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Edited Transcript of LRCX earnings conference call or presentation 18-Apr-17 9:00pm GMT

Thomson Reuters StreetEvents

Q3 2017 Lam Research Corp Earnings Call

FREMONT Apr 19, 2017 (Thomson StreetEvents) -- Edited Transcript of Lam Research Corp earnings conference call or presentation Tuesday, April 18, 2017 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Douglas R. Bettinger

Lam Research Corporation - CFO and EVP

* Martin B. Anstice

Lam Research Corporation - CEO, President and Director

* Satya Kumar

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Conference Call Participants

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* Atif Malik

Citigroup Inc, Research Division - VP and Semiconductor Capital Equipment and Specialty Semiconductor Analyst

* Christopher James Muse

Evercore ISI, Research Division - Senior MD, Senior Equity Research Analyst and Fundamental Research Analyst

* Farhan Ahmad

Cr?dit Suisse AG, Research Division - VP and Senior Analyst for Semiconductor Capital Equipment sector

* Harlan Sur

JP Morgan Chase & Co, Research Division - Senior Analyst

* Joseph Lawrence Moore

Morgan Stanley, Research Division - Executive Director

* Mehdi Hosseini

Susquehanna Financial Group, LLLP, Research Division - Senior Analyst

* Patrick J. Ho

Stifel, Nicolaus & Company, Incorporated, Research Division - Director

* Romit Jitendra Shah

Nomura Securities Co. Ltd., Research Division - Executive Director

* Shek Ming Ho

Deutsche Bank AG, Research Division - VP

* Sreekrishnan Sankar

BofA Merrill Lynch, Research Division - Director

* Stephen Chin

UBS Investment Bank, Research Division - MD in the Technology Group and Research Analyst

* Timothy Michael Arcuri

Cowen and Company, LLC, Research Division - MD and Senior Analyst

* Toshiya Hari

Goldman Sachs Group Inc., Research Division - MD

* Weston David Twigg

Pacific Crest Securities, Inc., Research Division - Director and Senior Research Analyst of Semiconductor and Industrial Technology

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Presentation

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Operator [1]

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Good day, and welcome to the Lam Research Corporation March Quarter 2017 Conference Call.

At this time, I would like to turn the conference over to Mr. Satya Kumar. Please go ahead, sir.

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Satya Kumar, [2]

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Thank you, and good afternoon, everyone. Welcome to the Lam Research quarterly earnings conference call. With me today are Martin Anstice, President and Chief Executive Officer; and Doug Bettinger, Executive Vice President and Chief Financial Officer.

During today's call, we will share our outlook on the business environment, review our financial results for the March 2017 quarter and our outlook for the June 2017 quarter. The press release detailing our financial results was distributed a little after 1 p.m. Pacific Time this afternoon. It can also be found on the Investor Relations section of the company's website, along with the presentation slides that accompany today's call.

Today's presentation and Q&A include forward-looking statements that are subject to risks and uncertainties reflected in the risk factor disclosures of our SEC public filings. Please see accompanying slide in the presentation for additional information.

Today's discussion of our financial results will be presented on a non-GAAP financial basis, unless otherwise specified. A detailed reconciliation between GAAP and non-GAAP results can be found today in our today's earnings press release.

This call is scheduled to last until 3 p.m. Pacific Time, and as always we ask that you limit your questions to one per firm with a brief follow-up, so we can accommodate as many questions as possible. As a reminder, the replay of this call will be available later this afternoon on our website.

With that, let me hand the call over to Martin.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [3]

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Thank you all for joining us today for our March 2017 quarterly earnings call. Stating the obvious, we are extremely pleased with the performance of the company that we reported and guided today. As challenging as it is to scale our company from an average calendar '16 quarterly output level by more than 40%, which is the reality of our $2.4 billion recent quarter shipments, it is gratifying to see the results of our collective efforts.

Our strategy, the development of an increasingly critical and enabling product and services portfolio, our consistent execution across all functions of the company and, last but not least, the tremendous commitment of our employees and partners globally, are all necessary components of a multiyear outperformance story. It is a privilege to lead this company. And on behalf of the entire management team, I would like to thank everybody that contributed, the very same people that are creating, as we speak, the next world of opportunity in our future.

We delivered record financial results once again in the March quarter with shipments and revenue above the midpoint of our guidance and non-GAAP EPS above the high end of our guidance range. For all the reasons previously communicated and reinforced by our actual performance currently, we believe Lam is in an excellent position with our leadership and competency in etch, deposition and clean products and services to facilitate some of the most significant innovations in semiconductor device manufacturing for many years to come.

Turning to the broader industry environment, as stated already, the momentum of investment levels in the segments that we participate is net positive. Capacity addition and technology conversion trends appear rational and strategic, both elements leading to a strengthened outlook for the calendar year. Since our last earnings call, expectations for the year have improved. We are now guiding a first half shipments stronger than previously anticipated with a second half now slightly more balanced than the no better than 55-45 reference of the last earnings call. And the optimism that we have for sustainable technology demand trends is further strengthened by well-publicized plans throughout the electronics ecosystem. In short, silicon continues to sit at the very center of long-term electronics technology and applications innovation. That is the fundamental opportunity for our industry, and specifically, for Lam Research. Market trends and our initial modeling indicate continued strength of WFE in 2018 also.

Memory company cash flows, memory unit pricing and the implied commentary on supply-and-demand balance are broadly well analyzed and reported at this point. We have no incremental perspective to share at this time. Demand continues to be strong for NAND in the SSD and embedded markets, driving increased spending activity for NAND in 2017. We expect total 3D NAND shipped capacity at year-end to represent slightly more than the 50% of the installed base with a balance of greenfield and conversion investments this year.

