Good day. My name is Priscilla, and I will be your conference operator today. At this time, I would like to welcome to the KLA Corporation First Quarter Fiscal Year 2021 Earnings Conference Call and Webcast. All participants’ lines have been placed on listen-only mode to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session [Operator Instructions]. I would now like to hand the conference over to Mr. Kevin Kessel, Vice President of Investor Relations. Please go ahead.

Thank you, Priscilla and welcome to KLA’s fiscal Q1 2021 quarterly earnings call to discuss the results of the September quarter and our outlook for the December quarter. Joining me today is Rick Wallace, our Chief Executive Officer and Bren Higgins, our Chief Financial Officer. During today’s call, we will discuss quarterly results for the period ending September 30, 2020 that we released today after the market closed in the form of a press release, Shareholder Letter and slide deck. All of these documents can be found on the IR section of our Website. Today’s discussion of our financial results and outlook is presented on a non-GAAP financial basis, unless otherwise specified. A detailed reconciliation of GAAP to non-GAAP results is in today’s earnings materials posted on the KLA IR Web site. Our IR website also contains a calendar of future virtual investor events as well as presentations, corporate governance information including our quiet period policy and links to KLA’s SEC filings, including the most recent annual report and quarterly reports on forms 10-K and 10-Q. Our comments today are subject to risks and uncertainties reflected in the risk factor disclosure in our SEC filings. Any forward-looking statements, including those we make on the call today, are also subject to those risks and KLA can not guarantee those forward-looking statements will come true. Our actual results may differ significantly from those projected in our forward-looking statements. We changed the format of these calls last quarter to include pre-publishing a shareholders letter that provide deeper insights into our business. We will also start by providing some streamlined highlights from our full prepared remarks, while still providing more time overall for your questions and answers. With that, I'd like to turn the call over to our President and Chief Executive Officer, Rick Wallace. Rick?

Thanks, Kevin, and welcome to everyone joining us today. As we rapidly approach the end of the calendar year, it's amazing when I stopped to think how much has changed over the last 12 months. I hope you and your families are safe and in good health and I appreciate your continued interest in and support for our company. I want to make sure I begin my remarks today by conveying my appreciation to the worldwide KLA team. It's your perseverance, strive to be better and determination that exemplify KLA's core values and enable us once again to meet our commitments and to deliver exceptionally strong financial performance in the September quarter. On behalf of the entire KLA executive team, I want to thank you. In this quarter's Shareholder Letter that was published today, we highlighted how our results demonstrate the resourcefulness of our global workforce, the resiliency of our business model and our continued commitment to returning value to our shareholders. As many of you may have already seen, our September quarter revenue and non-GAAP EPS both finished at the upper end of our guidance, a result of continued strong demand from customers, exceptional execution by our global teams and the enduring strength and resiliency of the KLA operating model in guiding our strategic objectives. I'm pleased to say that, we are continuing this momentum into the December quarter and nearing the end of what truly has been an unprecedented year in calendar 2020. Most importantly, we are executing at a high level, operating from a position of strength in our marketplace and are solidly on track to meet or exceed our 2023 financial targets. In terms of the resourcefulness of our global workforce, we just completed the third quarter of operating through a pandemic. COVID-19 has presented an…

Thanks Rick and good afternoon, everyone. KLA's September quarter results once again demonstrated both the soundness and strength of our ongoing strategy. We continue to exhibit our ability to meet customer needs and expand our market leadership, while growing operating profits, generating strong free cash flow and maintaining robust capital return strategy. Total revenue was $1.54 billion. Non-GAAP gross margin was 62.1%, at the upper end of the guided range for the quarter of 60.5% to 62.5%. Non-GAAP EPS was $3.03 at the high end of the guided range of $2.42 to $3.06. GAAP EPS was $2.69. Gross margin at 62.1% was 60 basis points above the midpoint of guidance, as higher semiconductor process control product mix, lower inventory reserve requirements due to strengthening demand and services leveraged, drove the upside realized in the quarter. Revenue for the semiconductor process control segment, including its associated service business was $1.27 billion. In terms of approximate customer segment mix of process control systems revenue to semiconductor customers, foundry was strong as expected at 59%, logic was 10% and memory was 31% in the September quarter. Within memory, the business was split roughly two thirds DRAM and one third NAND. Revenue for the specialty semiconductor process segment was $89 million, down 11% sequentially but up 29% year-over-year. Demand in this segment is driven by growth in RF, MEMs and advanced packaging. PCB, Display and Component Inspection revenue was $181 million, down 10% sequentially but up 1% year-over-year. In terms of balance sheet highlights, KLA ended the quarter with $2.04 billion in total cash, total debt of $3.45 billion after retiring $50 million outstanding on our revolving line of credit and a flexible and attractive bond maturity profile supported by investment-grade ratings from all three agencies. From a cash flow and capital returns perspective,…

Thanks, Bren. Priscilla, I think we're ready for you to queue for questions, please provide instructions.

