VAT Group AG (VACN) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Q3 2024 Trading Update Conference Call. I am George, the Chorus Call operator. I would like to remind you that all participants will be listen only mode and the conference is being recorded. [Operator Instructions] The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Urs Gantner, CEO. Please go ahead.

Thank you. Ladies and gentlemen, good morning, and welcome to VAT's Q3 2024 Trading Update Conference Call. With me this morning are our CFO, Fabian Chiozza; and our Investor Relations team, Michel Gerber and Christopher Wickli. For the quarter, we have three topics today to cover. First Q3 results than the outlook 2024 and beyond and the progress in our ERP implementation. I want to share what's important to us upfront. First, the ERP implementation for Switzerland has started to plan. Fabian has always used the analogy that this is an open heart surgery. This operation went well and we are currently recovering and training to restore all functions. In August, we have had to shut down manufacturing completely in Switzerland and have reached somewhere above 80% of our pre-shutdown output by end of September. We are still seeing certain challenges in the interfaces between the new solution and our legacy systems. To give you an example, finished products couldn't get shipped in due time and therefore, impacted revenue recognition due to stranded documentation. We are confident that we will recover these missing sales in Q4. It just takes a lot of manual workaround at the moment. Secondly, despite these challenges in ERP, our customers have only seen a limited impact. We pride ourselves as being customer-centric and this implementation project has proven that our team is there for our customers first and foremost. Our close cooperation with our customer has ensured that there was sufficient [pre-build] available to cover short-term requirements. Many have gone through ERP implementation themselves and appreciate our transparent communication. And thirdly, we have seen further promising business development throughout Q3. Our order flow in our core market shows that despite some of the headwinds. So orders with semiconductors customers are trending sequentially up. Remember, at Q2, we already reported some pulled forward orders. More importantly, visibility on Q4 orders is high and provides comfort that we can achieve over CHF 1 billion of orders for this year. So now let's go to some numbers. Our third quarter orders amounted to CHF 259 million, 4% lower than in Q2, but 58% up on last year's Q3. For the 9 months ended in September 2024, we generated over CHF 766 million of orders. That is up 68% year-over-year. We are confident in a further acceleration of these markets to come. Group net sales were reported at CHF 209 million. Comparing this to last year, net sales are roughly flat and 16% down versus Q2. To put this number in context, we had around CHF 8 million of sales advanced from Q3 into Q2 and in early August, we had production at our Swiss factory closed for two weeks for the ERP changeover, which equated to approximately CHF 20 million of missing factory output for this quarter. We discovered at the start of this month that we would be falling short of the guidance by another CHF 22 million due to the shipment issues, which triggered the October 8 press release. Transparency for [issue] is important to us, and we wanted to share this as soon as possible. This shortfall does not trouble us. We will recover sales in Q4 and the market environment as well as order flow is steadily improving. I can see you mentally adding up numbers here, and let's address all the factors as to why sales have been down this quarter. In addition to the missing sales due to ERP and the pull forward, ADV and Global Service businesses have seen sluggish sales to date. We will touch on this later on this call. Our order backlog continues to build strength reaching CHF 348 million. The book-to-bill ratio in Q3 was approximately 1.2x, and we have had now consistently a book-to-bill above 1x since mid-2023. Across the three businesses, we saw the following performance. In the semiconductor business unit, orders continued to grow sequentially quarter-on-quarter, a clear sign that investment activities have remained strong, especially in Asia, and therefore, our OEM customers' order books are filling up. While end markets still grind higher, everyone is preparing for continuous growth into 2025, which will be driven by leading edge tools being rolled out in logic and the demand for high-end memory chips like HBM. Orders in semiconductors for Q3 came out at CHF 186 million, and net sales amounted to CHF 144 million. In our Advanced Industrial business unit, end markets continue to result in sluggish business developments. While some areas are seeing increased demand, like industrial applications and metrology, other areas like scientific instruments and solar remains subdued. Demand in fusion remains strong, both in the privately and public-funded initiatives, ultra-high vacuum will play an essential role in future fusion reactors. Orders in ADV in Q3 amounted to CHF 32 million. On the back of the strong project pipeline in research and energy transition, we generated sales of also CHF 32 million in Q3. VAT's Global Service segment experienced a rebound year-on-year from 2023 levels. Semiconductor utilization rates continue to rise and inventories are operating at normalized levels. Year-to-date, orders are up 39% compared to 2023. Nonetheless, order intake declined quarter-over-quarter despite overall higher average chip fab utilization rates, especially in Asia. Given the ERP implementation, consumables and spares were preordered in Q2, resulting in lower Q3 orders and sales. Anticipated upgrade activities has not materialized yet, which still expect to pick up based on HBM capacity buildup and advanced logic later in 2024 and into 2025. The Global Service segment reported Q3 orders of CHF 41 million and sales of CHF 34 million. On the ERP transition in Switzerland, we have shared what the situation was on October 8 in the press release. This is our first and foremost priority as an organization. We have appointed a task force that meets daily to track and resolve all identified issues with regards to the next steps. First, we need to recover all outstanding revenues, Q3 shortfall, we have been speaking about. This will take up most of October. Secondly, I have been speaking about the order visibility on Q4. Customer order flow continues to gain momentum and order backlog continues to build. Now there are still some remaining issues with the order loading, and it's important that we get out our output up over the course of the last quarter of 2024. We have reached over 80% and 100% will be reached by end of October with the aim to add another 20% to 30% during November. Right now, we are working on getting some bottlenecks results. This happens week by week. So we are in the midst of the hypercare phase from the surgery with over 1,500 employees working with -- in a new system. I'm confident that we will go through a steep learning curve and finally get the benefit of this new integrated ERP system. Despite these challenges, we are providing an ambitious sales guidance of between CHF 270 million to CHF 300 million. Note that at the top end, we would surpass the highest quarterly sales result ever achieved in the record year of 2022. Based on these factors, VAT continues to expect higher sales, EBITDA, EBITDA margin and net income on delayed collection of invoices following the ERP implementations, we expect free cash flow level similar to 2023. We are very excited for 2025 and beyond. Client activity, both around spec wins and orders promise that we are heading in the right direction. Market research on average expect 2025 wafer fab equipment to reach record levels, some were above USD 110 billion. There are a few positive factors playing in here. First, memory CapEx is in a cyclical recovery. HBM demand is rising rapidly, and the capacity is stretched. This will result in both upgrades business and new greenfield fabs that will be equipped next year. Secondly, leading-edge logic remains promising with 2 nanometer logic fabs equipped in 2025. We have spoken of the around 100 fabs that are coming online in the next two years. And third, China has seen a strong focus on the semiconductor industry in the past quarters as they build lagging edge supply chain and the proportion of self-sufficiency is to be increased. We expect demand to persist further into 2025. And finally, our customers have managed down excess inventories and are ready to provide tools to the chip manufacturers, where CapEx plans for 2025 are significantly higher versus 2024. This concludes my prepared introductory remarks, and we are now turning the call back to the operator for the Q&A session.

