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Edited Transcript of LRCX earnings conference call or presentation 23-Jan-19 10:00pm GMT

Q2 2019 Lam Research Corp Earnings Call

FREMONT Jan 25, 2019 (Thomson StreetEvents) -- Edited Transcript of Lam Research Corp earnings conference call or presentation Wednesday, January 23, 2019 at 10:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Timothy M. Archer

Lam Research Corporation - President, CEO & Director

* Douglas R. Bettinger

Lam Research Corporation - Executive VP, CFO & CAO

* Tina Correia

Lam Research Corporation - Corporate VP of IR & Communications

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Conference Call Participants

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* Atif Malik

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

* Christopher James Muse

Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst

* Harlan Sur

JP Morgan Chase & Co, Research Division - Senior Analyst

* J. Ho

Stifel, Nicolaus & Company, Incorporated, Research Division - MD of Technology Sector

* John William Pitzer

Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head

* Joseph Lawrence Moore

Morgan Stanley, Research Division - Executive Director

* Mitchell Toshiro Steves

RBC Capital Markets, LLC, Research Division - Analyst

* Quinn Bolton

Needham & Company, LLC, Research Division - Senior Analyst

* Shek Ming Ho

Deutsche Bank AG, Research Division - Director & Senior Analyst

* Sreekrishnan Sankarnarayanan

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

* Thomas Robert Diffely

D.A. Davidson & Co., Research Division - MD & Senior Research Analyst

* Timothy Michael Arcuri

UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment

* Vijay Raghavan Rakesh

Mizuho Securities USA LLC, Research Division - MD of Americas Research & Senior Semiconductor Analyst

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Presentation

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Operator [1]

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Good day, and welcome to the December Quarter Financial Conference Call.

At this time, I'd like to turn the conference over to Tina Correia, Corporate Vice President of Investor Relations and Corporate Communications. Please go ahead, ma'am.

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Tina Correia, Lam Research Corporation - Corporate VP of IR & Communications [2]

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Thank you, and good afternoon, everyone. Welcome to the Lam Research Quarterly Earnings Conference Call.

With me today are Tim Archer, President and Chief Executive Officer; and Doug Bettinger, Executive Vice President and Chief Financial Officer.

During today's call, we will share our overview on the business environment and review our financial results for the December 2018 quarter and our outlook for the March 2019 quarter. The press release detailing our financial results was distributed a little after 1:00 p.m. Pacific Time this afternoon. The release 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 includes forward-looking statements that are subject to risks and uncertainties reflected in the risk factors disclosures of our SEC public filings. Please see accompanying slides 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 in today's earnings press release.

This call is scheduled to last until 3:00 p.m. Pacific Time. A replay of this call will be available later this afternoon on our website.

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

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [3]

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Thank you all for joining us today. It's good to be here with you on my first earnings call as Lam's CEO. I have met many of you before in Lam events, but I recognize there are some on the call that may not know me quite well. So I'd like to start by briefly recapping how my experience at Lam and Novellus over the last 24 years has shaped my perspective on what it takes to compete and win in this business over the long term.

I have been fortunate to have opportunities that expanded the company's operations from being embedded as a process engineer inside the development fab of one of our leading customers, to heading our technology organization in Japan, to leading product groups through periods of key technology inflections, to managing our worldwide sales organization. Most recently, I have been charged with driving company-wide business results as the CEO of Lam since the time of the merger with Novellus. During this period, from calendar 2013 to 2018, we grew revenue by 2.7x and increased earnings per share 2x faster than the increase in revenue.

From my experiences, I believe in the critical importance of building deep and lasting customer collaborations founded on mutual trust. I am committed to continuously investing in a pipeline of differentiated products that help our customers address their most difficult technology and productivity challenges. And as we see in the current environment, I value having a flexible operating model that enables us to respond rapidly to market changes to ensure we deliver on our commitments to our customers as well as our shareholders.

I believe we are still in the early stages of a long-term secular growth story for the industry and particularly for Lam. What you can expect to see from my leadership as CEO is increased focus on leveraging our core strengths to deliver technology and productivity solutions to the fastest-growing segments of the semiconductor equipment market, which, in the long term, we believe are those tied to the enablement of the emerging data economy. I am very proud of what our company has accomplished in recent years and I'm honored to have the opportunity to lead Lam to an even greater future.

Before I continue, I want to provide an update on the investigation we announced in connection with Martin's departure. As you know from our December press release, our board formed an independent special committee to lead a thorough investigation into allegations of misconduct and conduct inconsistent with our core values. That investigation is now substantially complete and there have been no other personnel actions and none have been recommended by the special committee.

Core values have always been a foundation of Lam's success and I am committed to a culture of trust, respect and open communication built around an environment in which our employees feel free to speak up on workplace issues. To reinforce this culture, the special committee has recommended that we review our policies, practices and training related to workplace conduct and increase our communications on these topics. To reiterate what we said in December, the alleged misconduct did not call into question the integrity of the company's financial systems or controls and the special committee's investigation has confirmed this.

Now turning to our view on the business. In line with our prior guidance, we delivered a solid December quarter despite a more challenging environment. We also completed the strongest calendar year in the history of the company with $10,871,000,000 in revenues, a 14% year-on-year increase. At the same time, we delivered growth in EPS of 27% and an increase in operating cash flows of more than 50% from the prior calendar year. I would like to thank our customers, our employees and our partners for their support and contribution to these results.

