PLAB - NASDAQ

And hello, and welcome to Photronics fiscal first quarter 2025 financial results 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 one one on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star one one again. I would now like to turn the conference over to Ted Moreau. You may begin.

Thank you, operator. Good morning, everyone. Welcome to our review of Photronics' fiscal first quarter 2025 financial results. Joining me this morning are Frank Lee, CEO, Eric Rivera, CFO, and Chris Progler, CTO. The press release we issued earlier this morning, together with the presentation material that accompanies our remarks, are available on the Investor Relations section of our webpage. Comments made by any participants on today's call may include forward-looking statements that include such words as anticipate, believe, estimate, expect, forecast, and in our view. These forward-looking statements are subject to various risks and uncertainties and other factors that are difficult to predict. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, level of activity, performance, or achievements. We are under no duty to update any of the forward-looking statements after the date of the presentation to conform these statements to actual results. Photronics has provided additional information in its most recent Form 10-K and other subsequent reports filed with the SEC concerning factors that could cause actual results to differ materially. During the course of our discussion, we will refer to certain non-GAAP financial measures. These numbers may be useful for analysts, investors, and management to evaluate ongoing performance. Reconciliation of these metrics to GAAP financial results is provided in our presentation materials. I will now turn the call over to Frank.

Thank you, Ted, and good morning, everyone. We achieved first quarter sales of $212 million, in line with our expectation and normal seasonal trends. Diluted EPS of $0.52 was above the high end of guidance. And we once again delivered strong cash flow. Turning to our end markets, IC declined 2% year over year due to mainstream weakness in Asia and Europe, particularly at the older nodes within mainstream. For high-end IC, we have seen continued evidence of logic photomask node migration to 22 and 28 nanometer in Asia. Within IC, memory photomask demand also shows strength. FPD declined slightly year over year due to industry softness, though we saw brand demand from customers in China. Our industry-leading technology in FPD continues to win business, and our strategy to apply ICMOS technology to FPD helps us win market share. We recognized a milestone during Q1 as we received our first orders for G8.6 AMOLED displays. G8.6 requires more advanced and complex masks that have higher ASPs. Now I would like to discuss a few developments impacting the semiconductor industry. First, as the AI landscape evolves, we believe it will be a longer-term growth driver for the industry and for new AI tools. These tools have the potential to offer AI capability at a lower cost. They reduce the barrier of entry into AI, which drives new applications, requiring new devices and designs. Customer ICs serving this application will drive photomask demand, many at more advanced nodes that we service. At more mature nodes, AI drives the need for fast interconnects, including silicon photonics and advanced packaging. Second, the semiconductor industry may potentially incur increased costs from tariffs. For Chinese tariffs, our strategy to invest in regional capacity close to customer locations should buffer us from these potential costs. Therefore, we import very few masks into the United States and do not anticipate a meaningful impact on our business from tariffs. Fiscal 2025 started as expected in Q1 and demonstrated our technology leadership. Industry growth drivers in IC include node migration, regeneration, and custom design expansion, while product development and scale-up of display size are key for FPD. Further, our markets are benefiting from AI adoption and regionalization trends, where we leverage our competitive advantages in capability, cost, scale, and time to market. By working with our customers, we are carefully expanding capacity and capability in projected growth regions such as the United States to meet demand. These investments further strengthen our market leadership position, giving us confidence in our long-term outlook. I will now turn the call over to Eric to review our first quarter results and provide second-quarter guidance.