[Operator Instructions] We'll now take our first question from John Pitzer with Credit Suisse. Your line is open.

Congratulations I just wanted to follow-up, Bren, on your commentary around China. You said the results of licenses will not have a material impact on the December quarter revenue. Is that because you've already adjusted for it in your guidance or you just don't think that most of your shipments to SMIC require a license? And in that same vein, just given that China continues to be extremely strong, I think one of the key investor concerns out there is that the fear of bands are causing customers to pull forward. I'm wondering if you could just talk a little bit about the mix of your China business between domestic and multinational and kind of that concern of pull forward?

So on the SMIC situation, as we said in the prepared remarks, we've applied for licenses for the December quarter where we think we need them. And if you look at just overall, I mean, SMIC, just for some background, it's an important customer but not a particularly large one. And over the last six months or so we've been discussing a broadening of investment. And certainly, they participated in that. There's probably timing factors that are involved in terms of how others are seeing this business come in over the course over the year. But as we look at what we revenued in the September quarter and where there was no effect and then we look at the December quarter, we've applied for licenses, as I said, where we need them. And at the end of the day, when we look at the overall expectation of revenue on our business for the quarter, we just don't see it having a material impact. So we didn't have to adjust anything, frankly. So our plans are consistent overall. So there's no change there. On your second question really difficult in our business. I mean, certainly, demand overall has been very strong. And so when you have a customer try to pull in a delivery, it means that they're taking a slot from another customer. And given the overall demand profile, that is -- most of the customers are sticking with their slots. So we haven't really seen a change. We've been, I think, fairly consistent in our view of shipments for the year of about $800 million. It's been second half loaded. It's what we are seeing today. So I haven't seen much of a change overall in terms of the behavior for customers, at least in regards to our products.

And we will take our next question today from Harlan Sur with JPMorgan.

Great job on the quarterly execution and strong results. On the innovation and new product front, there's a good correlation in years where the team rolls out new tools and platforms and then the forward revenue momentum for the next few years. Last year, you guys I think launched about 10 new tools or platforms, second iteration of your Gen5, your new X-ray metrology platform, e-beam inspection platform and also your multi column e-beam inspection for mask inspection, just to kind of name a few. Are these platforms contributing to the incremental upside in revenue performance this year? And how many new platforms do you guys have in development and/or will be introducing over the next 12 months?

As you might imagine, these programs are at different points in their life cycle. So yes, we have seen contribution. For example, we talked about print check for EUV with the BBP platform, and that's been a continuation and a broadening of that demand. In other cases, we've talked recently about where we are in terms of the X-ray metrology product or the multi-beam reticle tool. Those are not contributing in a material way to the revenue in the near term, but those are products that we do expect to fuel our growth in '21 and beyond in support of the 2023 plan. In terms of how many programs we have under development, we have a number as always of significant investments going on. But as you might imagine, there are various phases of introduction. But when we laid out our 2023 plan, we're pretty confident that the programs that we've got in place and the ones that are under development are where they need to be in order to support the 2023 plan. The challenges of some of those, as you might imagine, there have been some COVID challenges, which maybe hit us harder early in COVID. And then we -- in terms of program execution. But we feel like we've made great progress in terms of navigating that. And we feel good about where we are, which is why we say we're on track to meet or exceed the '23 plans that we laid on. Bren, do you want to add to that?