In DRAM, we continue to anticipate double-digit growth in equipment spending calendar '17 year-over-year with investments being dominated by technology conversions. We now model a modest growth in foundry and logic spending combined as leading-edge devices increasingly meet performance targets and adoption criteria for the broad range of advanced computation market needs. These additional investments are focused primarily at the 10-nanometer technology node this year.

Overall, we believe calendar '17 wafer fabrication equipment spending, and to a greater extent, our SAM and our own business levels are all tracking positively against previously stated expectations.

The intended headlines today for the company are clear, we hope. We continue to invest in the positioning of enabling technology, products and services with benchmark level R&D funding approaching 2/3 of our overall operating expenses in support of our customers? plans and to build sustainable value for Lam Research. We are actively working to enhance the competitive differentiation momentum of 5 years of profitable growth averaging an 18% revenue CAGR with calendar '17 expected to be our most significant revenue, profit and cash-generation growth year yet this decade. With the anticipated business plans of our customers, their equipment selections already made and the continued operational execution standard of Lam, we have every confidence in our industry outperformance potential long term. We have singular focus on our corporate strategy and vision that we consider compelling for all stakeholders. Specifically, we believe that our intuitive focus on customer trust and a collaborative culture, a flexible business model and a resolve to invest strategically in our long-term success with a commitment to return excess cash to our shareholders all combine to create a rewarding opportunity. Last but not least, we believe that the secular demand trends and outlook for the world of technology and electronics applications are more compelling than ever with a silicon road map and the role of Lam Research, front and center.

With that, let me turn the call over to Doug.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [4]

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Okay. Thanks, Martin. Good afternoon, everyone, and thank you for joining us today for our March 2017 quarterly earnings call. The March quarter represented a solid start to the calendar year. We delivered record levels of shipments, revenue, gross margin dollars, operating income dollars and earnings per share. Each of these metrics grew double digits quarter-over-quarter. Financial performance was above the midpoint of guidance for all metrics with operating margin and earnings per share above the high end of the range we provided to you last quarter.

Shipments for the quarter were strong at $2.413 billion, which was up 25% sequentially, and again, above the midpoint of the guided range. Memory shipments were very strong in the quarter as customers continued their investments in 3D NAND capacity. Our customers are investing in new 3D wafers. They're converting planar to 3D, and they're also embarking on 3D technology conversions to increase layer count.

NAND demand continues to be strong driven by growth in enterprise and client SSDs as well as mobile device density increases. The combined Memory segment represented 73% of total system level shipments, and that compares with 61% in the prior quarter. Memory shipments were weighted heavily towards the non-volatile segment, which represented 50% of shipments in the March quarter compared with 37% in the prior quarter.

DRAM shipments grew 24% sequentially in dollar terms and made up 23% of system shipments. DRAM shipments comprised 24% of system shipments in the December quarter. We're seeing an uptick in DRAM spending in line with improving demand and content growth from areas such as smartphones and servers. DRAM spending is largely focused on conversions, with the majority being conversions to the 1x-nanometer node.

The Foundry segment was flattish sequentially in dollar terms, accounting for 24% of system shipments. Foundry spending was a combination of leading-edge 10-nanometer capacity, initial 7-nanometer pilot investments as well as continued spending at 28-nanometer and above with the latter being primarily focused in China.

And finally, the Logic and Other segment contributed 3% of system shipments.

Revenue came in at $2.154 billion in the March quarter, which was up roughly 14% from the December quarter. Gross margin for the period came in at 46.1%, above the midpoint of our guidance.

And as I've shared with you before, our gross margins are a function of a number of factors such as overall business volumes, product mix and customer concentration, so you will see variability quarter-to-quarter. And I'd just like to remind you that our financial model is still the best way to think about our ongoing profitability performance.

Operating expenses in the quarter grew as we knew they would to $414 million. This compares to $384 million in the December quarter. Operating expense as a percent of revenue decreased to 19% compared to 20% in the prior quarter. And as Martin pointed out, the majority of our OpEx spending continues to be allocated to funding our critical R&D programs.

Operating income in the March quarter came in at $578 million, and that compares to $490 million in the prior quarter. Operating margin was 26.9%, above the high end of the guided range.

The tax rate for the quarter was 12% compared with 15% last quarter. The tax rate in the March quarter was favorably impacted by the release of tax liabilities from the conclusion of certain tax matters. Additionally, we had a reserve release related to the Novellus acquisition that is included in the GAAP results. A tax rate in the low to mid-teens for the remainder of 2017 would be reasonable for you to use in your earnings models.

Based on a share count of approximately 182 million shares, earnings per share for the March quarter totaled $2.80, above the guided range. This share count includes dilution on a non-GAAP basis from both the 2018 and 2041 convertible notes with a total dilutive impact of about 16 million shares. And I'll remind you that dilution schedules for the 2018 and 2041 convertible notes are available on our Investor Relations website for your reference.

This quarter, we returned $213 million to our shareholders, $73 million in dividend distributions and $140 million in share repurchases. We took delivery of 1.2 million shares at an average price of $114.30. We've completed approximately 20% of our current $1 billion share repurchase authorization, and I?ll let you know that we plan to initiate a $500 million accelerated share repurchase program in the June quarter.

Now let me turn to the balance sheet. We continue to have both a solid cash position and healthy cash generation. Cash and short-term investments, including restricted cash, increased modestly to $6.140 billion at the end of the quarter. Cash from operations was $423 million, and that compares to $404 million in December.

DSO held steady at 69 days in the March quarter, the same level as in December.

