Teradyne, Inc. (NASDAQ:TER) Q1 2024 Earnings Call Transcript

Teradyne, Inc. (NASDAQ:TER) Q1 2024 Earnings Call Transcript April 25, 2024

Teradyne, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Greetings, and welcome to Q1 2024 Teradyne, Inc. Earnings Conference Call. At this time all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Traci Tsuchiguchi, Vice President, Investor Relations. Thank you, Ms. Tsuchiguchi. You may begin.

Traci Tsuchiguchi: Thank you, operator. 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 the first quarter of 2024 and our outlook for the second quarter of 2024.The press release containing our first quarter results was issued last evening. We are providing slides on the Investor page of our website that may be helpful 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 risks that could cause Teradyne’s results to differ materially from management’s current expectations.

We caution listeners not to place undue reliance on any forward-looking statements included in this presentation. We encourage you to review the safe harbor statement contained in slides accompanying this presentation as well as the risk factors described in our annual report on the 10-K with the SEC. Additionally, these forward-looking statements are made only as of today. During today’s call, we will make reference to non-GAAP financial measures. We have posted additional information concerning these non-GAAP financial measures including reconciliation to the most directly comparable GAAP financial measure where available on the Investor Relations page of our website. Looking ahead between now and our next earnings call, Teradyne expects to participate in technology or investor-focused investor conferences, hosted by JPMorgan, KeyBanc, Cowen, Bernstein and Stifel.

Following Greg and Sanjay’s comments this morning, we’ll open up the call for questions. This call is scheduled for one hour. Greg?

Greg Smith: Thanks, Traci. Hello, everyone, and thanks for joining us this morning. Today, I will summarize our first quarter results and discuss some of the trends in the semiconductor industry and robotics that we believe position Teradyne for long-term growth. It is useful to comprehend these longer-term growth drivers because the industries in which we operate are inherently cyclical. Sanjay will then provide greater financial detail on our first quarter results, our current outlook and additional financial information. We delivered first quarter financial results above our revenue, gross margin and earnings guidance ranges. Memory and SoC delivered above our plan and showed strong performance in the quarter driven primarily by AI applications.

The impact of AI on our business was seen in networking as well as in Edge AI applications like ADAS. Over 40% of our memory shipments in the first quarter were driven by AI applications. As we expected, mobile continued to be soft in the first quarter. Our robotics business delivered to planned for the third consecutive quarter as their go-to-market execution continues to improve. Moving on to Q2. The impact of AI on test demand we experienced in the first quarter is continuing into the second quarter, improving our outlook in memory and in compute. However, a meaningful upturn in mobile, legacy auto and industrial end markets may not occur until the 2025 timeframe. Looking ahead, within the semiconductor test market, we expect that the compute TAM, which includes networking in many vertically integrated producers to grow at a faster pace than previously expected.

We now estimate the compute TAM in 2024 to be $1.5 billion, up from $1.4 billion. We have lowered our TAM estimates for auto, industrial and mobile markets as recovery in these end markets appears to be pushing out in time. With the combination of our stronger first half and limited visibility into the second half, our estimate of the 2024 SOC TAM remains unchanged at $3.6 billion to $4.2 billion. In memory test, we are increasing our expectation of TAM growth to $1.2 billion to $1.3 billion from our prior estimate of $1 billion to $1.1 billion, driven mainly by stronger demand for HBM, which we expect to grow 5x last year’s level. As I’m sure you’ve noticed, our first quarter results and second quarter expectations are significantly above our view from January.

For the full year, at the company level, we continue to expect low single-digit growth from 2023. In January, we are expecting the year to be back half loaded with mobile driving that recovery. We also shared that lead times were decreasing and our visibility was limited. The sustained strength and new demand in AI-driven applications are boosting our business in the first half. However, we are being cautious on the second half on what looks like continued weakness in the mobile market. Our operations team is continuing to enable us to pursue short lead time opportunities, so it certainly feels as if there is more upside opportunity than downside risk. Now turning to robotics. The first quarter is typically quite weak for our robotics business, and this year is no exception.

