Teradyne, Inc. (NASDAQ:TER) Q1 2023 Earnings Call Transcript

Teradyne, Inc. (NASDAQ:TER) Q1 2023 Earnings Call Transcript April 27, 2023

Teradyne, Inc. beats earnings expectations. Reported EPS is $0.55, expectations were $0.43.

Operator: Greetings, and welcome to the Teradyne First Quarter 2023 Earnings Call and Webcast. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Andy Blanchard, VP, Corporate Communications. Thank you, sir. You may begin.

Andrew Blanchard: Thank you, Latonya. Good morning, everyone, and welcome to our discussion of Teradyne’s most recent financial results. I’m joined this morning by our CEO, Greg Smith; and our CFO, Sanjay Mehta. Following our opening remarks, we’ll provide details of our performance for 2023 first quarter, along with our outlook for the second quarter. The press release containing our first quarter results was issued last evening. We’re providing slides on the Investor page of the website that may be helpful to you in following the discussion. Replays of this call will be available via the same page after the call ends. The matters that we discuss today will include forward-looking statements that involve risk factors that could cause Teradyne’s results to differ materially from management’s current expectations.

We encourage you to review the safe harbor statement contained in the earnings release as well as our most recent SEC filings. Additionally, those forward-looking statements are made as of today, and we take no obligation to update them as a result of developments occurring after this call. During today’s call, we’ll make reference to non-GAAP financial measures. We’ve posted additional information concerning these non-GAAP financial measures, including reconciliation to the most directly comparable GAAP financial measure where applicable on the Investor page of our website. Looking ahead between now and our next earnings call, Teradyne expects to participate in technology or industrial-focused investor conferences hosted by JPMorgan, KeyBanc, Cowen, Stifel and Bank of America.

Now let’s get on with the rest of the agenda. First, Greg will comment on our results and the market conditions as we enter the second quarter. Sanjay will then offer more details on our quarterly results, along with our guidance for the second quarter. We’ll then answer your questions, and this call is scheduled for one hour. Greg?

Greg Smith: Thanks, Andy, and good morning, everyone. Today, I will summarize our Q1 results, comment on the current environment and outline how we see the market developing. Sanjay will then provide the financial details on Q1, our outlook for Q2 and some thoughts on full-year planning. From a financial perspective, we delivered first quarter sales above the midpoint of our guidance range, with earnings above the high guide on improved gross margins. In Q1, our flexible business model enabled us to convert improving component availability in semiconductor test into additional revenue and profit, and our robotics businesses delivered on plan for the quarter. Stepping back from the Q1 results, I would like to outline our view of the current market conditions and how we expect the next few quarters to unfold.

In semiconductor test, lower end market demand and high channel inventory is persisting. And our measures of tester utilization in Q1 of 2023 are at their lowest level in over 10 years. The weakness is concentrated in Compute and Mobility SoC test and reflects further erosion in end market demand in 2023. After a 20% decline in PC shipments in 2022, they are forecast to decline an additional 4% this year. Smartphones dropped 10% in 2022 and are forecasted to drop another 4% in 2023. We have clearly seen utilization weaken as well. Intel inventory levels in these supply chains come into balance and the utilization levels improve, we expect test demand for these markets to remain at low levels. As a result, we don’t expect any 10% customers in these end markets in 2023.

Over the past four years, the Compute and Mobility segments have represented over 70% of the SoC market, so weakness in these segments has an outsized impact on the overall industry. There are however, several factors beyond inventory alone that make forecasting in this cycle challenging. These factors are likely to impact both the depth of the cycle and the shape of the cycle recovery. The first is the strength in the other roughly 30% of the SoC test market, automotive and industrial test. The demand that we’re seeing here is stronger and more persistent than we expected in January. Tester utilization at IDM customers that drive this sector is substantially higher than at OSATs, which primarily serve the Compute and Mobility markets. In fact, high demand has pushed out our tester lead times for some configurations to be longer than our target.

Wafer capacity expansion plans announced by many of our automotive and industrial customers bode well for sustained demand for us in these segments. Strength in these segments is being driven by a wide range of new and growing device applications such as EVs, autonomous driving and the digitization of industrial activity. We also see these customers working to replenish the inventory that has been depleted over the last three years. This strength suggests that the depth of the SoC test market decline of this cycle may not be as deep as past cycles. Another factor that makes this cycle very different is very strong tester demand from China-based chipmakers. The current test buy rate is substantially greater in 2022 and higher than the broader market and may not be sustainable at these levels.

In the vertically integrated producer category, we have seen no slowdown in R&D or design-in activities. However, we expect low OSAT utilizations to significantly impact production capacity buys in 2023. When taken together, these three factors make it challenging to predict the timing and the strength of the recovery. Having said that, we do have better insight into the full-year than we had one quarter ago. We estimate the SoC market in 2023 will be between $3.3 billion and $3.8 billion, down about 20% to 30% from last year’s roughly $4.7 billion. We expect our share of the SoC market will increase two or three points from last year’s 36%. I will note that we have increased our 2022 market size estimate by $100 million since January. In the Memory segment, while oversupply is limiting capacity expansion investments the technology transitions we discussed in the past are continuing to drive test demand, especially for LPDDR5 and high-speed flash.

