Photronics Inc Q2 FY2026 Earnings Call

Good day and thank you for standing by. Welcome to the Photronics Q2 Fiscal Year 26 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 11 on your telephone. You will hear an automated message advising that your hand is raised. To withdraw your question, please press star 11 again. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Ted Moreau, Vice President of Investor Relations. Please go ahead.

Thank you, Operator. Good morning, everyone. Welcome to our review of Hotronix Fiscal Second Quarter 2026 Financial Results. Joining me this morning are George Macarcasas, Chairman and Chief Executive Officer, Eric Rivera, President and Chief Financial Officer, and Frank Lee, Senior Executive for Asia. The press release issued earlier this morning, along with the presentation materials accompanying our remarks, is available on the Investor Relations section of our website and on the Form 8 filed with the SEC. This call includes forward-looking statements that involve risks and uncertainties, which could cause Potronix's results to differ materially from management's current expectations. We encourage you to review the forward-looking statements disclosure included in our earnings release and in our most recent SEC finance. In the coming weeks, we will be participating in investor conferences hosted by Bank of America in San Francisco, three-part advisors in New York, DA Davidson in Nashville, and Singular Research in Las Vegas. With that, I will now turn the call over to George. Thank you, Ted, and good morning,

everyone. In Q2, Global Photomask Dynamics reflected a mix of supportive long-term drivers alongside temporary headwinds. Industry demand for leading-edge memory and logic chips for AI applications remains exceptionally strong. Manufacturing these chips requires a significant number of high-end photomasks, which creates a compelling multi-year growth opportunity for Photronics. We are taking several strategic actions to strengthen our position in this growing market, which I will discuss later in more detail. Importantly, as a reminder, photomass demand is more closely aligned with semiconductor design releases than to wafer starts. In the near term, several factors have delayed design releases, including elevated fab utilization rates, memory supply constraints, and geopolitical uncertainty. Eric will further elaborate on these factors. Given these unexpected near-term headwinds for certain ship design releases, the seasonal recovery following Chinese New Year has not occurred to the extent anticipated. As a result, our IC business decreased 5% year-over-year to $148 million, resulting in total fiscal Q2 revenue of $210 million, which was essentially flat year-over-year. Despite the near-term industry headwinds, we continue to execute against our investment priorities and strengthen our position in the robust high-end market segment. Our ongoing investments in our U.S. and Korea operations are designed to strengthen Photonics' long-term competitive position as we expand site capabilities into more advanced technology nodes. Both expansion projects remain on track, and over the next several years, we expect these investments to help us capture photomass demand and support a more geographically diverse revenue base. Strategically, these investments align us with the industry's ongoing manufacturing regionalization trends. They also position us to benefit from increased outsourcing opportunities from captive photomask producers, which will further shift our product mix towards more advanced geometries that carry higher ASPs. At our Curia facility, we are preparing our cleanroom for the arrival of key equipment to extend our capabilities down to eight nanometer and below, and we expect installations to begin later in the fiscal year. At our Allen facility, we are beginning production of qualification masks and continue to target initial revenue late in the fiscal year with a more meaningful contribution to revenue growth in 2027 and beyond. Over time, we expect the site will become an important mask supplier for U.S. onshore mainstream semiconductor manufacturing. For leading-edge AI chips, our high-end U.S. facility in Boise is qualified to produce masks at the 7-nanometer node, and our teams are working closely with customers on even more advanced nodes. Otronix facility in Taiwan and the U.S. are also well-positioned to capture the increasing opportunities in advanced chip packaging applications. Turning to FPD, revenue of $62 million increased 13% year-over-year, reflecting our capability to produce more complex, larger mask sizes and our strong differentiation in AMOLED. Our market-leading high-end capabilities in the dynamic China market remain strong and should support display revenue growth in the coming years. In Korea, where we maintain strong market share, positive seasonality returned during fiscal Q2 after a slower start to the calendar year. The launch schedules of high-end consumer electronics, particularly in smartphones and smartwatches for Western markets, remain on track. Encouragingly, these high-end consumer electronics have not been impacted by tight memory conditions. Our recently installed FPD masquerader is entering production. This tool is expected to maximize our opportunity in G8.6 AMOLED, which carries higher ASP mask layers and is anticipated to be more widely adopted later in the calendar year. We expect continued strength in the Korea FPD market ahead of this higher resolution upgrade cycle. Returning to IC, while we are observing some signs of order recovery, near-term visibility regarding the timing of certain design releases remains limited. For the medium and long term, secular demand trends remain positive, as highlighted at the beginning of my prepared remarks. We are excited about the benefits our expansion projects are expected to provide, with initial U.S. revenue anticipated late in fiscal 2026 and initial revenue from our Korea expansion by the end of fiscal 2027. Both expansion projects are expected to open additional leading-edge opportunities. I will now turn the call over to Eric to review our second quarter results and provide third quarter guidance.