We were very pleased to see the team deliver on plan and are expecting sequential growth in the second quarter. We are executing the plan which we expect to deliver 10% to 20% growth in 2024. This plan includes three elements: first is SAM expansion through new offerings. Second is growing our OEM solution provider in large account channels. Third is building increased recurring revenue through service and software offerings. In the first quarter, we made good progress in all of these areas. We executed on new SAM expanding initiatives with the announcement of UR’s collaboration with NVIDIA and the new MiR1200 pallet jack. We grew our UR OEM business 58% year-on-year, and we received the single largest order in the history of MiR from a strategic customer.

Zooming out, we see AI as the transformational secular growth driver across all of our businesses. AI applications are already having a profound impact on the test market, but we are in the very early days of the growth trend that will play out over the coming years. Today, the profit pool generated from AI is concentrated in the build-out of cloud AI capabilities, especially for training LLM on huge data sets. The hardware requirements for training are massive and include general purpose fine grain compute, high bandwidth memory, dense network interconnection, and mammoth amounts of power, all of which are driving our business today. However, these LLMs will only deliver a business impact when they are used to solve problems in the real world, in other words, through inference applications, both in the cloud and at the edge.

This is the key opportunity that is driving vertically integrated producers to develop their own devices and will materially affect the complexity of edge processors in automotive, industrial and mobile applications. While our business is benefiting today from the considerable AI-driven growth in memory, networking and a few early ramps of vertically integrated producers, our greatest opportunity lies ahead as inference applications and edge AI accelerates because of our strong position with many of the leading providers of mobile and embedding computing in industrial and ADAS applications. AI will also have a profound impact on the robotics industry. Teradyne Robotics is focused on collaborative applications, where robots need to work safely and efficiently in complex environments.

AI provides an opportunity to more easily deploy robots that understand and adapt to their surroundings, making them more resilient and expanding the range of problems that they can address. With our layered approach to safety, high product quality and an open platform ecosystem, UR and MiR, are positioned as the preferred robotics platforms for the development of AI manufacturing and logistics solutions. Last month we announced a collaboration with NVIDIA to utilize their robotic stack on UR hardware and demonstrated the power of that collaboration at GTC with a visual inspection application. Also in the first quarter, we announced the MiR1200 Pallet Jack, a new AI-powered solution that uses 3D Vision to identify, pick up and deliver pallets even in dynamic and complex environments, making it a valuable resource for autonomous material handling in factories and warehouses.

Advanced robotics is just one of the many early examples of Edge AI applications positively impacting our business. Others include advanced driver assistance systems and AI capabilities being added to premium tier mobile handsets. Edge AI is becoming a material driver of TAM growth for Semi Test, but we’re in very early days. We expect AI will be an overarching growth driver for years to come in test as a primary demand driver and in robotics as a key enabler of market growth. We’re positioned to benefit from this megatrend, and we’re investing R&D and field resources to capture this opportunity. Summing up the quarter, we’re off to a strong start with Q1 results and our outlook for Q2 well ahead of our view just three months ago. The strength and test is focused on cloud and Edge AI applications, while other parts of the semiconductor industry work through inventory.

Calling the end of these corrections is a challenge. So we are being cautious about our second half outlook. That said, our flexible operations model will enable us to serve upside demand. We expect that industrial, automotive and mobile will rebound from their current low levels and entirely new demand drivers like AI are already contributing to our Test business. The industry increase in WFE spend in 2024 and 2025 will drive unit volume and device complexity growth, reinforcing our confidence in our midterm outlook. And with that, I’ll turn the call over to Sanjay. Sanjay?