For the full-year, we expect the market to be flat to down 10% from last year’s approximately $1 billion level. This is unchanged from our view in January. We expect our share to be in the high 30s, also up a point or so from last year. We know that the global trends have driven over $300 billion of wafer front-end investment over the past four years, and that has not yet fully been converted into testament. When coupled with a forecast of an additional $160 billion of investment over the next few years, we think the fundamentals for midterm growth are strong. In our LitePoint Wireless Test segment, we see a more familiar correction cycle. We are also a year or so away from the next big complexity leap in connectivity, the transition to Wi-Fi 7.

As a result, our early view has LitePoint sales down 20% to 25% from last year’s level. In System Test, the storage portion of the business is impacted both by reduced demand for HDDs and declining smartphone shipments. As a result, our System Test group revenue will likely be down 20% to 25% for the year. Now turning to the Robotics businesses. Robotics revenue in Q1 2023 is down 14% compared to Q1 of 2022. The first quarter of 2022 was the last strong quarter before the invasion of Ukraine and slowing industrial growth began to significantly impact our results. As we’ve discussed in prior calls, there are both external and internal factors that are limiting the growth of our robotics business. And addressing these challenges remains a high priority for our Universal Robots and MiR teams.

At Universal Robots, we see a mixed picture. The external market conditions remain weak. Overall sales softened and were lower in Q1 than in the same period last year. However, shipments to Europe have returned to their highest level since then. And in the United States, demand slowed substantially in Q1 after a very strong Q4. Demand in Asia also softened in the quarter. In most years, we see a weaker Q1 as strong Q4 shipments are digested. But it is clear that the manufacturing economy is also slowing as indicated by weakening manufacturing PMIs in Q1 for almost all repays. The primary internal factor that is impacting our growth is the ongoing realignment of our distribution system. Recall, we’re shifting resources to put more focus on opportunities at large customers and OEM partners that have higher long-term growth potential.

We are seeing some short-term headwinds from the shift in resources. An important positive for Universal Robots are strong preorders for our new high-payload UR20 cobot. We expect to have a backlog of over six months of volume shipments when we begin deliveries mid-year. The UR20 has already won numerous industry awards, including a recent Robots Business Review Innovation Award. At MiR, where we’re coming off record Q4 shipments, we’re seeing similar industry-level headwinds, along with seasonal slowdown in Q1 demand. However, our strategy to increase direct engagement with large accounts is latching with installed unit growth of over 40% in this sector from Q1 of 2022. With the persistent weak macro environment and with little evidence to suggest a near-term change in these conditions, we’ve brought our full-year revenue estimate for our Robotics group downward to be 0% to 10% growth from last year’s $403 million.

I would like to emphasize that despite the current market conditions, our view of the long-term growth potential for robotics remains unchanged. It is clear that there is a large and growing market for collaborative robotics, driven by labor shortages and escalating labor costs. Our strategy is to address this market with an expanding range of applications for our robots and a focused distribution strategy that we expect to yield an average 20% to 30% annual growth over the midterm. The fundamental drivers of all of our served markets, Test and Robotics make them as attractive as ever. We are focused on continuing to operate efficiently with strong financial discipline as demand begins to recover. With our flexible business model, we will maintain the careful investments in our products and capabilities that are the fuel for our future profits.

I’ll turn things over to Sanjay for the financial details. Sanjay?

Sanjay Mehta: Thank you, Greg. Good morning, everyone. Today, I’ll cover the financial summary of Q1, provide our Q2 outlook and the full-year planning assumptions. I will also provide some financial color around our robotics companies and update you on our supply chain and resiliency progress. Now to Q1. First quarter sales were $618 million, which was $28 million above our mid-guide with non-GAAP EPS of $0.55, which was above our high guide of $0.52. Non-GAAP gross margins were 57.7% above our guidance due to favorable product mix, operational efficiencies and some resiliency costs deferred until later in the year. Non-GAAP operating expenses were $251 million, about flat with fourth quarter OpEx. Non-GAAP operating profit rate was 17%.

We had no 10% customer in the quarter. The tax rate, excluding discrete items for the quarter was 16.5% on a GAAP basis and 16.75% on a non-GAAP basis. Semi Test revenue for the quarter was $415 million, with SoC revenue contributing $347 million and memory of $68 million. As Greg noted, SoC strength was concentrated in auto and industrial end markets. In memory, our sales were strongest in flash final test followed by DRAM final test as the industry ramps new, higher-speed devices from smartphone and server applications. System Test Group Q1 revenue was $75 million with $34 million in storage test and low SLT and HDD demand. Recall, SLT has high exposure to the smartphone market and as widely noted, HDD markets are weak this year. In Wireless Test, revenue was $39 million in Q1 on the impact of both low PC and smartphone volumes and a low in complexity driven test investments ahead of the expected Wi-Fi 7 rollout beginning in 2024.

Now to robotics. Revenue was $89 million with UR contributing $72 million and MiR $17 million. FX did not have a material impact on our top or bottom lines. Profitability was negative in the quarter on weaker revenue growth. We are trending toward a breakeven profit this year, below our intended 5% to 15% operating profit objectives. Gross margins continue to be above the corporate average. Greg has noted reasons for growth in 2023 below expectations, which is preventing us from achieving our profit goal this year. I would like to share some thoughts to enable an appreciation of where we are with each business. In UR, we have conviction in this very large market and believe it is still sub-5% penetrated coupled with our products and ecosystem leadership.

