Photronics - Earnings Call - Q4 2024

Executive Summary

• Q4 revenue of $222.6M rose 6% q/q and came in above the high end of prior guidance ($213–$221M); non-GAAP EPS of $0.59 also exceeded the guided range ($0.48–$0.54) as high-end IC and G10.5+ FPD drove mix, while GAAP EPS was $0.54.
• Operating margin was 25.1% in Q4 (flat-to-up q/q), with gross margin ~37%; opex elevated on R&D qualification activity and outside services, though management targets opex returning to ~10% of revenue going forward.
• Q1 FY25 guidance embeds typical seasonality and Lunar New Year: revenue $208–$216M, operating margin 23–25%, non-GAAP EPS $0.43–$0.49, taxes $17–$19M; full-year FY25 capex planned at ~$200M, focused on expanding U.S. IC capacity to capture regionalization-driven demand.
• Balance sheet remains a strength: cash and ST investments $640.7M vs. $606.4M in Q3; debt down to $18.0M. $100M repurchase authorization in place supports capital return optionality alongside growth investments.

What Went Well and What Went Wrong

• What Went Well

  • High-end IC strength: +21% q/q high-end IC sales on stronger logic foundry demand in the U.S. and Asia; overall IC revenue +5% q/q to $163.7M.
  • Execution vs guidance: Q4 revenue ($222.6M) and non-GAAP EPS ($0.59) both exceeded guided ranges; management cited favorable photomask demand into year-end.
  • Cash generation and liquidity: Q4 OCF $68.4M; cash & ST investments $640.7M; debt reduced to $18.0M, providing flexibility for U.S. capacity expansion and buybacks.

• What Went Wrong

  • Year-over-year declines: Revenue -2% y/y; GAAP EPS fell to $0.54 from $0.72; FPD revenue -7% y/y on softer premium smartphone demand.
  • Opex uptick: SG&A and R&D rose due to qualification activity and outside services; management expects normalization to ~10% of revenue, but near-term headwind persisted in Q4.
  • Limited visibility and uneven demand: Management emphasized 1–3 week backlog and high ASP sensitivity to a small number of high-end orders; mainstream IC mid-quarter softness, though stabilized late in quarter.

Transcript

Operator (participant)

Good day, and welcome to the Photronics Q4 FY24 Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. As a reminder, this conference is being recorded. Wednesday, December 11th, 2024. I would now like to turn the conference over to Ted Moreau, Vice President, Investor Relations.

Ted Moreau (VP of Investor Relations)

Thank you, Operator. Good morning, everyone. Welcome to our review of Photronics Fiscal 2024 Fourth Quarter Results. Joining me this morning are Frank Lee, CEO, Eric Rivera, CFO, and Chris Progler, CTO. The press release we issued earlier this morning, together with the presentation material that accompanies our remarks, is 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 based upon a number of risks, 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, level 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 our actual results. During the course of our discussion, we will refer to certain non-GAAP financial metrics. A reconciliation of these metrics to GAAP financial results is provided in our presentation materials. During our fiscal first quarter, we will be participating in the New York CEO Summit on December 17th and the Needham Growth Conference in New York on January 14th. I will now turn the call over to Frank.

Frank Lee (CEO)

Thank you, Ted, and good morning, everyone. Before we begin, I would like to take a moment to welcome Ted Moreau, who joined us during our fourth quarter as the Head of Investor Relations. Ted has extensive experience in the capital markets and the technology industry, having previously worked on both the sell-side and investor relations. We are excited to have him as part of our team as we expand our engagement with investors. We delivered a strong fourth quarter with sales above the high end of guidance. Sales of $223 million were driven by high-end IC and G10.5+ FPD. Full-year sales of $867 million were down slightly from the record level we established in 2023, with 2024 coming in as the second highest sales in our history. Regarding the IC end markets, demand turned positively this quarter, primarily for high-end designs in Asia and the U.S.

Leading-edge AI chips are driving multinode mask demand to support a rapidly expanding AI ecosystem. This, combined with government-subsidized supply chain expansion of ICs into all corners of the digital economy, will push the mask industry forward for the next several years. As one of the largest merchant IC mask producers, with a strong global presence, leading market share, process expertise, and broad multinode technology, we have positioned ourselves to benefit from these favorable long-term trends. Turning to Display, similar to IC mask, FPD mask demand is driven by new designs, product roadmaps, and panel manufacturing capacity. Complex high-end ASP mask sets are needed to support AMOLED and LTPS mobile display manufacturing. Larger display sizes, such as those built on G10.5+ panel lines, require larger photomask, which are difficult to manufacture and hence command higher ASPs.

