Entegris, Inc. (ENTG) Q2 2023 Earnings Report, Transcript and Summary

Welcome to the Entegris Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode, and the floor will be open for questions following the presentation. [Operator Instructions] I would now like to turn the call over to Bill Seymour, Vice President of Investor Relations.

Good morning, everyone. Earlier today, we announced the Financial Results for our second quarter of 2023. Before we begin, I would like to remind listeners that our comments today will include some forward-looking statements. These statements involve a number of risks and uncertainties, and actual results could differ materially from those projected in the forward-looking statements. Additional information regarding these risks and uncertainties is contained in our most recent annual report and subsequent quarterly reports that we have filed with the SEC. Please refer to the information on the disclaimer slide in the presentation. On this call, we will also refer to non-GAAP financial measures as defined by the SEC and Regulation G. You can find a reconciliation table in today's news release as well as on our IR page of our website at entegris.com. On the call today are Bertrand Loy, our CEO; and Linda LaGorga, our CFO. With that, I'll hand the call over to Bertrand.

Thank you, Bill. Good morning to all, and welcome again, Linda, to the Entegris team. I will start by saying that I am pleased with our solid execution in the second quarter, especially in light of the dynamic industry environment. During the quarter, we delivered strong results within or above our guidance. Sales were $901 million. EBITDA margins were over 27%, and non-GAAP EPS was $0.66. Let me make a few additional comments on our financial performance. Sales were down sequentially as expected, but we did see growth in product lines that are of increasing importance to our customers' technology road maps. These include liquid filtration and etching chemistries which also explains the relative strength in our MC and SCEM divisions in the second quarter. Meanwhile, performance was mixed, but in line with our expectations in our CapEx-driven solutions. While we saw a contraction in sales of FOUPs and gas filters, consistent with the decline in WFE, we did see steady demand for our fluid handling and gas purification solutions in line with the level of new fab construction activity, which so far this year remains resilient. In terms of profitability, we continued to execute well and performed in line with our expectations. Next, I would like to highlight a few important items that the team is focused on. First, on the CMC integration. One of the guiding principles of the integration is the fast and effective migration to a common ERP system. To that end, we have already completed 3 major ERP transitions in the past 12 months. And I don't want to jinx it, but we expect to complete the final go-live migration in just a few days. A major accomplishment for the team, certainly an accomplishment that puts us on track to achieve our $75 million of run rate cost synergy target by the fourth quarter. As you know, debt pay down is a high priority for us and divestitures of non-core assets or a significant lever we are using to reduce our debt. So far this year, we have entered into definitive agreements for the sale of 3 businesses, totaling more than $1 billion in proceeds. Two of these businesses were part of CMC Materials. The first of those was QED, which closed in March with $135 million in proceeds. The second was the sale of Electronic Chemicals which we announced on May 10 for $700 million in proceeds. We have already received regulatory approval for the EC transaction in several jurisdictions, including the U.S., and just as a reminder, we do not need the regulatory approval in China for this transaction. We are currently weekly waiting for a few final regulatory approvals and continue to expect the EC transaction will close by the end of this year. On March on June 5, we announced the termination of our distribution agreement for copper plating chemistries