Ultra Clean Holdings, Inc. (UCTT) Q1 2023 Earnings Call Transcript

Good day, and welcome to the Ultra Clean First Quarter 2023 Earnings Call and Webcast. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Ronda Bennetto, Investor Relations. Please go ahead.

Thank you, operator. Good afternoon, everyone, and thank you for joining us. With me today are Jim Scholhamer, Chief Executive Officer; and Sheri Savage, Chief Financial Officer. Jim will begin with some prepared remarks about the business, and Sheri will follow with the financial review. Then we'll open up the call for questions. Today's call contains forward-looking statements that are subject to risks and uncertainties. For more information, please refer to the Risk Factors section in our SEC filings. All forward-looking statements are based on estimates, projections and assumptions as of today, and we assume no obligation to update them after this call. Discussion of our financial results will be presented on a non-GAAP basis. A reconciliation of GAAP to non-GAAP can be found in today's press release posted on our website. And with that, I'd like to turn the call over to Jim. Jim?

Thank you, Rhonda, and good afternoon, everyone. Thank you for joining us for our first quarter 2023 conference call and webcast. I'll start with a high-level overview of the first quarter that Sheri will expand on in her comments and follow that with the steps we are taking to manage through this downturn and conclude with our view on the longer-term prospects of our industry. As expected, industry demand remained under pressure in the first quarter, as OEM customers continue to cancel or push out orders against a backdrop of inventory surplus and ongoing geopolitical and macroeconomic uncertainty. End market demand remains weak. Therefore, UCT's revenue is likely to remain constrained in this environment. Pulling from our playbook from the last downturn, we are focused on aligning our operational efficiencies and cost structure with the prevailing business environment. Our objective is twofold; to mitigate the impact of the downturn as much as possible, and prepare to outperform the market again during the next expansion phase. While we are slowing down some of our global capacity expansions in both products and services to align with our customers' roadmap, we are moving some projects forward to be ready for the inevitable ramp in volume that follows every semiconductor downturn. We saw growth in our fluid solutions business in the first quarter and continue to expand production in our Malaysia plan, which will improve our profitability and deliver performance down the road. In the services business, we are developing higher value solutions, such as special yield enhancing part coatings and cleaning methods to support ongoing node transitions. We are one of the few large purely semiconductor focused manufacturers with the proven ability to support the dynamic product demand and stringent quality levels required for advanced chip manufacturing. We are extremely confident about the industry's upward trajectory over the long term, driven by emerging key sectors such as automotive and industrial automation, high-performance computing, and especially for artificial intelligence and machine learning. To add some perspective, today's average electric car has double the chips of a non-electric vehicle. Even more impressive is the phenomenal growth of Microsoft's AI ChatGPT which requires massive amounts of memory and data processing chip technology. When launched last November, it attracted 1 million registered users in just five days and only two months later, it had registered more than 100 million users. It is by far the fastest growing chip-dependent consumer application in history. Leading edge technologies like this are in the very early stages of widespread deployment, and have only touched on the exponential growth and commercial use cases which should drive the semiconductor industry towards the $1 trillion mark this decade. While it feels like we are in the doldrums at the moment, we believe it is temporary and we couldn't be more excited about the future. UCT has been enabling technology and supporting the lifecycle of chip manufacturing for over 30 years. We indirectly touch nearly every chip on the planet and are ideally positioned with the expertise and capacity to fully capitalize on opportunities during the next upturn. I would like to thank our employees and our shareholders for their continued support through all our phases, and I look forward to updating you on our next call. With that, I'll turn the call over to Sheri.

Thanks, Jim, and good afternoon, everyone. Thanks for joining us. In today's discussion, I will be referring to non-GAAP numbers only. As Jim noted, the abrupt industry downturn that started late in Q4 carried over to Q1 as customers continue to push out and cancel orders. We have implemented cost-saving initiatives and our top priorities are to protect profitability and generate cash on reduced revenue while keeping in mind the industry will recover. Total revenue for the first quarter came in at $433.3 million compared to $566.4 million in the prior quarter. Products Division revenue was $368.6 million compared to $499.5 million last quarter. And revenue from our Service Division was $64.7 million compared to $66.9 million in Q4. Total gross margin for the quarter was 17.3% compared to 19.5% last quarter. Products gross margin was 14.7% compared to 17.7% in the prior quarter, and Services was 31.7% compared to 33.5% in Q4. The declining Q1 can be attributed to lower volumes and product mix. We are continuing to focus on cost improvements to strengthen profitability. Operating expenses for the quarter were $52.7 million compared with $53.8 million in Q4. As a percentage of revenue, operating expenses were 12.2% compared to 9.5% in the prior quarter. Total operating margin for the quarter was 5.1% compared to 10% in the fourth quarter. Margin from our Products Division was 4.1% compared to 9.9% in the prior quarter, and Services margin was 10.8% compared to 11.3% in the prior quarter. The reduction in margins was due mainly to decreased efficiencies on lower volume and product mix and some higher year-end related expenses. Many of the cost reduction initiatives we have implemented, some of which were initiated late in the quarter, can take time to reflect in our financial results. Based on 44.8 million shares outstanding, earnings per share for the quarter were $0.17 on net income of $7.6 million compared to $0.93 on net income of $42.6 million in the prior quarter. Our tax rate for the quarter was 16% compared to 13.7% last quarter. We expect our tax rate for 2023 to stay in the mid to high teens. Turning to the balance sheet, our cash and cash equivalents were $322.1 million at the end of the first quarter compared to $358.8 million last quarter. Cash from operations was $28 million compared to an outflow of $38.8 million in the prior quarter, driven primarily by improvements in working capital. The effective management of our working capital continues to be an important focus, especially in the current phase of the cycle. During the quarter, we made an additional debt payment of $20 million and repurchased 433,000 shares at a cost of $14.2 million. Given the current dynamic state of the industry, we are keeping our guidance range wide. We project total revenue for the second quarter of 2023 between $410 million and $460 million. We expect EPS in the range of $0.15 to $0.35. And with that, I'd like to turn the call over to the operator for questions.

