Amkor Technology, Inc. (AMKR) Q1 2010 Earnings Report, Transcript and Summary

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the Amkor Technology, Inc. first quarter 2010 earnings conference call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference call will be open for questions. This conference call is being recorded today, Tuesday, April 27, 2010, and will run for up to one hour. Before we begin this call, Amkor would like to remind you that there will be forward-looking statements made during the course of this conference call. These statements represent the current view of Amkor management and actual results could vary materially from such statements. Prior to this conference call, Amkor's first quarter 2010 earnings release was filed with the SEC on Form 8-K. The earnings release together with Amkor’s other SEC filings contain information on risk factors, uncertainties and assumptions that could cause actual results to differ materially from Amkor’s current expectations. I would now like to turn the conference over to Mr. Ken Joyce, Amkor’s President and Chief Executive Officer. Please go ahead, sir.

Thank you and good afternoon. This is Ken Joyce. With me today is Joanne Solomon, our Chief Financial Officer. Our net sales of $646 million for the first quarter 2010 were in line with expectations representing only a 3% decline from a strong fourth quarter 2009 and an increase of 66% from the first quarter of 2009. Our net income for the quarter was also consistent with our expectations at $0.18 per diluted share compared to $0.33 per diluted share in the fourth quarter of 2009 and a net loss of $0.12 per share in the first quarter of 2009. During the first quarter we saw continued strength in worldwide demand across a broad range of packaging services in end markets. Sales were in line with our forecast although the mix was somewhat different than expected. We experienced strong upside demand for networking and consumer end market applications reflecting a growth in broadband infrastructure and new product introductions for gaming and HDTV, while sales for communications and market applications were softer than anticipated. First quarter gross margin was slightly less than expected primarily due to softer-than-forecasted sales for communications applications. We believe that the first quarter's softness was temporary and based on current customer forecasts we expect sales for communications applications to rebound in the second quarter of 2010. We believe customer demand will drive better-than-typical seasonal growth for the second quarter of 2010 with net sales to be up between 10% and 14% from the first quarter of 2010. We also expect second quarter gross margin to be in the range of 22% to 23% as we build capacity to meet strong customer demand in the second half of 2010. The semiconductor industry has rebounded more quickly than anticipated resulting in capacity constraints at Amkor and across the supply chain for packaging and test services. Our estimated gross margin for the second quarter of 2010 reflects the recent additions of equipment and hiring of additional personnel needed to address these capacity constraints and execute on our long-term strategy for improving our profitability through better utilization of our asset base, enhancing our product mix, improving yields and managing our manufacturing costs. With the higher level of second half demand and better utilization of our Chip Scale Packaging assets, largely in support of communications applications, we continue to expect annual gross margins to be in the mid 20s. If we achieve our target level of profitability for 2010 we would be back on track to generate free cash flow consistent with the levels generated over the past four years. Enriching our product mix by commercializing advanced technologies is a critical part of our strategy for maintaining and improving our gross margins in 2010 and beyond. We continue to look closely with our key customers to develop and implement the increasingly advanced interconnect and test technologies needed to meet their requirements for smaller semiconductor geometries and higher levels of integration, speed and performance. As our customers continue to migrate from 65 nanometer silicon to 40 nanometer and below, we are well-positioned to leverage our leadership in advanced technologies in support of their technology roadmaps. In the first quarter, we saw a strong demand for all our Ball grid array packaging services supporting a number of advanced silicon including 40 nanometer for consumer gaming and networking applications. These Ball grid array packages use many of our advanced flip chip interconnect and test technologies such as 300 millimeter lid-free bumping and wafer probe. In addition, we are seeing strong demand in the second quarter with the ramp in volume production of both our fine pitch copper pillar flip chip and package-on-package Through Mold Via structures for communications applications. Over the past few years, Amkor has made a number of strategic investments in these advanced technologies and we are excited to see them deploy and enable a number of our customers in the markets they serve. Looking ahead, I remain optimistic about 2010. Demand is solid for advanced technologies, driven by next generation gaming and HDTV product introductions and several communication-enabled devices which are changing how we interact with the internet. The trend for advanced technologies is stimulating the demand for our lead frame packages which are also included in many devices that use these advanced technologies. I will now turn the call over to Joanne for further discussion of our recent financial results. Joanne?