with Element Solutions in exchange for $200 million. We received $170 million at the time of announcement and expect to receive the balance no later than this -- once customer transitions are completed. We have used all of the proceeds received from the QED and Element transactions for debt pay down, and the $700 million of proceeds from the EC sale when realized are also expected to be used to pay down debt. That brings us to one more potential divestiture PIM, which sells drag-reducing agents for the oil and gas industry and which also was a part of CMC Materials. The PIM business has performed very well so far this year, and we do intend to sell this business. We will provide an update on this when we have more to communicate. Another important update I would like to share is that we will be combining the SCEM and APS divisions starting next month. The SCEM and APS businesses are highly complementary. They are both unit-driven and the majority of what they sell or specialty materials that are consumed in the manufacturing of semiconductors. Our customers will benefit from a more robust end-to-end solution set critical to their road maps, the solution set that reduces their time to yield and provides superior cost of ownership. Frankly, we considered doing this immediately at the close of the CMC transaction, but we did not have definitive line of sight to the divestitures we were contemplating. Now that those divestitures are done or solidly in the works, combining the 2 divisions into 1 will enhance its size, scale and focus. And as we always do, we continue to look at our cost structure and align it with the current industry environment. To that end, we would expect our total head count to be down approximately 5% this year, even net of new hires in our new facility in Taiwan. What it is critical we get our cost structure where it needs to be in the short term, it is equally critical, we get ready when the industry ultimately returns to growth. To that end, the capacity expansions in Taiwan and Colorado Springs are vital for us to fully realize our long-term growth potential. Our facility in Taiwan is expected to begin initial shipments later this year and Colorado Springs will begin shipments in early 2025. In addition, we are also using this downturn to our advantage, spending valuable time collaborating with our customers while making elevated levels of R&D spending to support our promising R&D pipeline. Looking at the rest of 2023. For the full year, we continue to expect the market will be down in the mid-teens. And given our strong position in the new technology nodes, we also continue to expect to outperform the market by at least 6 points. Putting it all together, we continue to expect our pro forma sales in 2023 to be down approximately 8%. We also continue to expect EBITDA will be approximately 27% to 28% of revenue for the year. And we are increasing our full year 2023 non-GAAP EPS expectation to greater than $2.50 per share. While our expectations for industry recovery in the second half of this year are modest, we are extremely optimistic about the long-term secular growth of the semiconductor industry on the way to $1 trillion by 2030. The growth is being driven by overall demand for both logic and memory chips and in many end markets that will drive that growth, including the much discussed emergence of AI and, of course, power electronics and high-performance computing, to name just a few. In addition to that, device architectures like gate-all-around and higher layer count structures are becoming much more complex, trends which ultimately play to our strength. These trends and Entegris' breadth of capabilities in material science and materials purity are expected to translate into rapidly expanding content per wafer and market share growth for Entegris. Finally, I want to take a moment to thank our customers for the trust and confidence they place in Entegris. And I would like to thank the Entegris team for their dedication and strong execution as we navigate this dynamic industry environment. Let me turn the call to Linda. Linda?

