Good day, ladies and gentlemen, and welcome to the MKS Instruments First Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to introduce your host for today's conference, Mr. Seth Bagshaw. You may begin.

Thank you. Good morning, everyone. I'm Seth Bagshaw, Vice President and Chief Financial Officer, and I'm joined this morning by Jerry Colella, our Chief Executive Officer and President. Thank you for joining our earnings conference call. Yesterday after market closed, we released our financial results for the first quarter of 2017, as well as updated our 2017 target operating model. You can access this information at our Web site, www.mksinstruments.com. As a reminder, various remarks that we make about future expectations, plans and prospects for MKS comprise forward-looking statements. Actual results may differ materially from those indicated by these statements as a result of various important factors, including those discussed in yesterday's press release, in our annual report on Form 10-K for the year ended December 31, 2016, which is on file with SEC. These statements represent the Company's expectations only as of today, and should not be relied upon as representing the Company's estimates or views as of any date subsequent to today, and the Company disclaims any obligation to update these statements. Today's call also includes non-GAAP adjusted financial measures. Reconciliations to GAAP measures are contained in yesterday's earnings release. In addition, we'll refer to certain pro forma measures that the acquisition of Newport Corporation, which closed on April 29, 2016, had occurred at the beginning of the first quarter of 2016. Now, I'll turn the call over to Jerry.

Thanks, Seth. Good morning everyone, and thank you for joining us on the call today. I'll begin with our results for the first quarter of 2017, following that I'll provide a few highlights on our business and an update on our integration of our Newport acquisition. Finally, I'll provide our outlook for the second quarter, 2017. Seth will follow me with further details in our financial results, and then we'll open the call for your questions. We are very pleased that we achieved record quarterly revenue of $437 million, an increase of 33% on a pro forma basis from a year ago, and up 8% sequentially. Our strategic objective to drive sustainable and profitable growth has allowed MKS to not only leverage technology inflection points within the semiconductor market, but also to further drive growth in a number of adjacent markets. In this quarter, semiconductor revenue and sales of other advanced markets on a pro forma basis increased 54%, and 10% respectively from a year ago. Non-GAAP net earnings also reached a new quarterly record, and totaled $70 million or $1.27 per share. We solved the most difficult challenge by utilizing our deep and broad technology portfolio, thus enabling MKS to outpace underlying industry growth rates. In 2016, our semiconductor revenue growth rate was almost two times the industry growth rate as we drove new design wins in critical applications. There are also more diversified and broad-based drivers that provide additional long-term growth opportunities for MKS. Historically the semi market has been driven by enterprise applications. However, the landscape has been changing, with demand shifting to consumer-driven segments. Mobile devices are still the main driver in the consumer space, with smart vehicles and virtual and augmented reality are a few of the new technologies that should drive growth, with cloud…

Thank you, Jerry. I'll cover our first quarter financial results for an update in our 2017 target financial operating model, and finally I'll discuss our Q2 2017 guidance. Revenue for the quarter was $437 million, increased 8% compared to Q4 2016 revenue of $405 million, an increase of 33% compared to pro forma revenue of $330 million in Q1 of 2016. Revenue for the quarter was above the high end of our guidance due to continued strong demand from semiconductor customers. Sales for semiconductor market increased 14% sequentially to $260 million which represents a new quarterly record for MKS. Sales for other semiconductor customers were board based as we experienced strong growth in both OEM customers and semiconductor device manufacturers. Sales to other advanced markets were $177 million. Increase of $1 million from Q4 2016, and increase of 10% on a pro forma basis from year ago. Shipments into certain areas of these markets are product-based and can and do vary from quarter-to-quarter. We also experienced strong order growth rate in the first quarter in these markets. GAAP and non-GAAP gross margin was 47% and non-GAAP operating expenses were $107 million, all of which was in our expectation at this revenue volume. Non-GAAP operating margin was $22.5, reflecting the strong operating leverage at these revenue levels. GAAP operating expenses included $12.5 million in amortization of intangible assets, $1.4 million in integration cost related to the Newport acquisition, $500,000 restructuring costs related to consolidation of certain facilities. And finally, $4000 in cost related to the sale of our data analytics business unit which closed early in the second quarter. GAAP interest expense was $8.8 million, which included $2.4 million of amortization of deferred financing costs and non-GAAP interest expense was $6.4 million. The non-GAAP tax rate was 26%, which is in…