Thank you, Ken. Our financial position and liquidity remains sound and continued to improve. We generated $37 million in free cash flow for the first quarter and ended the quarter with a cash balance of $425 million and total debt of $1.4 billion or $1 billion of net debt. These debt totals include $350 million of convertible debt that we believe is likely to be converted into equity rather than being paid at maturity. We do not have significant debt maturities until 2013. During the first quarter 2010 we refinanced approximately $38 million of revolving loans in Japan into term loans maturing in 2012. Also, in April 2010 we entered into a $46 million term loan in Taiwan maturing in 2015 to support general corporate purposes. These foreign loans bare interest at variable rates which are currently at 1% to 2%. Our customer base is well diversified. Our top 10 customers contributed 54% of our net sales in the first quarter and one customer accounted for more than 10% of our sales for the quarter. Fabless semiconductor companies accounted for about 55% of our total sales in the first quarter, up from 54% in the fourth quarter. For the second quarter 2010 we expect sales to our fabless and IBM semiconductor companies to be split about 50, 50. The pricing environment remains stable driven in part by tight industry capacity. Our price erosion for the first quarter was within our typical 1% to 2%. Gross margin for the first quarter benefited from high utilization rates of our Ball grid array assets in support of networking and consumer applications, offset by lower utilization of our Chip scale packaging assets in support of communications. Lower-than-expected Chip scale packaging sales reduced gross profit by approximately $8 million for the quarter. As Ken noted, based on current customer forecasts, we expect Chip scale packaging sales for communications to rebound in the second quarter of 2010. In absolute dollars our gold spending increased by $3 million in the first quarter compared to the fourth quarter, driven primarily by higher gold prices offset by lower volumes. The impact of foreign currency exchange rates reduced gross profit by approximately $3 million in the first quarter. Gross margin for the second quarter 2010 is expected to be in the range of 22% to 23%, up from 21% for the first quarter. The increase in gross margin is principally attributable to the expected higher net sales in the second quarter compared to the first quarter with a corresponding increase in capacity utilization and operating leverage. Other factors impacting our gross margin guidance for the second quarter include an estimated $10 million increase in labor and other manufacturing costs and an estimated $2 million increase in depreciation expense as we ramp for the higher level of demand expected in 2010. Operating expenses for the first quarter was $68 million, increasing from $66 million in the fourth quarter. For the second quarter 2010 we expect operating expenses to increase to around $70 million. The anticipated increase in the second quarter is in part driven by the cost associated with implementing our enterprise resource planning system in the United States, which is expected to go live in May 2010. We currently estimate that our effective tax rate for the remainder of 2010 will be approximately 4% as we continue to benefit from tax holidays and utilization of prior losses and tax credits. We lowered our effective tax rate for 2010 based on a change in expected income attribution by jurisdiction. Our effective tax rate is expected to increase to between 15% to 20% around 2013. That said, there are many variables that will ultimately influence our actual effective tax rates, including income attribution, tax law changes and local tax incentives. Our capacity remains constrained in a number of product lines. We are investing at higher levels in 2010 to meet strong demand across our packaging and test services. Capital additions for the second quarter are expected to be approximately $150 million with full-year capital intensity of 14% of net sales. Here is recap of our second quarter 2010 guidance contained in our earnings release; sales up 10% to 14% in the first quarter, gross margin between 22% and 23%, net income in the range of $0.22 to $0.27 per diluted share. Operator, we can open the call for questions.

(Operator Instructions) Your first question comes from the line of CJ Muse - Barclays Capital.

I guess the first question, can you talk a little bit about where your visibility stands today, how far it extends and what you can share in terms of your outlook today for the second half of the year? I guess, as part of that, if you could share what's typical seasonality and how you see things playing out today.

CJ, things actually look very good as we look forward into 2010 and we're optimistic as we look out into the year as a whole. With respect to our outlook, we get six-month forecasts from our customers that we rework on a constant basis along with them, so they're rolling six-month forecasts. So our visibility is out six months as well as looking at various industry data to see where we think things are going. But our overall feel is really we're very optimistic as we look out into 2010 based on the strength of the forecast as indicated by our second quarter guidance, which is really a little stronger than the seasonal trends. With respect to the seasonal trends, Joanne, you have the data there.

Yes, looking back the past 15 years, Q2 on average is up 7%. Q3 on average is up 8%.