Good morning, everyone, and thank you, Bertrand. I had a terrific first 3 months at Entegris, traveling to our U.S. sites and getting to know the team. I am delighted to be on a team that is eager to win, and I'm proud to review solid results on this first call as the new CFO of Entegris. Our sales in the second quarter were $901 million, down 11% year-over-year on a pro forma basis and down 2% sequentially. Sales were up 30% year-over-year on a reported basis. As a reminder, the CMC transaction closed in July 2022. FX negatively impacted revenue by approximately $9 million year-over-year on a pro forma basis and negatively impacted revenue by $5 million sequentially in Q2. FX headwinds were primarily driven by the Japanese yen. Gross margin on a GAAP and non-GAAP basis was 42.6% in the second quarter within our guidance range. The sequential decline in the non-GAAP gross margin was driven by lower volumes and the Taiwan facility ramp-up costs. In addition, we had an FX benefit in Q1 that did not repeat in Q2 as expected. Operating expenses on a GAAP basis were $117 million in Q2. Non-GAAP items totaled $67 million and included a $155 million gain on the termination of our distribution agreement with Element. Operating expenses on a non-GAAP basis in Q2 were $183 million, slightly below our guidance. As you would expect, we continue to manage our cost structure in this dynamic environment. Operating income on a GAAP basis in Q2 was $268 million and non-GAAP operating income was $201 million. Adjusted EBITDA in Q2 was $245 million or just over 27% of revenue within our guidance range. The GAAP tax benefit in the quarter was driven by the EC asset held-for-sale treatment. The non-GAAP tax rate was approximately 16%. GAAP diluted EPS was $1.31 per share in the second quarter, which includes a gain on the termination of our distribution agreement with Element. Non-GAAP EPS was $0.66 per share above our guidance. Now looking at our performance by division. The year-on-year sales comparisons I am referencing are on a pro forma basis for the SCEM and APS divisions. MC sales in the quarter of $284 million were up 3% from last year and up 5% sequentially. The sequential sales growth was driven by liquid filtration and gas purification solutions. Adjusted operating margin for MC was 35.5% for the quarter. The sequential margin decline was driven primarily by costs associated with the ramp of our new facility in Taiwan and the impact of lower plant production due to the inventory reductions. AMH sales in Q2 of $190 million were down 15% versus last year and down 13% sequentially. As Bertrand indicated, the sequential sales decline in AMH was driven by products more tied to WFE like FOUPs and was partially offset by growth in fluid handling products, which are more tied to fab construction, which, again, has been more resilient. Adjusted operating margin for AMH was approximately 19%, down sequentially, primarily driven by lower volumes and the ramp of our new facility in Taiwan. SCEM sales in Q2 of $200 million were down 11% year-over-year and up 1% sequentially. The modest sequential sales increase was driven by growth in etching chemistries. Adjusted operating margin for SCEM was approximately 10% for the quarter in line with our expectations. The modest sequential margin decline was primarily driven by unfavorable mix. APS sales in Q2 of $241 million were down 21% year-over-year and down 4% sequentially. The year-over-year sales decline was primarily driven by the overall decline in the memory market and the impact of the sales restrictions in China. The sales decline sequentially was driven primarily by lower volumes across most product lines, particularly in memory applications. We did continue to see strong growth in SiC slurries in the quarter. Adjusted operating margins for APS of approximately 23% were up modestly sequentially. Moving on to cash flow and the balance sheet. Second quarter cash flow from operations was $127 million and free cash flow was $11 million. We continue to be committed to improving free cash flow. Excluding Electronic Chemicals inventory balances, which were moved to asset held-for-sale. Our inventory was down 5% in the second quarter. That is progress, but more work needs to be done and this will remain a major area of focus for the team in the second half of the year. CapEx for the quarter was $116 million. We have moderated our CapEx investments in response to market conditions and now expect to spend approximately $450 million in total CapEx in 2023, lower than our previous expectation of $500 million. Next, let's discuss our capital structure. We remain committed to lowering our leverage toward our target of 3.5 times gross leverage by the end of 2024. Bertrand mentioned, a key component of our debt pay down includes divestitures. At the end of Q2, our gross debt was $5.6 billion, and our net debt was $5 billion. This equates to a gross leverage ratio of 5.2x and a net leverage ratio of 4.7 times pro forma for the announced cost synergies. Our variable rate debt is expected to be a bit more than 10% of the total outstanding debt. The blended interest rate on our debt portfolio is approximately 5.5%. Overall, a very solid rate considering the interest rate environment was experienced since we announced the CMC deal. Moving on to our Q3 outlook. We expect sales to range from $875 million to $900 million. We expect the EBITDA margin to be approximately 26% to 27%. We expect GAAP EPS to be $0.23 to $0.28 per share and non-GAAP EPS to be $0.57 to $0.62 per share. Let me provide some additional modeling items. We expect gross margin to be 41% to 42% in the third quarter, both on a GAAP and non-GAAP basis. The modestly lower margin compared to Q2 reflects the temporary impact of the termination of our distribution agreement with Element, higher costs associated with the ramp of our new facility in Taiwan and lower plant volumes driven by our continued focus on inventory reduction. We expect GAAP operating expenses to be approximately $245 million in Q3 and non-GAAP operating expenses to be approximately $180 million. Depreciation is expected to be approximately $45 million in Q3 and $50 million in Q4. This depreciation estimate reflects moving the Electronic Chemicals business to held-for-sale status starting in the second quarter and timing of our capital expenditures. We expect interest expense to be approximately $80 million per quarter going forward until we collect the proceeds from the pending divestiture of EC. We expect the non-GAAP tax rate for the second half of the year to be approximately 15%. The lower expected tax rate in both the second half of this year and going forward is due to the integration of CMC into the Entegris business model. Just to be clear, all the guidance we have provided today both for Q3 and the full year includes both the Electronic Chemicals business until it closes and the distribution agreement we have with Element until that fully transitions. I'll now hand it back to Bertrand for some closing remarks.