Thank you, George. Good morning, everyone. Second quarter revenue came in at $210 million, roughly flat year-over-year and down sequentially following the strong performance in fiscal Q1 leading up to the Chinese New Year holiday. IC revenue of $148 million represented 70% of total revenue. High-end represented 38% of IC, while mainstream IC revenue was $91 million. Design releases and associated revenue, particularly from our Foundry customers, were shaped by several factors during the period. First, the semiconductor industry is currently experiencing higher-than-normal fab utilization rates. As a result, FABs have been unable to accommodate additional design releases from some of their customers because of this limited capacity. Additionally, many chip OEMs have prioritized revenue and profitability from existing products, which has led them to continue wafer production on current designs while delaying new releases. Second, the recent surge in memory prices and related supply constraints have contributed to delays in the launch of several new consumer electronic products, as OEMs have worked to secure memory supply and manage rising product costs. The final factor contributing to delays for design releases is geopolitical developments, including the U.S.-Iran conflict, which has increased microeconomic uncertainty. Looking ahead, we expect our capital investments in the U.S. and Korea to begin generating revenue at the end of 2026 and 2027, respectively. As the new capacity goes into full production, we expect our revenue mix in fiscals 2027 and 2028 to shift in two ways. By node towards high NIC and geographically towards the U.S. and Korea. These investments are consistent with our long-term strategy to further diversify our revenue mix by geography and technology node. Turning to FPD, fiscal Q2 revenue of $62 million increased 13% year-over-year and represented one of the strongest quarters in the history of our display business. Demand remained strong in the China market as activity shifted towards the high-end category. In Korea, we saw a re-acceleration of business activity as customers prepare for regularly scheduled consumer electronic launches this fall. We foresee accelerated display market growth over the next several years following the increasing trend of GA.6 AMOLED applications. Display market growth is concentrated in China and Korea, which are competitive strongholds for Photronics. Gross margin of 31% reflects the combination of operational leverage inherent in our financial model, driven by our significant fixed cost infrastructure, as well as product mix. Operating margin was 20%. Diluted gap EPS, attributable to Photronic shareholders, was $0.54 per share. Excluding foreign exchange impacts, non-gap diluted EPS was $0.42 per share. The strong performance of our display operations contributed to our earnings during the quarter. Operating cash flow of $47 million equates to a healthy 22% of revenue. CapEx was $46 million, reflecting investments in Korean expansions to support 8 nanometer production, the installation of new equipment in Allen, Texas, end-of-life tool upgrades, and facility optimization initiatives. As we have previously discussed, we have entered a period of elevated capital investments to drive future organic growth. Our initiatives in the U.S. and Korea, as endorsed by our customers, will further strengthen our ability to capitalize on growth trends, including surging AI applications, increased captive outsourcing, high-end node migrations, geographic diversification, and regionalizations. We maintain our fiscal 2026 CapEx guidance of $330 million with elevated CapEx focused on strategic investments in the U.S. and Korea, along with peak end-of-life tool upgrades. Given the favorable long-term secular growth outlook of the photomass market, we continue to evaluate additional investment opportunities to further support our strategic priorities and long-term growth objectives. We will provide additional details as appropriate if and when we decide to move forward with these potential projects. Total cash and short-term investments remain flat at $638 million, including $477 million held within our joint ventures, in which we hold a 50.01% ownership interest. Our capital allocation strategy remains focused on three priorities. Reinvestment in the business to support organic growth. pursuing strategic opportunities, and returning capital to shareholders. We will continue to evaluate the most effective use of our cash and remain disciplined and opportunistic in our capital allocation decisions, prioritizing investments that offer the highest expected returns. With respect to internal reinvestment, we will continue to emphasize projects that support future revenue growth and enhance long-term shareholder value. Before providing guidance, I'd like to remind you that demand for our product is inherently variable. Visibility remains limited with a typical backlog of only one to three weeks. Additionally, high-end mass sets carry significantly higher ASPs, meaning even a small number of orders can materially impact revenue and earnings. Demand is also influenced by IC and display design activity and to a lesser extent by wafer and panel capacity dynamics. Given current market conditions and the influence of elevated AI demand on fab utilization and, therefore, design starts, we expect fiscal Q3 revenue to be in the range of $207 to $215 million. Based on those revenue expectations in our operating model, we estimate fiscal Q3 operating margin between 18% and 20% and non-GAAP diluted EPS between $0.39 and $0.45 per share. I will now turn the call over to the operator for your questions