Thank you. [Operator Instructions] Our first question comes from the line of Amanda Scarnati from Citi. Your line is open.

Hi, good morning. Great results. Just a quick question on [indiscernible] trajectory of your business; you look at semiconductors versus the non-semiconductor market, Jerry, I think you mentioned that the non-semi markets are looking good and you are seeing growth in industrial, science, and research. How does that play into kind of percentages of the business, semis has been around 60% of sales, and I believe the goal was to get a [indiscernible] 50-50 split, but with semis performing so well do you see that happening or do you think that 60% range is more reasonable for semis?

Right now, I mean based on what we're seeing with continued positive news from our customers and their customers, that just the adoption of MKS' products in Asia -- China is another growth region we expect to pickup over time for ourselves. It's hard to beat a 60-40 split on semi. We are running real fast to continue to increase the non-semi business, and we're progressing well there, particularly with the Newport acquisition. But I think 60-40 right now for the foreseeable future just because of the strength of semiconductor is probably not a bad projection. And I'll that, make a lot of money with that.

Great. Semis is performing great so it's hard to beat it.

It is.

In terms of growth in Asia, and China specifically, do you see any increase in direct sales to Asia, or is it more just kind of following along with applied materials [indiscernible] and what they're seeing?

Well, we have a tremendous position in Korea, as an example. This quarter alone, Korea represented about 11% of our total revenue. Out of $437 million it was in the mid 40s. We took a business in five years ago or so there was like $60 million to $114 million this past year, with this quarter being -- the last quarter being so tremendously successful. So certainly we expected to have [indiscernible] growth, as our customers do, but we've got a lot of different opportunities in things like OLED and industrial applications in China, as well as other areas in the region. So I think right now it's best to model growth as it is, but I think we just see continued upside based on our position. In China alone, I think we have like 30 additional design opportunities right now in semiconductor, where we already have pressure and pressure control [indiscernible] and the Flow Control in power in a lot of these OEMs in China. So, one of the differences that separates us I guess a little bit, [indiscernible] from our customers is the opposition with the Chinese OEMs, and the Chinese OLED companies. And if China decides to buy local then you would see our growth rate -- I don't want to say higher than our OEM customers, but on a similar, if not higher rate. Because obviously if they win we win, but if some of the Chinese producers do well then we'll do well. The other thing is in DRAM in Korea we've been very successful. And we have penetrated all of the major OEMs that don't compete with our customers, so people like PSK, and [indiscernible], Genetech and others, we've penetrated them as well. So with AMAT and LAM growing free and we'll grow with them, and we'll get some additional upside from OEMs that don't compete with their business. Sorry about that. I know it's a longwinded answer, but it's an exciting area for us. And I never want to say we're going to beat our customers on growing because they're all doing such a great job, but there are some places that would maybe differentiate us, certainly from our competitors, if not our customers.

Great. Thank you guys.

Okay, Amanda. Take care.

Thank you. And our next question comes from the line of Tom Diffely from Davidson. Your line is open.

Yes, good morning. First, a question on the target model, and I guess the comment would be that you're running out of room on that target model, you've changed it so often. So when you look at the most recent change, and it looks like the operating margin is the big change there, is that simply just the incremental margin or the drop-through? Are there any kind of cost changes that happened along the way?