Sanjay Mehta: Thank you, Greg. Good morning, everyone. Today, I’ll cover the financial summary of Q1, provide our Q2 outlook and full year planning assumptions. Now to Q1. First quarter sales were $600 million, which was $10 million above the high end of our guidance with non-GAAP EPS of $0.51, which was above the high end of our guidance of $0.38. Non-GAAP gross margins were 56.6%, above our guidance due to favorable product mix, higher volumes and improved operational efficiencies. Non-GAAP operating expenses were $251 million, both flat year-over-year and up slightly compared to our fourth quarter. Non-GAAP operating profit was approximately 15%. Turning to our revenue breakdown in Q1, Semi Test revenue for the quarter was $412 million, with SOC revenue contributing $302 million and memory $110 million.

In memory, our sales were strongest in DRAM as AI-driven demand remains strong. Test for HBM is being prioritized by our customers, and we are seeing customers transition capital spending for testers away from flash to DRAM, in part due to HBM and the return of capacity adds and other DRAM test. Historically, we’ve seen split between flash and DRAM markets be more balanced. In System Test Group, Q1 revenue was $75 million, with $23 million in storage test on low SLT and HDD demand. Recall, SLT has high exposure to the smartphone market. And even as HDD end markets begin to recover, tester capacity utilization rates remain low. In Wireless Test, revenue was $25 million in Q1, reflecting continued weakness in PC and mobile markets. In Q2, we expect wireless test to improve due to gaming end market and are now beginning to see the ramp of Wi-Fi 7.

Now to robotics, revenue was $88 million as planned with UR contributing $68 million and MiR $20 million. Shifting to some cash metrics, at a company level, our free cash flow was an outflow of $37 million in the quarter. We typically consume cash in the first quarter as we pay taxes and variable employee compensation. We repurchased $22 million of shares in the quarter and paid $18 million in dividends. We ended the quarter with $871 million in cash and marketable securities. Some other financial information in Q1. We had one 10% customer in the quarter. The tax rate, excluding discrete items for the fourth quarter was 15% on a GAAP basis and 15.5% on a non-GAAP basis. In Q1, we incurred an FX loss on the fair value of the currency exchange hedge related to the expected investment in Technoprobe.

This drove a larger than typical variance between our GAAP and non-GAAP earnings in the quarter. Turning to our current operational environment. In Semi Test, supply lead times continue to decline as supply versus demand is more in line. Our lead times continue to hold at one to two quarters, however, in some cases, we have been able to service demand inside these lead times. As a result, our customers are moving back towards historical buying patterns with shorter lead times, thus yielding lower second half 2024 visibility consistent with the pre-pandemic environment. Robotics remains a quick turns business and our execution continues to deliver to these market conditions. Now turning to our outlook for Q2. Q2 sales are expected to be between $665 million and $725 million with non-GAAP EPS in a range of $0.64 to $0.84 on 162 million diluted shares.

The second quarter guidance excludes the amortization of acquired intangibles and the anticipated gain on the expected sale of DIS, which is $0.29 in our GAAP forecast. Some color around the forecasted increase to Q2 revenue versus our January view. The increase is driven by our Semi Test business where ADAS, compute networking and HBM demand has strengthened. As noted, this AI strength has continued into the second quarter and some orders initially scheduled for shipment in the third quarter have moved into the second quarter, improving our near-term outlook. Second quarter gross margins are estimated at 57% to 58%. OpEx is expected to run at 36% to 39% of second quarter sales, up modestly from Q1. Non-GAAP operating profit rate at the midpoint of our second quarter guidance is 20%.

A few points to assist you in modeling the rest of the year. I’ll start with a few more details about the market estimates Greg provided. While our view of the SOC TAM is unchanged in total, under the cover, there are some puts and takes. Compute is up approximately $100 million, while mobile, auto and industrial are down a little over $100 million in aggregate. In anticipation of questions, let me provide the midpoint of our estimates by segment. Compute, $1.5 billion; mobile $0.9 billion; auto MCU, $0.5 billion; Industrial, $0.3 billion; and service, $0.7 billion, summing up to $3.9 billion for SOC. You’ll notice the aggregate decline change has been allocated to the Industrial segment. Our memory estimate has increased $200 million with the midpoint of $1.25 billion.