Inventory turns were 4.2, which was up slightly from 4.1 in the prior quarter. This turns number is the highest we've achieved since we've combined Lam with Novellus.

We exited the quarter with deferred revenues of $842 million, which was up from $673 million in December. This amount excludes $260 million in shipments to customers in Japan, which will revenue in future quarters. These Japanese shipments are up from $129 million in the December quarter. And I'll just remind you that these Japanese shipments remain on our balance sheet as inventory carried at cost. And I'll just do the math for you. I'd like to point out that this combined deferred shipment bucket now stands at $1.1 billion, and it grew 37% in the March quarter. I expect deferred revenue will grow again in the June quarter.

Company noncash expenses for the quarter included the following: $35 million for equity comp, $38 million for amortization and $38 million for depreciation. Capital expenditures were $44 million, which was up from $37 million in the December quarter.

We ended the quarter with approximately 8,600 regular full-time employees, which was up about 400 from the end of the December quarter. The increase in headcount was in support of our growing business levels, primarily in the operations and field organizations. Additionally, we're bringing on board the talent required to execute on our forward-looking R&D programs.

Now looking ahead, I'd like to provide you our guidance -- our non-GAAP guidance for the June quarter. We're expecting another record shipment of $2.500 billion, plus or minus $100 million. We're expecting record revenue of $2.300 billion, plus or minus $100 million. We're forecasting gross margin of 46%, plus or minus 1 percentage point. And we're forecasting operating margins of 27%, plus or minus 1 percentage point. And finally, we're forecasting earnings per share of $3.00, plus or minus $0.12 based on a share count of approximately 180 million shares.

We're obviously pleased with our performance this quarter and with the guidance we've just shared for the June quarter. Our business has never been stronger financially, and we're continuing to execute extremely well. We're in the right place at the right time, with the right products. We're partnering with our customers to enable the transitions happening within the industry today, and we're making the investments required to sustain our business long term.

Operator, that concludes my prepared remarks. Martin and I would now like to open up the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We'll take our first question from Stephen Chin with UBS Bank.

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Stephen Chin, UBS Investment Bank, Research Division - MD in the Technology Group and Research Analyst [2]

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My first question is just on your early outlook for the 2018 industry wafer fab equipment spending. Does 2018 appear to be another growth year for WFE because of indigenous China? Or is it just continued spend by incumbents in foundry and memory logic?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [3]

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I think if I try to answer that definitively, I'd be a little bit misleading. I think that it's still early days. But based on the data points that we see today, Stephen, we see sustainability in the context of the discipline of capital investments, the relative balance and stability between kind of supply and demand as best we can tell in the industry, and particularly, on the last part of your question, the China story, the domestic China story, at least, we believe is more of a calendar '18 investment than calendar '17. So really our comments about discipline in capacity additions and what we think are pretty compelling and exciting and sustainable long-term demand trends. But the end of the day, if that plays out as it is more generally described today, the investment will follow.

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Stephen Chin, UBS Investment Bank, Research Division - MD in the Technology Group and Research Analyst [4]

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Okay. Just a quick follow-up on memory CapEx to sales trends. It sounds like memory fundamentals are healthy. And historically, we've seen memory industry have a CapEx-to-sales ratio of 30% to 35%. Do you think that CapEx-to-sales ratio is still a good sustainable scenario for the market? Or is it likely that CapEx to sales could go higher in light of the scalability issues with 3D NAND and slowing DRAM transition?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [5]

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Honestly, Stephen, I've never been a really big fan of capital-intensity ratios because I think it kind of whipsaws us around in terms of the analytics in any 1 quarter. And the reality is the economic of an addition in new capacity is a very different economic than a conversion. We're pretty agnostic in the NAND space to how our customers execute those plans, as we previously described. And in terms of wafer starts, it looks to us like the investments of this year are kind of pretty balanced between greenfield and conversion. So we look to the sustainability question more in terms of kind of balance of bit growth demand and our understanding of supply additions, and I think kind of the market generally is telling that story. So I don't really have anything to tell you that will cause the future to be very different from the past in terms of that particular metric.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [6]

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The only thing I'd point out, Stephen, is obviously you know what memory revenue is likely to be this year. It's super strong, right. And so the -- you always have to think about affordability. And clearly, the levels that are going on today are affordable given how strong revenue in memory is.

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Operator [7]

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Our next question comes from Timothy Arcuri with Cowen & Company.

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Timothy Michael Arcuri, Cowen and Company, LLC, Research Division - MD and Senior Analyst [8]

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I guess the first question, Doug, is for you. Just looking out into the third calendar quarter, it looks like you guys said a little -- used words a little more balanced than what the 55-45 was. So maybe it sounds like second half of the year shipments is down something like maybe 10% half on half. So that would sort of say 4.5 billion shipments in the back half of the year, so maybe 2.2 billion to 2.3 billion in the third calendar quarter. Is that like roughly the right math?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [9]

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Yes. I mean, we're -- Tim, as you know, we guide one quarter a time, and when we give you a little bit of color, which is what Martin did when he said a little more balanced than the 55-45. And there's also a reason I gave you the deferred revenue number, so you can think about how that likely transpires through the year. I'm not going to guide the third calendar quarter or the fourth, but I think we've given you enough to model it pretty closely.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [10]

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Maybe just kind of 2 things to add quickly. I think our outlook today at least would cause us to believe that the December quarter is our weakest shipments quarter of the year, so that's kind of one extra data point. Another one is just kind of plain simple math of the disclosure we've given. So the sum of our actual performance and our guidance today is the first half shipment of $4.9 billion. You will, I'm sure, all make your own judgments about how much better the balance is than we previously described. But if you just use the math of 55-45 as a proxy, then the shipments for the year is approximately $8.9 billion. And in a ramping year, the revenues lag the shipments. So I think that those numbers are the ones that we are kind of intending you to embrace.

