Jeffrey Jones - VP, Finance & CFO Luis Müller - President & CEO.

Edwin Mok - Needham & Company.

Greetings, and welcome to the Cohu Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr.

Jeff Jones, Chief Financial Officer. Please go ahead sir..

Good afternoon and welcome to our discussion of Cohu’s most recent financial results. I am joined today by our President and CEO, Luis Müller. Following our opening remarks, we’ll provide details of our performance for second quarter of 2016 as well as our outlook for the third quarter of the year.

If you need a copy of our earnings release, you may obtain one from our website cohu.com or by contacting Cohu Investor Relations. Before we begin, you should all be aware that during the course of this conference call, we will make forward-looking statements reflecting management’s current expectations concerning the company’s future business.

These statements are based on current information that we have assessed, but which by its nature is subject to rapid and even abrupt changes.

Forward-looking statements include our comments regarding the company’s expectations for industry conditions, future operations, financial results, market share gains, expansion into new markets, and any comments we make about the company’s future in response to your questions.

Our comments speak only as of today, July 28, 2016 and the company assumes no obligation to update these comments. We encourage you to review the forward-looking statement section of our earnings release as well as Cohu’s filings with the Securities and Exchange Commission, including the most recently filed Form 10-K and Form 10-Q.

Cohu assumes no obligation to update these statements as a result of developments occurring after this call. Further, our comments and responses to any questions will not make reference to any specific customers, as we are precluded from disclosing such information by our non-disclosure agreements. Now I’ll turn it over to Luis..

Thanks, Jeff and good afternoon everyone. In the second quarter of 2016, Cohu delivered solid financial results and better than forecasted profitability. Sales increased 16% sequentially to $76.4 million.

Measured test sub utilization across installed base, gained a couple points to 84% and we secured the first quarter from a market leading Korean semiconductor that manufacture our Eclipse pick-and-place handler.

At over 50% of total system orders, automotive and industrial is having a very strong comeback after a pause last year due to mergers and consolidation in the industry. We received a repeat volume orders from our first quarter customer design win for our matrix pick-and-place handler that is projected to drive share gains this year.

Trends in the segment particularly in automotive drove demand for all our handler technologies and MEMS modules for testing sensors. We secured a new application with our strip handler displacing a competitor’s gravity platform. We expect continued momentum in the automotive segment for the remaining of the year.

Mobility and communications was 35% of system orders and particularly strong for turret business. These systems are used for test and inspection of analog semiconductors typically RF, power and management ICs.

We recorded the first volume sale of the new 32 position third platform at large European and Japanese based customers replacing one of our older generation systems. Also in the second quarter, we received the first volume order from a business that merged with our current customer that gave us an opportunity to expand turret market share.

25% of our current orders in the second quarter were dedicated to vision inspection without electrical test. This reinforces the success of our vision technology investments that are helping penetrate a more diversified 100 million segment of the market.

Overall, our turret acquisition from early 2013 has delivered substantial sales growth and has proven to be highly synergistic. In the process for test side of the mobility market, we received repeat orders for the Eclipse handler from a leading fabulous customer and a repeat order though smaller than expect for thermal subsystems.

The recent announcements of declining smartphone sales by a leading U.S. manufacturer is affecting near term demand for these thermal subsystems.

As mentioned last quarter, we are in development of an integrated system level test platform combining our thermal and automation capabilities that we expect to deliver 5 million to 10 million of incremental sales next year extending our product offering beyond traditional final test of mobile processes.

Computing had a strong shipment quarter but as we previously noted we are approaching the end of a booming cycle and expect limited demand during the second half of this year. Our largest customer has just completed an acquisition and select at the thermo handler as the standard platform for the newly acquired business.

Once again, we benefit from a consolidating customer landscape. In solid-state lighting we have repeat orders from a key European customer for our turret platforms giving continuity to a business that has grown to represent close to 10% of our sales.

Our contact to business had a sequential 18% increase in orders as we continue to gain traction across digital, analog power in RF applications at various customers. We have several new products and customer evaluations underway that we expect to convert in the coming months, growing our less volatile, higher margin recurring business.

We are seeing some near term reduced demand in computing and mobile processor test that is being offset by strength in automotives, solid-state lighting and mobile RF with turret handlers. We are benefitting from our broad and diversified product line in markets and project to end this year with a couple of points share gain.

We also forecast double digit growth in test contractors and we are projecting 15 million to 30 million incremental revenue from our wafer level package and system level test platforms starting in the first half of next year. Let me turn it over to Jeff for further details on our second quarter financial results and third quarter guidance..

Thanks, Luis. Overall our results for the quarter were better than forecasted and Q2 represents Cohu's tenth consecutive quarter of non-GAAP profitability. The financial results were in line with our financial model generating adjusted EBITDA of $8 million and cash from operations of $7.4 million.

In Q2, the GAAP to non-GAAP adjustments include approximately $1.7 million of stock based compensation expense, $1.8 million of purchased intangible amortization expense and $276,000 of restructuring costs. My comments are based on Cohu’s non-GAAP results which exclude the impact of these items.