Please note, our final estimate for the 2023 SOC TAM is $4 billion, up $100 million in the Compute segment from our January view. Back to revenue. We expect Q3 sales to be similar to Q2 and Q4 to improve from there. Note that our flattish sequential growth in Q3 does not assume any revenue from DIS. Excluding the impact of the anticipated divestiture, we would expect revenue to grow sequentially in Q3. Our expectation for revenue distribution for the full year is now less back half weighted than our view in January. We currently expect around 47% of the company revenue to be in the first half and 53% in the second half. We expect full year revenue to grow in the low single-digit range compared to 2023. Now to gross margins. Gross margins are expected to continue to improve as we progress through the year and should be at our target gross margin model for the fourth quarter.

Full year gross margins will likely be in the 58% to 59% range unchanged from our January outlook. Regarding OpEx for the full year. We expect full year 2024 OpEx to grow 5% to 7%, consistent with prior guide as we continue to make engineering and go-to-market investments. Our GAAP and non-GAAP tax rate, excluding discrete items, are forecasted to be 15% to 15.5%, respectively, in 2024. A quick update on our previously announced strategic partnership with Technoprobe. As a reminder, the agreement has several key components. First, Technoprobe will purchase Teradyne’s DIS business, which provides advanced interfaces that connect our testers to customers’ chips for test. Second, Teradyne will make an equity investment in Technoprobe, acquiring 10% of the company.

Third, Teradyne and Technoprobe will work together on a series of projects to expand the performance of semiconductor device interfaces to enable customers to realize the full performance of our test systems. We continue to expect the transactions to close in the second quarter. DIS revenue contribution for the first quarter was approximately $21 million. Post closing, our cash position will decline as the transaction is expected to consume an estimated $440 million of net cash. We will continue to limit our share buybacks in 2024 to an amount necessary to offset dilution from equity compensation and our employee share purchase program in order to build cash back to a minimum goal of $800 million. Summing up, we delivered sales and earnings above the high end of our guidance range as memory and networking exceeded our plan in Semi Test, mainly driven by AI.

The mobile, industrial and legacy auto markets remain soft. Our robotics team delivered to plan for the third consecutive quarter, as we continue to execute our new product development and go-to-market strategies. Overall, visibility beyond the second quarter is limited, given the increased level of turns business in Semi Test. Our first quarter performance and the improvement in our second quarter outlook elevates our confidence for the year. Midterm fundamentals remain intact, yielding continued optimism beyond 2024. With that, I’ll turn the call back to Traci. Traci?

Traci Tsuchiguchi: Thanks. We open it up to questions.

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Q&A Session

Operator: Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] The first question comes from the line of Mehdi Hosseini with SIG. Please go ahead.

Mehdi Hosseini: Yes. Thanks for taking my question. Two follow-up. It seems to me that despite the fact that you highlighted mobile as an area of weakness, it had already been dialed into your January guide or commentary for the full year. Would that be fair?

Sanjay Mehta: Yes, it would, Mehdi.

Mehdi Hosseini: Okay. So – and this brings up what I want to really ask you, when I look at TSMC, they just announced their Annual Report, and obviously, Apple’s mix of revenue went up. And I’m using that as a kind of trying to better understand the dynamics. So if TSMC is running or generating more revenues, that means more chips for that particular customer is coming out. And at some point, utilization rate for those testers are going to hit that 85%, 90% threshold. And I’m trying to look beyond the next couple of quarters. Are we thinking – are you also thinking that at some point in the next two to four quarters those utilization rates are going to get to the point where even if that particular customer of TSM were to continue with kind of bifurcation of their technology node, would – they would still have to come back to the market and buy more testers?

Greg Smith: Hi Mehdi, this is Greg. I think you’ve got it right that utilization is continuing to increase. The equipment that is in place is being used quite efficiently through the year. So the loading is relatively constant. And we definitely believe that it’s a matter of when, not if there’s going to be a need for significant additional capacity to support that kind of product line.

Mehdi Hosseini: Thank you.