certainly as a reminder to ask a question please press star 11 on your telephone and wait for your name to be announced to withdraw your question please press star 11 again please stand by when we compile our Q&A roster and our first question will come from the line of Maxwell Michaelis of Lake Street Capital Market your line is open Maxwell

well. Hey, guys. Thanks for taking my questions. First one from me, in terms of visibility, when did things really start to get cloudy in the quarter? Just given the guidance for Q2, came in a little bit below that. So really, when did visibility become cloudy in the quarter?

Thanks. This is Eric. Thanks for the question. So it really started becoming cloudy when the conflict in in you know with Iran in the US then after that we we we started seeing fab utilization was also affecting us

Mac I'd like to comment more on this typically we have a very strong booking before a Chinese New Year and after Chinese New Year there will be a temporary slowdown in a so but this year the slowdown after Chinese is much longer than we anticipate of course the headwinds as George and Eric report highlight may be the factors causing this longer slowdown in a tap out after Chinese New Year. So we do see the slowdown right after Chinese New Year, which is in the end of February. End of February, okay. And then I guess my second question and follow-up to that would be

when you're talking to your customers, I mean, have they given you any sort of rough timeline of when

they expect to bring in these new designs or they still have no idea either? Our customers actually are still optimistic about a midterm outlook however in the near terms the visibility is remain kind of limit so we the we see a lot of delay in the table in Q2 however at the beginning of Q3 we did see the some recovery of those delay a lot of tape out have happened since the beginning of May however going forward we remain very cautious but at this moment customer stay optimistic about a midterm outlook okay I'll take the rest of mine offline thank you and

Our next question will be coming from the line of Ghoshy Shree of Singular Research. Your line is open, Ghoshy.

Good morning, gentlemen. Can you guys hear me?

Yes, we can.

Okay, thank you. I just wanted to get these customers that are deferring designs. Were they already in the pipeline, or is this more about new designs that are starting to slow down? And do those recovery times differ?

it's actually they are cut whenever customer make a new design they take out the data to the foundry fair then the foundry fair give the order to the mass house they select this time the new design slowdown actually happened at the end of the function customer namely the design house so the design house actually has the slower new cabal new design release so it's not in a pipeline it's a at a very beginning of the new

design release Eric on the modern compression side are there any specific levers you can guys can pull if the demand kind of stays soft for another couple of quarters? Are there any variable cost reductions available, or is it fundamentally a cost business that needs utilization to recover?

