Ichor Holdings, Ltd. (ICHR) Earnings Call Transcript & Summary

Good afternoon, everyone. My name is Sidney Ho. I cover semiconductors and semi-cap equipment at Deutsche Bank. Our next virtual fireside chat will be with Ichor Holdings. Ichor supplies critical subsystems called fluid and gas delivery systems to semi-cap equipment companies as well as weldment and precision machining parts the same customers. Today, we're joined by Ichor's CEO, Jeff Andreson; and CFO, Larry Sparks. Welcome, guys.

Well, thank you.

[Operator Instructions] So with that out of the way, let me start off with a few questions that we ask every company at this conference. Starting off with Huawei, which is very topical. There were some further restrictions on U.S. semi-cap companies selling directly or indirectly to Huawei in the last month. Has this additional regulation changed at all how you think about the end market demand both in terms of short term, I mean, like next couple of quarters and the longer term? And what type of indirect exposure does Ichor have to Huawei?

So yes, I mean, I think to some degree, there'll be a kind of a near-term shift of supply to replace some of the Huawei products. I think they're largely built into anybody's outlook at this particular stage. Huawei is we've known about for quite some time. I think in August, it was more of a reiteration of when some of the devices can no longer be shipped into Huawei. But I think in the long term, I don't think it will necessarily have a big impact on the demand for semiconductors. So I think the supply and the -- we know Huawei is a big phone producer and stuff, and that'll benefit other android phone manufacturers. So I think we're indirectly affected. Obviously, our customers will have a better view of what's directly happened. But I think to a large degree, I think, plans that they're former partner, manufacturing partner have already been baked in at this particular time.

Okay. That's fair. And maybe along the same line, the other topic that has come up is the chatter, is that the SMIC could be potentially put on the entity list as well. Obviously, it hasn't happened. If that turns out to be true, what kind of impact do you expect that could impact the semi-cap equipment market and yourself?

Well, I think SMIC has been around for a very long time. They manufacture logic chips, primarily. And I think their most advanced nodes around 14-nanometer. So they're not leading the technology, league. So I think there'll still be some impact if that happens. It's very new news. I don't think it's a directive. Our customers are still trying to assess it, as best as we can tell. The continued U.S.-China trade disputes could have short-term disruptions. But I think -- I'm hoping in the long term, that will work their way out because, again, I don't think the end unit demand is going to be affected as much as people are discounting into the companies today. And when we look at -- it's SMIC, they're obviously having a very big CapEx year. I think you know that. It's a much higher level than they traditionally have had. But these things don't kick in right away. So I don't think this is a this year issue. I think potentially, it could be next year, so we'll just have to assess it as it comes to light.

Okay. The next question, I assume this may not be as relevant for your -- to your business. But when it comes to the U.S.-China trade tension, obviously, the Huawei [indiscernible] at this mix in, they are part of this. But are you seeing any buying ahead of your products either directly through you or through your main customers that would suggest some inventory build because of trade tensions?

It's hard for me to see that if our customers are doing it, if there's any acceleration to deliver, for example, to SMIC sooner rather than later. I wouldn't necessarily see all of that see through data. So I mean, today, we're operating in normal. We do have suppliers in China. Obviously, it's something you have to keep a close eye on. It was the first place affected by COVID, and that hit 2 of our kind of key suppliers in -- from China, but we've now worked through all of this. And so -- but we do need to monitor it. I just don't see any kind of blanket Department of Commerce action for all suppliers that trade into the semiconductor capital equipment market.

Okay. Maybe just to piggyback on the last answer you have on the COVID side. So if I look at the supply chain, are we -- are you guys back to kind of normal levels now? And do you see any kind of bottlenecks within your own supply chain or your customer supply chain that could be a problem in the near future?

No. I think the supply chain has largely recovered. I mean you get pockets. We still have a few pockets where they're trying to ramp, but they're keeping up with the demand that we see today. So I would say we're operating in pretty normal conditions. We have our supply chain -- honestly, the China suppliers, they were pretty much recovered by middle of March, into March. So most of -- where we were mostly impacted, the most challenging country was Malaysia. They did a hard shutdown and probably cost us about a month worth of production. That operation is back up and running fully operational, actually can operate higher capacity levels than we did entering. So when I look at the capacity we can do, I would say it's at least what we did entering for sure, and it's even more. So we have plenty of capacity to support the growth we've seen in the second half and actually into 2021.