We will now begin the question-and-answer session. Our first question comes from Quinn Bolton with Needham. Please go ahead.

Yes, hi. This is Trevor on behalf of Quinn. Thanks for letting me hop on. So, last quarter, you noted that without the $30 million impact to revenue guidance for the first quarter would have been around $450 million, and then stabilize around that figure through '23. And now with Lam and ASMI stating that memory is weaker than expected and that foundry logic outlook has slightly weakened as well. Do you see that $435 million guidance midpoint as the new baseline? And then also how much of that 30 million impact falls into Q2?

Yes. Hi, Trevor. Short answer is yes, that's probably a new baseline. What we saw in the first quarter, we were able to make up a lot of that $30 million that we thought was going to move out of the quarter due to that supplier issue. But we did see further drops from two of our customers unexpectedly that did happen, some push outs and cancellations within that quarter. So that's why we ended up roughly where we expected in Q1. But that's kind of a little bit of a notch down that we had occurred in orders in Q1. We expect that will carry forward. So yes, this is roughly the new baseline is where we are right now.

Okay. I guess based off that, with most of the 30 million falling into 1Q, could we possibly see a half-over-half increase in the second half with most of the demand coming in towards the end of the year? I guess any positioning thinking about 2023 would be helpful.

No. As I said on the last call, we expect things to be relatively constant through the year. So that’s our expectation. And we're not forecasting the second half. If there were any movements from that, I think it's more likely that it could be up versus down. But our outlook right now is relatively flat through the year.

Okay. And if I can sneak one more in. So with mature spending continuing to be robust, particularly in China, I'm wondering if you can quantify your exposure to both the leading edge and mature markets, any color there would be awesome as well?

Sure, a lot of our products are used for both leading edge and legacy applications, so we don't have a breakdown available. When we manufacture a module, it can be utilized in either a leading edge tool or a trailing edge tool. Our sales directly to China amount to approximately $20 million each quarter. However, we find it challenging to determine the specific applications the customers use our products for. That said, some of the strength in our performance has contributed to stabilizing our current position.

Yes, that's understandable. Well, thank you. I'll hop back in queue.

Thanks, Trevor.

The next question comes from Christian Schwab with Craig-Hallum Capital Group. Please go ahead.

Hi. Thanks. So if we look to the recovery, I assume you kind of think it will probably run like Lam highlighted where first we have utilization rates go up, you should see that in your Quantum business and memory and then we'll do some upgrades, and then capital equipment will kick in? Is that kind of the way you guys are thinking about it?

Yes, definitely, Christian. And this go around, there's a bit of finished goods inventory on our customers’ side as well. So that will create an additional bit of lag, even after wafer starts start to go up, I think there needs to be a little bit more flush through of finished goods from our customers, the equipment makers.

Okay. So if we get towards the tail end of this year, beginning of next year and begin to see a capital equipment recovery cycle, you would still maybe have a quarter lag or so versus maybe say your two largest customers, AMAT and Lam, if we saw a recovery. Is that the right way to think about it?

Yes, I believe it will take about a quarter at most. We are witnessing efforts on their part to reduce their inventory throughout this year, and this is impacting our results this year. So I hope the delay will be mostly just a quarter, and ideally even shorter.

Okay, great. No other questions. Thank you.

Thank you, Christian.

Our next question comes from Krish Sankar with Cowen. Please go ahead.

Hi. This is Rob Mertens on behalf of Krish. Thanks for taking my question. I guess just in terms of last quarter when you were talking about seeing the industry downturn sort of later in the quarter with customers either push-out orders or cancelling, could you just provide a little bit more detail into the timing of these orders or cancellations that you've seen? And how this has progressed through the most recent quarter? Is that something that's sort of worsening, or you're expecting more of a steady state from your guidance? Thanks?

We did notice a slight decline, which we managed to resolve by addressing some supplier issues. This decline appeared around the middle of the quarter and was primarily due to one of the OEM manufacturers that had not yet processed many push-outs. It seemed more like a delay resulting from actions taken in late November that took extra time to clear up by the end of January. Since then, things have remained relatively stable, and we do not anticipate significant changes in that area moving forward.

Great, thank you. That's helpful. And then just in terms of inventory levels at your major customers I know you mentioned a little bit, but just sort of if you had any guidance into when you might expect to see more of a balance there. Would that be something that the back half of the year or potentially further out?

Typically, our customers do not keep a large inventory of the products we manufacture. This situation is somewhat unusual due to the abrupt downturn we experienced at the end of November. We usually do not produce items like power supplies or standard components that are stored for long periods. As a result, customers are currently reducing their inventory, which is affecting our revenue. We anticipate that this drawdown will continue throughout the year. As I mentioned earlier, we hope to return to more normal levels by the end of the year, minimizing the finished goods inventory between us and the OEM customers. However, it is difficult to predict. TechInsights has a comprehensive report detailing inventory levels at both the OEM and subsystem levels, which clearly illustrates the inventory challenges as of the end of 2022. I look forward to the upcoming data, but I expect to see inventory levels start to decline in 2023, ideally clearing out in the second half of the year.

Got it. Thank you. That's helpful.

This concludes our question-and-answer session. I would like to turn the conference over to Jim Scholhamer for any closing remarks.

Thank you, everyone, for joining us today and we look forward to speaking with you again next quarter.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.