Thank you, Linda. In this uncertain environment, we are showcasing the resilience of our unit-driven business and strong market position. I am also very pleased with the team's execution. We're making good progress on the divestiture of non-core assets, all critical CMC integration milestones are being met and we will realize the full cost synergies by year-end as planned. We are effectively balancing short-term cost management while making the right investments for the future. And we're making those investments because we have conviction in the long-term secular growth of the semiconductor industry and because of our strong conviction in the growing importance of our value proposition, which will translate into an increase in the Entegris content per wafer and Entegris outperformance. With that, operator, let's open the line for questions.

[Operator Instructions] Our first question is coming from Toshiya Hari with Goldman Sachs.

I do apologize for the background noise. Bertrand, my first question is on the market environment. You mentioned for the full year, you're still expecting your TAM or SAM to be down in the mid-teens, so consistent with what you have said 3 months ago. But I'm guessing you've experienced quite a few puts and takes over the past 3 months just based on what your peers have said on trailing [indiscernible] being stronger and perhaps advanced logic, foundry, memory being weaker. But curious if you can kind of walk through some of the pluses and minuses that you've experienced over the past 3 months? And if you could point to what your expectations are for both CapEx and MSI for the full year, that would be great.

As I said, I mean, the industry remains very dynamic, and it is still challenging to really forecast with a great degree of accuracy, and we've seen a lot of puts and take in the market. But our views on balance have not really changed all that much since last quarter. When it comes to MSI, we do not really expect any meaningful recovery in the back half of the year. We expect a little bit of an uptick in advanced logic and likely as well in DRAM. But this will be offset by some downdraft pressure coming from 3D NAND wafer starts and mainstream wafer starts. So again, a lot of puts and takes here and not a lot of real recovery in the back half of the year. And on the CapEx front, we believe that we have reached bottom in Q2, but we do not really expect any recovery in side. So that's for the industry backdrop, and that's really what leads us to that view that the industry will be down in the mid-teens for us. And as you said, in that context, we are pleased with our performance. I mean our Entegris content per wafer continues to grow. We are seeing actually more wafer production migrating to the leading edge, especially in memory. A lot of the cuts and wafer starts in memory are taking place in older generations of memory, and we are seeing more production transferring to the leading edge where we have higher wafer start -- higher content per wafer. So that's positive. We are continuing to gain share. And we are also resolving some supply chain constraints that were headwinds in 2022. So that's the basis for the level of outperformance that we expect to deliver in 2023.

And then as my follow-up, I guess, on your last point regarding your radar outperformance. I think for this year, you noted at 6% or higher, which again is consistent with what you had said 3 months ago. I know 2024 is distance. But as you think about your customer technology road maps and your presence across the important inflections in memory and advanced logic and foundry. Do you think repeating 6% plus or minus outperformance in '24 is a high bar. I know in your long-term model with the midpoint is lower than 6%. But given the gate-all-around, your deposits would be a little too much to expect under your 6% outperformance in 2024?

Well, so Toshiya, I would say two things. I would probably start by saying that it's too early for us to talk about 2024 and probably will end with that same statement. But in between those two -- beginning points and ending points. I would say that, number one, there are reasons to believe that wafer starts will be a little bit more positive next year. And we are keeping an eye on the node transitions that what customers have been talking about then, and we expect to see a fair amount of activity in terms of node transitions. But again, we know that things change. And that's why I would say that it's too early for us to go into too many specifics.

Our next question comes from John Roberts with Credit Suisse.

Just the normal lumpiness of new fab construction timing? Or is it more delays in new fab construction I don't know if you can untangle those effects? And why wasn't Fluid Handling affected similarly?

It's a great question. And so it really has to do with the timing of the demand for those products and solutions when new fabs are being built. So typically, fluid handling products are being ordered and used really early on when the buildings are built, when the subfab, chemical FOUPs are being installed. So that actually happens relatively early in the construction projects. And if you look around, there's been a fair amount of activity in terms of new fab constructions this year and fluid handling products have been benefiting from that. When it comes to FOUPs, the timing of the shipments of those products usually coincide more with the tool deliveries and as we know, the tool intakes have been slowing down, right? And that's what has created some lumpiness in our FOUP business. That's the business that was actually fairly stable in Q1, but we saw actually a very significant decline sequentially in Q2. And if you go back in time, you will see that, that lumpiness is something that we site very often in a downturn, those shipments, especially to the large semiconductor manufacturers can be several millions of dollars. And they can have a big impact quarter-to-quarter. Having said that, our competitive position remains extremely strong, especially in the leading edge fabs. So it's really a question of timing of shipments as opposed to any concerns you may have in competitive spending.

Our next question comes from Sidney Ho with Deutsche Bank.

It's good to hear that you're reiterating the expectation for industry MSI and your whole revenue growth this year. My first question is -- I have to ask something about AI. So at least in the near-term, it looks like the demand for GPU is crowding out server demand. How does that impact Entegris? Any way you can help us conceptualize the shift of IT budget from CPU to GPU, how that impacts your business? I don't even know if there's one-for-one trade-off, but this Entegris content higher for GPU or CPU and if you include both products from SCEM and MC foundry?