Yes, hi. Good morning, Tom. Yes, so the big change in that $1.9 million model is really it's a volume-driven piece. And we mentioned in the past we got a [indiscernible] variable margin in gross margin, and probably $0.40 to $0.45 variable operating margin, so that flow through the model. And it has the full $40 million of cost synergies, and we exit this past quarter at $32 million, so it's the other real delta, and then obviously a little in interest rate because of the -- to pay-down the debt.

Okay, great. And then I guess shifting over. You'd mentioned the design win on the OLED side of the business. In general, how much growth have you seen in OLED or in flat panel to date, and how much growth do you think you see over the next year there?

Well, the win that we got was optical sub assembly, which came out of our Newport acquisition, which we're really thrilled about. So the cross selling is in full force. But in general, OLED is about 5%-6% of our overall business. So it's strong, but it doesn't necessarily have a material impact, although we'll take a million dollar order in. And that order itself could actually turn into something more substantial. I guess we're at the leading edge of this application in this sub assembly. But right now it's 5%-6%. It will continue to be strong. We've got right now new product development that is being looked at by our customers which could increase our position beyond where we are right now. So it still looks good. Customers are reporting more opportunities for us. But I wouldn't say it's materially altering the business going forward. When it's 5% of a 1.6%-1.7% business it's nice, but it doesn't necessarily move the needle significantly.

Okay, great. And then when you look at the Light & Motion business, I think you said you had -- was it a record quarter for Light & Motion?

This was the highest in the last five years --

Revenue side, yes.

Revenue side, $159 million.

Okay. I was hoping you could just kind of breakdown the individual or pieces of the growth that you've seen there. Is it from the semi side; is it a different industrial side?

Yes, well first of all, it certainly is in semi. We took the semiconductor-related business called [indiscernible], and we moved that under the Vacuum & Analysis division. They have customers like KLA, Ultratech, Rudolph, ASML, and they're all doing very, very well. And then we've also seen strength in the industrial side, particularly on the laser side of the business, so a lot of the micromachining, scribing, dicing, enclosure machining, so that side of the business has done well. And we do expect though that in over time hopefully the research will pick up a bit for them assuming defense spending. But it was really a lot of the semi side and the industrial primarily coming out of the laser side of the business, as well as some of the optic stuff, things like pedestrian recognition system for sensing, and things like that.

Okay, great. And then finally, Seth, when you look at your cash balance to date, what percent is offshore?

It's 38% in the U.S., so 62% offshore right now at the end of the March quarter.

Okay, great. Thank you for your time.

Okay, thank you, Tom.

Take care.

Thank you. [Operator Instructions] Our next question comes from the line of Krish Sankar from Bank of America. Your line is open.

Yes, hi. Thanks for taking my call. Great results, guys. A couple of questions, first one on the guidance, is it fair to assume when you look at sequentially semis is going to flat in June quarter?

Yes, Krish, this is Seth. I don't think that's the case. I mean, we're seeing a real strong growth in the semi market both on the device side as well as OEMs. So I would think -- and we don't really guide by market in the second quarter, but I would expect that growth rate would be driven by semi more than the other market just given the nature kind of how it works for most of those growth areas.

Got you. So is it fair to assume then Light & Motion is going to be flattish or down or --

No, I think that'll be up for the quarter as well.

Well, we finished at 437 and the midpoint is 460. If you do the math, that's growth.

Yes, it's 5% in the midpoint, but I think you'll see -- our expectation is both sides will grow, but the semi has the biggest upside for opportunity, I think, just given where we are in the [indiscernible].

New order rates for both are strong.

Yes, Q1 [indiscernible] were very good on non-semi side as well.

We just don't report order rates.

Got it, fair enough. And then I had a question on the OLED side. So do you guys actually sell lasers into the OLED or is it just more the [indiscernible]?