Harlan, I think one of the things that we're pretty excited about is that over the last year or so, we've introduced platforms in a lot of our core businesses. And those platforms have had really strong market perception. We think you mentioned Gen 5, but also new iterations of the Gen 4 product line and customers mix and matching across both tool sets and supporting a wide variety of designs and different process flows, which has been great for the business. But new laser scattering offerings, you mentioned e-beam, we have a new e-beam inspection product. And the portfolio strategy of the company, as we connect those tools and we leverage common interfaces and common algos, common software, it's been able to, I think, provide a pretty competitive offering out there in the marketplace. And so we've been able to maintain our share. We grew share in 2019. We think we're going to maintain that in '20, maybe improve it a little bit and been able to do it at very strong margins. So certainly, growth in the overall business is a factor there but also the product position is a factor. So we're pretty pleased with what's out in the marketplace. And to Rick's point, we've got some new things coming down the pipe that hopefully will drive our performance against our '23 targets.

We will go next to C.J. Muse with Evercore. Your line is open.

I guess, I was hoping perhaps you could speak a little bit about the confidence that you have on sustainable spending in the first half of '21. And in particular, I would love to hear your thoughts around foundry and logic contributions. And as part of that, if you could touch on what impact if at all you might see if we see greater spend on 5-nanometer versus 3-nanometer at TSMC? Thank you.

As we said in the prepared remarks, we had very strong backlog coming into the quarter. We had a positive book to bill this quarter. And if we look at the funnel of expectations into the December quarter, just the overall order outlook as we look into December and into March and then the backlog position we believe will take into the year, gives us some confidence of sustainability of these business levels. And so while it's early for us to spend a lot of time sizing '21, and we'll have more to say about ‘21 in the next earnings call in January, that overall position gives us confidence that we'll see some sustainability here. From a foundry/logic point of view when you look at the overall market, and there are puts and takes there. But we are pretty confident in the fact that foundry/logic looks like that it has sustainability as we move into the first half of the year, I don't see it changing. Obviously, quarter-to-quarter there's always fluctuation. But in general feel very good about the profile of that business as we move in the first half.

And just one thing to add, C.J. I think one of the beliefs and our investment thesis on some of our new capabilities, for example, EUV print check, was that we were going to be highly relevant in the advanced nodes. But of course, people really hadn't hit much volume. So we've really seen proof of that concept. And we're getting a lot of customer pull for capacity and capability to support those ramps, and it's not just at one customer. So we feel very good about the process control intensity expectations that we had going into these nodes. We're seeing them being realized. So we view that as another positive indicator, not just on the overall foundry spend but on the process control related spend.

We would expect Gen 5 to have some growth next year in wafer starts and we also expect to see some, what we call mini line risk production type investment on N3 more towards the middle of the year end, into the second half.

Thank you. And we will move to Krish Sankar with Cowen & Company. Your line is open.

I had a question for Rick or Bren. You guys mentioned in your prepared comments memory should see growth next year. I understand you're going to give more color in January. But just within that context, how would you expect KLA revenues to trend? The reason I'm asking is there's a general view that within the memory vertical, KLA has more exposure to NAND than DRAM. So I'm kind of curious to hear your thoughts on '21 memory and KLA's performance.

Really, since the middle of 2018 or so, we've seen very disciplined spending by our memory customers. And so we've seen that continue through after a strong down year in 2019 to a flattish year here in 2020. We see some modest recovery here in the December quarter as you see from the disclosures we gave for the quarter. And we see that continuing as we move into next year. I don't see -- just if you look at the overall pricing environment and certainly the smartphone and timing of data center recovery, we'll have an impact on the overall memory environment. You've got EUV introduction into DRAM, which could be a factor as well as we move into the second half of the year that we would expect to see memory as an improving business for us as we move into '21. As I said, I think that the discipline has been there. And as we start to see pricing recover, I think you'll see more investment there. But I wouldn't say it's a huge expectation in terms of growth but I think a lot of it will be dependent on some of the end market dynamics that I mentioned. From a process control intensity point of view, it's a little bit higher today in 3D flash than DRAM, although the introduction of EUV and DRAM is an opportunity for us to drive process control intensity. So I think we're optimistic about that when we start to see that play out. And then also as stacks, layer counts increase in flash that we will see more opportunities for our metrology product lines. We've got some new product offerings. We also have the e-beam inspection tools. We talked about where things that we believe will ultimately create some opportunities for us for either intensity improvement or share. So I think we're pretty optimistic about those opportunities.

And we will move next to Joe Moore with Morgan Stanley. Your line is open.

Sorry to go back to this, but I just want to make sure I understand the SMIC situation. Are you saying you didn't have exposure in the September quarter? And then, I guess, as you look at these rules, is there sort of an equal impact whether you ship out of the US or whether you ship out of Israel or Singapore?

