the beginning of the ramp, we're never the constraint because I think we have a supply chain with inventory as well. Even during the peak ramp and even after many quarters of a ramp, we have never constrained our major customers. I think it's an industry that's always met demand as an entire semiconductor industry. Companies that don't meet demand and constrain their customers, they're not around anymore, right? I think we have plant capacity. The challenge is getting the supply chain to ramp up. But even then, our biggest customers have always been a priority, and we've never disappointed them.

James A. Schreiner, Analyst

Very clear. And then just in terms of how we think about the forward model, you've clearly stated that you expect to grow OpEx slower than revenue, but give us a sense about the leverage you expect there, please? 2:1 or etc.?

Ramakumar Mayampurath, Executive Vice President and CFO

We will be investing this year to support growth while being careful with our operating expenses. Our focus will be on driving leverage further. Although our operating expenses grew by 24% to 25%, the percentage of operating expenses compared to sales decreased. We ended up around 26% for 2025, and for 2026, we expect it to be lower than that.

Operator, Operator

Thank you. And I would now like to hand the conference back over to Paretosh Misra for closing remarks.

Paretosh Misra, Vice President of Investor Relations

Thank you all for joining us today and for your interest in MKS. Operator, you may close the call, please.

Operator, Operator

This concludes today's conference call. Thank you for participating, and you may now disconnect.