No, it's more the component side, most of it coming from Vacuum & Analysis. Light & Motion had a win on this optical subassembly for manufacturing, which is new. And a lot of it comes out of our [indiscernible] group out of Zachman analysis [ph] for cleaning. We've been doing OLED cleaning for a lot of the major suppliers for years, and that business just continues to pick up.

Got you. And then do you guys plan to get into like the excimer [ph] laser business for OLED or is it something you're looking at?

Well, it's an intriguing business. And if you look at, from what I understand, there are high cost of ownerships, and downtime, and reliability issues. And anytime MKS looks at a customer problem we always find a way to fix it. That's how we win. So we don't have excimer lasers in our Spectra-Physics portfolio, but there are most likely over time alternative solutions to that. So whenever there's an opportunity and there's a problem that's how we gain share. So we think it's an intriguing business, and we'll continue to pursue looking at that, and where there's an entry point for us at some point.

Got it, very helpful. Thanks a lot, guys.

You're welcome. Take care.

Thank you. And our next question comes from the line of Patrick Ho from Stifel. Your line is open.

Thank you very much, and congrats guys. First off, Jerry, in the past you've talked about, with the Newport acquisition, about the potential integration of products from both your core Vacuum MKS products, and some of the Newport Light & Motion products. You've talked about some of the cross selling opportunities today. How do you see the development going in that area where that could be potentially be a growth initiative for you guys down the road?

Yes, well first of all, the million dollar win was a cross selling win. Without the executive level relationships and the feet on the ground in Korea, I have a feeling that Light & Motion may not have won that business for a fact. And it really was driven by the Vacuum & Analysis Group. Some of the things we're working on, we have this group, the PNA group that's into environmental monitoring. But also they've got some interesting opportunities in the semi side, Patrick. And one of the challenges they've had is on the lasers and optics side. And we're seeing a collaboration between the Light & Motion team and the optics group for some development on for the PNA products. The other thing was, we had a yield issue for Light & Motion. They do a lot of coding work on their optic side. And they were having some significant yield issues. And we took some of our key design engineers from Vacuum & Analysis, flew them up there, and they were able to really solve this coding issue. So, we continue to see a good collaboration. We have the office of the CTO, which John Lee, our COO, runs. He's a PhD. Obviously a lot smarter technically than I am. And he's getting these two teams together to really look at road mapping how each one can effectively work with each other to reduce the cost of the product itself, make technical advances. So there's a lot of good things going on technically, and certainly the cross selling we obviously saw a major win. And a quarter or so ago we also talked about a gas analysis win that we had at a backend customer. There was a Light & Motion customer. So we think there's some tremendous opportunity. We think lasers have an opportunity with some of our OEMs in the semi side, and we've certainly been having discussions, [indiscernible] evaluating the product, so [indiscernible] up into the right as far as this is concerned, Patrick.

Great, that's helpful. And maybe as a follow-up question to one of the questions regarding China, you guys have made significant inroads into the Korean market. And that probably is a good blueprint for you as the indigenous Chinese semiconductor market grows. But given how fragmented, and at the early stages of the equipment industry in China is today, how are you I guess balancing the need to spend and invest in that region versus some of the opportunities down the road of penetrating some of the local equipment vendors that are likely to emerge down the road?

Yes, well one of the good things about MKS is our brand is well known. And a lot of the equipment engineers that are in Korea, and in China in particular, we actually have -- are very familiar with MKS because one, they were either educated in our universities here, in the United States, or two, they've worked at the equipment companies in the U.S., and then migrated back home. So we're very fortunate that our brand is a draw for these engineers who've either worked in the labs at the universities or have worked on designing and putting our product in U.S. OEM equipment. We have a lot of feet on the ground in China. There is a lot of opportunity for both light and motion and both vacuum analysis. So, I don't think there is a real concern for us in terms of investing in infrastructure. And we took a flyer years ago, Pat, in company called Plasmart in Korea. And the idea behind that was to have people on the ground that were very connected to all the university graduates in Samsung and Hynix and a lot of the others, and that flyer worked. So, putting an investment on the ground in China to develop significant opportunity over time is not something we shy away from, but we're very fortunate that our brand is something that's well known and that sells itself. And the other thing though is we've worked for a long time with some of these companies. I will give you an example like AMAC Company; they were a very small startup. And they -- and we have three awards in our lobby from them. It is because we paid attention to them. We helped them. They are good customer. Obviously, we can't win everything, but we helped them with a whole range of technology solutions when other people wouldn't attention to them. And when they weren't doing so well, we still stuck by them. And they will do well and we have the same model with other Chinese startups that we have been familiar with. So, I think the customer relationships, the brand recognition, the investments we make, the feet on the ground, I think all that's going to continue to support our growth in China, just like it did in Korea.

