Good day, ladies and gentlemen, and welcome to the Axcelis Technologies Call to discuss the company's results for the Third Quarter of 2019. My name is Gigi and I will be your coordinator for today. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference.

[Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Mary Puma, President and CEO of Axcelis Technologies. Please proceed, ma'am..

Thank you, Gigi. With me today is Kevin Brewer, Executive Vice President and CFO; and Doug Lawson, Executive Vice President of Corporate Marketing and Strategy. If you have not seen a copy of our press release issued last night, it is available on our website. Playback service will also be available on our website as described in our press release.

Please note that comments made today about our expectations for future revenues, profits and other results are forward-looking statements under the SEC's Safe Harbor provision. These forward-looking statements are based on management's current expectations and are subject to the risks inherent in our business.

These risks are described in detail in our Form 10-K annual report and other SEC filings, which we urge you to review. Our actual results may differ materially from our current expectations. We do not assume any obligation to update these forward-looking statements. Axcelis has achieved five years of consecutive quarterly profits.

We believe Q3 to be the low point of the cycle and expect a gradual recovery. Based on this, we are also marking the first time we have maintained through-cycle profitability as a public company.

Our accomplishments provide a strong indication of the many successful changes we have made to our business to drive revenue growth and improve profitability. I would like to open this call by thanking our employees for all their hard work, dedication and ingenuity that has made this possible.

Revenue in the third quarter of $69.5 million was in line with guidance. Earnings per share of $0.02 was above the midpoint of guidance and well above consensus. Gross margins of 44% were above guidance driven by a significant mix of Purion product extensions.

Strong gross margins combined with continued tight spending controls allowed us to maintain profitability for the quarter. During the third quarter, memory accounted for just 14% of our shipments, with the majority of shipments 86% going to mature foundry logic customers, particularly the manufacturing power devices and image sensors.

The geographic mix of our system shipments in the third quarter was Korea 50%; China 31%; and Europe and the U.S. 19%. This breakout is reflective of a strong mature foundry logic mix in all of these regions including Korea. For the fourth quarter, we are forecasting revenues to increase by 33% to 44%, ranging from $92 million to $100 million.

We are also forecasting gross margins of approximately 38% driven by a systems mix that includes more base Purion H systems. We expect operating profit to range between $6 million and $9 million and EPS between $0.14 and $0.20.

We expect revenues in Q4 to rebound due to increasing activity in China and continued investment by mature foundry logic customers, particularly those with an emphasis on image sensors and power devices.

Although, we still expect the memory recovery to begin during the first half of 2020, we are seeing early signs of this pickup with approximately 40% of our Q4 revenue expected from the memory market, evenly split between NAND and DRAM.

Quote activity during the third quarter remained strong and bookings increased significantly for systems especially in the mature foundry logic segment. At our Investor Day in September, we introduced several new product extensions to the Purion family as well as a new $650 million target business model which Kevin will discuss.

All of the new Purion products focus on our customers' most challenging ion implant processes and were developed in close collaboration with customers. The new products were built on the common Purion platform, using our concurrent product development methodology.

This approach enables new products to come to market with higher quality and lower initial costs. The new products all target high-value implant challenges for our customers and as a result have higher ASPs than our base Purion products. Two of the new products are high energy implanters.

The high energy market has been increasing as a result of demand for multiple high energy implant steps in image sensor and powering device applications. This segment now accounts for 30% of the implant TAM.

The first of these two new products is the Purion XE silicon carbide, which addresses emerging high energy implant requirements in the silicon carbide power device market. This tool marries our Purion XE beam line to the common Purion end station and utilizes the silicon carbide option originally developed for our Purion M silicon carbide product.

The second high-energy product targets the most advanced image sensors. The Purion XEmax incorporates our new proprietary boost technology to deliver energy in excess of 12 MeV as well as the industry's lowest metal contamination. The next two products address critical areas in the high current market.

High current represents approximately 50% to 55% of the overall ion implant market and is the product segment we are targeting for significant growth. The Purion H200 addresses productivity issues customers face for high-dose implants requiring higher energies.

Silicon-powered devices as well as many mature foundry logic applications will see significant productivity and cost of ownership benefits from this new tool. The Purion H200 is a direct descendant of the original Purion H, now called the Purion H60.

It uses a modified Purion spot beam architecture designed to achieve higher energy levels combined with the common Purion end station. The last product is the Purion Dragon. Also built on the common Purion platform, the Purion Dragon uses a new beam line designed to deliver high levels of process control with significant productivity gains.