Operator: Thank you. Next question comes from the line of Vivek Arya with Bank of America Securities. Please go ahead.

Vivek Arya: Thanks for taking my question. On the compute TAM, the $1.5 billion, I think that’s up roughly 15% from last year. When I look at the size of the accelerator market this year, it’s supposed to double. So is that one kind of high-level way to look at how much the accelerator market is growing versus how much your tester compute TAM is growing? Or is there a different way? So for example, if, let’s say, the accelerated market grows 30% next year, right? What does that imply for your compute TAM?

Greg Smith: So interesting question. There is – thinking about the TAM, that is the overall size of the market, so what we would get, what our competitor would get. And the size of the accelerator market has gone up a lot this year. Most of the testers to support this year’s revenue in accelerators was put in place last year. So if the TAM that was supported last year supporting that sort of big growth that we’ve seen in the end market this year, what’s going to happen this year, the $1.5 billion that we talked about is going to support a significant increase again next year. And that – this year, the primary beneficiary in terms of that end market is NVIDIA. What we’re seeing now is that we are having some vertically integrated producers start to have significant ramps and they’re already loading significant numbers of testers.

The TAM in 2024 for compute is actually a little bit constrained below what it would otherwise be, because the – these new entrants are actually able to work with their OSAT partners and convert idle testers that would have been in mobile into the compute space. So right now, the loading of compute testers is higher than it was than what you’d see in terms of the buys in the market. As mobile starts to come back, that means that there’s less idle capacity to fill. It also means that the compute market is going to be translated into more direct buys.

Sanjay Mehta: And Vivek, just a quick comment. In my prepared remarks, we noted that the our estimate was revised for 2023 for the compute market. When I do the math of our mid-point of $1.5 billion in 2024 versus our old, you do get a 15% increase, but we revised that in my prepared remarks I noted to $1.4 billion. So I think the growth is 7% versus 15%. I just wanted to point that out.

Vivek Arya: Got it. Thank you. And just a quick follow-up. A number of your WFE peers have started to see the benefits of 2-nanometer and gate-all-around. I’m wondering what does that mean for Teradyne? When will you start to see those benefits? And what does that mean for tester intensity? I assume that’s more 2025 or 2026. Any color around that would be very useful. Thank you.

Greg Smith: Sure. So we are expecting to see some testers being used to support the engineering work in early parts in 2-nanometer probably towards the end of 2025. We don’t expect any volume associated with 2-nanometer gate-all-around until 2026. And the way that we’re looking at that right now is that there’s nothing particularly idiosyncratic about that node in terms of tester demand. So we’re thinking of it primarily as an enabler to more complex parts. There are a lot of parts, for example, for cloud AI training that at this point are actually reticle limited, and there – and so anything to allow increased complexity within the same dye size is likely to be soaked up by AI. And so the faster that 2-nanometer comes online, the faster these more complex parts will be developed, and those will likely have longer test times, higher test intensity, which will drive the TAM.

Vivek Arya: Thank you.

Operator: Thank you. Next question comes from the line of Toshiya Hari with Goldman Sachs. Please go ahead.

Toshiya Hari: Hi, good morning. Thank you so much for taking the question. I had one question on memory and another one on your VIP business. On the memory side, you guys talked about a $1.25 billion TAM for 2024. I was hoping you could provide a rough split between DRAM and NAND, how you’re viewing the market, what the contribution could be from HBM, and if you can speak to your competitive position, your market share position within HBM, that would be helpful.

Sanjay Mehta: Sure. Why don’t I take the numbers, and maybe the competitive position, Greg, do you want to take? So the range that we provided was $1.2 billion to $1.3 billion with the midpoint of $1.25 billion. And we think from a DRAM perspective, it’s roughly 80% of that versus flash of 20%. Historically, I would say, DRAM has been in the 40% and 50% of the overall memory market. So that’s roughly the split. And then HBM, we think is – yes, we think that number is about $500 million. It’s going to work the percent, but we think that number is above $500 million out of the $1.25 billion.