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Olivia Honychurch from Jefferies.

My first is around the order number for Q3. The underlying number was 3% quarter-over-quarter growth, yet you've previously guided to 10% to 15% growth sequentially. So can you just explain what exactly it was that drove the delta between the actual number and that guidance? Is it that there are specific areas of WFE or particularly one or two customers that are causing that slowdown? And if so, how long do you expect that slowdown to continue?

Yes, Q3 orders -- I think semiconductor, as we pointed out, we really needed this growth -- sequentially growth quarter-over-quarter. So we were hit still on the other businesses. So there we see more headwind than we expected. One of the biggest, and I think that's knowing the market is also, for example, in advanced industrials, that solar business is very, very, very slow. And this will continue into the next year so this is one portion. And also, as pointed out in my remarks that also service business was not as strong as we expected. But here, we also expect that this will improve over the next quarters.

So can we understand from that, then the sort of ex the pull-in of the ERP, the semiconductor order growth would have been closer to your 10% to 15% sequential growth target?

Yes. I think that's in semiconductor, certainly, that's -- it's based on the wafer fab equipment growth and also the share of the application that goes into the market, this will certainly -- it is possible, and we are confident that we can achieve that. In the past, if you see the share of the different applications in wafer fab equipment, there was a big jump from lithography compared to the others and lithography is not a high vacuum from applications included. So that's why the growth also in semiconductor will be if the vacuum related tools will grow in the market.

And I just had one follow-up on China. You said that demand for the rest of this year and into 2025 is expected to remain strong. Obviously, we had one of your customers telling a very different story yesterday and guiding their China revenue down 30% for 2025. So can you explain the difference why is VAT seeing more resilient demand from China into next year?