One of our challenges is our distribution approach, which we believe has limited our longer-term growth. We are executing a solid plan to move to an omnichannel, which we believe will significantly enhance our growth potential. In the slower market we’re seeing this year, our traditional channels are being impacted by an outsized rate before we see a full effect — full benefit of our new channel strategy. From a profitability perspective, UR has operated above 10% to 15% — sorry, UR has operated at or above 10% to 15% profit since 2017 with the exception of the initial COVID year in 2020. In 2023, we expect profitability of UR to be in that 10% to 15% range. In short, we are profitable while we continue to invest in transforming our channel, introducing new products, which increase our served markets and growing our industry-leading ecosystem.

Turning to MiR. MiR’s earlier in its life cycle and serves a more fragmented AMR market where there is no clear leader and the top players have less than 10% share of the market. MiR’s in the Top 5 participants with mid-single-digit share. We’re not yet profitable at MiR, we expect to be in 2025, which is aligned with our strategy to establish a leadership position in a market with long-term upside potential. This market is also less than 5% penetrated today. Given the strong pull from our large customers, we’re making substantial R&D investments needed to realize the opportunity. An attractive feature of this market is the relatively concentrated customer base, which enables a focused distribution with heavy direct involvement in sales, service and product requirements.

In summary, UR is profitable with a leading market position, and we’re evolving our go-to-market approach. MiR is in the heavy engineering investment phase, creating solutions in cooperation with large customers, and we expect it will be profitable in 2025. Gross margins and robotics are above the corporate average and if we do not see significant growth opportunity in the market will reduce growth in OpEx and enable this portfolio to have greater than 20% operating profits similar to our test businesses. Shifting back to the financials. At a company level, our free cash flow was an outflow of $22 million in the quarter. We typically consume cash in the first quarter as we pay out our variable employee compensation. We repurchased $93 million of shares in the quarter, paid $17 million in dividends and settled $15 million of debt.

Note, the share repurchase program began in late January, so it reflects approximately two months of purchases. We ended the quarter with $859 million in cash and securities. Now to our outlook for Q2. Q2 sales are expected to be between $625 million and $685 million, with non-GAAP EPS in the range of $0.55 to $0.74 on 164 million diluted shares. The second quarter guidance excludes the amortization of acquired intangibles. This outlook is slightly ahead of our January view as automotive and industrial semiconductor test demand continues to outpace our earlier forecast. Second quarter gross margins are estimated at 57% to 58%. OpEx is expected to run at 37% to 40% of second quarter sales roughly flat with Q1. Non-GAAP operating profit rate at the midpoint of our second quarter guidance is 19%.

A few points to assist you in the modeling in the rest of the year given the unusual environment Greg has described. First, the expected revenue profile. We expect Q3 sales to be similar to Q2 and Q4 to improve a bit from there. As a result, you should expect the second half will be a bit better than the first. Now to gross margins. We’ve improved gross margins in the first half of the year, driven by accelerated operating efficiencies and deferral of manufacturing resiliency spending to the second half of the year. Full-year gross margins will likely be 57% to 58% range. Regarding OpEx for the full-year. As noted in January, we expect the full-year 2023 OpEx to be roughly flat compared with 2022. Our GAAP and non-GAAP tax rates are forecasted to be 17% in 2023.

A quick update on our supply chain. While supply — sorry, while supply and demand is coming back into balance for most of our supply chain, we continue to see shortages in some analog and logic devices. This is impacting about 25% of Tester revenue in Q2 and is outside of our guidance range. On the supply chain resiliency front, while some spend moves from first half to second half, strengthening of our supply chain is progressing largely according to plan. For our tester product manufacturing, that work will be substantially complete in Q3, though there will be component qualifications continuing for several quarters after Q3. The changes in our supply chain for our hardware services business will continue through the year. The costs related to strengthening our supply chain are included in the gross margin estimates.

Summing up, we delivered sales above the midpoint of our guidance range with earnings above the high guide on improved gross margins. The auto and industrial Semi Test markets in ’23 look incrementally stronger than we expected earlier this year with softer Mobility and Compute markets. Robotics demand is also incrementally softer. In this environment, we’re making the investments to strengthen our global supply chain, while maintaining the R&D and go-to-market focus to support our long-term growth strategies in test and robotics. We’re doing this while maintaining roughly flat OpEx since 2021. As a result, we expect to generate solid free cash flow in ’23, which will deploy to maximize value for our shareholders through potential M&A, dividends and shareholder repurchases — share repurchases.

With that, I’ll turn the call back to Andy. Andy?

Andrew Blanchard: Thanks, Sanjay. And Latanya, we’d now like to take some questions. And as a reminder, please limit yourself to one question and a follow-up.

Q&A Session

Operator: Thank you. We will now conduct the question-and-answer session. . Our first question comes from Mehdi Hosseini with SIG. Please proceed.

Mehdi Hosseini: Yes, thanks for taking my questions. Two follow-ups. I want to go to your LitePoint. Can you please help to understand opportunities in the Wi-Fi 6 area? It seems like that’s already behind us? And when would you expect contribution from Wi-Fi 7 to materialize? Is that late this year or do we have to wait till next year? And I do have a follow-up.