The Purion Dragon is targeted at advanced memory and advanced logic customers and was developed jointly with a leading memory customer. It is currently under evaluation in this customer's fab and is expected to successfully close in early 2020.

These new Purion products are designed to create a sustainable competitive differentiation to support our customers' technology and manufacturing needs for critical implant steps. The Purion Dragon and the Purion XE silicon carbide are at customer sites and the first Purion H200 and Purion XEmax systems are expected to ship over the next six months.

Now I'd like to turn it over to Kevin to discuss our financials..

Thank you, Mary. Our third quarter financial performance marked our 20th consecutive quarter of profitability. Given our view that Q4 is the beginning of a gradual industry recovery, this represents the first time as a public company that we were profitable through an industry cycle.

Our goal when the downturn began was to remain profitable, while making the necessary investments in the business, required to drive future growth. With disciplined spending and significant progress on gross margin improvement initiatives, we believe we have accomplished this.

Q3 gross margin of 44% was well above our guidance, driven by a more favorable mix of systems and CS&I. The aerobotic extension shipped during the quarter played a significant role in boosting our margins, as did a higher mix of upgrade sales. We are still projecting full year gross margin of 41% to 41.5%.

As we enter this upturn, I plan to continue to tightly control spending, while making any required investments expected to drive revenue growth. For our Investor Day on September 24, we updated our $550 million target business model by increasing gross margin to 42% to 43%.

We also added a new $650 million model, the gross margin of 44% to 45%, operating profit of 20% to 21% and free cash flow greater than 17%. During the event, we highlighted the expected positive impact on gross margin from the newly released products and our plan to elect cash increase to approximately $200 million to support the $650 million model.

Our balance sheet remains strong and in the quarter we generated $20 million of cash from operations. We have $21 million remaining under our share repurchase program and did not purchase any shares during the quarter. Now, I'll turn into third quarter financial results.

Q3 revenue finished at $69.5 million at the midpoint of our guidance compared to $74.3 million in Q2. The three system sales were $36.8 million compared to $37.2 million in Q2. Q3 CS&I revenue finished at $32.6 million, compared to $37.1 million in Q2 driven by lower used tool shipments.

Q3 sales to our top 10 customers accounted for 81.5% of our total sales compared to 78.6% in Q2, with two customers at 10% or above compared to four customers in Q2. Q3 system bookings were $80.2 million, compared to $25.2 million with a Q3 book-to-bill ratio of 2.22 versus 0.7 in Q2.

As Mary previously noted, this is reflective of the early signs of a recovery. Backlog in Q3, including deferred revenue finished at $93.4 million compared to $36 million in Q2. Q3 combined SG&A and R&D spending was $28.7 million or 41% of revenue compared to $29.7 million or 40% in Q2. SG&A in the quarter was $15.8 million with R&D at $12.9 million.

In Q4, we expect SG&A and R&D spending to be approximately $29.5 million. Q3 gross margin was 44% compared to 42.7% in Q2. Q3 gross margin was driven by a strong mix of Purion product extensions, CS&I upgrade sales and continued cost-out activity. We're guiding Q4 gross margin of approximately 38%, due to the less favorable mix.

As we have mentioned before, gross margins are a function of several factors such as the mix of products and the portion of our accretive CS&I businesses of total revenue. DRAM products also carry different margin profiles as highlighted in our investor presentation. Evaluation tools closed within the quarter and also pressure margins.

As a result of these factors, we expect to see variability from quarter-to-quarter. What remains key is, we continue to have solid execution on our gross margin improvement initiatives. Since the introduction of the full Purion product line, we have improved systems tenor margin nearly 2,100 basis points on a rolling four quarter average.

For the full year 2019, we expect gross margin to be approximately 41% to 41.5% as previously noted. Operating profit in Q3 finished at $1.9 million at the top end of our guidance compared to $2 million in Q2. We're guiding Q4 operating profit of $6 million to $9 million.

Q3 net income was $0.7 million or $0.02 per share and above the midpoint of guidance compared to $0.6 million also $0.02 per share in Q2. We're guiding Q4 earnings per share of $0.14 to $0.20. Q3 inventory ended at $138.4 million compared to $135.1 million in Q2.

Inventory in the quarter increased to support recovering new system shipments and planned evaluation tools. Q3 inventory turns excluding evaluation tools finished at 1.2, compared to 1.4 in Q2. Q3 accounts payable were $21.3 million compared to $21.8 million in Q2. Q3 receivables were $49 million, compared to $62.3 million in Q2.