Yes, definitely. Of course, we are a completely different situation as VAT is serving all the different applications, vacuum-related applications. And the China market -- they are building up the semiconductor industry and their self-sufficiency is around 20% today. So there is a lot of room to grow for their domestic market as well. So also the local OEMs in China, they are growing and our business is mainly going directly to these local OEMs. And so that's certainly a different situation than other western OEMs see today. You cannot compare us to the OEMs.

Our next question comes from Craig Abbott, Kepler Cheuvreux.

You mentioned also in your press release that you expect the magnitude -- expect sequential increases in order intake to continue well into the first half of '25 and I just wondered in terms of looking at the magnitude of sequential increases, should we still be thinking about low double-digit sequential increases for the next couple of quarters?

So I think it's all about how the -- [indiscernible] will evolve as well. So the wafer fab equipment grows. So what we see -- if we are very close to our customers, and they see -- if we have the demand, if the demand is in the market, the chip will grow and as I said, that the fabs will be equipped. So equipment will flow, then we will see this growth of this low double-digit order intake. And of course, also other businesses will participate as well. So also, the service business is expected to grow as well. But the main driver is always the demand and then the CapEx. So we are also listening very carefully how the CapEx will evolve in the market, and this will then support our growth. Seasonal effects -- so by end of the year, some customers are ordering full year for the next year. And so that's why this can also sometimes quarter-over-quarter have a distortion in the numbers.

But the general trend is still low double-digit sequential?

The general trend is still going up based on the wafer fab equipment going up and the general demand.

Our next question comes from George Brown, from DB.

I have two. Firstly, you previously stated that you expect orders to continue guiding higher over the next few quarters before a more significant step-up in the summer of 2025. My question is, how much visibility do you have here given your lead times are back to normal, messaging from peers have become less constructive on 2025 on both Logic and Foundry and now also on memory via Samsung?

We're talking about [outbound] lead times, there we certainly see the whole industry, the lead time is shortened. So as a supplier, we have to react on that and be prepared. And that's also why we always say that we have to invest ahead the cycle. What we have done with the build-out of Malaysia and Malaysia sees a huge growth. We're talking today a lot of what's happening in Switzerland because of the ERP change. But on the other hand, we see that the Malaysia is growing quarter-over-quarter as well, and they will have a higher output of about 30%. And this is exactly the flexibility we also need to reduce our lead times. So lead times, yes, it is expected from the market that lead time is getting shorter and shorter. And this, of course, gives also shorter visibility on the market and you have to react fast. But when we see that today, it's manyfold markets, right? We talked a lot in the last this year about China. So China is building the ecosystem out there, [indiscernible] to deliver. And now we see more and more the HBM kicking in. And this will be a driver and in the second half, we also expect that the NAND demand will grow as well.

And then maybe just a longer-term question. If we look at adjacent markets today, we know you're expanded in motion components and advanced modules. But beyond 2027, are there any plans to enter the sensor market more aggressively beyond what you have today, which is the MEMS pressure sensor?

So of course, you mentioned the adjacent products. This is now kicking in with the latest generation of wafer fab equipment tools. And yes, we are working on more of advanced products and try to combine these products with our core as well. So we don't just want to be a sensor company, another sensor company on the market, but we always want to add value and combine it with our core product as well. So talking about our pressure control valves and high performance pressure control valves and what's coming to market. So of course, it's always a combination. So it's not as lonely that the product itself that we want to launch in the market, but is always adding value to our core business as well.

Our next question comes from Aziz Nabeel at Redburn Atlantic.

My first question was just around the ERP system. So I was just wondering if you could provide a little bit more color on the ERP system challenges and how they're impacting production and whether this is both in Malaysia and Switzerland. I know you mentioned it's in Switzerland, but whether there is any impact in Malaysia as well. And will you guys issue a like press release when the ERP system is back up and running and functioning properly?

Yes. While, I have to mention the ERP system is running properly, it's not that we have huge issues. As we mentioned, there were some issues in the interface to legacy systems and these legacy systems we are planning to replace in the course of the next two years as well. This is mainly the systems we use in sales. These are still the older ones. So at the moment, we are, of course, as I mentioned, 1,500 people working in and with a new system. And this -- you need some time that everybody get familiar to improve efficiency. And starting using an ERP system or any software, we started the journey now that we do [CIP] over the next year. So in that sense, it will be never completed, but we will be back on 100% factory output by end of October and then gradually going to normal operations. Malaysia is -- we have also intercompany business with Malaysia, but Malaysia is not affected directly.