Yes, it's a great question. I would just say that remember that AI, it's exciting. I think it's going to be a big catalyst for some semiconductor demand in the years to come. But today, it remains relatively small. It's been growing very rapidly, but it's small. When it comes to the difference in Entegris content between CPUs and GPUs, I would say that we are very well positioned on those 2 types of architectures. The one difference, which is positive, is that GPUs typically are larger-sized dice. And as we had, I believe, mentioned during a recent Analyst Day, those larger-sized dice create actually some complexity in terms of effect management. And that actually requires much more focus in terms of the purity of the chemistries that are used and that obviously creates a very significant opportunity for our microcontamination filtration solutions.

Maybe a follow-up question is, looking at this geopolitical tension seems to have stepped up a little bit in the last few months. Clearly, China is trying to build a self-sufficient ecosystem here. Can you talk about the competition in domestic chemicals and material suppliers, especially for lagging edge products, which is what all these new fabs seems to be focusing on?

So Sidney, I think we have seen the emergence of domestic competitors in China. This is not new. Many of those companies were created 10, 15 years ago or even longer. And there has been a big push by our domestic Chinese customers to qualify those domestic alternatives. So far, in many cases, we've been able to demonstrate the superior value proposition of Entegris. And I would say that we've been able to hold their share pretty effectively. And I think that will likely continue to be the case in the short- to midterm. Having said that, I fully expect to see the emergence of very capable Chinese competitors longer term. So that's something that we're going to continue to watch. But the punchline is that today, we continue to compete very effectively in China, you can probably see that in our results in China, which -- I mean we saw a big step down, obviously, following the new export control restrictions between Q3 and Q4 and Q1. But then I think things have stabilized, and we are seeing growth as the mainstream fabs in China are starting to ramp up production.

Our next question comes from Bhavesh Lodaya with BMO Capital Markets.

On your Taiwan facility, can you quantify how much was the start-up cost impact for the second and maybe the third quarter? And we have heard around some new announcements for fabs in the region. Focused more on AI, perhaps more on the advanced packaging side of things. Any color there around your opportunity set and how it relates to the ramp-up of utilization that you expect for your new facility?

Yes. So I mean the reason we invested in Taiwan is that we actually continue to believe in the importance of the Taiwanese ecosystem. We expect to see significant investments in the years to come, and we wanted to be in a position to appropriately support the growth of our customers and their extended ecosystem. So that's why we're investing. And as we said, we had a great opening a few months back. Our customers are giving us all of the conviction we need to really accelerate the qualification of those new manufacturing lines. So that's our focus. We're not going to give you a very precise number in terms of the cost headwind. What I can share with you just as an anecdote is that -- to put some context is we had about 100 employees at KSP, which is total calcium site. That's our -- the name of our site. So at the end of 2022, we expect that number to be about 250 by the end of this year. And remember that we do not expect any meaningful levels of production by the end of this year. So it's going to be a drag. We've talked about it very openly now for several quarters. And that's what you are seeing to a great extent in the margin guidance that Linda was providing.

And then around the CMC integration, you have spoken about revenue synergies in the past, basically around co-developing your deposition materials, slurries, filter pad, I guess, combining the 2 segments as part of that journey. But any color on how that is progressing? Are you already talking to customers around this? Any color on that?

Yes. Good question. So as we said, there will be a number of different phases for us to unlock the revenue synergies. The first phase is really around cross-selling. And we are really focused for that first phase on mainstream fabs and in particular, power electronics, and we are actually made some really great inroads in combining our SiC slurries with our SiC pads and really connecting those solutions to the best known methods of filtration. So we are actually using the sharp increase in volume productions in SiC as a great catalyst to validate this value proposition. So that's happening. That's happening now with success. And then the next phase will be about product co-optimization. And we will be doing that in the context of the new notes. So the engagement, the customer engagements are very active, very promising. We've had a lot of those meetings around the world in the recent months. But again, none of that will really be visible on the top line for probably another year or two.

Our next question comes from Charles Shi with Needham.

Maybe two questions here. First one, Bertrand, you provided Toshiya some color in terms of end market demand. I want to ask about different angle. So specifically on the MSI side, relative to your expectation, let's say, one quarter ago, advanced foundry, logic, mature and DRAM NAND, relative to your expectation on a quarter ago, how does each of the end markets are trending up versus down? And specifically, I want to understand because your full year guidance seems to imply maybe the revenue is going to bottom either in Q3 or Q4, but one quarter ago, you did expect maybe Q2 was the bottom. So I really just wanted to tie these two things together and help us understand what's changed a quarter ago?