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Timothy Michael Arcuri, Cowen and Company, LLC, Research Division - MD and Senior Analyst [11]

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Perfect. Okay. And then I just had a question about the deferred revenue balance, Doug, which you were talking about before. I mean, you guys are now up to about 1.7 months. If I look into June, you're going to have about 1.7 months if you add Japan plus the deferred -- the regular balance. And it starts to look a little like the old Lam, sort of in terms of backlog, not the new short lead time Lam. Is there a dynamic there? Maybe you're shipping more new products or there's something happening in NAND? And sort of can you help us understand what sort of catch-up we should see? Because obviously you're going to revenue a lot more than you'll ship during the back half of the year.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [12]

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Yes. It's pretty simple to think through this, Tim. When you've got shipments that are growing the way we have the last several quarters, revenue almost always lags that growth in shipments. When shipments level off or if they were to decline sequentially, revenue will catch up. It's just sort of natural progression of the timing between when something shows up at the customer's dock and it gets into acceptance in revenue.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [13]

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But specifically to your question, Tim, there's no kind of headline for us in terms of the time lines for ship to install. And therefore, acceptance of revenues...

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [14]

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It's the same, yes.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [15]

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In any 1 quarter, and you don't get to see this unfortunately. But the specific scheduling of shipments in any 1 week or on any 1 day of any 1 month, I mean, that kind of jerks the ratios around, so there's no real story here in terms of kind of changing dynamic of time lines.

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Operator [16]

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Our next question comes from Patrick Ho with Stifel, Nicolaus.

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Patrick J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - Director [17]

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First off, in terms of your comments about a more balanced 2017 between first half and second half, is there any one specific market segment that's driving this better balance? Or is it a confluence of all the markets you've mentioned in your prepared remarks?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [18]

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Well, maybe I'll break that into 2 parts. So what changed for us between this earnings call and the last earnings call, if you look at kind of the expansion in the business that we've reported and we're anticipating, approximately 2/3 of that is in the NAND space and 1/3 is in foundry logic. So that would, at least, tell you that, to the assumptions we made and disclosed previously, there's no real headline in terms of DRAM. So that would be the first part of -- or maybe the most helpful part of answering your question. Maybe I'll stop there. Did I get what you wanted?

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Patrick J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - Director [19]

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Yes. Actually, that's very helpful, Martin. And my follow-up question maybe for Doug in terms of the ramp-up of shipments you've talked about. You've kept your supply chain at really optimum levels with inventory and even AR. What are some of, I guess, the nuances or the tricks that you're keeping the supply chain as tight and efficient as it's been, particularly as shipments continue to ramp up over these last few quarters?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [20]

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I mean, it's continued focused on just managing our remote factories, managing our own internal facilities and anticipating what we were going to need to be able to support at this point months and months ago and communicating that our supply chain partners, Patrick. I mean, it's operational excellence the way Lam has always executed just at a different scale here.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [21]

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And just adding, I would say honest hard work. And when you hear us talk about our -- the -- our customer trust orientation, when you hear us talk about collaborative and partnership orientations, that's pretty fundamental relative to sustaining your ability to perform and execute with the level of variability that is part of our business through the consolidation of our customers in the last several years. So our supply chain and our own factory and our field service engineers have done a tremendous job scaling in a very short period of time, and we continue to be proactive, as proactive as we can be based on our visibility to ensure that investments are kind of made ahead of the need to support and service our customers. And competitively, as best I can tell, we're doing just fine.

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Operator [22]

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Our next question comes from Krish Sankar with Bank of America Merrill Lynch.

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Sreekrishnan Sankar, BofA Merrill Lynch, Research Division - Director [23]

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I have 2 of them. The first one for Martin, your NAND shipments are at record highs, and 3D NAND spending is robust. I'm just curious if the pricing for NAND rolls over, will the reality of economics weaken and the 3D NAND makers might scale back CapEx? Or do you think the demand is strong enough to continue investing in capacity? And then I had a follow-up.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [24]

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Yes. I mean, I think one of our headlines, obviously, is there's a long way to go with the NAND story. And as I know you understand extremely well, the economics of that device architecture are one of the most relevant parts to the penetration of SSDs and so on and so forth. So I mean, there's a positive for every negative. We see a long way to go. We see compelling demand drivers for that architecture. And as we've described a number of times, particularly in critical applications, the high-volume manufacturing position of Lam in that inflection is outstanding. That's the best word that I could use to describe the position that we've worked hard to achieve and sustain. So there is a long way to go. And as best we can tell, commitment to technology and sustainability to investment. Will it go up and down along the way? For sure. But long term, feels pretty good.

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Sreekrishnan Sankar, BofA Merrill Lynch, Research Division - Director [25]

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Got you. That's very helpful, Martin. And then a follow-up for Doug. Doug, you mentioned in your comments that the headcount addition for new product development. I'm kind of curious, is this because these new products you're developing you don't have the core competency within Lam, i.e., full wafer deposition or etch-related technologies and is it why you're hiring? Or am I just reading too much into it?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [26]

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Yes, you're reading too much into it, Krish. I mean, any time you're doing more this year than you did last year, you need more people to execute that. That's the statement around R&D. The biggest area of increase in headcount, though, Krish, is operations as well as the field who are shipping product real time and installing it at the customer's facility.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [27]

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And maybe just to add to that, let's kind of go back to the disclosure of the last earnings call because there's 2 stories in the company. One of them is the story of creating a road map of product and technology that was relevant for inflections, anticipating how those inflections would have a concentration of spending to etch and deposition particularly. The second part of it was building the competitiveness of the portfolio we have, so we get a bigger share of it. And we gave 2 very important headlines in the last earnings call. One of them was a statement about our Foundry business growth, and we characterized the growth in our Foundry business year-over-year '16, '15 of 40% compared to a 25% WFE reference. And we also stated that in NAND, we grew our shipments by 80% year-over-year, almost twice the rate of WFE growth. So the headcount of the company is a life cycle statement. You add headcount when you're prepared to do that, and you add headcount when you're in the middle of doing it. And to some extent through the lifetime in an installed base business, the tail will demand at certain points adding additional headcounts for many years to come. And that's a natural commentary on the evolution of the company.

