Jeffrey Jones - Vice President Finance and CFO Luis Müller - President and CEO.

Richard Ryan - Dougherty & Company LLC Arthur Su - Needham & Company, LLC.

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

Jeff Jones, Chief Financial Officer. Thank you, Mr. Jones, you may begin..

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 third quarter of 2016 as well as our outlook for the fourth 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, October 27, 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 third quarter of 2016, Cohu delivered solid results from sales of $69.3 million and generated $12.6 million of cash from operations. Measured test sub utilization across installed base, gained a point to 84%.

This was another strong quarter for our turret handler business for test and inspection of high performance mixed signal and RF devices. We secured design-win at a Korean test subcontractor, repeat orders from our recently captured third customer and another order for in-process strip testing of advanced memory.

At 66% of total system orders, automotive and industrial was our strongest segment and underscores the significance of our recent market share gain at a leading European customer earlier this year. We now supply equipment to four of the top five automotive semiconductor companies, and are working to win business at the fifth.

Semiconductor content in vehicles is increasing, with midrange cars now containing approximately $350 of semiconductor value.

According to IC Insights this market is poised to grow at nearly 7% CAGR through 2019, the fastest among all semiconductor and user applications as increasing electronic content delivers better connectivity, more automated driving functions and satisfies clean air standards in hybrid electric vehicles.

Cohu is the primary supplier of handlers for testing power semiconductor devices used in vehicles. We have growing position in sensor test particularly magnetic and pressure and a strong presence in logic and applications specific standard products. The semiconductors are used infotainment, safety systems, body and networking, power train and chassis.

But perhaps most interesting are the evolving requirements and opportunities in processor, in secure communication IC test that are enabling leading mobility and graphics companies to enter automotive markets, pushing for a revolution that starts with ADAS and evolves to Autonomous Driving.

We are aligned with and have many projects focus on the future needs of automotive IC test and inspection. Developing a new class of simulated wafer level CSP prober for testing analog RF communications devices used in mobile, IoT and automotive applications.

We have also recently enhanced our tri-temperature active thermal control products for testing a new class of automotive processors, although while expanding our leadership in this market with our tri-temperature pick-and-place and gravity feed handlers.

Recent customer consolidations in the space are accelerating the penetration of our handlers to new test operation sites. Today, the majority of automotive ICs run through a Cohu handler.

The semiconductor products have a long and complex lifecycle and to a better align our manufacturing with this ecosystem requirement we're launching a zero defect program that will reduce waste, material rework and warranty costs and to ensure total customer satisfaction with our products.

Moving onto mobility and communications that was 25% of system orders and particularly strong for our turret handlers that perform electrical test and vision inspection of small package and wafer level semiconductor products, such as high performance mixed signal RF, power management ICs and discretes.

We received several following orders for the new 32-position turret platform, extending rapid share gains in the segment. Demand for testing small devices has increased substantially in this last 18 months, and we have achieved significant sales synergies from the Ismeca acquisition.

Our new wafer level CSP prober has been testing multiple device types, added leading development customer as it progresses through the evaluation process. We expect to have this prober ready to meet customers' production demand in the first half of next year.

The market for simulated wafer level CSP test is still in its infancy, with many customers pursuing a single system to test return material and a few others evaluating the necessary process changes to run full production test on our equipment. Now turning to the mobile digital market.

We received repeat orders for the Eclipse handler with our Active Thermal Control technology during this seasonally down quarter for this segment. We expect momentum to resume soon as customers solidified their forecasts for thermal subsystems and thermal handlers, preparing for new smartphone introductions in 2017.

Solid-state lighting orders are following the same pattern as in the last few years, with our ramp that started in early Q4 is expected to continue during the first half of next year, reflecting a pattern that has been countercyclical to the mobility and communications markets.

Cohu's unique product, customer and market diversification helps counterbalance the typical seasonality of our largest segments. In the memory market, we received the repeat order for in-process strip testing of advanced memory devices.

These are high ASP devices built in multilayer silicon stacking that require very sophisticated thermal management and delicate contacting technology. We forecast additional demand for final test handlers in Q4.

Several contactor evaluations are underway at our leading handler customers, some of which we expect to convert into sales in Q4 that will drive meaningful revenue next year.

Most of our contractor expansion this year came from testing power analog semiconductors in the automotive market, and we also gain a foothold in RF applications with the new RF Scrub product line.

Going forward, the main opportunity for growth will be in the digital market where we have a large installed base of pick-and-place handlers and customers facing critical thermal control challenges that we can better address with an integrated handler contactor solution.

Additionally, we're developing a new technology to better align with upcoming millimeter-wave products particularly 5G which is the fifth-generation technology that will drive increased demand for networking, smartphone and ILT semiconductors.

Let me now turn it over to Jeff for further details on our third quarter financial results and fourth quarter guidance..

Thanks Luis. Overall, the results for the quarter were in line or slightly better than forecasted and Q3 represents Cohu's 11th consecutive quarter of non-GAAP profitability. Cohu had strong cast generation from operations of $12.6 million.

Our cash balance increased quarter-over-quarter by nearly $11 million and adjusted EBITDA for Q3 was $6 million or approximately 9% of sales. In Q3 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 $586,000 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 $69.3 million and higher than guidance due to increasing demand for our turret handlers, particularly from customers in the mobility and communications market testing high-performance mixed-signal and RF devices.

Three customers each represent 10% or more of sales during the quarter; two customers are in the automotive market and the third customer is in computing. Q3 gross margin was in line with our forecast at 35.7%. Operating expense was $19.6 million and also in line with our forecast of approximately $20 million.