Yes. As I said, I mean, there's a lot of -- it's very choppy in the industry right now and our views for sure. So we are today probably a little bit more bullish about DRAM than we were a few months ago, recognizing that we have less exposure to DRAM than we do to 3D NAND, right? And I think we are probably a little bit more pessimistic about 3D NAND today than we were a couple of quarters ago, which translates into probably more modest views in terms of wafer starts for 3D NAND in the back half of the year. We're also seeing some pushouts and no transitions in 3D NAND, both of which have some impact on our business. Advanced Logic is expected to recover in a modest way in the back half of the year, and that's good news for us. We're also seeing some interesting node transitions in the back half of the year, and that's good news for us as well. And then for mainstream, I think we always expressed some concern that there could be some softening in the back half of the year. That's something we always kind of anticipated, and we are seeing certainly the materialization of this and then we're taking that into account in our forecast for the full year.

Bertrand, I really want to ask a more long-term question combining SCEM and APS. We did hear from one of your key members the recently investor event earlier in -- actually in July, that some of the future opportunities would include advanced packaging. I thought Advanced Packaging wasn't really a major focus for Entegris in the past, but it's interesting to see advanced packaging being one of the growth opportunities your team is seeing over a longer period of time. Can you help us understand why the change? And especially in advanced packaging, a lot of the complexity may not be as -- it may not be as complex as in the wafer fab space. Why do you see a major opportunity there? And just help us understand what your teams are seeing today?

Yes. So you're right that there are a number of road maps in the industry that, in the past, traditionally did not require the advanced solutions that we are developing. It's true for advanced packaging. It was true also for DRAM. The good news is that all of those road maps are becoming much more demanding. In advanced packaging, I think we expect a much greater degree of precision of automation, a degree of cleanliness required in their processes. We also believe there will be more polishing step required with the bonding of the wafers. And all that will open up opportunities for our AMH products in terms of wafer carriers, slurries and pads for the polishing applications, and very likely also opportunities for our filtration and cleaning product line. So that's something that we are very focused on today. And again, to expand that, I would say that a similar view in terms of the DRAM road map, again, typically, Entegris content per wafer on a DRAM chip is way less than 3D NAND or Logic. But this is changing. In the case of DRAM, we are seeing a push for more your transition. We are seeing approach for 3D architectures on the backside of the chip, all of which will create opportunities for our microcontamination solution set. Will require a new precursor for the new films and highly-selective etching chemistries will also be required for the upcoming DRAM architecture. So if you look across the Board in the semi-conductor industry, we are increasingly excited about the various road maps, and we believe there will be many opportunities for us to continue to increase the Entegris content per wafer.

Our next question comes from Kieran De Brun with Mizuho.

Just to start off, maybe on SCEM. Can we talk about the mix that you've been seeing, like how we should be thinking about margins going forward? If there's any color on how you think about exiting the year as some of these kind of mixed headwinds seem to lap or abate as we get into the end of the year, that would be helpful.

Yes. So when it comes to SCEM, I remember that we've been very clear now for several years that this is an area where we see a lot of opportunities. I mean, back to the comment I was making in the context of DRAM, 3D NAND or even advanced packaging, I think that, that's the time to really enable the new materials and chemistries that will support the ambitious road maps of our customers. So we want to be investing, and that's why the bottom line performance of the SCEM is very modest this year, around 10%. We expect some very modest recovery in the back half of the year, but really, the recovery will come with the adoption of the new materials that we're developing, and we need those materials to reach high volume. If you go back to the Analyst Day last year, you will notice that SCEM was expected to be the lower -- I mean, the -- yes, the lower margin business of all the 4 divisions. And that is a function of the level of investment we intend to make there. But remember, in terms of the external reporting with the combination of APS and SCEM, we intend to have a 3 segment reporting starting Q3.

And then maybe just on the combination of SCEM and APS. I think back in the Investor Day, APS was growing at like a 200 basis points to 400 basis point above market, where SCEM is in kind of the broader range of like 300 basis points to 600 basis points. When we factor in revenue synergies and the integration of CCMP, how do you think about that combined segment? Should we be thinking about in that kind of 300 basis points to 600 basis point range going forward? Or is there probably going to be a little bit of a lower growth rate versus the broader market when we think about the combination of both businesses? And if so, is the ambition to get it back up to kind of that 300 basis points to 600 basis points?