Greg Smith: Hi, Mehdi, so at LitePoint, there’s sort of multiple phases of Wi-Fi 6. So Wi-Fi 6 is — the tooling for that is largely in place. But there is a transition to Wi-Fi 6E, which is probably the primary driver of Wi-Fi investments in 2023. So there’s a lot of R&D and development work going on, on Wi-Fi 7 chipsets and equipment that is probably going to ramp in 2024. So we’re modeling that we’ll have some Wi-Fi 6E investment through this year and then growing Wi-Fi 7 investment in ’24. Does that help?

Mehdi Hosseini: Yes, absolutely. And then second question, the favorite topic how 3-nanometer capacity ramp in ’24 could attribute? And the fact that you don’t have toughened customer this year. Does that mean that next year is to be a big SoC ramp for Teradyne, especially given the delay in 3-nanometer that would finally have 3-nanometer high-volume manufacturing next year?

Greg Smith: That’s a great question. So first, in terms of like technology transition to 3-nanometer, we’ve seen no real substantial changes from any of our customers in terms of the pace at which they are trying to move to 3-nanometer to support more complex designs. So that drumbeat is continuing. The thing that we are seeing is that the declines in unit volume in PCs and smartphones has created a fair amount of idle capacity that needs to get filled up before tester demand is going to return. So the — so we think that, that is likely to be significantly stronger in 2024. At this point in time, we don’t know whether 2024 is going to be good or great. The other things that are going on is like I talked about the demand in China that might be sustainable, the automotive and industrial markets have been going really, really well, and we think they have great long-term potential, but there are often temporary supply/demand imbalances.

So they might get incrementally softer. So there are some things that could mute the up that you see in 2024 that I think all of us expect with sort of a return in unit demand.

Mehdi Hosseini: Got it, thank you.

Operator: Our next question comes from Timothy Arcuri with UBS. Please proceed.

Timothy Arcuri: Thanks a lot. So relative to your prior SoC TAM forecast you were down like 20% at the midpoint off of a 4.6 number. Now I know that you took that to 4.7 last year. But — so you’ve taken basically a few hundred million dollars out of the TAM this year. So auto sounds like it’s better. I know that you were thinking that auto would be down, it sounds like maybe it’s flat at like $100 million . So can you kind of just sort of disaggregate that 3.5, 3.6 number at the midpoint that you now have for your new SoC TAM?

Sanjay Mehta: Sure. It’s Sanjay. So disaggregating it, we think roughly the Compute market this year is — and I’m going to give you the rounded numbers roughly at the midpoint, Compute at roughly billion dollars, Mobility at $900 million. Auto, we believe is flattish. And again, Auto and Microcontrollers at about $600 million, Industrial at $400 million and then Service at roughly $700 million.

Timothy Arcuri: Got it. Got it, Sanjay. Thank you for that. So Greg, maybe we can ask about the — there was a question on 3-nanometer. And this year, again, is going to be — typically, you have a much more front-end loaded year than you are this year. It’s sort of 50/50 seems like maybe it’s — so I guess, I’m just asking about is there something sort of structural going on? I know there’s this debate the sort of cyclical debate versus the structural debate with your largest customer. And I continue to believe that it has to be up a lot next year. But is there something under the surface going on, there’s maybe more tester reuse? Can you just sort of talk about what’s going on under the surface that might kind of inform where the SoC TAM goes next year and where your share could go?

Greg Smith: I can give you a little bit of color. So there’s no significant change in the amount of reuse. The tester capacity that we’ve put in place is largely fungible across all of the technology nodes that are here now or coming. So we’re really talking about what’s the incremental demand, how much more capacity needs to be put in place. The one structural change is that we haven’t really seen a peak in demand since leading producers of mobile phones have started to reuse silicon in lower parts of their product line. So instead of putting a new processor in all of the phones, they use last year’s processor and a portion of the volume. So at this point, we haven’t seen a significantly strong year since that decision has happened. We believe that long-term, that kind of thing will come out in the wash, but it may make the demand less peaky.

Timothy Arcuri: Thank you very much.

Operator: Our next question comes from C.J. Muse with Evercore. Please proceed.

C.J. Muse: Yes, good morning. Thank you for taking the question. I guess a follow-on question. Mobility at $900 million, worse level of spending in five years and 55% lower than peak. You talked about maybe not such a great year, next year, but curious what’s kind of a base case kind of recovery assumption if you were to make the view that handset units would be at least flat. And given what you know content-wise and increased test times, what might that kind of impute for Mobility?

Greg Smith: Yes. I think we don’t have enough visibility into the way 2024 is going to shape up to really call a market size for next year? Directionally, I think it will be stronger, but I can’t really tell you how much.

C.J. Muse: Okay. And you talked about Q4 revenues accelerated to some degree. I’m curious if you can kind of speak to DDR5 kind of ramp when that starts and how that impacts before and the same thing for UR20. Is that a meaningful driver given your backlog? Or is that something that might get pushed into ’24? Thanks so much.

Greg Smith: Yes, so the DDR5 ramp we’re kind of running against the same schedules that we’ve had for a while. So we haven’t seen any significant pushout of the technology shift. So I think we’ve got a pretty steady demand for the capacity to support the new technology DRAM testers. For UR20, we’re going to be starting substantial shipments of that in the second half of this year. And I would say that it will have a substantial impact on the growth that we’re able to achieve in UR this year. It’s going to have a meaningful single-digit impact on growth.

C.J. Muse: Thank you.

Operator: Our next question comes from Samik Chatterjee with JPMorgan. Please proceed.