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Operator [28]

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Our next question comes from Farhan Ahmad with Cr?dit Suisse.

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Farhan Ahmad, Cr?dit Suisse AG, Research Division - VP and Senior Analyst for Semiconductor Capital Equipment sector [29]

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I had a question in terms of the sustainability. The year-on-year growth that you're seeing is quite impressive in the first half of this year. Now if I look back more recently since maybe 2010, the cyclicality of the business has gone down. And that has also implied that like year-on-year compares have not been that great. So the fact that you're having too much growth right now, is that a concern in your mind in any way? And should that bring concerns of cyclicality back into the industry?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [30]

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Yes. In my opinion, no. I mean, I might be wrong. But I think that there has been a fundamental transition in the industry as the supply chain has matured and as there has been concentration in the semiconductor industry. The traditional history of the industry was an overinvestment for many players and then a contraction, I think that's kind of long gone by virtue of scale and scope of the economics of the industry and the technical risks and opportunities that kind of go with it. But what is always still true is it's still difficult to predict and maybe increasingly so because there's no one kind of killer app or killer device, there?s a diverse set of demand drivers. It's more difficult to predict for our customers. And therefore for us, there is some variability of spending. And one element of our focus on competitive differentiation is business model flexibility. It's not actually that easy to ramp the capacity of your company by 40% to an average baseline of prior year. I mean, that's a lot of hard work. So variability and flexible business model is a critical part of the success of the company. And hopefully, that will be a long-term statement of value for our shareholders.

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Farhan Ahmad, Cr?dit Suisse AG, Research Division - VP and Senior Analyst for Semiconductor Capital Equipment sector [31]

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And then one question on China. There's a lot of expectation around memory investments in China next year. The question I have for you is that from your perspective, has the visibility of memory projects changed for China for next year? And is there a path that you see for China memory investments next year without some foreign IP coming into the picture?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [32]

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Yes. I think I'd probably say the same thing today that I've said for a while now. I mean, there clearly seems to be conviction to a plan that looks rational in terms of its kind of fundamental business objectives. And your ability to execute is a byproduct of 2 things, knowing how to make the devices you want to sell and then having sort of the operational scale to pull it off. And whether that comes from M&A or IP licensing or just the development of organic know-how, I think we will see over time. As best as we can tell, we still believe that the China memory investment conversation is more a calendar '18 story than calendar '17 story. And just to give you a little bit more color on calendar '18, kind of holistically, we're tracking about 10 new fabs next year. And to our understanding of the investment plans in those fabs, more than 80% of the wafer starts additions will be not in China. So that's another data point that hopefully allows you to triangulate a little more.

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Operator [33]

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We'll take our next question from C.J. Muse with Evercore.

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Christopher James Muse, Evercore ISI, Research Division - Senior MD, Senior Equity Research Analyst and Fundamental Research Analyst [34]

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I guess first question and the fact you've talked about service running at around 20% of revenues, as you've clearly increased your installed base taking share over the last handful of years, curious, has that increased and/or when could we see an acceleration for that part of your business?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [35]

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Well, I think whether it's accelerating enough, I'll let you decide. But at least for the last couple of years, we've had a pretty intense focus on broadening our work, I would say, to the customers. So advanced services agenda and creative use of software, really employing strategies around machine learning and harnessing the data from the information that's available to us and to our customers in ways that create value. Whether it's productivity oriented or extendability oriented, I mean, there is a number of very meaningful projects. The business has been growing faster than the pace of the installed base, and it continues to do so this year. And I would say we would expect the momentum in calendar '18 to be stronger than '17 on that point. But it takes some time, right. When you develop new products and services, there's no magic pendulum swing. It takes a number of years to really demonstrate and deliver the value and have the customer convicted that, that transition makes sense for them.

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Christopher James Muse, Evercore ISI, Research Division - Senior MD, Senior Equity Research Analyst and Fundamental Research Analyst [36]

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Very helpful. And I guess as a follow-up, when you think about the back half, and I'm not asking for a shipment guide. But as you think about mix, and I think the takeaway from some of your comments earlier is that deferred revenues should help revenues exceed shipments in Q4. Curious how we should be thinking about gross margin trajectory in the second half.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [37]

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C.J., the guidance I gave you, as you think through margin percentages, even though we're maybe not exactly on the financial model we provided to you, the margin percentages in the financial model are still good guideposts, if you will, in terms of how to model our business. So I'd encourage you to go back and have a look at what we shared with you in November there.

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Operator [38]

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Our next question comes from Harlan Sur with JPMorgan.