A reconciliation of non-GAAP measures to equivalent GAAP measures can be found in our earnings release located on the investor information section of Cohu’s website. Unless otherwise noted all amounts discussed on this call are from continuing operations.

Sales for the quarter were $76.4 million, higher than guidance due to an increase in demand for our handlers particularly from customers in the automotive market. One customer in the computing market represented 10% or more of sales.

Q2 gross margin was at the high end of our forecast at 37% extending from lower product cost as a result of better cost absorption than on our Malaysian manufacturing operation. Operating expense was $21.1 million higher than our estimate resulting mainly from our deferred compensation market adjustment, a small foreign exchange loss as the U.S.

dollar declined slightly against foreign currencies we operate in. We also had an increase in variable selling expenses and cost related to our ERP alignment projects that were accelerated into Q2 from the second half of the and this is timing impact only and will not affect the total projected 2016 cost.

Q2 effective tax rate on income from continuing operations was 17.4% and year-to-date effective tax rate is 20.4% and tracking to our projected rate of 22% for 2016. Collections were strong in Q2 and accounts receivable decreased sequentially despite shipments increasing by $8 million quarter-over-quarter. DSO improved by eight days to eighty one.

The inventory balance also decreased sequentially improving inventory days to 98 and our overall cash conversion cycle improved by nine days to 124. Fixed asset additions in Q2 were approximately $900,000 and depreciation for the second quarter was also approximately $900,000.

Deferred profit at June was $6.9 million, that’s up $1.3 million quarter-over-quarter, and the related deferred revenue at the end of Q2 was $9.9 million, that's up $2.6 million sequentially. Cohu's Directors approved a quarterly cash dividend of $0.06 per share payable on October 21, 2016 to shareholders of record on August 26, 2016.

And now moving to our guidance for Q3, sales will be approximately $68 million reflecting seasonally strong demand from automotive and mobile RF markets and some reductions in near term demand from the computing and mobile processor test markets.

We expect Q3 gross margin to be approximately 35% which is in line with our financial model at this level of revenue. Operating expenses for the third quarter are also expected to be in line with our financial model at approximately $20 million including roughly $450,000 related to our global ERP alignment project.

Q3 R&D expense will include new product development cost related to the opportunities Luis referred to and WLT [ph] and system level test with initial product delivery starting late this year and volume in the first half of next year. We expect R&D expense in Q3 and Q4 to be comparable to Q2. That concludes our prepared remarks.

And now we'll take your questions..

Hi, this is Brian calling in for Patrick. Thank you for letting me ask a question..

Hi Brian..

Maybe first if we go back [Indiscernible] and something you discussed in the prepared remarks. I think I heard you say that in the first half of next year you expect $15 million of $30 million of incremental new product revenues.

So is that basically taking the prior $10 million to $20 million wafer WLT prober revenue [Indiscernible] 5 to 10 to the system level test. That's my first part of the question..

Yes, Brian. That’s correct. Because the numbers we quoted here were related to the wafer level package prober and via system level test platform..

Okay. Thanks. And second about that revenue stream, you know correct me if I'm wrong.

But generally speaking new products tend to carry lower initial gross margins due to higher warranty and after sales support cost? So, I guess my question is, do you expect that situation to play out initially here and can you give us any guidance in terms of what that drag would represent, and also whether you plan to manufacture those platforms initially in San Diego or Asia?.

So, I'll take those questions, Brian. We will start with the last half of that. We plan to move the production -- the volume production of those units into Malaysia and that’s also a big reason and why we're not expecting to see a drag on the gross margin after these products were launched.

So we're going to build the first unit, first two to three units and one of our development center is most likely Germany for one product, San Diego for the other product, but shortly thereafter the volume manufacturing is transitioned to Malaysia and we expect to realize when revenue is recognized margins in line with our model..

Okay. Maybe a quick follow up then, I think you also mentioned that you have a new win for a Korean customer.

Is that a mobility customer, is it some of your recent Eclipse wins and then using that as sort of a proxy, can you give us any sense in terms of the magnitude and maybe timing of revenue for this one?.

We'll discuss in particular is making semiconductors for a variety of applications, mobility being one of them. I think they also have a series of consumer products.

So, what I can tell you is that it’s a non-memory type of device that we're testing on the Eclipse handler, and I really view this on entry point into the customer that we expect to extend into other applications over the course of next few quarters. So I don't have much to comment in terms of the size of the photo opportunity.

Needless to say it’s -- it's a market leading customer in Korea..

Okay. Maybe just one last thing just in terms of maybe seasonality here, but in terms of your guidance for Q3 down sequentially of strong Q2, any comments there about end markets there, but utilization rates bumping up to mid 80%, pretty good level.

So this kind of speaks to sort of sustainability given utilization rates are at a pretty good level here exiting Q2 and is that really what this -- question of..

Yes.