Samik Chatterjee: Yes, hi. Thanks for taking my questions. I guess if I can just start with the auto piece here. I know you’ve called out the trend there, but if you can share your thoughts about how you think — how sustainable that is, particularly as you’re seeing, like how do you think of the correlation there to production volumes, particularly in the China market where we’re seeing a lot of different players call out risk to production as well as demand in that market? And then I have a follow-up. Thank you.

Greg Smith: Sure. So how sustainable. There’s a fairly large capacity increase that has come online in terms of ability to produce vehicles and the supply chain has reacted to that. We are starting to see that the lead times for many of the parts, the sort of electronics that go into cars are starting to come down but there are a lot of linear devices that still have extremely low inventory levels and extremely long lead times. And so that appears to be where capacity is being added to support reducing those lead times. So if they catch up, if vehicle sales drop remarkably or if they bring that more into balance, then I would expect that to soften. But the thing I’ll remind you is that the current situation for us and our competitors in this space is we’re running with tester lead times that are in excess of 26 weeks.

So we have a pretty good idea of what these customers are going to need over the next few quarters. And so I would say that the likelihood that we’re going to see a lot of softening in that space is probably out a little ways in time.

Samik Chatterjee: Okay. Got it. And for my follow-up, just on the memory side, there is obviously some I guess, news or sort of just speculation in terms of China looking at sanctions on Micron. Any thoughts of how that impacts dynamics with your — in terms of your revenue mix and memory as well as with your customers in China in terms of their investment in memory? Thank you.

Greg Smith: Yes. So I really don’t think I can speculate on what’s going to happen in terms of those regulations. I will say that we are a supplier to the two major memories producers in China. And if there are regulations that impact that, it will have an impact on our sales there. To sort of size that, our sales to indigenous memory in China, like all indigenous in China is about 4%, 5% of total Teradyne revenues and the portion that goes to memory there is probably between a half and two-thirds of that number.

Samik Chatterjee: Okay. Got it. Thank you. Thanks for taking the question.

Operator: Our next question comes from Toshiya Hari with Goldman Sachs. Please proceed.

Toshiya Hari: Hi, good morning. Thank you so much for taking the question. My first one is on component shortages. I just wanted to clarify. I think, Sanjay, you talked about shortage of analog and logic devices impacting semi test revenue in Q2 by 25%. So the interpretation there should be without the shortages, your Q2 revenue should be 25% higher. Am I understanding that correctly? And when do those headwinds have…

Sanjay Mehta: I noted on my prepared remarks, $25 million, which is outside of our range and it’s roughly its SoC in memory.

Toshiya Hari: $25 million.

Sanjay Mehta: $25 million.

Toshiya Hari: Yes. Okay. Got it. And then my second question, just on your Robotics business. So again, you’re taking down your full-year growth outlook for the year. Greg, you talked about the macro environment. You talked about the transition from distribution to direct and that having an impact. I’m curious if competition is having any impact here. It’s always difficult to compare and contrast how you guys are doing relative to your competition, because most of your competitors they’re either startups or small businesses within bigger conglomerates, but curious, particularly in China, is there anything going on the competition front? Thank you so much.

Greg Smith: Yes. Toshiya, it’s a great question. In terms of robotics growth, the first, just a quick correction. The change to distribution isn’t like distribution-to-direct. It’s really establishing an omnichannel strategy that we’re continuing to invest in our traditional distributors. We’re adding additional channels through OEMs and, in some cases, direct business. So it’s not like a complete flip, but it does — it is sort of moving resources around. In terms of market share, I agree with you. It’s really hard to get market statistics about the COBOT market. The best data that we have is that from 2021 to 2022, share was relatively stable. We’ve got between 35% and 40% of a — in 2023, it will probably be about a $1 billion market.

Our nearest competitor has probably less than a third, a quarter to a third of that share and that number two player has shifted from year-to-year. The trend that you noted about China competitors is certainly true that the Chinese competitors are coming up, and they are doing very, very well in the Chinese market. The price points in that market are significantly lower than the rest of the world. And their understanding and knowledge of that market is better than our or other foreign competitors. So what’s happening in China is that our products are tending to migrate towards sort of a premium tier, both international customers and customers that really value the ecosystem that we have. In either specialized software or specialized adapters that they can get with our products that they can’t get with a local supplier.

So we are — we think we can hold the share that we have in China in that particular segment, but there’s definitely a competitive threat — pricing competitive threat from Chinese suppliers that we’re really trying to deal with through differentiation.

Toshiya Hari: Very helpful. Thank you.

Operator: Our next question comes from Krish Sankar with TD Cowen. Please proceed.

Krish Sankar: Yes, hi, thanks for taking my question. I had two of them. First one, let us Sanjay know auto industry is pretty strong maybe Mobility rebounds next year. I understand you don’t want to give color into calendar ’24, but would that change the gross margin profile because it seems like the auto industry has a much higher gross margin than Mobility? And then I have a follow-up.

Sanjay Mehta: Sure. Thanks for the question. This year, as I noted in my prepared remarks, we’re going to be at 57% to 58%, and it’s really tied to both product mix as well as we’ve got these, what I would call, transitory costs tied to manufacturing resilience. I think when that’s materially behind us, I see no reason why we don’t get back to our model gross margin of 59% to 60%.