Q3 cash finished at $162.2 million compared to $143.2 million in Q2. In the quarter, we generated $20 million of cash from operations. In Q3, we continued to make progress on our gross margin improvement road maps.

The introduction of four new products, combined with continuing work on our cost-out initiatives are expected to fuel additional gross margin improvement. We're continuing to invest in areas of the business that can drive top and bottom line growth as reflected in our $550 million and $650 million target business models.

These models along with additional materials and gross margin improvement initiatives and new products can be found in our investor presentation on the company website. Thank you. I'll now turn the call back to Mary for closing comments..

Thank you, Kevin. Axcelis is uniquely positioned with the capability, DNA and unwavering focus to solve customers' high-value, high-impact ion implantation challenges. Our new Purion products were developed to solve these difficult customer issues and we are excited to bring them to market at the perfect time, the beginning of a recovery.

Partnerships with customers and collaborations with peers continue to strengthen ensuring that Axcelis can offer a continuous stream of Purion products that will allow us to grow, prosper and achieve market share leadership in ion implantation. With that, I'd like to open it up for questions.

Gigi?.

[Operator Instructions] Your first question comes from Patrick Ho from Stifel. Your line is now open..

Thank you very much and congrats on the nice quarter. Mary, maybe first off in terms of the market environment you talked about memory coming back gradually and it's going to be a higher percentage of your overall revenues in the December quarter.

Do you believe this recovery is broader-based? Or is it concentrated primarily at one customer?.

No, I think it's definitely broader-based. We do see the beginnings of it as I mentioned given that 40%, we expect 40% of our revenues in Q4 to be from the memory sector and I think I mentioned that it's evenly split. That said we do believe that NAND will recover before DRAM will, but we do expect that it will continue through 2020.

Again, it will be gradual versus very steep.

We had a large memory customer here at Axcelis earlier this week, and that person shared with us that they also believe that NAND will recover first and said that – he said that his company is going to be reviewing plans at the end of this year to likely see spending begin at a more or pickup in Q2 of next year.

And again, he also suggested that there would be a gradual recovery. So we have data points from multiple customers at this point in time that give us confidence to say that it is starting, but it's going to take some time to pick up some steam..

Great. That's helpful. And maybe as a follow-up question for Kevin. You recently announced several new products and the extensions that you mentioned for specific application tools.

How are you maintaining the cost structure for these new products given that typically new products tend to have higher costs, lower margins, stuff like the higher warranty costs things of that nature? Are these designs set up where they'll end up with higher margins at the beginning of these new product cycles versus previous product introductions? And how do you – how do these products rep potentially impact your recent trend of posting 40% plus gross margin?.

Okay. So, the first thing I would say Patrick is that, all of the new product extensions that we've introduced as well as the new Dragon product are based on the common platform of Purion. So the good news there is that, if we're using a commonality we can take advantage of the cost-out activity we have already received from the existing products.

The second thing is the design phase, we're using a concurrent product development, and we're getting more input across the business upfront with the CPD initiatives.

So a lot of the supply chain work the lean activity when manufacturing is being considered right upfront which also helps keep the cost structure down, so that we're not chasing this like we typically do.

And I think that's what you're probably alluding to that, we've done a lot of value engineering over the years, but how do we get that in the products rep front. So we're definitely getting more cost out upfront. The third thing really is the pricing on the product extensions also is more favorable than our base products.

And one of the things that Mary mentioned in her remarks was that in Q4 we're seeing a very high mix of our base Purion H products. Those are not the extensions that we talked about at the Investor Day, it's base product.

So I think those are the things that are going to help us release these new products and not have the typical margin drag that we would have received with -- when we first introduced Purion, I guess, is the best way to say it..

Great. Thank you very much..

Okay. Thank you..

Thanks, Patrick..

Thank you. Our next question is from Craig Ellis from B. Riley FBR. Your line is now open..

Yeah. Thanks for taking the question and congratulations on the real significant improvement in trough cycle profitability major accomplishment there..

Thank you..

Mary very helpful to get some of your visibility on what you see coming with memory as we move more into a recovery. I'm wondering if you can focus on the mature boundary business and provide some similar color in terms of what you're seeing in the order book.

Has this backlog improved significantly quarter-on-quarter?.

Well, we're obviously still seeing additional growth in that segment. And since it is a significant contributor to the increase in revenues in Q4 and even beyond that we have a little bit of visibility into what's going to happen early in 2020. A lot of that is actually being driven by three things. First is China.

