Good day ladies and gentlemen, and thank you for standing by. Welcome to MKS Instruments Third Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator Instructions] At this time, I would like to turn the conference over to Mr. David Ryzhik. Mr. Ryzhik, you may begin sir.

Good morning, everyone. I am David Ryzhik, Vice President of Investor Relations and I'm joined this morning by John Lee, President and Chief Executive Officer; and Seth Bagshaw, Senior Vice President and Chief Financial Officer. Yesterday, after the market closed, we released our financial results for the third quarter of 2022, which are posted to our website. As a reminder, various remarks about future expectations, plans and prospects for MKS comprise forward-looking statements. Actual results may differ materially as a result of various important factors, including those discussed in yesterday's press release and in our current report on Form 8-K filed with the SEC on August 17, 2022 and any subsequent quarterly reports on Form 10-Q. 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. During the call, we will be discussing various financial measures. Unless otherwise noted, all references to pro forma financial measures reflect MKS and Atotech Limited, which MKS acquired on August 17, 2022 on a U.S. GAAP basis and include adjustments to confirm the accounting policies of MKS. Also, unless otherwise noted, all income statement related financing measures will be non-GAAP other than revenue. For a detailed breakout of reported revenues by end market, as well as Atotech and combined company revenues by end market, please visit the Investor Relations section of our website. Please refer to our press release and the presentation materials posted to our website for information regarding our non-GAAP financial measures and a reconciliation of our GAAP and non-GAAP financial measures. Now, I'll turn the call over to John.

Thanks, David. Good morning, everyone, and thank you for joining us today. The third quarter marked a major advancement in MKS' long-term strategy as we completed the acquisition of Atotech Limited. Atotech further broadens MKS' capabilities by bringing leadership in critical chemistry solutions for advanced electronics and specialty industrial applications and we are pleased to welcome the talented global team of over 4,000 new employees to the MKS family. We delivered strong results in the third quarter with record revenue and strong profitability. On a pro forma basis for the third quarter, we delivered revenue of $1.1 billion of which over $360 million was from Atotech. Excluding the partial quarter contribution from Atotech, our revenue exceeded the midpoint of our guidance range and was another quarterly record. We continue to execute in a challenging environment of supply chain constraints and inflationary pressures. While we have overcome numerous constraints throughout the quarter, we are still facing shortages of a small number of components that are impacting shipments of some high value solutions. We are also operating in an environment of increasing macroeconomic uncertainty and an anticipated decline in wafer fabrication equipment spending. And I'll provide our perspective on these factors shortly. Next, I want to share an update on our organizational structure and divisional reporting following the closing of our acquisition of Atotech. In the third quarter, our Equipment Solutions Division was consolidated into our photonics solutions division. This consolidation aligns with our broader portfolio of photonics solutions and further enhances synergies between our critical photonics subsystems and our laser systems. As a result, going forward and in our third quarter 10-Q, the financial results of the equipment solutions division will be combined with the photonics solutions division. And the Atotech business operates as a separate division, which we refer to…

Thank you, John. I'll cover third quarter results and provide additional detail on guidance for the fourth quarter. In the third quarter, we delivered revenue of $954 million and net earnings per share of $2.74, which includes a partial quarter contribution from Atotech following the close of the acquisition. So, in the Atotech acquisition, we delivered record revenue in the third quarter and exceeded the midpoint of our guidance range led by record revenue from our semiconductor market. On a pro forma basis for the third quarter, we delivered revenue of $1.1 billion. In an adjusted pro forma basis, we delivered just EBITDA of $327 million. Furthermore, even though we delivered strong financial results, recent foreign exchange volatility resulted in approximate mid-single-digit headwind to overall year-over-year revenue growth on a pro forma basis. Following the acquisition, our revenue mix is more balanced by end market. On a pro forma basis for the third quarter, revenue from our semiconductor market was 48%. It was 26% each from our advanced electronics in specialty industrial markets. In addition, we now possessed a higher mix of more consistent consumables in service revenue, which made up about 37% of overall pro forma revenue for the third quarter. Now, turning to end market results, while be commenting on pro forma revenue in change from prior periods on a pro forma basis, we delivered record pro forma revenue from our semiconductor market in the third quarter, increasing 4% sequentially to $552 million and growing 9% year-over-year. We saw a broad-based strength from across our vacuum portfolio, while growth in our photonics solutions products continues to be strong outpacing overall industry growth. As John mentioned, recent U.S. export control restrictions on products sold for advanced semiconductor applications are impacting our sales to certain China customers. Based upon our…

[Operator Instructions] Our first question or comment comes from the line of Sidney Ho from Deutsche Bank. Your line is open.

Great. Thank you very much. My first question is on semiconductors, you're guiding Q4 semi's revenue down 20%, but when I look at your largest customer, they're guiding roughly flat quarter-over-quarter for Q4. And even if you back out the deferred revenue, they're not down nearly as much, can you help us reconcile the difference? And to the extent that you think that delta is driven by inventory adjustments at the customers, do you think that will complete by the end of the quarter and maybe you can start shipping to demand starting in Q1?