Krish Sankar: Got it. Thanks Sanjay for that. And then you kind of gave some color on the SoC test breakdown with Compute being $1 billion. If I remember right, historically, the GPU test market has been around $100 million or so, give or take, and that has not been as test-intensive. So I’m kind of curious, as you get into all these AI stuff, do you think GPU test could grow. And what is your opportunity set there? Because historically, like Verigy, Advantest has been the leader over there. Thank you.

Greg Smith: Yes. No, that’s — it’s certainly a question we’ve been talking a lot about internally. So here’s the way that we see it. The rise of generative AI, things like ChatGPT is a significant driver for additional cloud Compute capacity, especially accelerated capacity. Right now, the primary way that that acceleration is delivered is through traditional GPUs. So I would expect that, that’s going to be a tailwind for our competitor who has much higher share with traditional Compute. At the same time, the same companies that are making these really aggressive moves to try and capture market share in the AI market are also the same vertically integrated producers that are developing their own ways to accelerate that type of Compute.

And that’s where we are investing our energy primarily is to capture those customers as they bring that kind of technology to market. I don’t want to give you the impression that we’re — that like we have VIPs locked up, but it’s a different situation than the traditional Compute suppliers, because these new players don’t have a long history of working with any particular vendor. So we are in shootouts in most of these places, and we’re winning more than our fair share. And so as this market evolves and AI becomes a more important part of the vertically integrated producers or hyperscalers, the overall value delivery. Our hope is that these internal devices will long-term have a higher growth than traditional Compute. So short-term, really strong for traditional.

Longer-term, better for vertically integrated.

Krish Sankar: Greg, thanks very much for the color. Is it fair to assume GPU is probably a $100 million of that $1 billion Compute market?

Greg Smith: In 2023, I would — my guess would be that it’s bigger, but I don’t know an exact number.

Krish Sankar: Got it. Thank you very much, Greg. Really appreciate the color.

Operator: Our next question comes from Vivek Arya with Bank of America. Please proceed.

Vivek Arya: Thanks for taking my question. I actually had a longer-term one. It seems like you’re keeping your long-term sales and earnings model unchanged. But when I look at your largest end markets, mostly on the consumer side, they seem to have matured quite a bit. So what’s underpinning the confidence about reaccelerating to that double-digit growth. And let’s say if the new model is not for double-digit growth, what will you need to change about your cost structure to realize better profitability?

Greg Smith: So Vivek, the things that we are looking at is we don’t see a fundamental change, like you said in terms of a maturing of our consumer markets. We see the primary driver of the growth in semiconductor test to really be the pace at which leading chipmakers adopt new process technology. And there’s a — the thing that has happened is that the transition from 5-nanometer to 3-nanometer has taken longer than people expected. And I think that, that has contributed to some of the wall in the growth that we’ve seen in this market. But if you look, there is this — there’s a number of steadily increasing capability 3-nanometer nodes that are coming from both of the major foundries and behind that, there’s a gate all around technology that’s coming as well.

And so as we talked about, the Compute and Mobility is 70% of the SoC test market. And the complexity in the Compute and the Mobility space is also the primary driver for advanced memory technologies and memory density improvements. So as long as that fundamental pace around nodes and node technology continues, then we think that the fundamentals for the growth are strong. I also noted that there is a significant amount of wafer front-end capacity that has gone in, but has not been turned on yet. And we think that that is a long-term driver for demand in the test space, because it’s essentially the test equipment of dark fiber. It’s there. It’s going to get turned on and when it is, it’s going to require testers.

Vivek Arya: Got it. And for my follow-up, Greg. Seems like your SoC business could be down in the second half, if I take that 39% share that you suggested of the lower TAM. So I just wanted to confirm that. And would Mobility also be down and if it is down, is it the 3-nanometer comment that you mentioned, is it not as big a node? So does that have implications on what we should be thinking about for calendar ’24 growth in your SoC test business also?

Greg Smith: Yes. I haven’t really looked at second half, there.

Sanjay Mehta: Yes. So second half, I think you asked about SoC revenue in the second half. And as I noted in my prepared remarks, we expect revenue to be a bit higher in the second half. And part of that increment is really tied to SoC. And while it does have auto and industrial is the main driver. So we expect SoC in the second half to be stronger.

Greg Smith: So and to the other part of your question, so — actually, I’m sorry, could you repeat the second half of your question?

Vivek Arya: Of course. Yes. Yes. So what I specifically was trying to ask is, do you expect your Mobility demand in the second half to be better than the first half. And if it isn’t, then isn’t that a surprise given that your large customer will get on the 3-nanometer cycle. So is 3-nanometer just not as big a node and does that have implications on how we think about your Mobility demand for next year?

Greg Smith: Okay. Yes. So it’s a really good point and something that I think it’s important to communicate clearly. We believe that the complexity increase enabled by 3-nanometer is on track to what we’ve modeled before. The reason that we are not seeing significant demand increase in 2023 is because the amount of capacity that is available driven by lower unit volumes is sufficient to absorb that complexity increase. So as unit volumes increase, we believe that we’ll see the full effect of that higher complexity.

Vivek Arya: Thank you.

Operator: Our next question comes from Brian Chin with Stifel. Please proceed.

Brian Chin: Good morning. Thanks. If I just ask a few questions. Maybe to start with, I think yours an advanced SoC can outlook. So I think they rarely align these are things like service, et cetera, that might be in or out of your forecast. But they’ve seen especially far part this year with sort of the high end of your range, worst than the low end of theirs. I’m just wondering what do you think explains the kind of the discrepancy between each of your forecast this year?