Great. Just one more on COVID, and then we can move on to other subjects. But in terms of cost associated with managing a business related to COVID, I think you talked about some impact in second quarter, which are coming down in third quarter and potentially coming down in the fourth quarter. What are your expectations on these -- when these costs will actually completely come off?

I guess that's the question everybody wants to know. Our first 2 quarters, we were affected -- we've told you guys about 100 basis points in both Q1 and Q2. Q3, we're seeing about 50 basis points. This is really driven by -- there's some incremental absolute costs that we're incurring. There's some efficiency loss. In other words, it's going to take you more hours to do the same output and which means it's slightly less efficient. And that's mostly driven by the social distancing requirements, which in the U.S. are now 6 feet. Clean room space is fairly expensive. So people generally handle what they need and not a whole lot of excess. So we did have the ability to kind of flex into a clean room we had built, but not turned on in Malaysia, which helped that business recover. But other than that, we're going to see some of this. I think the organization will continue to figure out ways to be more effective. But I think until those protocols are reduced, which probably will require a vaccine or something, and we're going to have a little bit of headwinds.

Okay. Great. Maybe we'll switch over to some near-term dynamics that maybe just starting off with -- your revenue actually grew quite nicely in the first half of the year, up 60% year-over-year versus a market, my guess, it's probably up about 20%. I'd like to get into some of the share gain opportunity specific to Ichor later in the discussion. But from a market standpoint, how would you say the demand environment has changed throughout the pandemic? And are there areas that you would highlight are getting stronger or weaker?

Well, so as we entered the year, and you kind of got into the early part of the first quarter, you saw that the outlook for WFE might have been in the mid- to high $50 billion range. Then after COVID hit, and there was some uncertainty in supply chain recovery and other things, people thought that would modulate down into the low 50s. And now we're back thinking mid- to the high 50s. So it's been a little bit of an up and down this year. And so the industry has been tremendously resilient. There's a lot of reasons for that. There are secular changes, the work from home has driven some activity. I think where it softened, other places have picked it up in our market. So we saw -- the front half was more weighted to foundry and logic. Memory was recovering. We see the second half as being stronger than the first half, both in WFE and in our revenue levels. And we're seeing strength both in foundry and logic and in memory, as we kind of get into the back half of the year. So that's kind of our view of it. And we're -- in a longer-term view, we're planning for growth into 2021 or so.

Got it. On your last earnings call, you talked about how you get really good visibility from your customers, 3 months out, maybe pretty good visibility 6 months out. And then you have enough visibility to talk about second half revenue being stronger than the first half. How has your visibility from your customers changed throughout this whole COVID period? And have you seen any order adjustments from your customers related to the pandemic? Were there any kind of rush orders or kind of push outs?

Well, I think in the second quarter, I think you guys understood that the industry had to sit back and kind of figure out how much they could build. So there were some reflow of customer demand out of Q2 into Q3. I think when you look at our Q2 results, you'll know, and you can see that we recovered faster than we anticipated ending the quarter. I'd say, largely, there hasn't been a tremendous amount of shift. So I mean, I would note that we don't run our business on backlog and orders. We run it on forecast. I think our customers and -- have done a really good job of collaborating with their supply chains and providing as much feasibility or visibility as they can either specifically or directionally. And so I would say, to some degree, I think it's improved a little on being extended out with the higher level of accuracy, such that they can make sure that the supply chain is ready for them.

Okay. Maybe one more on the demand side. I think earlier, you did mention that you expect memory to be recovering in the second half to be better than the first half. But at the same time, we're also seeing some memory vendors facing some pricing pressure on both the DRAM side and the NAND side. How much confidence do you have that memory supplies won't cut back on spending this year because either they are all technology transitions related or any kind of capacity increase related? Maybe asked differently, if there are risk to memory spending, do you think it will happen this year or the first half of next year, if at all?