Great. And final question from me maybe for Seth for the target model; given the revenue growth that you guys are anticipating, there is a lot of leverage that goes to the bottom line. One of the notable things that I am looking at right now is the OpEx. How are you getting the leverage on the OpEx? Or, how are you balancing that to drive higher operating margins, because as revenues grow, you would assume that SG&A and even R&D would grow. What are some of the balance or what are some of the moving parts there that are helping to drive higher operating margin targets down the road?

Yes, sure. Good question. So on the R&D side, I would say it's project-based. So if you looked at our change like nine times in last several years, you wouldn't see model that we present. But, we've been adding investments in certain areas as we go along. So, we have been making improvements in -- especially in the model and our internal structure. At the same time, we are putting money back to work in terms of product development activities and sales channel, particularly China and Korea as Jerry mentioned. So we've actually -- we've done some leaning out. There is more opportunity going forward, do mean on a -- as a second level, every month you kind of go through up to -- continue to drive you know, vacuum analysis side as well as the light and motion side, and within that, there's always a cadence to add funding back into the business. So, that's been sort of our DNA and that will continue going forward as well. When we look at quarter-over-quarter growth rates or even year over year, typically because it is well entrenched in the customer base, you don't really see additional sales activity required. We tend to make investments in the front end to designs wins. And then you get a lot leverages as the revenue comes through because the sales structure some variable compensation obviously, but it's pretty much well funded from a head count and infrastructure perspective, so where leverage comes through in the model going forward. One of the point too in light and motion side, I mentioned in the call that the profitability more than doubled last year. At that, revenue volume we had Q1 2017, 115 million of revenue, about 18% or north of that operating income. A year ago before close the transaction, it was more like a 12% level. So we've added 600 basis points just on the divisional side alone at the higher volume. So it's really something we've done for number of years. We will do it going forward because there is more opportunities as well, but at the same time we're getting reinvesting back in those critical areas.

Yes, I the other thing Patrick to add to that though is we've been a company that followed lean principles for well over 20 years. We -- when I came to the company in 1983, one of the first things that my job was to outsource non-core manufacturing functions. And if you look at our businesses now, we're basically just final assembly and test. And so what that means is that, is all the infrastructure that's required for multiple layers of manufacturing don't exist within the company. And so if you do -- you have to be really good at the supply chain management. And we have a team of experts managing our supply chain effectively. Our customers have actually commented on how effectively we've dealt with this ramp. So I think applying the lean principles to manufacturing, applying lean principles to everything we do, we look at things like efficiency rates and utilization rates. We leverage management to handle significant swings in the business. So I think the JT principles, the lean principles, demand for technology principles have helped us. And before we went public in 1999, we were about $150 million company in a wildly cyclical business that was privately held. So we understood how to manage it, and I think that we've kept that core principle while not being afraid to invest aggressively in high growth areas. And I think that's paid off for the company when you look at how we leverage the revenue upward.

Great. Thanks a lot guys.

Thank you, Patrick.

Welcome. Thank you.

Thank you. [Operator Instructions] Our next question comes from the line of [indiscernible] from Dougherty & Company. Your line is open.