Yes. So we have a high degree of conviction in the power of this combination and the ability to really develop very unique end-to-end solutions for customers. And that's going to translate into superior growth longer term, right? And so we will reset those expectations. We are thinking about having potentially an Analyst Day in the first half of next year. And that's going to be an opportunity for us to actually reset some of those expectations in terms of top line growth potential and bottom line potential for each of the 3 divisions.

Our next question comes from Aleksey Yefremov with KeyBanc Capital Markets.

This is Ryan on for Aleksey. I guess the first question I would have is starting in MC -- you guys flagged headwinds from lower production in 2Q. First off, wondering if you guys might be able to quantify that for us? And then secondly, just what are your expectations on potential headwinds from the same thing in the back half?

Yes. I mean -- I think those supply chain constraints have been easing. That's the point I was trying to make. There are some modest lingering supply chain constraints, but it's really not very material. So we expect -- I mean, of course, year-to-date, micro contamination has been the shining star of our portfolio. It's up 2% year-to-date. In particular, our liquid filtration platform has been growing very nicely. We delivered a record quarter actually in Q2 this year in spite of the industry conditions that you are well aware of. So again, it's just a validation of the growing importance of those filters when it comes to yield optimization when it comes to chip long-term reliability. And we expect, again, this business to continue to do very well in the back half of the year.

Great. Very helpful. And then just secondly, just looking at kind of like what the implied EBITDA is for 4Q, it looks like there's a fairly strong step up 3Q to 4Q. So just wondering if you could talk about some of the drivers there?

Yes. So as we think about moving into 4Q, I mean, a lot of it is going to be mix as we've seen so far -- we have seen some strength in our unit-driven businesses like MC, which does have a good mix impact with that business. And then we do have the -- on the CapEx side, the businesses tied more to the fab construction. So that will be a big piece of it. Secondly, we are going to continue to focus on cost control. So it's really critical as we balance throughout the year, to balance cost controls against investment. So as we think about that balancing, that is what we're focused on. We did hold our guidance for the full year and hold our guidance on the EBITDA margin. So that is another piece of the puzzle that we're balancing.

Our next question comes from Timothy Arcuri with UBS.

Can you talk about the puts and the takes on the model with these different moving parts? I mean obviously, we're going to lose EC, you lose some revenue, but obviously helps margins. You have the termination of the Element Solutions deal. You get some cash but you have to kind of rebuild that channel for these plating chemistries. That might not be a factor because you did use your existing channels. So I'm just kind of wondering if -- like maybe you could take December and you could sort of rightsized the base for us, what it looks like sort of on a pro forma basis as you enter 2024?

Yes. So Tim, I probably can take the lead here. Just to probably say that it's -- there are a lot of moving pieces to your point, and it would be probably more confusing than helpful to really try to unpack everything. I will only cite a couple of factors, though. One is the termination of the distribution agreement with ends on, for instance, we'll have actually a pretty significant detrimental impact on gross margin in Q3 and potentially Q4. The reason being that while we collected the proceeds, we still need to serve existing customers, but we'll do that at 0 margin until all of the customer transitions are completed. And that's going to have an impact of about 0.5 point of gross margin roughly. So again, I think there are a lot of puts and takes. The takeaway for you is really that indeed, once all of those divestitures are completed, the financial profile of the company will be different and will be more attractive. And that's one of the reasons why we think that we have to do an Analyst Day sometime in the first half of next year to actually show you what Entegris looks like once all of those divestitures are completed and talk about the long-term potential of the platform. And that's not something we're going to be doing on the call today.

Yes, I get that there's a lot of moving parts. So there was a question before on China. I guess my question, I mean, certainly, they are making huge investments. They're making big investments in chemistries and things that they ultimately hope will displace companies like you. But sort of how do you handicap and there was a question sort of generally about the risk -- but how do you isolate what your portion of revenue is going into the domestic China chipmakers? So I know that as you report it, it's roughly 15% of revenue, but that's not just domestic China chipmakers. How do you sort of handicap and ring-fence what is going into the domestic China guys?