Thank you, Frank. Good morning, everyone. As Frank stated, our first quarter results were in line with expectations, with revenue of $212 million. Total revenue declined 5% sequentially, led by IC, which declined 6% quarter over quarter to $154 million. Within IC, mainstream declined 9%, reflecting the overall softness of the broader semiconductor industry. We did see pockets of strength within high-end. Sales generated out of our European facilities were weaker than anticipated, and this situation is expected to continue. Our IC business out of our facilities in Asia and the US also declined sequentially due to typical seasonality as expected, though US IC did exhibit strong year-over-year growth. Within IC, we continue to drive towards a greater mix of higher-end business with a focus on increasing our blended ASPs, demonstrating our execution. Fiscal year 2023, our high-end business represented 30% of ASPs, increasing to 36% in fiscal year 2024. For the first quarter of fiscal year 2025, our high-end business increased further to 39%. Within high-end, we saw particular strength in Q1 in the 14 to 22 nanometer geometry ranges. For our leading-edge IC mix, we recognized improved demand from memory customers. FPD revenue was stable both sequentially and year over year at $58 million. We are the market leader in FPD photomasks due to our technological superiority and manufacturing footprint. As a result, despite market headwinds, we have been able to maintain our revenues due to increasing market share. Our operating margin of 25% was at the high end of our guidance range. Gross margins declined slightly to 36% because of lower sales volumes. Continued prudent controls, along with lower severance and legal-related expenses and lower R&D, reduced OpEx by $2.9 million sequentially. Diluted GAAP EPS attributable to Photronics shareholders was $0.68 per share. After removing the impact of FX gains, fully diluted non-GAAP EPS attributable to Photronics shareholders was $0.52 per share, which was above the high end of our guidance. Our FX gain was an unrealized benefit primarily related to the impact of the strengthened US dollar on intercompany balances, cash, and accounts receivables held by our foreign subsidiaries. During the first quarter, we generated $78 million in operating cash flow, which represented 37% of total revenue. We continue to build on our strong cash balance, providing us with continued financial flexibility. CapEx was $35 million in the quarter. We remain committed to spending $200 million in CapEx in 2025 on a combination of capacity, capability, and end-of-life tool initiatives. This run rate is higher than typical to accommodate US expansion initiatives that are underway. I want to emphasize that our capacity expansion plans are driven by specific customer opportunities and go through a rigorous investment vetting process. These investments will strengthen our ability to support and win the most attractive photomask opportunities. Total cash at the end of the quarter was $642 million and remained relatively unchanged from the end of fiscal Q4, driven by CapEx, debt repayment, stock repurchases, and the effect of foreign currency exchange rate changes on our cash balances. We have a modest $3 million of debt remaining. Before providing guidance, I'll remind you that demand for our products is inherently uneven and difficult to predict, with limited visibility and a typical backlog of one to three weeks. In addition, ASPs for high-end assets are high, meaning a relatively low number of high-end orders can have a significant impact on our quarterly revenue and earnings. As we have highlighted previously, our business is influenced by IC and display design activity and, to a lesser degree, by wafer and panel capacity dynamics. With those qualifications, we expect second-quarter revenue to be in the range of $208 to $216 million. Based on those revenue expectations and our current operating model, we estimate non-GAAP earnings per share for the second quarter to be in the range of $0.44 to $0.50 per diluted share. This equates to an operating margin between 23% and 25%. Given current market conditions and our Q2 outlook, we're increasingly cautious about 2025. In order to continue to drive cash flow, we will continue to prudently manage costs. I will now turn the call over to the operator for your questions.

Thank you. Ladies and gentlemen, as a reminder, to ask a question, please press star one one on your telephone. To withdraw your question, please press star one one again. Please stand by while we compile the Q&A roster. Our first question comes from the line of Tom Diffely with DA Davidson. Your line is open.

Yes. Good morning. Thank you for letting me ask a few questions here. Maybe the first one for you, Frank. You know, the outlook is for basically flat quarter over quarter, and typically, we see roughly a 5% increase in the first or the second fiscal quarter, first quarter of the year. So I'm curious, you know, is it really just the mainstream in China that is the weakness? Is it, you know, just your ongoing lack of real visibility and conservatism, or what's behind this flat guidance?

Thank you, Tom. Business at the very low end of mainstream, mainly from the 6-inch wafer fab, has been weak. And we see no signs of recovery in the near future. And this is happening not only in Asia but also in Europe. Okay. Great. So I think this revenue is relatively small in our overall business, but it still has a negative impact on our revenue and revenue outlook. So I think at this moment, we are cautious. However, the long-term outlook, we still believe it's positive, and we will continue to focus and leverage our competitive strength on the high end to improve our blended ASP. So I believe Q2 has more at this moment, our forecast is flat, but I think the overall economic remains kind of uncertain. So I believe by the end of Q2, we may have a much clearer picture of fiscal 2025.

Okay. That makes sense. If I could just dig in a little deeper on the mainstream business then, you know, obviously, over the last few years, the demand levels in the supply-demand equation in mainstream were very beneficial to you. You had nice margin expansion in that space. So just curious, how do you look at the supply-demand equation today in mainstream? And what are you seeing from a pricing basis? Is the pricing strength gone away? Are you seeing some weakness quarter over quarter? How would you characterize the mainstream business right now?

Okay. We keep our pricing firm. We do not lower our price in the mainstream. However, the overall pie of the mainstream business at this moment seems to be smaller. I believe it's due to the weakness in automotive and maybe industrial applications. As I highlighted, most edge and 6-inch wafer fab utilization is relatively low. So it does have some impact on our low-end mainstream business.

Okay. Maybe just one last question on the mainstream. Are you seeing increased competition from local Chinese suppliers for masks?