Yes. Thanks for the question. Fundamentally, there are two drivers for the guide down for semi in Q4. Most of it is still driven by supply chain constraints. So, nothing to do with demand. As I've mentioned before, the number of components that are constrained is fewer or fewer. However, the components that we're seeing constrained are tied to some of our high value products. And so, that's the majority of it. There's a little bit from the China export restrictions, but mostly it's still a supply chain constraint issue.

Okay. Maybe a follow-up question. I want to talk about gross margin. To guide the gross margin down for – to 44.5% to down 50 basis points, can you walk us through some of the puts and takes that's impacting Q4? And more importantly, as we look beyond Q4, not asking for specific guidance, are there any one-time charges that would come out in first quarter or should we think about using incremental margins of 50% with the 4Q as the base going forward, that's the right way you're thinking about it? Thank you.

Yes. This is Seth. I'll take that question. So yes, so on the guide for the fourth quarter, you'll probably well know, Atotech’s margins are above our typical margins. So, that's helpful in the quarter, be helpful going forward for sure, but really the primary change in the margins on a combined company basis is just lower volumes like in the MKS business. So, that's really the driver there quite honestly is the biggest factor. Going forward in terms of guiding for margins, well the Analyst Day in December 14, we'll kind of walk through that a little more detail by growth by markets and gross margins. And on a combined company basis, we'll be able to articulate, kind of how to look at the growth and the margins and operating margins going forward. So, I'd kind of wait for that Analyst Day to, kind of lay out that model in more detail.

Okay, great. Thank you.

Sorry, Sidney. So, for the first quarter, we'll have normal amortization of purchasing accounting cost and cost of goods sold, but we'll non-GAAP those items out, otherwise, really nothing that we’re are aware of as usual in the first quarter.

Thanks, Seth.

Yes. Thanks, Sidney.

Thank you. Our next question or comment comes from the line of Jim Ricchiuti from Needham & Company. Mr. Ricchiuti, your line is open.

Hi, thank you. Good morning. So, yes, we don't have a lot of history about how the Atotech business performs during periods of economic weakness? I guess with the exception of 2020, but I wonder if you can give us a little color on how you're thinking about the electronics and the GMF business, during potentially or recessionary cycle, including that consumer loans business that gives it, I guess, some support?

Hi, Jim. It's John. Yes, that's a great question. So, we have some history when we look back at Atotech that during any kinds of recessionary time frames, because they have so much more of the revenue being consumables that they do not see the levels of decline that we typically see in the CapEx environment. And so, I think that's really going to help support the entire company during any, kind of recessionary downturns or even semi-cyclical downturns. As, I think we all know, the automotive market has been constrained as well. And I think as those constraints ease, that should also be helpful for that side of the Atotech business as well.

And John, a follow-up question just on supply chain, particularly in the semi-business. It's still a headwind, but what are your expectations as you look out over the next one to two quarters. Is that going to be largely behind you? And then you're just dealing with these other factors, including the weaker WFE, I mean the export controls?

Jim, I think it's – my expectation is that we're in for still a couple of more quarters at least constraints, but it has been getting better even in our prepared remarks, I did mention that it's a fewer number of components actually that we're chasing. So, that's helpful. And we just happen to be in a particular quarter where some of those components are tied to some of our high value products. Obviously, we're looking very hard to overcome those obstacles. And then we are able to do that within the quarter, of course, that's upside, but our guidance is basically based on what we see today.

Thank you.

Thanks Jim.

Thank you. Our next question or comment comes from the line of Krish Sankar from Cowen & Co.. Standby.

Hi, thanks for taking my question. I had a couple of them. First one, I just want to double check, maybe my math is strong given you guys have re-segmented the divisions, but is your vacuum solution, which I believe is primarily the semiconductor business? Is that undergoing or outgoing WFE this year?

I think you're asking about 2022, Krish?

Yes.

Yes, I think it's slightly under growing WSE. And I think as you know, when we're in a upcycle we tend to outgrow as it flattens out and we are kind of flattish. Then when there's a downturn, of course, we underperform, but as we look at the long-term performance of our semiconductor business with respect to WFE, we plotted it 5 years, 10 years, 15 years, we are still above 200 basis points higher than WFE over the long-term.

Got it. And I mean, John, just out of curiosity, but undergoing WFE this year, I mean, you’ve spoken about market share wins and power supplies, are you seeing any share losses in other parts of your semi business, like vacuum components or pumps and things like that?

Yes, Krish, no, we're not. In fact, a you mentioned, RF Power Supplies shipments in Q3 were a record for that division again. And when you look at the market share data from third parties, we either have held our own or gained in many of the categories that we have for vacuum. So, right now, we're pretty happy with how each of the product groups are performing.

Got it. And then a quick question for Seth. Just for modeling purposes. In 2022, how should we think about interest expense, tax rates and then also OpEx, if you're assuming similar revenue levels as [December quarter] [ph]?