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Harlan Sur, JP Morgan Chase & Co, Research Division - Senior Analyst [39]

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On your view on better foundry and logic spend, of that incremental spending improvement, does it include a broadening out of the number of customers relative to your prior view? And is the incremental spend more leading-edge 10 and 7 or more follow-through on legacy 28-nanometer?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [40]

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Most of the increment was 10, at least compared and contrasted with our comments over the last earnings call. And I don't know that our expectations for broadening are any different today than they were then. We expected there to be a number of customers making those investments, and it's kind of playing out that way. Maybe one of the things I could have actually added earlier, and maybe I'll do it now, Harlan, is when I look at our first half, second half, we believe that the first half memory is stronger than the second half memory from a shipments point of view. And logic foundry is stronger second half than first half. So that's our view of kind of wafer fabrication equipment spending balance in the first half, second half by segment.

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Harlan Sur, JP Morgan Chase & Co, Research Division - Senior Analyst [41]

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And then on the strong memory shipment environment, what we're hearing, probably the same thing you guys are, is that DRAM and NAND suppliers are kind of hand to mouth, right? In other words, they're shipping whatever they can build, even what was in a seasonally weaker March quarter. So I guess my question is, are you sensing more urgency to drive accelerated node migrations, whether that's 1x for DRAM or 64 layers for NAND? I'm just wondering if we're starting to see a step up in node migration cadence just given the industry supply constraints.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [42]

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Interesting question. I don't know if I would articulate a cadence message. I mean, clearly there's a commitment to technology conversions in memory -- in DRAM this year, and that was a big part of the increment year-over-year from a spending and overall performance of the company. But I still don't think we're modeling any more than 25% of the installed base at the 1x node by the end of this year, so that's a reference there. And maybe it is a statement on cadence, but there's clearly momentum and ambition to 64-layer devices. But if you look at the installed base of 3D NAND capacity at the end of this year, there's still a pretty broad mix of 3D capacity, right. So not only is there the reality that approximately half of the NAND installed base is 3D capable, there's the dynamic that some proportion of that 3D-capable device is 32-layer device capable. Some proportion is 48 and some proportion is 64, so there's a long way to go with the installed base and supply chain independent of the demand story.

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Operator [43]

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Our next question comes from Sidney Ho with Deutsche Bank.

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Shek Ming Ho, Deutsche Bank AG, Research Division - VP [44]

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I have 2 questions. First is there are some concerns that the second derivative of the 3D NAND wafer additions has peaked. Clearly, you had opportunity to gain share going from 2D to 3D as you address a bigger portion of the market. But let's say the number of 3D NAND wafers addition next year is exactly the same as this year and in 2018, how should we think about your revenue opportunities in NAND? Is there a particular technology or steps that will help you do better than what you do this year?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [45]

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I have no idea. I mean, it's such a precise question with due respect. I mean, the complexity of the customers' road map and spending, there are so many moving parts on that. I mean, the best I can give you is that you?ve got to take your own position on how much legitimate demand there is for 3D nonvolatile memory. We're pretty optimistic, but I -- you make your own call on that. Whatever the level of demand that there is, Lam Research is going to perform better than the average equipment company, maybe by a long way, and that's the message we've tried to convey in terms of the criticality of etch and deposition in the device manufacturing process flow, and it's the message that we try to articulate relative to critical applications, market share etch and dep at the 90% level. And it's the message that we've tried to articulate in terms of market share generally, from planar to 3D, which is almost a double-digit gain in market share. So whatever it is, Lam Research is going to be a company in the mix of equipment companies that will be on the kind of upper end of the scale of performance, so long as we keep executing in the way that we have demonstrated in the last several years. I apologize I can't answer directly your question, but hopefully that context is helpful.

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Shek Ming Ho, Deutsche Bank AG, Research Division - VP [46]

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No, that's super helpful. Maybe switching to foundry and logic. In the past, you talked about yours and maybe in the dep, etch, clean opportunity goes up a lot every node. I think that's -- so just a comment on your -- maybe just comment on your share gains in this segment. But at the same time, TSMC -- again this is probably not new, but they -- last week, they talked about the capital intensity probably stays within a pretty stable range over the next few years. Can you help us square those comments and one is going up a lot and one is kind of flattish?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [47]

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Yes. I mean, obviously, the comments from any one customer are going to be WFE comments, and the comments that come from the company, from us, are segment specific, right. So I mean, our story is generally as you articulated. In the microprocessor space, I think we've conveyed now for a couple of years a very different reality of engagement with the customer than was true 5 years ago. And as I already noted again by repeating the disclosure of the last earnings call, our market share momentum in foundry has also been positive through the 10-nanometer and 7-nanometer transitions. And all of that is supplemented by the fact that through the 10- and 7- and 5-nanometer technology road map, the proportion of SAM in etch and deposition systematically increases with the adoption of EUV that's I would say the consensus adoption assumptions. And that's really a commentary on the progress that's being made and the economics of multi-patterning, and it's a commentary on the insertion of EUV with a multi-patterning process flow. And it's a commentary on probably 70% of multi-patterning integration schemes being spacer based. So there's a lot of kind of moving parts but pretty positive story, I think, independent of the overarching statements that you've made. And maybe one last point, logic and foundry are as invested as ever, if not more so, in utilizing their installed base. And that will continue to be true for all of our customers.

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Operator [48]

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Our next question comes from Toshiya Hari with Goldman Sachs.

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Toshiya Hari, Goldman Sachs Group Inc., Research Division - MD [49]

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Martin, I had a question on 2018. I realize we're early here but...

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [50]

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We lost you.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [51]

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Toshi, are you there?

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Operator [52]

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Our next question comes from Atif Malik with Citi.

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Atif Malik, Citigroup Inc, Research Division - VP and Semiconductor Capital Equipment and Specialty Semiconductor Analyst [53]

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Martin, you were a keynote speaker at SEMICON China in March. I just want to know if you're confidence in domestic Chinese spending based on your discussions in China is higher or about the same than versus 3 months ago?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [54]

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It's about the same. And I would say as context, I'm a keynote speaker in SEMICON conferences all around the world, so don't read too much into I happen to show up in China. So we continue to believe there is substance to their ambition. We continue to believe they're working really hard. And as is true for our customers globally, our job is to support as best we can. And that's true for every customer wherever they are.