And then I just had one question on China in terms of what you're seeing in terms of the pace of the build-out there and whether you're seeing displacement of Western OEMs with China domestic OEMs?

Can you say it again?

In terms of China, what you're seeing in terms of the pace of the build-out and whether you're just seeing any displacement of Western OEMs in terms of -- with China domestic OEMs.

Well, we see that the Chinese OEMs, of course, they have a huge challenge in front of them. So they have to build, create all these processes and tools, make the tools ready for the processes that are in the market, and it will take time for them as well. So they are bringing up every year, new tools, new applications. So speed is very high in China, but it's also -- we have also to be realistic. It will take time 2, 3, 4 or even more until they will reach the same level as we've seen in the rest of the world. For us, of course, the entire industry, it's interesting. It's a growing market. And yes, it's always good, but once it is CapEx required, it's always good for companies like VAT.

Our next question comes from Didier Scemama of Bank of America.

A couple, if I could, and apologies if you already mentioned that, I missed the beginning of the call. Can you remind us how much of your business is driven in Q3 by the China semi-cap vendors? And I've got a follow-up.

Yes. Well, as I also mentioned before, quarter can always be a little bit disturbed, but I would say, in the last 12 months, we had roughly 27% of China business and just in the last month, I think it was about 30% as well. So it's a little bit higher than the last 12 months. So in general, orders and sales are trending to this 30% meanwhile.

So it's 30% of group revenues and obviously a greater percentage of your semi business?

That's correct. Yes.

And how do you understand that? Because I understand you're not into UV or ASML. But I mean, if ASML tells you that revenues are going to decline 30% or 45% overall for them next year. There is no alternative for ASML in China, at least not that I know of that are credible. Does that mean that the depo and etch steps among others, are accelerating the transition away from Western OEMs, is that your read? Is it beyond the noncritical layers?

Yes. As you mentioned, we are always in the tools where vacuum is required and some of the [indiscernible] tools they don't require vacuum as well -- vacuum. So that's why we are focusing more on the depo and etch and of course UV is also very interesting for us, but this has -- there is no market in China for the UV. Now if you see the shares in wafer fab equipment of the different applications in the last two years, the portion of lithography was much, much higher than in the past. So you could also read out of that, that there was a lot of investment in lithography and especially also lithography in China. And I anticipate it should go back to a more balanced level in the future and other application will have more share in the future as well, and it is mainly the depo and etch and there -- there is a Chinese OEMs, which are [indiscernible] .

Yes. Still the percentage of your revenues coming from China semi caps is materially massively higher than what is reported by Gartner for China semi caps at least for last year. So there is -- I mean, do you see that they are sort of holding your type of componentry because they want to be sure that they can service their installed base of [indiscernible] , do you think that's part of it?

It's not part of it at all. So really, they are ramping up. And of course, they are also trying to replace Western OEMs as much as possible. And you see that also that the share of the Western OEMs in China is going down.

Our next question comes from Michael Foeth, Vontobel.

I have two questions. One is on the output in Malaysia. How should we understand it? Couldn't you sort of compensate part of the shortfalls of the Swiss output by IR output in Malaysia? Or is that not possible? And then I would have a second question regarding your outlook. I'm not sure I understood your comments around the sales outlook on Advanced Industrials and Global Services for the fourth quarter. So maybe if you can give some more color on the outlook for, in particular, Advanced Industrials in Q4.

Okay on Malaysia, well, Malaysia is built up for high-volume semiconductor business and semiconductors at the moment are also the market that is growing most. So we see the output growing in Malaysia, still not at 100 capacity. So we filled up and had the cycle and we could do even more and building up by Malaysia, but we see a roughly 30% growth year-over-year in Malaysia. We can do -- we have for some products for high-volume products, business continued plans. And yes, we can compensate partially out of Malaysia for some products. But here in Switzerland, we have a huge diversity of products. We have almost a 60-year legacy as well on products. So some of the series, we are building only out of Switzerland. So here, Malaysia cannot have been. The other one -- second question was on the sales for ADV. While we see that some markets as a research, [indiscernible] transition and all that, that's going pretty well. And we also see in the mid and long term, there will be investments in that direction, even though solar is very, very -- is down because of overcapacity, but solar will recover. And then the second one we have in our Advanced Industry, so the silicon carbide, also a business that will grow in the future as well. It's kind of related, of course, to the mobility power, our chips, and this will grow as well in the future.

Just a follow-up on that. Just for Q4, should we expect those advanced industrial sales to increase sequentially?