In the September quarter, the change or the notification from the government came in at the very end of September. So there's no impact in the September quarter. And so as we look at the December quarter, as I said earlier, when we have to apply for licenses, we've applied for those. And we don't think that the granting of those licenses within the time frame we're talking about or not, will have a material impact on the business.

And is there a difference as to where you ship out of it? Is it a different licensing process, whether you ship out of the US or from a foreign location?

Well, the licensing requirement is -- there isn't a licensing requirement that comes from a factor.

And we will go next to Patrick Ho with Stifel. Your line is open.

Rick or Bren, in terms of your PCB business, it's actually had a few strong quarters and you mentioned that 5G has been a big driver. You've given us the road map and a lot of the development on the process control area. Can you just talk about, I guess, the product road map on that business and because these type of tools typically have a long lifespan. When do you feel the need to call refresh and upgrade it for this next wave of line that's being driven by 5G?

It's a great question. And the answer is, we're relatively new to this business. So about year and half year, very impressed with what the Orbotech team had been doing. And I think in conjunction with them, we're really working hard to make sure we have the right amount of investment to continue new products meeting customer needs. And I would say that they had great engagement and we've added that. And as a result, we're investing heavily in that business to make sure that we're meeting some of the emerging demand, the flex PCB and all the new substrates, all the things. This is the beginning, as you know, of the 5G. And we think there's a continued opportunity for system growth over time. So we're very bullish on what that team has done. And in combination, we think it's been a tremendous success so far and a lot of upside as we go forward. But like KLA businesses, it requires continued investment in new capabilities and we're doing that right now.

And we will move next to Timothy Arcuri with UBS. Your line is open.

Bren, I had a question about your Semi Systems business. If I sort of take your prior comments about the PCB and the Display business for calendar half-on-half, you said it would be down half-on-half. So that would imply that, that segment is sort of at best flat for December. And that's the biggest piece other than Semi Systems. So it seems like Semi Systems have to be up about 5% to like 9.35 to 9.40 for December? So I guess, A, is that right? And B, assuming it is, then your systems for the year are up about 10%, which is about in line with where we think WFE is? Yet you said that you're outgrowing the market. So I just wanted to see if you can fit those comments. Because it doesn't seem like you're really gaining WFE share this year, and you didn't gain anything last year either in a period where we've seen pretty big mix shifts toward foundry/logic. So I guess, can you sort of speak to that? Thanks.

A few questions in there, Tim, and I'll try to answer this for you. Yes, I mean your conclusion around December sequential Semi Systems is right, mid single digits. Obviously, we run the business at a total company level. But in terms of our expectations, it looks like it's sequentially a bit single digit growth here. And so when you take in aggregate, you add all that up that with our semi systems, probably somewhere in the neighborhood of about 15% growth year-over-year against a market environment that's 10%. So that's an outperform. And if you look at last year, WFE was down about 7% and our Semi business was up 1%. So that's an outperform too in 2019. So we can spend some time with you on the math on all of this, but that's how to think about your questions.

Thank you. We will go next to Atif Malik with Citi. Your line is open.

Rick, if I look at inspection and measurement, industry sales attach rate to lithography sales historically, it makes a new high as industry introduces newer wave length. As you look at EUV now since introduction at 7-nanometer growing to 26 steps at 3-nanometer and some introduction at DRAM. Do you think the defect challenges associated with EUV remains a tailwind for your process control business or leveling off?

I think it's a good question. What we've seen so far, as you know, we're relatively conservative, but we have had indications and we believe earlier in EUV that we would see increased penetration of our advanced optical tools as well as in the mass shop. That's really playing out. So we do model process control intensity going up as a result of increased EUV adoption. And part of why that's working for us is, I mentioned EUV print check. That's essentially kind of a new category where we're able to deploy additional BBP tools to support the RAM of EUV. And as you might imagine, those wafers are incredibly expensive. So there's a a real focus by our customers to make sure that they're obviously optimizing their yield and catching excursions. At the same time, the size of the defect is becoming more relevant and smaller defects. So our tools end up having to run in modes where they capture smaller defects with increased algorithms, which also means that the capacity needs increase as the design rules go down in order to cover and detect. So yes, I would say that those are both tailwinds and our customers tell us that because they're very ambitious about ramping the advanced nodes and wanting to make sure we're in a position to support them. Does that answer your question?