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Atif Malik, Citigroup Inc, Research Division - VP and Semiconductor Capital Equipment and Specialty Semiconductor Analyst [55]

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Great. And then as a follow-up, can you talk about the image sensor market? In your $37 billion plus WFE outlook, how big is the image sensor opportunity? And what are the trends you're seeing in that market this year?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [56]

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Yes. I don't know, Atif, that we've quantified it specifically, and I don't think we're going to today. What I would tell you directionally relative to last year is it's stronger this year than it was last year. Probably not as strong as it was the year before, but we're seeing nice momentum in image sensor, and it's a very etch- and deposition-intensive process flow.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [57]

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And our position is strong.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [58]

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And our position is strong. Our share position is very strong.

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Operator [59]

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Our next question comes from Weston Twigg with Pacific Crest Securities.

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Weston David Twigg, Pacific Crest Securities, Inc., Research Division - Director and Senior Research Analyst of Semiconductor and Industrial Technology [60]

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First, just wanted to ask about DRAM. You said your outlook hasn't changed much for this year yet. But I'm just wondering as you look out into 2018, bit growth is pretty hard to come by. Are you expecting some of that positive view on 2018 to come from DRAM capacity expansion, new fabs?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [61]

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We're not assuming much of anything in terms of increased wafers starts, I would say, in DRAM just as a general modeling statement, and I'd say that for '18 as much as I would '17 and maybe even '20. I mean, I think our long-term model is basically kind of flat lines wafer starts in DRAM. The spending is all about technology conversion. Generally speaking, the demand statement is all about content more than units of any one device, and there are some really interesting kind of demand opportunities for our customers. And clearly, there are some rumors, I would say, at various points in time around the speculating of increased investments. If and when our customers start articulating that, then obviously we're well positioned and we would participate naturally in that strongly as we have in the past.

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Weston David Twigg, Pacific Crest Securities, Inc., Research Division - Director and Senior Research Analyst of Semiconductor and Industrial Technology [62]

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Okay, that's helpful. And then secondarily, just looking ahead on 3D NAND scaling, you've talked about having good positions through 64 layer and trying to get good positioning for the 96-layer process. But just wondering if you're seeing a continued push for increase of layer height from customers. Or if they're finding the scaling challenges are limiting, then you'll see them sort of double up on string stacking, doubling some layers of 64 or 48, for example?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [63]

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Yes. I mean, I think the industry is still -- and customers specifically are still kind of working through the answers to those questions. From a traditional scaling point of view, vertical scaling point of view, we have customer engagements that extend beyond the 96 layer. So we're actively working with customers above that layer count in a development environment. And as is true, if a customer can continue the same integration scheme and the same equipment selection and the same materials, they'll work really hard to do that. So I think if the solutions that exist technically work for people from a productivity point of view, then it's much more likely to be a continuation of the same trend. But the industry is just beginning its transition to 64-layer device architecture, and there's a lot of learning ahead of the industry. So I see both scenarios potentially playing out but an overwhelming bias to stay with vertical scaling as an architectural choice just because it's the lowest risk path normally.

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Operator [64]

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And we have another question from Toshi Hari with Goldman Sachs.

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Toshiya Hari, Goldman Sachs Group Inc., Research Division - MD [65]

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Hopefully, I don't get cut off this time. Martin, I had a question on 2018. I realize we're early here, but when you think about the multiple growth opportunities you're exposed to, what are you most excited about into 2018? And on the flip side, what are you worried about the most?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [66]

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I'm really excited about where the electronics industry is generally. I mean, from my perspective, I don't know that in my 16 years of this industry and this company, I'd be more excited by the diversity of kind of innovation and opportunity for the silicon road map. I think it's just tremendous time. And if you're investing consistent with that opportunity, you got a nice future ahead if you can kind of keep executing and solving very complex technical problems. So I'm really excited, and that's a very holistic statement on some pretty compelling diverse -- device-diverse application technology drivers that are relevant to cloud and enterprise and mass storage agendas as well as the advanced computation agenda that is necessary to really harness the value out of a connected world. So I mean, that's the excitement for me, and none of that can happen without a silicon road map. So that's pretty cool. What am I most worried about? I'm not worried about that much if I'm honest with you in a long term. I mean, you got to keep executing. It's -- this is a hard industry. We have to work really hard to do what we do, so our focus and our intensity around operational execution is something that takes a lot of hard work. The macro is an unknown and uncontrollable, and hence, the focus on flexibility and variability in our business model. And the technical challenges don't get easier, but I feel like the technical depth of our company is one of our strengths. So...

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Toshiya Hari, Goldman Sachs Group Inc., Research Division - MD [67]

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Okay, great. Then I had a follow-up on the Logic business. I was a little bit surprised how low system shipments were in Q1 or the March quarter. In the past, you've talked about the CMOS image sensor business potentially picking up off of a low base in 2016. And you've also talked about some market share or potential market share gains in the microprocessor space going forward. So when should we expect the Logic segment of your business to pick up meaningfully from a shipment and revenue perspective?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [68]

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I'll give you a comment, Toshi. I think March is probably the low point in terms of what the calendar year looks like from a system shipments standpoint. In the Logic and Other, it's going to strengthen through the back half of the year.

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Operator [69]

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Our next question comes from Joe Moore with Morgan Stanley.