As my follow-up question, on the gross margin side you talked about, I guess, labor increasing and [DNA] picking up incrementally but also mid-20s type gross margin, which was pretty good. I guess, how should we model the ramp for gross margin through 2010? I guess, importantly, could you provide a little more color on what that range is for the full year? You said mid-20s. Is that 23%, 25% or were you talking surpassing kind of prior annual peak of 25% plus.

At this point, we're not ready to narrow it down from our comments about mid-20s. With respect to the how we see things ramping up, Q3 does tend to be a peak margin quarter. That said, we have had years where Q4 has also been strong. For Q2 we are ramping ahead of Q3 demand. We are seeing the higher labor expenses as we add hedge and narrow increases. But as a percentage, labor remains about 13% of revenues and from an operating leverage standpoint you do start to get better fall through on the depreciation and other manufacturing costs.

But do you think the headwind that you're seeing slightly in Q2 will be behind you at the end of Q2?

Yes, going into peak-ish margins in Q3, yes. We see that we would get traction.

Your next question comes from the line of Staya Kumar - CFSC.

Again, a quick follow-up on the gross margins - if I assume hat mid-20s is indeed 25%, I need to get a very sharp increasingly good [progress] in Q3. My math is somewhere between 400 and 500 basis points from Q2 to Q3. I just want to reconcile how realistic that is given you sound also incrementally more confident on your second half demand forecast. Do you have to do more hiring perhaps in Q3 if demand were to continue to upside or how do you think about additional costs that could come on in Q3?

So most of the improvement in gross margins you'll see from better utilization of our CFP assets. That is CFP being an advanced technology, we tend to get better gross margin and sort of in support of that package family. So as we start getting more mix back to the CFP areas you'll start to see the better margins.

If you were to see second half in line with normal seasonal, would the model be able to deliver a margin with other significant increasing costs that you have seen in Q2?

What we do, CJ, part of that is we're layering in the cost right now to handle the capacity in the second half of the year and I think that Joanne has spoke to some of that in her prepared remarks that we are in the process of hiring some people, putting some equipment in place, so the costs would be higher in these earlier Q1 and Q2. As we move into Q3 and Q4 it'll be more stabilized in terms of utilization.

One quick follow-up - can you comment a little bit on what pricing is doing in Q1 and Q2? Are you getting any benefit given the tightness in the industry? Also, what are you [inaudible] across product lines, if you could comment on that as well?

Well, we feel that the pricing overall has been stable and I think part of that's attributable to the tight capacity throughout the industry. Going forward, we see strong demand especially in the advanced technologies. We're hoping on these advanced technologies that we'll have some pricing leverage, quite frankly.

Lead times?

Lead times, is that lead times for our own lead times or that's lead times within the supply chain?

I was more interested in your lead times but given the [offside] maybe you could also comment on the equipment lead times as well.

On the equipment lead times front we are working very closely with our equipment suppliers to plan out deliveries in time for the expected demand. So they have lengthened. We're trying to manage through that added lead times. With respect to our cycle times internally, they have extended out a little bit but we're also managing those down a little bit as well as we begin to get capacity online.

Your next question comes from the line of Peter Kim - Deutsche Bank.

When you say Chip scale packaging I assume you're referring to flip chips, that you had an under utilization of flip chip capacity this quarter.

It's both flip chip and wire bond. CSP could be flip chip or a hybrid with a flip chip and wire bond in it. So it could be either one.

But which was it?

It was both, quite frankly.

Also, I noticed that your test service revenues were a little bit light this quarter. Is that related to the under utilization of flip chip and do you expect that test segment to recover next quarter?

It was partially related to that. That's true because of the turnkey nature of the service that's rendered. Yes, we do see a rebound in the tests coming through in the second quarter as well.

I was wondering also if I could just follow up with a quick question on the cogs. It looks like your materials cost was up a little bit. Is that all attributed to gold?

No, actually the majority of that material percentage increase is attributed to the BGA packages. The BGA packages have high material content. These are the large body-size kind of conductor chips going into gaming and servers. So as a percentage of revenues, they're higher material percentage but they are left - you get better fall through on the other cost to manufacture other than materials. So it's a good margin product as well being an advanced technology just the material percentage is higher.

Your next question comes from the line of Timothy Arcuri - Citigroup.