Hey, guys. It's Dick. Seth, congratulations on the quarter. Just a question on light and motion, I think it was roughly 177. So, it looked flat sequentially. I think you said 10% year-over-year. Using a proxy of global PMI, I would think we might see a little more growth there. But is there seasonality in that business? Or how should we consider that?

Yes, Dick. This is Seth. So a couple of things that 177 million that's total combined non-semi revenue in the quarter, not light and motion. And so, the 177 in Q1 was up a million dollars from Q4, but 10% from a year ago. So, it's up year-over year although consistent sequentially. In the call I mentioned that the order rates within the -- I call it the non-semi business were actually pretty strong in the quarter. So really wasn't light and motion. It was really the non-semi piece. The light and motion was up sequentially quarter-over-quarter and from a year ago as well.

And that 159 for light and motion is a combination of the semi business and a non-semi business, Dick, yes.

What about the data analytics business, Seth, when you incorporated those numbers? Was it in semi or was it in non-semi?

Yes, the nonsemi. It's actually in the vacuum analysis side division as well by the way, but it would be in the non-semi piece. And again, last year in '16 it was about 30 million for the year is that one that business unit we sold.

Okay.

It is Small.

And Jerry, we've heard of tight supply chains out there. Are you getting any incremental wins from competitors that are having problems stepping up meeting demand?

I don't –- I really can't say that we've done that. We're -- did a lot of designs cycles and design in time in our product. And so, sometimes the sub-assembly level of our where we are at sub system level. It's not just something to win from based on the last month or so. I mean we are continuing to see gain share based on technology and that's where see the biggest gain. I did see another company in the space that talked about gaining share because of the lack of delivery. I would say that we are getting more and more design wins because of our capability. And you'll see the company continue to grow based on our operational ability. But I can't really say I see anything specifically because we have been in the competition on delivery. I wish I could tell you that, but I can't say I have seen that.

Okay.

We haven't lost anything though. I can tell you we didn't lose anything.

Well, that's good. Thank you.

You are welcome.

Thank you. And our next question comes from the line of Weston Twigg from Pacific Crest. Your line is open.

Hi, thanks for taking my question. Just wondering you mentioned orders are really strong in Q1, guidance is really strong for Q2, but I am wondering if you are seeing any signs of those orders may stabilize or start to slow down for -- in the second half, or do you think we are still on the same trajectory?

Well, I think earlier in the year, there were some of the customers were calling for maybe a slight more of a frontend load to the business. Recently looking at earnings calls and talking to customers, I think the landscape is changing there. So, I think we will go up another 33%. I mean that's kind of hard to say, but I don't -- I have got the sense that we are a pretty good right now. And it looks fairly good for the rest of the year and people talking favorably about 2018. I did spend time with some of our Green customers. They talked positively about the year. I asked about things like dips and things like that. And things can change on a dime. I know that for fact, but I can't -- I think it's been more positive as of late from people around the world that we've talked to.

Okay, that's really helpful. And then, just on the semi demand in general, can you give us an idea where the strength is really coming from? Where the upside is coming from?

Well, certainly, 3D is helping a lot, the multi patent product. There is no question that the continued strength. We do see as we talked about DRAM is helping. And we said we knew our Green business would do -- would increase if we saw DRAM spending increasing and I talked to customers last July and that's what they told me would happen and here it is. So I think it's primarily those two strength that we see right now.

Very helpful. Thank you.

Okay.

Thank you. At this time, I am showing no further questions. I would like to turn the call back over to Jerry Colella for closing remarks.

Okay. Thank you. We are very pleased with our strong start to 2017. We set a new records of quarterly renew, continue to enhance the organizational strength and collaborated more closely and effectively with our customers. Thank for joining up on the call today and for your continued interest in MKS. We look forward to updating you on our continued progress when we report our second quarter results in July. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program and you may now disconnect. Everyone have a great day.