Greg Smith: Yes. So I — Brian, it’s a great question. Every year, this is sort of how the year starts that depending on the view from our perspective, the view from their perspective, you end up with a different view. And I think the challenging thing for us is predicting how strong or weak their business will be. And the same thing is true for them, is trying to predict how strong or weak our business will be. And so right now, you see that divergence. By the way, the same thing basically existed last year. And quarter-by-quarter, those numbers tend to converge. And you can take a look — basically, I’d like to say that we feel pretty comfortable with the range that we set, the 3.3% to 3.8%. And we’ll see if things strengthen through the year, we’ll adjust that range quarter-by-quarter. But I don’t — I guess I don’t see it as unusual as you do to see that kind of a spread.

Brian Chin: Okay. Fair enough. So I guess your molds are better than theirs…

Greg Smith: Actually, I don’t want you to walk away thinking that. I think we ended up having a more accurate prediction last year than they did at the similar time, but if you look at it this year, I don’t know that our molds are better than their molds for sure.

Brian Chin: Okay. Yes. I love those kind of jokes. But the — in terms of the omnichannel strategy also, Greg, for automation, when do you think that will be fairly — you may have sort of alluded towards the end of your investor. But when do you think that will be kind of somewhat well rooted or established, and it will take probably more than a few quarters even potentially. But when do you think that will be pretty well established. And then even when you think about from like a scale or critical mass perspective, would that not make a lot of sense for you to market even maybe a broader portfolio of automation than you do currently once you sort of have that sort of revamped channel strategies established?

Greg Smith: Yes. So that’s — it’s like you’re sitting in our strategy sessions. So the way to think about the omnichannel is that we are doing this in steps. The first significant new channel that we’re — that we’ve established for you are is the OEM channel. And that from ’21 to ’22 the OEM channel grew 16% year-on-year. From ’22 to ’23, we expect that same channel to deliver like 20% growth, even though, overall, the UR growth is going to be significantly lower. In this year, we’re taking steps to try and establish more effective coverage of large accounts, and we expect that to start delivering towards the end of this year and to significantly impact growth in 2024. After that, we have other channel additions that we’ll be making.

So the idea is each one of these channels, we think, is capable of delivering kind of 20% to 30% growth. And as we add new ones, they’re going to have a multiplicative effect. So we have each channel growing at that rate and then adding a new channel which adds a new growth source. So that’s definitely the reason why we have some confidence about the 20% to 30% growth per year over the mid-term, even though we’re starting at a much lower rate. Now the second question that you have in terms of a broader portfolio, yes, once we build this omnichannel, it is going to be a very powerful advantage for us in our Robotics business. And we will be looking to try to find ways to leverage that strength to find other growth engines.

Brian Chin: Okay. That was a great color. Thanks Greg.

Operator: Our next question comes from Joe Moore with Morgan Stanley. Please proceed.

Joseph Moore: Great. Thank you. I wanted to understand a little bit more the component constraints. And I guess if you could put that in the context of the last couple of quarters. I thought you guys weren’t as constrained as advanced as was, and I wasn’t really thinking it was holding you back from revenue. Now it seems like the component constraints are easing, but there’s still some negative impact is core. So you can just put that in context what you’ve been seeing in the last few quarters? And how does that affect you from like a market share standpoint of advanced as supply versus your supply?

Sanjay Mehta: Yes. Great. So last quarter, we had a little bit of market — or component constraint as well. We brought in roughly $10 million of that constraint into revenue into Q1. And I’d say that overall, supply and demand is kind of coming in more into balance, really with the fall off of demand. And fundamentally, we see things normalizing. I would say that there are a couple of suppliers with still very long lead time for some unique components that we source, and really that’s driven by demand that has just started to spring up where obviously, we have supply chain programs. We have available slots. But when several customers in specific industries or end market segments are coming in that really ends up outstripping our availability to supply.

So think about it as a couple of key component suppliers in a couple of the markets that we’re seeing an uptick in that’s higher than our expectation, which is great. I expect that this quarter will be $25 million — as I noted, $25 million outside. Obviously, we’re doing our best to service the customers. I see that hopefully going down into ’24. But with this uptick, the good news is we have the opportunity to solve these problems, and we’re working very hard to do it. We have a track record of execution. So just think of it as tied to a couple of key components.

Joseph Moore: Okay. Great. And are those — I know you had constraints like a year ago. Is it the same component? Or is that they’re sort of just different areas like kind of moving hotspots of shortage that are moving around a little bit?

Sanjay Mehta: Yes. I’d say going back to ’21 and kind of the first part of ’22, I’d say there was a wide variety of component supply chain issues that occurred. And think about it, the band is narrowing considerably. While there’s a couple that are still out there, that we’re working through and working very closely with our suppliers that are showing continuous improvement.

Joseph Moore: And that’s very helpful. Thank you.

Operator: Our next question comes from Steve Barger with KeyBanc. Please proceed.

Steve Barger: Thanks. Good morning. Greg, thinking about your prepared comments. How do you reconcile the strength in semi test for industrial digitization with the softer forecast for robotics. It seems like those should be correlated to some degree? Or is there some other aspect of digitization that’s driving the test volume?

