Photronics, Inc. (PLAB) Earnings Call Transcript & Summary

Good day, and thank you for standing by. Welcome to the Photronics Second Quarter Fiscal 2025 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Ted Moreau, Vice President of Investor Relations. Please go ahead.

Thank you, operator. Good morning, everyone. Welcome to our review of Photronics' fiscal second quarter 2025 financial results. Joining me this morning are Frank Lee, CEO; George Macricostas, Chairman; 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 website. 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, levels 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. A reconciliation of these metrics to GAAP financial results is provided in our presentation materials. During the third quarter, we will be participating in the TD Cowen TMT Conference, the D.A. Davidson Consumer and Technology Conference the Three Part Advisors' East Coast Conference and the Singular Research Investor Conference. I will now turn the call over to Frank.

Thank you, Ted, and good morning, everyone. We achieved second quarter sales of $211 million, which was in the middle of our guidance range. Non-GAAP diluted EPS was $0.40. We took the advantage of financial market opportunity during the quarter by spending $72 million to repurchase 3.6 million shares, which should give -- drive greater earnings leverage in the future. In our IC end market, chip designs are migrating to higher-end nodes. These nodes require more photomask per design, which generate higher ASPs per mask set. In the United States, our 2025 capacity expansion plan targets this no-migration opportunity. In Asia, we are also in a strong position to benefit from a market transition towards higher-end nodes as reflected in our Q2 results. We believe some of the positive node transition trends come from IC serving a growing AI ecosystem. In the FPD market, we are a technology-leading mask supplier to the industry, including to companies that have their own captive mask operations. Conditions improved during the quarter due to the seasonal timing of major smartphone and net top design release. For the first time, these consumer products were produced in larger G8.6 panel size, using AMOLED display technology. We are optimistic that with more emerging G8.6-related products and R&D activities, our advanced photomask technology will help us gain market share in the coming G8.6 AMOLED era. With the current market dynamics, our geographic footprint is a strategic asset that differentiates Photronics position. To support our global customers, we operate 11 clean room production facilities, including 6 in Asia, 3 in the U.S. and 2 in Europe. Our manufacturing facilities, located close to our customers, enables our rapid response advantage and facilitates collaboration with customers. Our global footprint allows Photronics to capitalize on new business opportunities as the semiconductor industry diversifies its manufacturing footprint. For example, our strategic capacity and capability expansion in the U.S. coincides with the reshoring of semiconductor production to the U.S. Our program is progressing as planned to support this U.S. customer fab and design road maps and expansions. U.S. tariff dynamics during the quarter increased global macroeconomic uncertainty. While tariff negotiations remain ongoing, we can leverage our diverse geographic footprint as a strategic asset and a competitive advantage. Our ability to allocate production across our geographic locations allow us to ship the majority of masks within regions or countries, mitigating potential tariff costs for our customers. This morning, as part of a carefully considered succession plan, I have decided to retire from the CEO position after 3 years. I have truly enjoyed my time and I'm proud of the work we have done to move us forward. I will continue to manage the Photronics Asia operations until my retirement. I will now introduce you George Macricostas, our Chairman and newly appointed CEO.

Thank you, Frank. On behalf of the Board and the entire company, I wish to thank you for your 20 years of dedication to Photronics, including the last 3 years as CEO. You have played a significant role in our success particularly in our Asia expansion. And I look forward to continuing to work with you at Photronics and on the Board. By way of introduction, I started my career at Photronics at an entry-level role and worked my way up to a senior leadership position, giving me a thorough understanding of the business and underlying technology. In 2000, I founded RagingWire Data Centers, which became a highly respected data center provider, leading to its ultimate sale to NTT in 2018. I've been a member of Photronics Board of Directors for approximately 20 years and earlier this year was named Executive Chairman. I look forward to driving Photronics towards the next leg of profitable growth as I focus intensely on operational execution. I will now turn the call over to Eric to review our second quarter results and provide third quarter guidance.