There's some significant spending growth in that region of the world. And although -- since our revenues typically are around 30%, and in the past we've said those revenues mainly come from the global semiconductor players, but we are seeing a significant increase in those revenues now coming from some of the domestic Chinese customers.

The other areas that are driving growth in mature process technology are image sensors and also power devices. Those segments for us remain very strong, as customers come online with additional capacity..

That's very helpful. And then a follow-up for Kevin just on the prior question, but taking it a different direction. So, tremendous gross margin in the third quarter, Kevin so congratulations on the progress there.

With regard to what we should expect with gross margin variability quarter-to-quarter as we move into the recovery, given that there may be some quarters where we have a real high quotient of Purion product extensions like 3Q, some quarters not, should we expect there to be more of the -- more meaningful swings in gross margin quarter-to-quarter like we're seeing from 3Q to 4Q? Or is the magnitude of change that we're seeing more unusual in our quarter-to-quarter gross margin moves more likely to be something smaller than what looks like 350 basis points quarter-to-quarter here in the back half of the year?.

Yeah. So, I guess, the best way to say is that, I would expect on a full year basis that we continue to make progress on our gross margins. And that's kind of been what we've been doing if you go back and look over the past few years. So going forward, there will be variability.

There will be quarters where there's -- we could be lopsided with eval tools. We do have a number of eval tools currently out to customers, so we plan to ship more. But I think Craig the way to think about it is on a full year basis, the goal is to continue to march these gross margins higher.

We do in the $550 million model have 42% to 43%, which I still think are realistic. I know we just demonstrated, we hit our $650 million model this quarter, but Q4 was a bit of a perfect storm in a good way. We had a lot of product extensions, and those really boosted the revenue level we had with some pretty good margins.

But I think the important thing, again, as I mentioned is that we're continuing to really focus on gross margin improvement. We have a number of improvement initiatives in place. We also know where these new products end, because we've -- I think we've done a really good job designing costs out upfront.

So, again, what I would expect is kind of gradual improvement from year-to-year as we march to the $550 million model..

That's helpful. Good luck team..

Thank you..

Yes. Thanks, Craig..

Thank you. [Operator Instructions] Your next question comes from Christian Schwab from Craig-Hallum. Your line is now open..

Hey, solid guidance.

Could you give us Mary some expectations about what you expect for market share gains over the next couple of years? And if there's anything in particular we should be paying attention to in the memory sector either on DRAM or NAND?.

Well, I think the best way to put our expectations into perspective are to look at the two business models that we have out there. We have the $550 million model, which we said is about two years out. And then we've got the $650 million business model dollar business model, which is four years to five years out.

And roughly speaking, the $550 million model is pegged to about a 40% market share and the $650 million is pegged to a 45% market share, again using a relatively flat TAM of $1 billion, which we've talked about many times before.

In terms of growth in memory, there are some additional areas and various customers that we would like to penetrate and we're working very hard on doing that. So it's really a function of understanding where customers are going and then understanding how we're going to penetrate with our Purion products into those specific applications.

We've talked about how we think it's a very realistic expectation to have 50% or more at any one of those given memory customers..

And I think Christian, the other thing to remember is the Purion Dragon is one of the new products and has really been targeted at that advanced memory market. So, we would expect to see growth there both from higher ASPs on the tool, as well as strong adoption of that for the increasingly difficult implant challenge on those nodes..

Great. No other questions. Thanks..

Thank you..

Yes. Thank you..

Your next question comes from David Duley from Steelhead Securities. Your line is now open..

Yeah. Thanks for taking my question. I guess a couple of things. Could you talk about the timing of revenue for this host of new products that you've introduced? I think you talked about when shipments were -- if you could just elaborate a little bit more and repeat whatever information you did give on that front.

And also you mentioned one of these products was joint, I guess, the one for high-end memory was joint-developed with a customer.

Does that come with some exclusivity with that particular customer? Or will you be able to sell that product to everybody else?.

Okay. So we talked about how we have two of the products out in the field. We've actually gotten revenue for the first Purion XE silicon carbide tool.

The Purion Dragon is at that customer you're referencing, and I'll talk about that in a minute where we did the joint development program under evaluation and we expect the evaluation to successfully close in early 2020.

And then for the other two tools, the Purion H200 and the Purion XEmax, we have customers lined up for first shipments within the next six months. So, those tools are going to start rolling out. We've got more than one customer interested in all of those tools, so we expect to get revenue.

