KLA-Tencor Corp.’s (KLAC) second-quarter earnings beat the Zacks Consensus Estimate by 6 cents. With the broad turnaround in the semiconductor capital equipment market underway, some of the other equipment makers, such as Research (LRCX) and Teradyne (TER) also reported stronger results. Consequently, we are very positive about the largest equipment company Applied Materials (AMAT) which is expected to report within the next few weeks.
 
Revenue
 
Revenue of $478.3 million was up 8.6% sequentially and 54.5% year over year. The sequential strength was due to a larger section of customers increasing their capex investments, particularly in advanced technology. The technical complexity in manufacturing semiconductors and increasingly challenging yield issues are the drivers behind these investments. New products also helped growth in the last quarter.
 
Products generated 73% of total revenue, an increase of 11.1% sequentially and 68.7% year over year. Services revenue comprised the remaining 27%, 2.5% sequentially and 25.6% year over year. Services are likely to grow in importance, as the company strives to maintain its large installed base.
 
Orders
 
Orders were up strongly in the last quarter. The company reported $649 million in net bookings, which was a sequential increase of 25.8% and a year-over-year increase of 136.9%. This was much better than management’s expectations of a 0-20% sequential increase and driven by strong demand from both core and new markets.
 
While the foundry segment (50% of total orders) remained strong in the last quarter, spending in the memory segment gained momentum (with a 37% contribution), while logic customers slid (from 24% to 13% of total orders).
 
Orders by product line were—wafer inspection 48%, reticle inspection 15%, metrology 10% and solar storage high brightness LED and other non-semiconductor 8%. Services were 19% of total orders.
 
Orders were fairly broad-based across geographies, an indication that the recovery is spread across all regions. The strongest growth in the last quarter, however, came from the U.S. and Taiwan. The relatively higher concentration in Asia is due to the presence of more foundries and chip manufacturing companies in the region. Around 39% of total orders came from Taiwan, followed by the U.S. with 23%, Korea with 15%, Japan 10%, rest of Asia 9% and Europe 3%.
 
The six-month backlog at quarter-end was $939 million, up 23.7% sequentially and 72.9% year over year.
 
Margins
 
The pro forma gross margin for the quarter was 57.7%, up 299 basis points (bps) from the previous quarter’s 54.7% and 1,970 bps from 38.0% in the year-ago quarter. The gross margin benefited from higher volumes and the resultant improvement in fixed cost absorption over the larger sales base. A richer mix of higher-margin products and the move to lower-cost manufacturing at Singapore also helped margins in the last quarter.
 
Operating expenses of $167.1 million were higher than the previous quarter’s $164.1 million. The operating margin was 22.8%, up 533 bps sequentially and 3,380 bps year over year. The sequential improvement was largely on account of the higher gross margin, but also helped by lower SG&A and R&D as a percentage of sales.
 
Excluding the impact of restructuring charges, acquisition-related expenses, restatement-related charges and the associated tax impact, the pro forma net income was $71.3 million, or 14.9% of sales, compared to $49.4 million, or 11.2% in the previous quarter and a loss of $58.3 million, or 18.8% in the year-ago quarter.
 
Including the special items, the GAAP net income was $57 million (33 cents per share) compared to net income of $21.8 million (13 cents per share) in the December quarter and net loss of $82.8 million (49 cents per share) in the March quarter of last year.
 
Balance Sheet
 
Inventories were up 6.3%, although inventory turns were flattish at around 2.2X. Days sales outstanding (DSOs) were also flat at around 62. The company ended with cash and short term investments of $1.53 billion, up $11.2 million during the quarter. The company generated $127.7 million from operations, spending $10 million on capital expenses, $54.6 million on share repurchases and $25.7 million on dividend payouts during the quarter.
 
Guidance
 
For the fourth quarter, management expects orders to be up 5-25% sequentially to $680-810 million and revenue to be up 10-19% sequentially to $530-570 million. The non-GAAP earnings are expected to be 54 cents – 62 cents a share.
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