Greg Smith: Hi, Steve. So it’s a pretty insightful question. So the thing that is going on. And if you look at us versus other industrial like robotics companies, you’ll see that our results are significantly more volatile. And the biggest difference between us and them. And still, like if you think about cobots, they are $1 billion of about a $12 billion industrial robot market. The rest of the industrial robot market is running with one to two year lead times. And they are still very busy shipping product to help put together a whole bunch of EV factories and battery factories. That’s a business that is not really core to the cobot space. And so I think that the — one of the things that’s going on is there’s significant consumption of electronics into the other parts of the Robotics business, but our business tracks like PMIs and other broader indices a little bit more closely than that longer lead stuff.

Steve Barger: That is a really great color. Thank you. And when you think about the longer-term story for your Robotics business. How is your thinking about the profit pools changed over the past year or two? Is it a pure volume game that’s driving the focus on large accounts or do you see the value in the ecosystem that you can provide and the hardware is how you sell that or do you think that more value will be in the services and upgrades over time as the installed base grows? Like where is — where do you think this goes to your benefit?

Greg Smith: Yes, so it’s — the — I don’t really think of it in terms of a volume play, because that infers sort of commoditization, and we don’t really see that happening. This is a high-tech space where technology differentiation actually matters. Having a better robot, having better software, easier-to-use capabilities, that makes a big difference as does having an ecosystem of partners that can help people build solutions quite quickly. The focus on large accounts, I think of that primarily in terms of our cost of sales, that by concentrating on a smaller number of larger accounts, we can sell more robots per account, and that allows us to grow with — like that our sales growth will outpace our sales cost growth over time.

So I see that as an efficiency game. The comment that you made about hardware versus services, I think that that’s an important aspect of our future plans that we think that there are profit pools in retaining an engagement with customers that have bought our product, both in terms of providing service, but more importantly, in terms of providing new types of software, new components that will allow them to get more out of the product in the future. At the end of the day, our robots are really reliable. They don’t break that much. So like a break-fix business, I would not expect to be a huge volume generator, but as robots get into more and more critical processes, these customers are going to want to pay for uptime and that’s a more lucrative service model.

Steve Barger: Would you get into more cobot as a service or robotics as a service over time based on that comment?

Greg Smith: Well, we might want to get a beer to have that conversation. I think that like in a nutshell, we believe in service as a service, right that the models where people are trying to offer hardware that depreciates as a service is largely around who carries the depreciation, and I think it’s an interesting model at the low levels of penetration that we have right now in robotics because customers are reluctant. They’re worried about making investments that won’t pay off. And robots as a service allow them to walk away more easily. We’re far more focused on solving those problems so that customers are willing to make those investments, because they’re smart enough to figure out if they get a better deal by carrying the depreciation versus paying rent for the robot. And that’s basically what you’re talking about.

Steve Barger: Yes. Thank you. Appreciate the time.

Andrew Blanchard: Hey operator, we’re going to try to sneak in just one more question, please, if you would.

Operator: Sure. The next question is Vedvati Shrotre with Jefferies. Please proceed.

Vedvati Shrotre: Hi. Thanks for taking my question. I guess my first question is on the high bandwidth memory side. Do you think that kind of put a positive angle on the test intensity on the DRAM side. Is that an angle of just considering that these are advanced packages? Does that increase your test intensity or how should we think about it?

Greg Smith: Yes. Hello everybody. So High-Bandwidth Memory is certainly one of the leading-edge technologies that is driving some tester sales, some technology-related tester sales, even though overall capacity is down. But it’s actually a really small part of the overall memory business. So it’s a positive, but I don’t think it’s nearly as significant as the transition to LPDDR5 or the next generation of flash in terms of driving technology sales.

Vedvati Shrotre: Okay. Got it. And sir, for my follow-up, on the auto industrial markets, I have kind of a two part question for this. So the market share has always been sort of 50-50 between Teradyne and Advantest. Are there any pockets where you would see your market share sort of be more dominant? And then as a follow-up to that, some of the front-end equipment players have been talking about China restrictions or getting clarifications on China restriction. Has that impacted you in any sense? Like do you expect some sort of clarifications and China restrictions drive your revenue sort of up better than what you expected?

Greg Smith: Yes. So in terms of within auto industrial, any parts where we’re more dominant, I’d say that the segment where we probably have a leadership position is in power and discrete test that when it comes to gallium nitride, silicon carbide, IGBTs, things like that. Our Eagle product line and the acquisition that we made of Lemsys a few years ago have allowed us to really establish a pretty good position in that space. It’s not a huge part of that market, but it is a part of that market that we expect to grow over time. As for China restrictions, we don’t know what’s going to happen in the future. There is a lot of trailing edge fab capacity coming online in China and we’re getting a share of that. There are also — something that we are on the lookout for is that that is generally producing parts that you don’t need a high performance tester to deal with.

And there are some smaller test equipment makers locally there that are getting a share of that. So we’re watching that, and we’re trying to make sure that we protect ourselves against competitive losses.

Vedvati Shrotre: That’s helpful. Thank you.

Andrew Blanchard: Okay, folks. And we’re out of time. So this concludes the call. Thank you all for your interest in Teradyne, and we look forward to working with you in the weeks ahead. Bye-bye.

Operator: Thank you. This does conclude today’s teleconference. You may disconnect your lines at this time, and thank you for your participation.