Thank you, George. Good morning, everyone. As Frank stated, our second quarter revenue was in line with expectations at $211 million, which was essentially flat sequentially and down 3% year-over-year. IC revenue of $156 million declined 3% year-over-year. We noted a continuation of favorable design node migration trends in the quarter, which should continue in the future. High-end revenue increased 2% year-over-year, representing 38% of our IC revenue. We saw healthy foundry demand for both 22- and 28-nanometer photomask products in Asia. Our mainstream IC revenue declined 6% year-over-year, with the largest decline in photomask serving the oldest generation design nodes, indicating continued weakness in this segment. This reduction was partially offset by design node migration to smaller IC geometries within mainstream, which require higher-value photomasks. By application, revenue from memory applications declined sequentially due to the timing of projects. On the logic side, photomask sets serving mobile communications such as Wi-Fi, Bluetooth and baseband IC were strong along with OLED driver ICs. Lower-end design nodes serving power electronics automotive and industrial applications remain in a weaker recovery state. Turning to FPD. Revenue of $55 million declined 2% year-over-year. FPD revenue experienced a lull early in the quarter before the anticipated seasonal demand uplift. Higher mobile applications and continued adoption of advanced mass technologies supporting innovative new designs were areas of strength. Geographically, revenue was led by our IC joint ventures in China and Taiwan, where business remained healthy as customers rely on Photronics' scale and product mix to support expansion of their product offerings. Revenue from the U.S. declined sequentially due to lower-end design node weakness and the timing of customer advanced node projects. We reported gross margin of 37%, in line with our quarterly average over the past 3 years and well above historical levels as elevated operational controls drove greater-than-expected leverage across our infrastructure. We recently performed an analysis of the impact of tariffs on our supply chain, and based on current expectations, we have determined that these costs will have a negligible impact to our financial results. Operating margin of 26% in Q2 was above our guidance range and improved 180 basis points sequentially. Diluted GAAP EPS attributable to Photronics shareholders was $0.15 per share. After removing the impact of foreign exchange, fully diluted non-GAAP EPS attributable to Photronics shareholders was $0.40 a share. Our overall profitability reflects a greater contribution from our joint ventures in China and Taiwan. During the second quarter, we generated $31 million in operating cash flow, which represented 15% of total revenue. CapEx was $61 million in the quarter, which included our planned expansion in the U.S. We remain on track to spend $200 million in CapEx in fiscal 2025 on a combination of capacity, capability and end-of-life tool initiatives. Based on current investment plans, we estimate that our CapEx in fiscal 2026 will normalize from elevated fiscal 2025 levels. Total cash and short-term investments at the end of the quarter was $558 million. We have 3 elements to our capital allocation strategy, including organic growth, strategic investments or returning cash to shareholders. During the quarter, we spent $72 million to opportunistically repurchase 3.6 million shares and now have $23 million remaining under our existing repurchase authorization. This is a significant endorsement of our confidence in the long-term health of Photronics, and we will remain strategic with respect to future share repurchases. Before providing guidance, I'll remind you that demand for our products is inherently uneven and difficult to predict with limited visibility and typical backlog of 1 to 3 weeks. In addition, ASPs for high-end MOSFETs are high, meaning a relatively low number of high-end orders can have a significant impact on our quarterly revenue and earnings. Additionally, and 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. Given market conditions and tariff uncertainty, we remain cautious about the near-term demand environment. We expect third quarter revenue to be in the range of $200 million and $208 million. Based on those revenue expectations and our current operating model, we estimate non-GAAP earnings per share for the third quarter to be in the range of $0.35 to $0.41 per diluted share. This equates to an operating margin between 20% and 22%. I'll now turn the call over to the operator for your questions.

[Operator Instructions] Our first question comes from the line of Tom Diffely with D.A. Davidson & Company.

So first, maybe some -- a little more color on the mainstream business. You said there's continued softness there. I'm curious what you're seeing in kind of the overall supply/demand of mainstream mask-making capacity today and how that has impacted the margins and maybe perhaps how that influence your capital spending plans this year.

Okay. Thank you, Tom. The mainstream market, as we highlighted in the previous calls, remains -- still remains weak, mainly because a lot of our edge fab customers still have a very low wafer fab utilization. And I think this trend is something related to the industry, especially in the power, industrial and consumer parts of the business. So I think in the long run, we will still put more focus to build our capacity and capability in the high end and also in the high end of the mainstream. Chris, do you want to add some comments?

Yes. Thanks, Frank. I can say, Tom, we have talked quite a bit about end-of-life tools impacting kind of organic supply of masks to the mainstream. We definitely saw that, but that cycle is starting to move forward, and many companies are replacing those end-of-life tools with new equipment. There has been -- because of that fair amount of capacity also added to the network globally for mainstream masks, I don't think it's an oversupply situation. But the muted demand Frank talked about and lower utilizations and wafer fabs, combined with some capacity increases that were driven by end-of-life tool turnovers, has made a somewhat a little bit unfavorable supply/demand balance, but it's not a long -- we don't think that's a long-term issue. It's just a point in the evolution of the mainstream mass supply.

So Chris, are you seeing more of the weakness in Asia right now? And does that have anything to do with some of these kind of start-up photomask companies there? And then maybe to follow up on that, in the U.S., you're still seeing a migration, it sounds like, of the mainstream to higher-end mainstream. And I guess that is the driver of your increased capital spending this year?

Yes. So on the first question, not necessarily confined to Asia. The weakness in mainstream on the wafer side is pretty broad-based. Europe may be the strongest example of it because their wafer supply is very much changed to automotive and industrial micro controllers and things like that. So that's pretty weak for mainstream in general. So it's not necessarily confined to Asia or new upstarts in China. It's pretty broad-based still the weakness in mainstream. And if you look at the projections for fab utilization and supply for the customers, strong recoveries are not really projected until even later in 2026. So there's a fair amount of supply sloshing around still for mainstream applications in the industry. As far as our projects in the U.S., so that's correct. We had a marginal amount of capacity, but also node migration to, let's say, the higher end of the mainstream applications. It was one of our strategic goals for those investments, and we do think that's a growing part of the market in the U.S. So that's what we're targeting there.