What typically, when you kind of look at inventory positions of your customers and you look at sort of how things have transpired in the past to surprise you to the downside, as you look back, Ken, what sort of things happened in sort of prior cycles that might be different this time?

The thing that I can see is maybe in the mix, I mean, there is a proliferation of new devices out there, a lot of new applications that are driving the current demand.

Then I guess I'm sort of curious if you had guided maybe a month ago, what would your June quarter guidance have been a month ago? Would it have been significantly worse? I.e., has it gotten significantly better in the last month? What has that trend been?

I don't know that it'd be significantly better but it's clearly better. The environment continues to improve. I mean, the demand environment is really very strong right now across a broad array of packages. It's not limited to any one particular package sector.

Last thing, as you look out into Q3 - I know that you don't want to guide out to kind of next quarter. But if you had to bet right now does Q3 look better than seasonal just like Q2 is better than seasonal?

It's hard to say. It looks good right now. Whether it comes out better than seasonal I don't know that we're prepared to say on this call. But the overall environment is really very good.

Your next question comes from the line of Sundar Varadarajan - Citadel Securities.

Could you elaborate a little bit more in terms of the mix? Were there particular customers whose orders you were expecting that didn't pan out? What happened there in terms of the mix? What's giving you the confidence that you that should come back strongly in the back half of the year? Any additional kind of color you could throw out there would be pretty helpful.

We really cannot speak to specific customers, Sundar, as to what's happening in their particular business models. What we can say is that in Q1 we had lower-than-expected sales of Chip scale packaging services, which mostly in support of communication sector. That's with a number of customers. So it's with a number of customers there. We've looked at - we've worked closely with our customers. We've been working on their demand forecasts and they're definitely showing improvement. The other thing that was probably a more moderate contributor is that in servicing some of the customers in that communications area there has been an extension in lead times from some of our vendors in getting [some straight], so we did feel some impact there as well.

Going forward, do you have some kind of guidance in terms of labor costs and gold import costs and so on? How should we think about just operating expenses, SG&A and R&D? Do you expect to kind of stay flat or do you see additional investments there as well for the back half of the year?

So for Q2 we had indicated in our prepared remarks that they would be about $70 million. I think for the rest of the year it stays around those same levels.

So as a debt guy I have to ask a capital structure question. Given that the capital markets have been really, really strong, you guys do have some debt that's callable. Any plans to take advantage of the current markets to term out some of those maturities or are you kind of going to kind of wait and just pay the debt down at maturity? What's your current thinking here in terms of the capital structure?

Sundar, we've been on track to pay the debt off at maturity. That said, we'll certainly take a look at the markets and if there is an attractive refinancing deal we'll certainly evaluate that.

(Operator Instructions) Your next question comes from the line of David Duley - Steelhead Securities.

You mentioned that you were capacity constrained in some areas. Could you talk about which areas those are, products, however you characterize those?

Well, fortunately we're in a position where the business has been strong across all of our product lines. So we've been constrained in most areas other than tests. We do have some significant capacity left on tests. But on lead frame product, on our Ball grid array products and clearly in the bump interconnect technologies and those areas we are definitely capacity constrained.

So along those lines when you're seeing extended lead times from your equipment suppliers it's not in the test area. It's in the wire bonder and the flip chip equipment stuff.

That's true for the most part because on tests we haven't had as much demand as we had on the other side of the packaging side.

One follow-up for me - can you take a stab at what you think depreciation expense will be on a quarterly basis in the second half of the year?

Sure, with respect to depreciation and cost to goods sold being the focus area, for Q2 I would say it's around $64 million and I think it stays at that level for the balance of the year.

So that means the increased CapEx is kind of matching the offsetting however many years you depreciate your equipment for. It's kind of offsetting the strong CapEx five years ago, let's say. So I should read that depreciation being flat.

That's right. You do get the benefit of the roll off of the older assets.

Just clarification, the 14% capital intensity, is that the same percentage that you were talking about a quarter or two ago?

We have been, beginning with the last quarter, we did guide to the 14% capital intensity. So that is at the same level.

I'm showing there are no further questions in the queue. I'll send it back over to management for closing comments.

Well, we thank you all for participating on our conference call today and with no further questions we say goodbye and thank you.

Thank you, sir. Ladies and gentlemen, that does conclude today's Amkor Technology, Inc's first quarter 2010 earnings conference call. Thank you for your participation after using ACP conference. You may now disconnect.