Yes. We do see increasing competition. However, our focus in China is on the middle and high end of our business, such as 55 nanometer, 40, and 28. So we shift most of our business to these segments, such that our blended ASP in China still keeps a good and stable high range. So there is more competition from local Chinese mask makers in the low end of the mainstream. That is not our focus. So we are going to the more profitable and higher-priced segment of the business in China.

Great. Appreciate the extra color there, Frank. Maybe just a quick question for Chris then. Congratulations on the new Gen 8.6 AMOLED screen. What were the challenges to get to that larger screen size or panel size?

Yeah. Thanks, Tom. Appreciate it. You know, the specs for the AMOLED masks, which prior to this had been all Gen 6 and Gen 6.5, are the tightest among our FPD products. So we had to scale those specs up to the much larger substrate size, Gen 8.6. So it's kind of spec scaling, uniformity, all the mask parameters had to scale up to those larger substrates, which is quite difficult. The second thing is the integration of the mask onto the blank. We use some advanced, as you mentioned in the comments to the call, some IC-like technology in our FPD masks, things that people call phase shift and other things that are common in IC. We use that in our FPD technology. Scaling that up to Gen 8.6 also was a challenge. So we met those. We've been working on Gen 8.6 scale-up by now for almost a year. So we were kind of ready for this, and it's really in good coordination with the customer. We had lots of test masks and pilots ahead. So I would not say we're struggling with yield or execution or delivery from here. So as the business grows, we should be able to scale that product line up nicely.

And how big do you expect that to be inside of your flat panel business over the next few quarters?

I don't think we would prefer not to comment on that. I think just to suffice to say so far, it's been more than a single order, and it's connected with fab projects that are production level. So these aren't just prototype masks or pilot masks. They were masks used for potential production of AMOLED for larger format displays, particularly things like laptops. So they are production applications, and the fabs they're going into have the possibility to scale to serious panel production for volume products. But beyond that, I think it'd be a little too early to put a scale on it.

Okay. Appreciate it, Chris. And then, Eric, looking at the balance sheet, obviously, really strong cash position. You know, there is going to be $200 million of spending in CapEx this year. But it seems like there's still plenty of cash for a more aggressive buyback. What is your mindset on buybacks versus, I know at one point, a year or two ago, you guys talked about potentially keeping a war chest for acquisitions. But what is your thought process on the balance sheet right now?

Well, thanks, Tom. So with respect to the balance sheet, our capital allocation strategy really hasn't changed, which is the first is, like, three bullet points. The first one being just normal CapEx. And the second and third options are toggles, the second one being M&A activities or, in the lack of them, then we would do share repurchases. During the quarter, we certainly repurchased some shares. And in terms of what do we see going forward, given the current macroeconomic conditions and the geopolitical environment, at the moment, we are being a little cautious, but we certainly do have the war chest, as you described it, to be able to act quickly if the right opportunity comes along with respect to an M&A transaction. We're not going to just do an M&A transaction to use up our cash or to purchase kind of buy revenues, if you will. We will only do that if it's accretive to the company. Likewise, we'll be aggressive with share repurchases if we see that the environment is favorable to do so at the right time. So this is something that we do look at on a consistent basis. The board and management team, we are aware, obviously, of the cash balance that we have, and we're consistently monitoring and looking for the best way to deploy that.

Great. And what is your current authorization for buybacks?

We have a $100 million authorization.

Okay. Great. And then the final question overall, oh, go ahead.

I'm sorry. Go ahead.

Well, I was just going to say the final question overall is, it looks like node migration, getting more business of the 22, 28 nanometer node, is going to be a big driver over the next year. Just kind of curious where, you know, anything you could say about your current capacity there and how much capacity you'll be adding with this $200 million of capital spending this year?

Yeah. So the capital spending that we have this year would be, as I think we mentioned previously, it's normal CapEx that we have plus, you know, the increase from the normal $200 million is essentially for the US. So of support that we can get from our customers in our industry. And that's what we have. And as such, we feel comfortable investing the amount that we're planning to invest here in the United States. Does that address your question? And I apologize. It didn't go through. I was kind of looking for, see if there's any, what was that, what was the part of that expansion that's kind of tied to the CHIPS Act versus kind of the organic demand?

So that would be organic demand. So for the most part, with respect to the CHIPS Act, that's not necessarily contemplated. This is not back at this time.

Okay.

Yeah. If your question is how much is the capacity reporting in particular in the US linked to customers that are getting funding through the CHIPS Act, it's not a significant part. Most of the projects we're tracking in the states are projects that we believe would proceed with or without CHIPS funding. So we don't see a lot of, let's say, risk in the ones that we are tracking that are connected to those customers getting CHIPS funding. We also have, we've reported, applied for CHIPS funding under the second NOFO, the small part NOFO. Applications are still under consideration. But the current investments we're contemplating and talking about here are being done separate and apart from what we'd invest additionally with the CHIPS opportunity.