Yeah, very little. I mean, it's really the product mix that will be available that the market gives us is what Most of our costs is fixed, or a big portion of it anyway is very fixed, so we don't have much leverage to pull there.

Gotcha. And on the Allen side, so if the Allen qualifies, so if Allen begins delivering qualifications masks in Q3 as planned and the demand kind of stays soft until early 2027, does bringing the new Allen capacity online to a weak demand environment kind of adds depreciation cost making margins even more compressed or is there the allen cost structure kind of light enough at the qualification stage that doesn't mean to impact uh you know until commercial production

begins yeah so the allen the allen expansion already started uh we started qualifications already in q3 so everything is is moving you know according to uh we expect a revenue generation to occur later later in the year and we we do not expect that that you know the current economic environment will depress returns that we're expecting on our island expansion in the current year or in the next at the moment.

Gaussi, sorry, I'd like to add some comments to your question. Our island expansion is not only capacity expansion, we are upgrading our technology. So, the qualification basically is for the technology which Allen cannot do at this moment. So once we qualify the customer, I think we will increase our market share in the technology note which Allen cannot produce right now. also another purpose of Allen expansion is we are planning to transfer some lower end of the high end or the sorry the high end of the mainstream from our Boise side to Allen so we can spare more capacity in our Boise side to take higher SP orders so this is a win for Boise side and also a win for the

other side and in terms of the memory supply constraints and only on cost pressure headwinds I'm curious as to see whether you're seeing this evenly across your geography as well for example are your US customers Korean customers are behaving differently to your Chinese and Taiwan foundry customers in terms of differing designs or is it also possible fairly based across all regions yes the

memory shortage and especially also the price surgeon has huge negative impact on a consumer product especially the low-end consumer product so those are many in Asia. So I think this impact happened in Taiwan and also in China.

Gotcha. Thank you for the call. I'll jump back in the queue. Thank you.

And our next question. We'll come from the line of Christian Schwab of Craig Halem. Your line is

open, Christian. Yeah, great. Thanks. I understand the delays that you're seeing as design starts. And thanks for all that clarity. But as we increase our capacity capabilities on lower geometry node chips on a kind of a medium-term basis, can you give us an idea of either a yearly revenue target or a market share goal? And then my second question along those lines is, on the advanced node side, you know, is seven or eight nanometers the best that we're going to be able to make, or do we have aspirations to get down below that?

Eric here. In terms of our aspirations to go 8 nanometer, 7 nanometer, we're going to continue going down node. We have to do that because that's our industry. We have to continue investing, and we see a lot of opportunity there. Definitely, we plan to go below those ranges. Now, with respect to the revenue that we expect to get out of our island facility with our recent investments, I'm not going to get into detail of revenue by site from that perspective, but that should give us an opportunity to expand our market share in the U.S., And we expect the U.S. to be, at least in 27, to be heading us from a revenue expansion perspective. Our percentage of increase should be larger in the U.S. than anywhere else.

Great, thanks. We're working with customers to that end. Frank, maybe you'd like to elaborate.

Yes, George. I think our investment is not necessary for the capacity only because we are seeing a lot of ongoing, unsure semiconductor manufacturing in the States. And for Tronis, we are actually the very, we have a very unique, strong position in the country that because we have the Boise side where we have the very advanced photomask technology and also we have a added side where we can make a mainstream photomask so the capacity expansion and the technology upgrade by our capex is to serve our company's goal we like to be the main photomask supplier in the United States great thank you for that clarity no other

questions thank you and I would now like to turn the conference back to Ted for

closing remarks thank you Tanya and thanks everyone for joining us on the call today we really appreciate your interest in Fortronics look forward to connecting with everybody throughout the quarter have a great day and this

concludes today's program thank you for participating you may now disconnect