Yes. So what we've said, it's about 2/3 would be domestic, I mean, high level, and that's something that we'll obviously, given the current regulations, we are paying very, very close attention to. And we are engaging with individual customers, asking them to represent to us that they are operating their fabs within the permissible technology node. And that's something that we're going to continue to operate for every precisely. So I'm not sure exactly what is behind your question, Tim. Maybe you can help me.

I guess, Bertrand, I asked because it does appear likely that there's going to be some push to restrict even lagging edge nodes. I don't know what they're going to do. But certainly, there's -- where there's smoke, there's typically fire. So I'm just wondering how you could get kicked in that. So I'm just kind of trying to ring-fence what's going to the domestic China companies, which -- most of which would be lagging edge because of the current restrictions.

Yes. I mean, I can only talk to you about the existing restrictions. I will not speculate on a new wave of sport controls or any other measure. I mean that's -- I don't have any unique knowledge and I won't speculate on that. We'll talk about it if there is anything specific that is enacted.

Our next question comes from Mike Harrison with Seaport Research Partners.

Can you hear me okay?

Yes.

I was hoping that maybe you could talk a little bit about the mix that you're seeing within the planarization business. You said that volumes sequentially were lower across most product lines, but I know you called out that SiC opportunity, which I believe is small today but growing nicely. Just curious, are you expecting to see a faster recovery within some of the more advanced slurries as you look at the second half and into 2024?

Yes. So I would say that -- when I look at the APS results, they are mostly in line with our expectations, especially given the very depressed environment that we've experienced in memory. The bright spot has been and we expect it to continue to be the SiC application, both for slurries and pads. That part of the business has been growing year-on-year, growing sequentially, and we expect that to continue to be the case in the back half of the year. But we also expect to turn a corner in silicon applications. And I would expect overall EPS to have a better second half than the performance we saw in the first half.

And then just in terms of the CapEx reduction in your outlook for this year, can you give us any sense of what's being delayed? I assume that's not any delay in the ramp-up of Taiwan. But is any of that related to the work that you're doing in Colorado Springs?

Yes. We remain very focused on the growth in Taiwan and Colorado Springs. So it's nothing specific to that timing. It was a general delay. And also, as we said, we're looking at the market environment, having less CapEx is going to benefit us from a cash standpoint and ties very well to the market environment as well as our goals to continue to pay down debt.

Our next question comes from Chris Kapsch with Loop Capital Markets.

So my questions were focused on the APS or the slurry business. You just provided some color there. But I'm curious if you could just characterize if there's been any change in the competitive landscape for slurries generally, given the memory end market weakness? And then more specifically, just curious how the tungsten slurry business is doing, maybe as gauged by content per wafer when looking at those advanced more complex 3D NAND architectures. And also, how is the advanced oxide slurry business doing given what I believe is an advantage proprietary position there?

Yes. So look, I mean, I would say that right now, the competitive position has not changed all that much, right? And then so we are not losing any share, we're not gaining any share that would impact the short-term results. I would tell you that there are a number of new design wins that we've been able to get awarded that are very interesting and very exciting, especially around advanced dielectrics. And that actually is both in logic and memory. So what -- that's one of the reasons I answered the question the way I did to a previous question about, can we legitimately expect EPS to grow at a growth rate similar to SCEM in the years to come? And I would say, it's a fair expectation, and that goes back to the commitment we made to unlock positive revenue synergies as we learn to better optimize and co-optimize our solutions across the platform. As I said, customers are very receptive to this possibility and hypothesis, and we're working very, very hard to actually unlock the full potential of the platform, and that's going to translate into growth, both in slurries and a number of ancillary products.

Just as one follow-up. I'm just inferring from your answer there that the content per wafer per, if you will, and advanced memory is increasing, but it sounds like it's maybe more driven by oxide polishing versus tungsten. Any comment there? Or maybe it's both in terms of visibility around -- perhaps it's

I'm not sure I want to go -- I'm not sure I'm going to go into that level of specificity in these calls. But I think across the Board, we're making some good progress.

And we have reached our allotted time for our question-and-answer session. I will now turn the floor back over to Bill Seymour for some closing remarks.

Thank you, everyone, for joining today. Please follow up with me if you have any questions. Have a great day, and you can now disconnect.

Thank you. This concludes today's Entegris Second Quarter 2023 Earnings Conference Call. Please disconnect your line at this time, and have a wonderful day.