As the largest global FPD mask supplier, our broad set of FPD mask solutions allows panel makers to design new features in their products. We are excited about a future opportunity in FPD and are well-positioned to maintain and extend our leadership. Q4 net income of $34 million contributed to a record net income of $131 million for the full year. These results translate once again into strong cash flow for both the quarter and full year, further strengthening our balance sheet. Over the past 12 months, we have increased cash and short-term investment by $128 million, up to $641 million. We have the financial flexibility to invest in strategic initiatives such as global footprint expansion, product development, and M&A, as we continue to evolve our existing network and capture growth opportunities. In 2024, we spent $131 million on CapEx.

We are mainly deploying this capital to expand IC capacity and capability in the growing U.S. and Asia markets, while also replacing analog equipment to improve network reliability and productivity. In 2025, we plan to spend $200 million, with a large focus on our U.S. multi-site capacity and capability to capture regional IC growth opportunities. Turning to the China market, eight years ago, we had little presence in China as we did not have production in the country. Since then, we have successfully installed and scaled our operations in China from our IC facility in Xiamen and FPD facility in Hefei. China is one of the largest and fastest-growing regions for semiconductor and display production, with mask demand projected to outgrow supply. We expect China to continue to be a profitable growth engine for the company thanks to our sustainable competitive advantages.

Furthermore, as evidence of our local customer support, our long-term purchase agreements have secured our market-leading position. As the largest U.S. photomask producer, we have positioned ourselves as a market leader to benefit from long-term industry drivers, including regionalization trends. We will continue to invest in profitable growth. We will also leverage our competitive advantage to maintain our status as a trusted source of photomasks and help our customers achieve their technology roadmaps. I will now turn the call to Eric to review our fourth quarter results and provide first quarter guidance.

Eric Rivera (CFO)

Thank you, Frank. Revenue in the fourth quarter was $223 million, up 5% sequentially as we achieved growth across both IC and FPD. IC revenue increased 5% quarter-over-quarter, driven by a 21% surge in high-end sales that was partially offset by a slight reduction in mainstream demand. High-end improvement was due primarily to increased sales to logic foundries in both Asia and the U.S. Sequential growth in logic was partially offset by soft memory demand. To note, the strongest demand was for 22 to 28 nanometers and for sub-14 nanometers, which is inclusive of our specialty EUV business. Mainstream was lower sequentially due to slow market demand mid-quarter that has since stabilized. We were pleased to see strong high-end demand and remain focused on growing this sector of our IC business. FPD revenue also improved sequentially, up 7% on strong mainstream growth.

High-end was essentially flat, with strong growth in G10.5 plus offset by soft demand for advanced mobile displays due to sluggish demand for premium smartphones. Gross margin of 37% in Q4 was flat year-over-year, even though we're no longer benefiting from premium pricing stemming from capacity constraints experienced post-COVID. Turning to operating expenses, we recognized higher R&D costs as we experienced increased qualification activity, which typically lasts from six to 18 months in duration, depending on the technology and complexity. Increased SG&A costs were the result of higher outside services and other period expenses. Going forward, we anticipate operating expenses returning to our target of 10% of revenue. Operating margins remained strong in Q4 at 25%. For the full year 2024, we realized the second highest operating income in company history and achieved record net income of $131 million.

We continue to deliver strong results even under mixed economic conditions, demonstrating our ability to manage costs and improve operating efficiency. GAAP EPS was $0.54 per share. After removing the impact of the FX loss, non-GAAP EPS was $0.59 per share compared with $0.51 in the previous quarter. We generated $68 million in operating cash flow in the quarter, bringing the total year to $261 million, representing 30% of revenue. CapEx was $43 million in the quarter and $131 million for the year as we invest in a multinode IC capacity and capability to support market demand and to strategically replace aging tools. In 2025, we anticipate CapEx will grow to $200 million, with most of the increase earmarked to expand our IC investment in the U.S.

We expect this expansion plan to be completed by mid-2026 to support increasing customer requirements from growing demand as customer regionalization strategies proliferate and semiconductor industry production increases both in the U.S. and globally. We strengthened our balance sheet during the year, putting us in a great position to support our investment growth strategy. The combined total of cash and short-term investments was $641 million, increasing 25% over the year. At the same time, total debt, which consists primarily of low-rated equipment leases, decreased 27%. We have $18 million in debt remaining, which will virtually all be paid off at maturity during our second fiscal quarter. In addition to the ability to invest in growth initiatives such as geographic footprint expansion and business development ambitions, our balance sheet allows us to return cash to shareholders.