I think that's a good assumption, I mean if you got these utilization rates, we do see a pretty good strength across many end markets and on the other hand as I mentioned in my prepared remarks here, there has been a reduction in smartphone volume production year-on-year from a leading manufacturer that negatively impacts our mobile processor application of thermal subsystems.

Nevertheless, as I said at 84% we're seeing really good strength in automotive industrial, solid-state lighting and the other side of mobile and our apps actually even applicable to IoT as it pertains to our turret based platforms. So yes, quite a bit of finance across many of our handler platforms..

Okay, great. Thanks guys..

[Operator Instructions] Our next question comes from Edwin Mok with Needham & Company. Please proceed..

Great. Thanks for taking my question. So, first question just following the guidance.

So based on your commentary you should have a lower customer concentration because there's a fewer large customer in mobile and computing or PC or buying less [Indiscernible] wouldn’t that helps you on your margin size?.

Not necessarily, Edwin. It just all depends on the particular product and the particular customer. And volume obviously lower volume is going to negatively impact the gross margin.

Perhaps you're referring to in quarters where we have lower overall revenue, recurring tends to be a higher percentage of the overall revenue, so that is somewhat of a benefit. But I don't your statement about fewer customers helping to drive a higher gross margin is true. I think it’s more about product mix..

Okay. That's helpful. I think Luis you said, the turret product, 25% of the turret orders or is it order inventory in the start with dedicated [Indiscernible] only, I think you gave some market option via a number there.

So is it like that doing well, in and [Indiscernible] some color in terms of when customer is buying just -- only turret handler and then also what's your share and how big these market is right now?.

Yes. I will just start from the end. We still have a small percentage share of the inspection only market with our turret systems. Why the customers buy our turret system to inspection? Frankly what's in the market today is more of pick-and-place linear based system which is slower relative to our turret-based application.

There are some inherent difficulties to get in turret to be as flexible as a pick-and-place and put in the vision system into a turret-based system.

And that what we have in overcoming with vision technology that we you may recall we introduced a 3D flex vision in July of last year and now with the new 32 position turret platforms whether wafer or now just to be the basic turret that we just introduced now.

You know we have a speed advantage and a capable vision system now to really go at the vision-only inspection market applications..

So, how much of the -- is it 25% in the order of shipment then how much revenue are you generating from this vision-only system?.

Yes. What I said, the 25% of our total turret platform orders in the quarter were for vision inspection only, I didn't impact the number to that, but you get the percentage..

Okay. That's still helpful. And moving on to [Indiscernible] drivers, so first on a contractor, i think you say is up 18% sequentially, and do you expect double digit growth this year for the contractor. How big is your contractor business right now at least in a rough you know, is it 10% of the business.

Just hope you got some rough idea and this growth is it mostly driven by just organic assets and how these things evolve M&A with that business now working well?.

Well, our contractor business was about $60 million last year. Like I said we're targeting to grow with double digit this year and that's purely organic thus far. As I mentioned in the past we don't think to grow in contractors only organically.

I think there are various mechanisms, one of them partnership which we have announced last year in RF, part of potential one could include acquisition in the future, but thus far as the numbers that I'm quoting are purely organic growth..

Okay. That's helpful.

And then on the wafer level packaging product, you guys, you know you haven't officially announced the product, but I think -- if I hear you correctly, you said $5 million to $10 million of wafer level packaging revenue expected in 2017, is that based on I think two quarters that we got announcing by a pictured over the footage [ph] yet to announce product, is that based on just that one order from that one customer or is it based on your competition customer, multiple customer that leads you [Indiscernible] content to that level of revenue?.

Now, actually you're mixing up the numbers a little bit, Edwin. But I did mention in the prepared remarks is that we expect to deliver $5 million to $10 million of incremental sales of our new system level test platform next year.

And then later on I mentioned that we're projecting $15 million to $30 million incremental revenue next year from both the system level test platform and the wafer level package prober, so combining the two products now..

Right.

So that means, if you back out the system levels, sales and your wafer level prober would actually more by $10 million to $20 million?.

That's correct. .

Okay. Thanks for clarifying for that.

My question actually is more pertained to, is that based on one particular customer that you guys have [Indiscernible] or was it based on multiple customers?.

Yes. We think there is one customer that can drive that volume, one customer alone should expect to be driving revenue for multiple customers but I think one customer alone has that potential..

Okay, great. That's very helpful.

Lastly, just going back to OpEx side, I think you mentioned that there were some prudent of ERP expense into second quarter, does that mean that we should expect lower ERP spend in the fourth quarter of this year then?.

Yes. Slightly lower, but in the full year it was still pegging at $2 million cost in 2016..

Great. That's all I have. Thank you..

Okay..

There are no further questions. At this time I would like to turn the floor back over to Jeff Jones for closing comments..

Okay. Thank you for joining us on today's call. We look forward to speaking with your at the upcoming Dougherty Investor Conference in Minneapolis on September 28, or when we report our third quarter 2016 results. Have a good day..

This concludes today's teleconference. You may disconnect your lines at this time and thank you for your participation..