We will go next to Quinn Bolton with Needham & Company. Your line is open.

I wanted to first ask just the patterning business, up 21% sequentially. It looks like it had a pretty strong quarter. Wondering if you could highlight sort of what areas within pattern and really drove that growth? And then I've got a follow-up.

Patterning overall, we had a strong quarter in reticle inspection. So quarter to quarter, that was the biggest driver.

Do you expect that to continue or is that a fairly lumpy business?

Well, it's big ASPs. And so it's low integers and big ASPs. And so depending on timing, it does tend to be lumpy. Overall reticle inspection, because of the number of design starts in advanced foundry has been a really strong business for us. So I think that when we look at it overall, it was a very strong year in '19 and '20. It’s down a little bit from '19 in that business but still pretty strong. So I think those drivers will continue. And as we move into next year and we start to move into some of our offerings to support additional EUV activities, we should see some contribution from there as well. But reticle inspection was a driver. But to your point, it is lumpy quarter-to-quarter.

Follow-up question, just ASML, in call you talked about some modulation in its EUV system deliveries given no transition timing of some of its customers. Wondering if you look into next year, do you see continued growth in EUV print check, or do you expect that to perhaps soften for some period of time?

I wouldn't say softened. I mean the challenge that customers have with EUV print check is into new application, there are new algorithms. There’s new defects that they've got to run down and do source. And so there's a huge appetite to get that. In fact, we're getting a lot of pressure to get systems that were forecast delivered to support that. And there are additional algorithms, as I said, we're developing. So all the indications we see are an expanding opportunity for EUV print check and I think that will go for some time based on the early indications that we're getting.

We'll go next to Vivek Arya with Bank of America. Your line is open.

I wanted to dig into the gross margins and your operating margins, both were above your longer-term planned for September. And I believe the midpoint of your guidance says that they can sustain at these levels. I'm curious, how should we think about the trajectory of these margins going into the next several quarters? Can they sustain at these levels or do you think that there was anything abnormal, whether it was COVID or mix related that helped you? And as kind of part B of that, it was good to see you restart the share buybacks, but the levels are still somewhat below, I think what you have done in some prior quarter. So any color around just the sustainability of margins and how you can reaccelerate share repurchase would be very helpful. Thank you.

On gross margin, as I said earlier, we've been very pleased overall with the product positioning overall and the pricing related to that positioning. So that's been a good thing for our business. I mentioned operating leverage in Service. And so with the growth of the Service business, the utilization rates in the installed base that one thing with consolidation in the industry allows you to really drive good utilization across your resources. And we've invested in a lot of infrastructure over the last few years and we're starting to see the benefits of that now. We are getting the tailwind too in our EPC group related to acquisitions that the acquired businesses are doing better from a margin point of view. So there's a number of factors that are driving. If you look at our long term plan, we talked about 60% to 61% at these revenue level type gross margin performance. And I would expect us now to be somewhere between 61% and 62%. You do have mix factors in any given quarter. But I do think there's probably a good point here of sustainability versus the model that we had. If you take it down to operating margins, I think we're underspending our normalized spend levels just because of some of the COVID constraints around travel, but also how quickly we can hire people and so on. So I do think that the spend level is probably understated a bit when compare it to what normalized would look like. But I do think that there is a point here that drops through that has sustainability to it. Mix issues notwithstanding in any given quarter. On the buyback, as we back up and just look at it, we start with a principle in terms of how we look…

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I just want to revisit prior question on memory. You mentioned in your letter, customers were looking for higher big growth to meet demand. Just any more color where that demand is coming from? And I know you don't want to guide for memory next year, but just any color on what type of magnitude outside you're seeing?

Well, like I said, we're optimistic. We see some improvement in the December quarter, and I think that continues as we move into next year. So most of it coming from customers supporting 5G and handsets, we think that's probably the biggest driver. But it's pretty modest growth at these levels just given where the industry has been, but we're optimistic that we'll see growth as we move into next year.

And I'm showing that we have no further questions. At this time, I'll turn the call back to Kevin Kessel for any closing or additional remarks.

Thank you very much, Priscilla, and thank you, everybody, for your questions and your interest. We will be talking to you shortly during the quarter during our virtual investor event. This concludes the call.

This concludes today's KLA first quarter 2021 earnings call and webcast. Please disconnect your line at this time, and have wonderful day.