Last quarter, we announced that our board of directors authorized an increase of our share repurchase authorization from the $32 million remaining up to a total of $100 million. Share repurchases are one aspect of our capital allocation strategy after reinvesting in our business through CapEx and any potential business development initiatives that arise. Before providing guidance, I'll remind you that demand for our product is inherently uneven and difficult to predict, with limited visibility and typical backlog of one to three weeks. In addition, ASP for high-end mask sets are high, meaning a relatively low number of high-end orders can have a significant impact on our quarterly revenue and earnings. With those qualifications, we expect first quarter revenue to be in the range of $208-$216 million, accounting for typical seasonality that impacts our first quarter demand, including Chinese New Year beginning in late January.

Based on those revenue expectations and our current operating model, we estimate non-GAAP earnings per share for the first quarter to be in the range of $0.43-$0.49 per diluted share. This equates to an operating margin between 23% and 25%, reflecting seasonally lower sales volumes while maintaining disciplined cost controls. Beyond the first quarter, we are cautiously optimistic that we can grow our 2025 revenue in line with photomask industry dynamics, and we believe, due to our leading market and technology position and strategic growth strategy, we should be able to grow along with the photomask market growth trajectory. As we do, our operating leverage and financial discipline should allow us to expand margins and deliver another year of excellent cash flow, thereby positioning us to continue our investment growth strategy. We delivered great results in the fourth quarter.

By leveraging our core competencies, being disciplined in managing costs and cash, and prudently investing in high-return projects, we are delivering profitable growth, improving ROIC, and creating value for our shareholders. I will now turn the call over to the operator for your questions.

Operator (participant)

Thank you. If you would like to ask a question, please press star 11 on your telephone and wait for your name to be announced. To withdraw your question, press star 11 again. One moment while we compile the Q&A roster. And our first question will come from the line of Tom Diffely with D.A. Davidson. Your line is open.

Thomas Diffely (Analyst)

Yes. Good morning. Thank you for letting me ask a few questions. Maybe first on the operating expenses. They were up quite a bit year over year. Maybe just a little more detail on what it was, the one-timers that impacted that.

Eric Rivera (CFO)

Hello, Tom. Good morning. Thanks for the question. So our operating expenses were primarily increased SG&A and R&D. For R&D purposes, I'll let Chris Progler talk about that. From an SG&A perspective, we have increased labor and benefits as well as increased outside services. But, before moving it over to Chris to talk about R&D, I'll say that we expect our OpEx to return to about 10% of revenue.

Thomas Diffely (Analyst)

Okay. Just real quickly on the SG&A side, how much of it was labor and benefits that I assume are more recurring versus the outside services, which tend to be more one-time in nature?

Eric Rivera (CFO)

Sure. So we actually had some non-recurring labor and benefits impact, but I would say maybe about half of the increase was non-recurring versus recurring.

Thomas Diffely (Analyst)

Okay. Thank you.

Eric Rivera (CFO)

You bet. And Chris, would you like to articulate a little bit more about R&D?

Chris Progler (CTO)

Yeah. Hi, Tom. I can make a couple of comments on the R&D side. We had a pretty robust pipeline of new calls in 2024 overall, and we see that often when the industry turns down a little bit. Actually, we often see mask activity increase, especially R&D and new product calls. We started another 7-nanometer node, optical qual that'll finish in 2025, so that's a good project. We've got some development projects for the EUV High NA program that's going on. Our EUV revenue hit actually a record high in 2024, so that seems to be going well. We installed a multi-beam tool, mask writer, in the U.S., and that's driving some of our R&D spend. And then the other thing I think I'd point out is we're seeing some kind of mid-node migration, 65/40 down to 22/28, particularly in the U.S., less so in Europe right now.

There's some process customizations there that we're doing on the R&D side to support that. Overall, it's a good pipeline of things. All have revenue at the back end of them, and so money well spent on these projects from our point of view.

Thomas Diffely (Analyst)

Okay. And maybe, Chris, if I could continue that conversation towards the $200 million of CapEx for 2025, obviously a little bit higher than it's run historically. And it sounds like a lot of it's going to go to reinvestment in the U.S. So I'm curious, is that replacing older tools? Is it new capacity, new capabilities? Maybe just a little more color on what you're going to get from that $200 million?

Eric Rivera (CFO)

Yeah, so Tom, Eric here. So most of that is for actually new capacity, and a lot of it is going to the U.S., as mentioned on the prepared remarks. As we see the opportunity, and we're going to invest where we see that opportunity, right? And this is driven by regionalization trends that are in the market, and that's why we see this expansion in the U.S. occurring at this time. But to your point, in that number, we have some amount for replacing some old tools that have gone to end of life, but the vast majority of that, though, is for expanding capacity.

Thomas Diffely (Analyst)

Is this expansion of capacity to serve current fabs, or is this to serve some of the newer fabs that are in the process of being built right now?