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Joseph Lawrence Moore, Morgan Stanley, Research Division - Executive Director [70]

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Great. In terms of NAND, I think you're talking about now a little bit of a higher percentage of wafers on 3D at your end. I think you had said 700,000 before. Now you're saying a little over half, which I think is north of 750,000. Is that incremental supply, do you think? Or am I being too literal about that? Or is that sort of more conversion from planar to 3D?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [71]

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Actually, I don't -- on the fly, I don't know that I know that there's a particular bias one way or the other. It was and continues to be, at least in terms of wafer starts, a pretty balanced year between kind of new greenfield and conversion. Maybe slightly more conversion, but it's pretty balanced.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [72]

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It's pretty balanced, Joe.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [73]

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And certainly, our expectations at the end of calendar '17 for shipped capacity in active qualification mode kind of similar to the level that's going into the year. So no real story in terms of supply and demand imbalance.

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Joseph Lawrence Moore, Morgan Stanley, Research Division - Executive Director [74]

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Okay. And then where do you see the endpoint on that mix? If you have the sort of fully depreciated planar fabs, do you think there's a long tail on that capacity? Or will you see conversion to either 3D or to DRAM over time?

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [75]

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Yes. I mean, the customers obviously are most qualified to answer that question. As best as I can tell, there was an intended conversion of the majority of the installed base over a period that runs probably 4 years from now. And that's without the kind of the conversation around the secular demand trends and what that means for kind of bit growth and so on and so forth. So I believe if we're sitting here in 4 years' time, there will still be some planar installed base, but it will be the minority.

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [76]

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It will be very small, Joe.

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Operator [77]

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Our next question comes from Romit Shah with Nomura Instinet.

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Romit Jitendra Shah, Nomura Securities Co. Ltd., Research Division - Executive Director [78]

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Doug, I heard you just refer others back to the financial model from November. But back then, you had a -- basically a 2019, 2020 target of 26% operating margin on like $8.5 billion to $9.3 billion in revenue. And this quarter, it looks like you're going to be run rating at the high end of that range, and operating margin is going to come in per guidance at about 27%. So with all due respect, the model does feel a little bit stale. And I guess my question is if we were to assume that Lam can get to $10 billion annualized at some point in the future, how do we think about operating margin?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [79]

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Yes, Romit. All due respect, 27% and 26% isn?t wildly different. So me guiding you back to the model is a place that you ought to gravitate towards. I don't have a model out there that's a $10 billion model, Romit. But if there was one, it probably would be better profitability than the $9 billion model. There is leverage in the model. You've seen it from us as we've grown, and I would expect that you'd continue to see it if we were to grow beyond the high end of what I have out there right now.

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Romit Jitendra Shah, Nomura Securities Co. Ltd., Research Division - Executive Director [80]

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Okay. The other question I had was just on the decision to do an accelerated buyback. Just given the strong share performance and the potential for repatriation, can you guys just talk a little bit about timing here?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [81]

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Yes. We're -- when we announced the buyback, it was a $1 billion program, $1 billion buyback over a 12- to 18-month time frame. As we executed through it, it felt like getting into the June quarter we need to step up the pace a little bit to execute to what we said we were going to do, and that's what we're doing and why we're doing a little bit more in June. And yes, Romit, I wish I had done it a quarter ago when the share price was lower. But hindsight's always 20-20 with stuff like this.

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Operator [82]

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We'll take our next question from Mehdi Hosseini with SIG.

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Mehdi Hosseini, Susquehanna Financial Group, LLLP, Research Division - Senior Analyst [83]

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Most of the good questions have been asked. I have 2 follow-ups. Going back to your Analyst Day presentation, specifically on 3D NAND, you were saying that the 96-layer 3D NAND should start being -- investment for 96-layer 3D NAND should start sometime in late 2018, early 2019. Should we expect another round of bake-off for that particular node? And if that's the case, is that going to happen in early '18? And I have a follow-up.

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Martin B. Anstice, Lam Research Corporation - CEO, President and Director [84]

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Well, I think the reality of frankly the entire industry, not just NAND, is if a customer can keep doing what they're doing, which is a commentary on materials and device architecture and process flow and equipment selection, they have every interest to do that because that's where their learning is, so these are hard problems and challenges. So that tends to -- not that any one of us are isolated from the competitive realities of life. But once you have high-volume manufacturing positions and you have a learning that other people do not your positions are generally very strong, so there is nothing extraordinary about the 96-layer structure in terms of how the customer will think through and select equipment, and we have the strongest high-volume manufacturing position in the segments of our industry. So that doesn't mean we don't have to work hard because we do, but we feel confident about the future of the company and the trajectory of our performance we've described to you.

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Mehdi Hosseini, Susquehanna Financial Group, LLLP, Research Division - Senior Analyst [85]

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And a quick follow-up for Doug. You have about $18 net cash per share. How much of that is onshore versus offshore? And what are your plans for the cash that is offshore in case there's no change to taxation?

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Douglas R. Bettinger, Lam Research Corporation - CFO and EVP [86]

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Mehdi, we finished last quarter, I think it was probably about -- maybe a little bit above 30% onshore, so about 70% offshore. The whole question around tax reform and when or if or what have you obviously is very topical and feels like every day it's a little bit different. We're very much taking a wait-and-see approach. Now were there not to be any tax reform, there's a variety of different ways you'd navigate through that. But I'm more encouraged today than ever that we're actually going to get something done.

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Operator [87]

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That concludes our question-and-answer session for today. Mr. Kumar, I turn the conference back over to you for any additional or closing remarks.

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Satya Kumar, [88]

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Yes. Thank you all for joining us, and that concludes our conference call.

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Operator [89]

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That does conclude today's presentation. Thank you for your participation. You may now disconnect.