Gotcha. In terms of the node migration to 22, 28, how much of that demand do you think is going to, is that, how is the 14 and then the EUV compatible mask trending? Are you seeing any increased traction or increase from the AI designs of peripheral chips, the customers?

Yeah. We see mostly, you know, AI-driven business for us. We see mostly adjacent or second-order effects from AI. So, and we, I would say we see some of that in different regions around the world. These are support chips for the AI ecosystem, designs of new chips for edge devices and things like that that can take advantage of the AI ecosystem. I think we are definitely seeing some pull from those applications. Not really appropriate to quantify it, but it is a positive trend in our IC business. But on the memory side, we mentioned that, you know, memory is a relatively small part of our IC business, but it was one of the stronger growing segments. That is connected also to AI demand and cloud demand and that sort of thing. So we're definitely seeing a lift from that application driver, and we expect that to continue to grow as we look ahead in future quarters and years.

So post-2026, as the full capacity of your CapEx comes into line, do you see, do you have an idea what percentage of the high-end IC revenue might be tied to supporting that AI infrastructure?

I don't think we would say, you know, what percent of our high-end revenue at that time would be AI-driven. So it's difficult to say. I mean, I think it will be a significant part, but we probably would not be wise to put a specific percent on it at this point.

Okay. In terms of the auto industry, auto and industrial softness, it kind of persisted for multiple sectors, quarters now. Any sign of inventory restocking or new design wins in these sectors, you know, for your mainstream?

I mean, I can make another comment on that. Maybe Frank or Eric could follow up. But I would say it still looks fairly weak in that market. Usually, the automotive market, there's units, you know, are down, and there is some ASP pressure because the end users are struggling. So that always drives some ASP pressure, and I would say at the moment, we don't see significant uptick. You know, maybe we'd say some stabilization. It's not dropping significantly from where it is. But as far as a big turnaround in the automotive sector, I don't believe we're really seeing it at this point. In China, and Frank could probably comment further, there is more activity going on in automotive design. Some portion of that is government-backed and government-funded. But still, the supply-demand situation is not really healthy. Also in China on the automotive side.

Yes. Correct. I see the design activity seems to decrease in these two segments at this moment. So I believe the end product business softness impacts the new shield design.

Okay. In terms of geographic mix for driving H2, how are you guys thinking about the tariffs, the subsidies impacting regional pricing?

I'm sorry. Could you, if you don't mind repeating the question, I'm not sure it came through.

It says, in terms of how, you know, as we think about H2 of 2025, you know, and the geographic mix, how do you look at the geopolitical landscape and how does that impact the regional pricing?

Oh, I see. I see. Thanks again for the question. For being the question, actually. So, you know, given the current macro and geopolitical conditions, actually, we, you know, we're increasingly cautious. So we don't have a great visibility at the moment as to how the second half is going to be. We, you know, we expect to have a better picture in Q2. But, you know, the question is a great one. It's just that the current environment doesn't allow us to see what that is at the moment.

Okay. And as we model for fiscal 2025, are we looking at R&D costs declining as the project qualifications kind of taper off?

I think I would best describe it as probably, I mean, we don't have a great picture, as I mentioned right now, as to how the second half is going to be. But at the moment, if I just were to comment on what we see at the moment, we definitely don't see it, you know, increasing. So I think if we take that position of at least stable, that would be the best thing I can give you a comment on. And in the past, with respect to OpEx, we do expect OpEx to be about 10% of revenue going forward. That's our target.

And yeah, of course, just generally, on the qualification side, just to, you know, make a comment, the goal, of course, is as we complete one set of qualifications, start new ones after those. So I agree, you know, just to support and second Eric's comment. I think, you know, a steady-state sort of picture is probably a pretty good way to look at the R&D.

Okay. And in terms of outlook, what would you say were your top two risks for 2025 with the macro demand, the geopolitical tensions, or customer delays?

Yeah. I would say I think you hit them all, but to answer your question, the top two, I would say the macroeconomic and the geopolitical.

Okay. That's all I had. Thank you, guys, for taking my questions. Good luck.

Of course. Thank you.

Ladies and gentlemen, I'm showing no further questions in the queue. I would now like to turn the call back over to Ted for closing remarks.

Thank you, Joanna, and thank you, everyone, for joining us today. We appreciate your interest in Photronics. We look forward to catching up with everyone over the coming days and weeks. Have a great day.