Yes. So, tax rate, again, we’ll outline this more in the Analyst Day in a couple of months, but I'll give you some high level thoughts on that. So, tax rate should be in that, kind of mid-20% range, mid-up to [20%] [ph] range going forward. It's kind of our goal there as well. I think you asked on interest rates. I mean, right now, we're looking at for Q4 like little over 6% weighted average rate on our debt. We've hedged half of that as we mentioned in the prepared remarks. So, you can kind of look at the rate curves going out in the future, but that gives you a sense of how best to kind of model that. And then, again, OpEx, I would say that we'll always be prudent in managing our cost structure. You say in the third quarter, we're favorable on the legacy MPS side. And so, as John mentioned, we're seeing some potential slowdown in the semi-cap space next year. So, we'll respond to that as we've always done many times before, but I think if you were to say steady state run rate business, you probably see some inflationary impact on OpEx you can take to Q4 and annualize that. Usually first half of the year, we have wage increases. However, we've had a longstanding policy and program to reduce and be more efficient in our cost structure. So, that will kind of drive those costs down on a steady state business. So, I think you can rely on us to be pretty prudent on our cost structure going forward, but there's nothing I see out there right now in the Q4 run rates that would drive that up substantially for sure, even our steady state business.

Got it. Thanks a lot, Seth. Thanks John.

Yes. Thanks, Krish.

Thanks, Krish.

Thank you. Our next question or comment comes from the line of Joe Quatrochi from Wells Fargo. Mr. Quatrochi, your line is open.

Yes. Thanks for taking the question. Post the acquisition, just how should we think about the right level of cash that you need on the balance sheet to run the day to day operations? And I guess, how do you think about balancing that with debt reduction during the cyclical downturn?

Yes, Joe, so I'll take that question. So, we modeled, as I said before, in the acquisition, $800 million of cash on the balance sheet and we're going to revolve our 500 million on top of that. So, we thought – very thoughtful doing a number of modeling back. We announced transaction, the summer of 2021. Obviously, again, when the rates were higher in the March, April time frame. So, we feel very comfortable that quantum of cash can take us through any cycle. And so that's kind of how we look at it. We can certainly run the company a little leaner than that, but our view is to be again pretty [high build] [ph] liquidity in the balance sheet. So, we'll kind of maintain that level of cash going forward. And then, kind of pivot to our goal going forward, we had the same [indiscernible] but we ran many times before with other debt financed transactions to de-lever pretty rapidly. And again, that's our goal going forward as well. That's always been our view with the rates being higher for sure. That just doubles down our strategy as well. So, I think to kind of wrap it up, we're well tuned of the rate environment. We do want to de-lever very aggressively. That is our goal and always has been, and the amount of liquidity we have in the cash and the balance sheet is pretty substantial, frankly, to weather through any potential slowdown in the business. But we look at that on a quarterly basis and we put the high beams on. We're always kind of reassessing that position as well.

Got it. And then maybe as a quick follow-up. You talked about 40% of the combined company now having a revenue basis somewhat recurring. I guess is that the right way still to think about it? And then maybe, is there any way you can help us kind of understand how does that translate into maybe like EBITDA or free cash flow?

Yes, Joe, I think that is the right way to think about it. So, that 37%, 40% of the quarter's revenue was recurring or resilient if you will, service revenue and chemistry consumables. And as Seth mentioned, the gross margins for the Atotech business is actually higher than legacy MKS business. The operating margins of the MKS Service Business, which we publish, is actually very high as well. And so, not only are those resilient revenues, but the profitability that comes off of them is marginally higher than the rest.

And just to add to that, those revenues are not tied to the semi-cap cycle. So, if you look forward and if you have a view on semi-cap softening, that percentage could actually increase the total company. That's part of the theme on, kind of the acquisition as well. We thought about that recurring revenue is very important to us going forward.

Got it. Thank you.

Thank you. Our next question or comment comes from the line of Mark Miller from Benchmark Company. Mr. Miller, your line is open.

I just wanted to clarify, you are talking about for 2023 in terms of semi-sales impact will be around $250 million to $350 million from slowing. Is that correct?

Mark, that's just what we view as the impact from the potential sanctions of China business. So, that includes both our direct business, as well as any impacts from our – indirectly through our OEM customers.

Okay. Interest expense for the December quarter, is that around 80 million?

81 million correct, give or take, yes.

And in terms of these impacts, what percent of the total terms of semi-spending, what percent of your semi-spending the impact will be coming from the restrictions versus just general slowing? Will it be mainly driven by the impact of restrictions?

Yes. Well, if you take the midpoint of that range of 250 to 350, 300, call it, our semi-revenue in 2022 is on that order of 2 billion. So, we're talking about 10% to 20% to [15%] [ph].

Thank you.

Thanks Mark.

Thank you. This concludes our Q&A session. I would like to turn the conference back over to Mr. David Ryzhik for any closing comments.

Thank you for joining us today and for your interest in MKS. Operator, you may close the call please.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone have a wonderful day.