The Q3 effective tax rate on income from continuing operations was 25.6% and the year-to-date effective tax rate is 22.2% and tracking to our projected rate of 22% for 2016. Collections were strong in Q3, and accounts receivable decreased sequentially. DSO improved by four days to 77. The inventory balance also decreased sequentially.

However, inventory days remain flat at 99. The overall cash conversion cycle improved by one day to 123. Fixed asset additions in Q3 were approximately $1 million and appreciation for the second quarter was approximately $900,000. Deferred profit at September was $5.7 million, down $1.2 million quarter-over-quarter.

Related deferred revenue at the end of Q3 with $6.4 million, down $3.5 million sequentially. Cohu's Directors approved a quarterly cash dividend of $0.06 per share payable on January 2, 2017 to shareholders of record on November 18, 2016. And now moving to our guidance for Q4.

Shipments for Q4 will be higher than in Q3, however due to revenue recognition rules we plan to defer nearly $5 million of revenue during the quarter, and we expect Q4 sales will be approximately $65 million. Gross margin in Q4 is forecasted to be approximately $34 million -- excuse me -- 34%.

Operating expenses for the fourth quarter will be comparable to Q3 at approximately 20 million, including roughly $450,000 related to our global ERP alignment project. That concludes our prepared remarks, and now we'll take questions.

At this time, we will be conducting a question-and-answer session. [Operator Instructions] Our first question comes from the line of Dick Ryan of Dougherty & Company LLC. Pleased proceed with your question..

Thank you.

Hey, Jeff, I may have missed it, but did you give cash flow from operations for the quarter?.

I did. It was $12.6 million..

Okay. Okay.

Luis, on the wafer level prober, is that just being evaluated one customer right now?.

Yeah, we have one leading customer that we call it a development customer that we have been working with. .

And how is the pipeline for potentially new customers looking?.

We're working with other customers in the necessary change in processes that would entail for production run of the system.

As I mentioned during the prepared remarks here some people that have need to have one of these systems on the ground, on the floor -- the production floor to cast test material returns, so there are opportunities for one here today. But by and large production volume is slightly different than just testing material return.

So there's -- ongoing work with other customers to evaluate process changes required to do them..

Okay.

Could you give an update on your system level test solution?.

As I mentioned -- I think it was a quarter or two quarters ago, if we saw an opportunity to get into system level test as we see more processor, memory, RF, power management IC is being integrated in system and package. We are in development of the product.

We obviously haven't announced anything yet, but, you know, it's an ongoing project at the moment. We expect to hit it -- to hit it or launch the product next year..

Okay. Great. Thank you..

Sure. .

[Operator Instructions] Our next question comes from the line of Edwin Mok of Needham & Company, LLC. Please proceed with your question. .

Hi, everyone. This is Arthur on for Edwin. Thanks for taking the question.

First question is just on some pure commentary side, one of your peers reported earlier today about improve mobile SoC ATE demand, just trying to see if that's potentially uplift for Cohu in near term?.

Well, we notice in the past year Ryan is that the ATE guys tend to see the beginning of the SoC or the -- for the logic mobile orders ahead of us the handler guys. Nevertheless, we do have some initial indication from one customer that there will be an increase in demand our capacity requirement in Q1 of next year for their products.

That hasn't translated yet [indiscernible] a firm order or even an exact forecast. But we do see some activity and was actually pleased to hear the ATE guys commenting about it..

Great. Thanks for that. And then next question just on automotive space. It seems like automotive has a big driver for you guys this quarter comprising, but the auto industry comprising 66% of the orders.

Do you see this trend that something sustainable going forward over the next couple of quarters? I know you're excited that you had strong position at several auto customers, but just trying to get a sense on what we should expect in terms of mix and revenue?.

Yeah, it’s a little too early to be forecasting a couple quarters out or even sort of first half couple quarters out would be first half of 2017. But in general terms we did hear some positive estimates from a couple of our large automotive customers. And as I said earlier to sort of a good indication on the mobile processor side as well.

But nevertheless, it's a little too early to say that. I do expect and as I said in the prepared remarks the automotive market to continue to see a fast growth rate amongst the semiconductor -- the various semiconductor markets. So it is a space that I think will be pretty strong for us for the next, you know, for the next year or even years..

Great. Thanks. And the last question just on the contactor space I know you previously highlighted that contactor was an area that potentially drive growth for -- encounter 2017.

I am just trying to get a sense that you feel this is more of organic driven growth or is there any interest in potentially consolidating and pursuing some M&A?.

We hold the same strategy we have for the last few quarters which is now given the right opportunity we will seriously consider some M&A where we can bring in technology or manufacturing technology that closes some of the gaps that we have. In the meantime, we are executing growth organically.

We are building our manufacturing infrastructure in the Philippines. As I mentioned a lot of our traction this year has been on sort of testing power semiconductors power management ICs. This is a competency we have in-house both for design and manufacturing of the spring or contact elements.

And it's something we have been investing to grow internally. But, yes, we will consider M&A as part of the strategy..

Great. Thanks. That's all I had..

Thank you. .

At the time there are no further questions in the audio portion of the conference. I would like to take this time to turn the conference back over the management for closing remarks..

Okay. Thank you for joining us on today's call. We look forward to speaking with you at the upcoming the Midtown Cap Summit Investor Conference in New York City on December 8 or when we report our fourth quarter and full year 2016 results. Have a good day..

Thank you..

This concludes today's conference. Thank you for your participation. You may disconnect your lines at the time, and have a wonderful rest of your day..