Great. And then just looking at the earnings on a year-over-year basis, is the largest impact year-over-year on roughly the same amount of revenue, just the margins of the -- or pricing in the mainstream world? Or would you say there's other factors in there as well?

Eric, do you want to -- other than pricing, do you want the margins?

Sure. Tom, this is Eric here. So with respect to pricing, I mean, we're trying to -- as we discussed previously, we are focusing on product mix, there is a bit of pressure on pricing overall, but we are muting that with product mix, and we're trying to focus on the higher end of mainstream and node migration, as Chris just mentioned a few seconds ago.

Okay. And then George, looking forward to work -- go ahead.

I'm sorry. In addition to what Eric just commented, at Photronics, we do have several long-term agreements with many of our main customers. So this long-term agreement not only guarantee the order from the customer, but also provide us a stable pricing.

Yes. And Tom, maybe I can make one more comment on the mainstream because we don't want it to sound like it's all gloom. There's another -- there's a positive trend we're seeing also with some of the regionalization of the high-end chip makers, foundries and things like that. We're starting to look a little more seriously at outsourcing of the lower-end layers of the advanced mask set. So for example, this might be a 5-nanometer node and there's lots of mainstream mask layers in that. Regionalization of fabs is starting to open up some opportunities in mainstream demand for those applications as well. So that's kind of a positive side of the demand.

Okay. Great. And I appreciate all the extra color there. And George, I look forward to working with you. I worked with your dad for many, many years and always a good experience. Could you give us a hint as to what your first focus will be on? Is it a cost structure? Is it driving revenue? Is it saving costs? What in particular do you think you'll be focused on first?

Probably all of the above with Frank. Frank has been leading the organization for the last 3 years and obviously has more than 20 years with the company. So I'm looking forward to working with Frank to learn more about Asia. That's not an area that I have a tremendous experience in, I know more about U.S. and Europe and the business overall. So I'm going to be working with Frank going forward to do more of an orderly type of a transition, discipline by discipline. So this is not a wholesale change, it's more of an evolution. So I would say, right now, my focus has been more on the back-of-house administrative-type matters and governance, et cetera, HR, legal, finance and now segueing into more Frank's responsibilities. But definitely, we are cost-conscious and want to drive market share. So I think it's both levers. It's cost reduction and containment/growing revenue by growing market share because, as we know, the market is finite. So we can't necessarily create demand, so we're going to have to go and gain market share.

Appreciate that. And Frank, it's been a pleasure working with you the last 3 years as CEO and a decade-plus as the Head of Asia before that. I appreciate your ability to answer my questions today, and talk to you soon.

Our next question comes from the line of Gowshi Sri with Singular Research.

Can you hear me?

Yes, we can.

Okay. George, congratulations on your new role. Could you share your -- kind of your priorities with regards to U.S. capacity expansion versus balancing your regionalization efforts with ongoing growth in Asia?

Well, there's definitely going to be -- it appears anyway, there'll be some opportunities here in the U.S. with TSMC and others and reshoring, and obviously, the geopolitical issues are driving that thought process and creating action by our customer base that we're going to have to react to. So I would say we're going to evaluate the opportunities and deploy capital as we see fit. I think we may have mentioned that we're expanding our U.S. capacity as it is. So we're going to continue to monitor that and invest appropriately. We also have, of course, end-of-life tools that we have to spend CapEx on, but also on pure capability on the high end as well.

Okay. Awesome. Given that your top line was just around the midpoint guidance and you're forecasting a sequential decline, and you talked a little bit about the efforts that you need to take to maybe address the weaker demand, are these just customers delaying orders due to economic concerns? And what is -- what would it take to kind of lift it in H2?

Gowshi, this is Eric here. So I think you hit the nail on the head. So we are seeing customers feeling the uncertainty that's reflected in the market, right? So the current tariff environment is creating that uncertainty. So that is the reason for our cautious outlook for the rest of the year.

Okay. And just my last question, a follow-up. Given that you guys repurchased $72 million even during kind of weaker earnings, how do you prioritize? Are you looking to authorize any expansion of the buyback program if conditions remain challenging?

Well, we have $23 million remaining under our existing authorization, and we'll continue to be opportunistic with that remaining authorization that we have. And in terms of looking forward to increasing that authorization, share repurchase are a part of our capital allocation strategy. And in doing so, we need to compare against the other investment opportunities that could yield a favorable return to Photronics to ensure long-term continued growth. So with all those considered, we keep our eyes open, and we'll act appropriately at the appropriate time.

And I'm currently showing no further questions at this time. I'd like to turn the call back over to Ted Moreau for closing remarks.

Thank you, Shannon, and thank you, everybody, for joining us today. We really appreciate your interest in Photronics. And we will be available throughout the quarter to speak with all investors. Have a great day.

This concludes today's conference call. Thank you for your participation. You may now disconnect.