Chris Progler (CTO)

Yeah. It's a mix. Some of the fab projects around the world, which there are a lot started, as you know, some of them have slowed down. Few have been canceled, but there's still a strong pipeline of new fabs coming online, and many of them are in the sweet spot of commercial photomask. So some of that CapEx is preparing to support increased demand, and that's in line with projections we're getting from a lot of our larger customers where they're showing what their photomask needs are going to be over the next three years. And so these are the reliable customers that tend to know what they're doing and also project demand that we believe in. So we're investing for some of those new projects as well.

Thomas Diffely (Analyst)

Okay. Great. Any brick and mortar, or is this all just equipping the existing facilities that you have?

Chris Progler (CTO)

No full walls going up, but there are some expansions within facilities and things like that going on, but no new greenfields in the CapEx right now.

Thomas Diffely (Analyst)

All right. And then probably, Chris, I'd also had a question on the mainstream business. You talked about some node migration going on, but I'm just more curious about the health of the mainstream business. Over the last several years, we had a period where there was really tight supply. We had nice price increases. That seems to have waned at this point. How do you view the mainstream business for IC over the next, call it, three-plus years?

Chris Progler (CTO)

I think, I mean, my feeling is that mainstream was strong, continues to be healthy, particularly on a unit space. The growth trajectories we saw over the last couple of years certainly have leveled off, and some of the supply-demand imbalances have kind of rationalized in the mainstream. But the bulk of the units for mainstream are in our Asia divisions, and I think it's appropriate Frank make some comments on what's happening in mainstream.

Frank Lee (CEO)

The mainstream market in the U.S. and Europe actually are pretty stable and growing, and same in the Taiwan market. Of course, in China, we do see a little bit of competition in the mainstream, but overall, the mainstream market continues to grow.

Thomas Diffely (Analyst)

Okay. Great. And Frank, maybe just a broader industry question for you. What is your view of industry growth, photomask industry growth in 2025, and how do you view maybe the next few years beyond that?

Frank Lee (CEO)

Okay. I think as we focus on the main topic today is the regionalization. And as we mentioned, the regionalization actually created a lot of new projects in different countries, including the U.S. So if we look area region by region, we see Taiwan is a stable market. Of course, TSMC is unique. And in China, the market is still growing very fast, but we are focusing on our product needs in China. We want to capture more high-end business. And in the U.S., as Chris mentioned, there are more and more projects in the U.S., and that's the main reason we are putting a lot of focus on our U.S.-side capacity and capability upgrade and expansion. So basically, the demand for semiconductors and, of course, the IC photomasks will grow in the next three years because of AI.

So we are working on three years' outlook evaluation, and we believe the business will continue to grow for photomasks.

Thomas Diffely (Analyst)

Okay. Maybe just a final question for you, Frank. You talked about the AI ecosystem driving some demand for you. What products are using photomasks from Photronics in the AI ecosystem? Just to get my hands around what the opportunity is.

Frank Lee (CEO)

All right. Tom, I will turn this question to Chris. Chris.

Chris Progler (CTO)

Yes. Yeah. Thanks, Tom. So as far as the main processors like the GPUs that get most of the attention, the NVIDIA chips and all, that supply chain, as everybody knows, is pretty well locked up by TSMC, and they build their own masks. But there's a lot of peripheral circuitry around the GPU that's starting to drive some demand in some of the edge chips, edge network chips, which are available to commercial mask makers that are driven by AI. Some of the memory that are going into data centers. We have memory partners that are working on tuning those chips for AI applications. So I would put it as things around the main GPU, which is a substantial set of devices that support that. The other thing we're seeing a little bit is our business is heavily attached to ASIC, Application-Specific Integrated Circuits.

There are a fair number of companies that are trying to deploy ASICs, especially for the inference part of AI, not so much the model building, but the model running. There's quite a few projects we're involved in on the ASIC side that are AI-driven. It's pretty broad, and it's part of just building out that ecosystem from the GPU on out to the edge of the network.

Thomas Diffely (Analyst)

Great. Well, thank you, Chris, Frank, and Eric. Appreciate your time today.

Eric Rivera (CFO)

Thank you, Tom. It was a pleasure.

Operator (participant)

Thank you. I'm showing no further questions in the queue at this time. I would now like to turn the call back over to Mr. Ted Moreau for any closing remarks.

Ted Moreau (VP of Investor Relations)

Thank you, Shireen. Just wanted to thank everybody for joining our call today. We're really appreciative of your interest in Photronics. Hope you have happy holidays, and I will be available over the coming weeks and months to talk periodically. Hope you guys have a great day. Thank you.

Operator (participant)

This concludes today's program. Thank you all for participating. You may now disconnect.