As Kevin said, there are some additional evaluations we're going to put out, which is very normal with the rollout and launch of new tools, but we also will get some revenue from some of those tools in 2020. In terms of the joint development program with that customer, it was extremely successful.

It's a model that we definitely want to replicate, as we move forward and bring more product line extensions for the Purion family to market. There's no exclusivity with that customer.

Obviously, they have the first system, and they will likely get the first repeat orders, but no we're free to sell that tool to other customers and are actively marketing it around the world..

Okay.

And then as far as 2019, if you hit the midpoint of your guidance in Q4, where do you think your market share in implant will be?.

Well, we're going to need to see how the year ends to really project that. But based on the $1 billion market and TAM and the fact that memory's been very low this year, we would expect lower share this year given that much of the spend has been in advanced logic. And then for us it's been very highly put in the mature logic market, so….

Again, what we've been trying to do is refocus on the revenue growth, because it is very hard to estimate the TAM. So I'd like to kind of refocus you on the $550 million model and the $650 million model.

And based on what's going on in the market in which customers are buying and you know all the factors that roll into that we may have some ups and downs. But we're still very much on track with $550 million in two years and $650 million in four to five years..

Okay. Just final one for me. Could you just repeat what you expect operating expenses to be in the fourth quarter and up down as far the magnitude of dollars? Go ahead..

$29.5 million..

And that compares to what again?.

$28.7 million, I think it was..

Okay. And then as far as the mix in China going forward, China was a big chunk of revenue in the current quarter I imagine, it's going to continue to be at robust levels.

Are you seeing domestic Chinese memory spending in that total yet, or would that be something that happens next year?.

No we are seeing that currently and our expectation is that that will increase..

Okay, thank you..

Thanks..

Thanks..

Thank you. Your next question comes from Quinn Bolton from Needham & Company. Your line is now open..

Hi, guys. Nice job on the results and outlook. I just want to follow up on that last question about the indigenous China. As you look into the December quarter with 40% of the business shifting back to memory, is that largely driven by the indigenous Chinese memory guys, or are you seeing that broader-based? And a follow-on question.

As you talk to the memory customers especially on the NAND side and you see demand for a gradual recovery, is that kind of driven first by pilot line activity where you're seeing the orders now and then expectations that those pilot lines turn into full volume ramps at some point in 2020?.

Okay. So the memory that we're seeing in Q4 at this point in time is not being driven mainly by China, it's being driven by other memory customers. As I said before, we believe that the memory increase is going to be very much broad-based and that's what is currently reflected in our mix and what we can see out a quarter or so..

And as far as the indigenous Chinese companies, there's actually a very large number of them and there's new ones popping up every day. And so that's primarily mature with the exception of one large memory company over there. And then we do see continued activity from the large Chinese foundry that we consider more of a global player..

Okay, great. And then just that is the demand from the global memory folks today is that more pilot line activity, or do you think that this is the start of sort of capacity buys? And then my last question you've talked about the Dragon being co-developed in eval at that lead customer.

Wondering if there's a sort of data points or feedback you might be able to share from that customer as you're going through that eval process. Thank you..

Yes. So as far as dragging goes that eval process is going extremely well and the tool is performing as we expect. And we think it's going to be a very good product so customer is very pleased with it to date. As far as the memory market goes, I think it's a mix Quinn. Typically implant is brought in early in a ramp.

And so in this particular case, it's actually across several customers. And so as we see a lot of high energy goes in early and the initial high current needs to begin the ramp of the next node or the next generation of memory. And in this particular case, we've seen the business that we're expecting in Q4 split pretty evenly between DRAM and NAND.

So it's probably a combination of ramping for some capacity, but also preparing to ramp for the next generation..

Thank you..

Thanks..

Thank you..

Ma'am, you have no questions at this time. [Operator Instructions] This concludes the Q&A portion of the call. I will now turn the call back over to Mary Puma, who will make a few closing remarks..

Thank you, Gigi. We will be in New York City several times during the next few months. First, it's the Benchmark Discovery One-on-One Conference on December 4; next at D.A.'s annual New York City Summit on December 17; and finally, at the Needham 22nd Annual Growth Conference in mid-January.

We hope you can join us in New York for one of these events and also to take some time to enjoy the holiday season in the city. We will also be hosting the city research bus and semis bus tour at our headquarters in Beverly Massachusetts on December 12. Thank you for your support..