Yes. I think we've always kind of known that memory is a little more of unpredictable nature. But I actually look at the second half, and we have visibility to plans now of our customer's customers. So our Korean operation. I would say when I look at the memory spending in the second half, I think it's largely around technology transitions. And so those generally will continue on. I think the risk of those being cut back and coming off of your product road maps is not as high as whether it's going to be at wafer starts. So I think in the first half of the year, we saw wafer starts increase. We saw them clearly at YMTC and I think and also in Samsung. So I don't know, I'm feeling that these technology transitions, and based on what I can see now are continuing through this year, I can see them continuing into next year. But when you're talking about 6 months out, that's a little too early to call.

That's fair. Now you have mentioned earlier that the wafer fab equipment market has worked around a little bit, but now it seems like they are back to the pre-COVID levels mid- to high 50s, $50 billion, that is. But there also seems to be more uncertainty about growth in 2021. How are you looking at WFE for 2021 right now? And what are the key puts and takes that you see? And maybe more importantly, how do you prepare your operations to accommodate changes in the WFE forecast?

Yes. I think that there is a strong consensus that WFE will be up in 2021 from this year. I would say with the caveat, we're still not sure what the economy -- the global economy is going to do as we come through the pandemic. But I think given all the government responses and stuff, I think it's moving along better than folks would have expected. So as we see it, I think that in 2021, my gut tells me it's going to be up 5% to 10%. I am planning for that. We're going to ensure we have capacity to support that demand. And we largely have enough capacity in place to handle that as we kind of go into next year. And I think we're going to see a really pretty stable, strong foundry logic. And hopefully, then memory will start to recover with more wafer starts increases and then technology transitions continuing as well. So I mean, it's a little bit early to make an absolute call, but this is kind of the direction that we're working with.

Got it. If you kind of look at this 5% to 10% you just mentioned. Is there -- can you talk about the profile between foundry and logic and memory? Is it mostly memory driven? Or is it kind of even between the 2 groups?

Yes. I think that -- I mean, it's very difficult. We're one layer remote. So I would say that a chunk of the growth will have to be some memory recovery and wafer starts to increase going in. And I think based on some of the plans that I've seen, those plans are in place, whether they'll be executed, that's going to take some time to tell since we're 5 months away or so from 2021, yes.

Okay. Maybe moving onto the more fun stuff, the incremental revenue opportunity you guys have been talking about for quite some time. In the past, you talk about these share gains opportunities in aggregate, added about $70 million to your revenue in 2019. And I would imagine that number is going higher this year. Not sure if you're willing to quantify that opportunity for this year. But at a minimum, can you talk about how we should think about the first half versus second half profile for these opportunities? And has the COVID impacted the opportunities what you thought at the beginning of this year?

I would say, well, I mean, let me answer it and go back in history for those that may not have heard at all. Last year, through our revenue that came through the P&L, we incurred -- we gained about $70 million of market share gains. These came across gas panels as one of our customers outsource further one of their operations to us, weldment's precision machining into a certain degree, our Liquid Delivery Module. And so as we exited 2019 in the fourth quarter, these are running at about $100 million run rate. The market's now growing, say, 10%, 12%. I think if you come off of the 50 to -- mid- to high 50s. So that now is probably adding incrementally on a year-over-year basis. 2019 gains are probably about $40 million of our increase in revenue. And we're continuing to layer new share gains on top of them. They're largely staying at the similar level as we entered the year and expected. So the pandemic probably slowed them just a little bit in the second quarter, but I think we're on track with our goals internally. We haven't quantified those, but they're still pretty healthy share gains. And again, these gains, they're kind of across all of our products with the exception of LDM, which is lagging a little bit because our real strategy there was to try and grow in Korea and Japan and get some first beta tools in, but this is largely a 2021 revenue growth item for us. It always was. The inflection claim was going to be 2021 as we entered the year, but we were hoping to have a little more progress this year. But given COVID, it's a little tougher to kind of have face-to-face meetings and get our technology folks over into Japan to work with our partner and our customers.