From Lam's perspective, industry performance for calendar 2018 came in largely as we have communicated in our prior earnings call. Overall, WFE was in line with our expectations of single-digit growth at approximately $50 billion with an increase in memory and a year-on-year decline in non-memory spending. Entering 2019, industry fundamentals have weakened, particularly within Memory segments, as customers continue to rein in both NAND and DRAM spending. At this point, 2019, WFE is looking to be down in the mid- to high teens range.

For NAND, 2019 offers what we believe is a solid long-term setup for the industry and the supply bit growth rate is expected to decline throughout the year. NAND demand should continue to benefit from content increase in consumer and enterprise applications and we began to see initial signs of demand elasticity in the client SSD markets as we exited 2018.

In DRAM, while near-term dynamics remain challenging, customer behavior remains rational and industry profitability characteristics remain compelling. We believe customers are making prudent adjustments to capacity in response to the overall demand environment they are seeing. We expect DRAM, WFE spend correction to extend through 2019 where supply growth fall into the mid-teens as we exit the year.

Non-memory segments are expected to grow in 2019. And with the continued rise and the importance of 3D architectures, technology innovation for transistor, interconnect and advanced packaging applications remains a critical priority for us as we grow our strategic relevance with our customers in this segment. In aggregate, we feel confident that we're operating in a rational industry environment, one that is well-positioned to deliver attractive long-term growth and opportunity.

With that as context, we are executing to the growth strategy that I described during our Investor Day earlier last year. Our strategy focuses along 3 primary vectors: Expanding the size of our served available markets, gaining market share in the segments in which we compete and increasing the recurring revenue stream we derive from our installed base. Etch and deposition processes are central to the success of our customers' technology road maps and we continue to make substantial, comprehensive yet disciplined investments in R&D to fund the innovation required to create differentiated solutions and long-term value.

In the December quarter, we continued to build on our leadership position in both NAND and DRAM for critical applications with key penetrations for high aspect ratio etch and 3D NAND dielectric stack deposition applications. Furthermore, we continue to extend our high aspect ratio etch leadership into non-memory segments with critical wins for metal interconnect and spacer applications at a leading Logic customer. The atomic layer deposition, film quality repeatability and productivity are fundamental elements of differentiation for Lam. During the quarter, we gained momentum in both DRAM and NAND with new application wins.

While we are pleased with these wins in critical applications, we are committed to strengthening the performance of our product portfolio across the board. Our R&D investments are squarely focused on achieving our vision of best-in-class products everywhere we compete.

Turning now to revenue derived from our expanding installed base. Our Customer Support Business Group delivered another record year. Installed base revenue growth exceeded installed base unit growth again in 2018 with installed base units in the field ending the year at roughly 56,000 chambers. We closed out the year on a high note, signing with a key customer the single largest installed base deal in our history. Our focus with CSBG is to provide innovative products and services which create value for customers over the entire life cycle of tool ownership. We partner closely with customers as we help them extract increased technical capability and higher productivity from existing assets. And in return, we are building a strong recurring revenue stream for Lam. 2019 is shaping up to be another solid year for our Customer Support Business Group and our progress remains aligned with the long-term growth objectives communicated to the investment community early last year.

In closing, the business environment is more challenging than just a few quarters ago, but we are committed to delivering on our multidimensional growth strategy and, at the same time, responding to near-term revenue trends through a strong focus on operational efficiency. Lam has a proven track record of execution and we believe we are fundamentally well-positioned in the right segments of the market. The new $5 billion share buyback program we announced earlier today in our press release reflects our continued confidence in Lam's long-term opportunities. Doug will provide details on the program in his comments.

Additionally, I'd like to mention that I'll be on the road in the coming weeks and look forward to meeting with many of you. I will also be participating in the Goldman Sachs Technology Conference in San Francisco on February 13.

Thanks. And now, here's Doug.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [4]

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Thanks, Tim. Good afternoon, everyone, and thank you for joining us today.

Lam delivered solid performance in the December quarter with our results exceeding the midpoint of guidance for all financial metrics. Operating margin and earnings per share exceeded the high end of the guidance range provided, mainly due to our proactive management of our operating expenses.

Overall Memory revenue increased slightly from the September quarter with the combined Memory segment making up 79% of total system revenue. Non-volatile memory revenue drove the increase in the Memory segment and it represented approximately 55% of system revenue. NAND investments were driven primarily by conversions to higher layer cut wafers. DRAM represented 24% of system revenue in the December quarter, which was roughly flat with the prior quarter. The majority of spending in all of Memory was targeted at conversions.

The Foundry segment declined quarter-over-quarter, accounting for 13% of system revenue, mainly due to reduced China foundry investments. You may recall on the September call, I spoke about how strong that was and it declined somewhat in December.

The Logic/Other segment was up slightly, contributing 8% of system revenue.

From an industry perspective, Tim discussed our view of 2019 WFE. Currently, we believe WFE spending is weighted to the first half of 2019, driven by foundry and logic investments. We believe memory investments will be meaningfully lower in 2019 while the combined foundry and logic will be up. Our assumption based on our customer interactions is that there is not a significant recovery in memory spending throughout 2019. We expect the year in memory will be mainly driven by lower conversions to lower our customers' cost per bit. DRAM spending will be primarily on conversions to 1y and a little bit of 1z and NAND converting to 96-layer devices.

Let me now turn to our P&L performance. We delivered revenues of $2,523,000,000 in the December quarter. This was up sequentially by 8% from September and was slightly above the midpoint of our guidance.

Gross margin for the quarter came in at 46.3%. As I always do, I'll remind you our actual gross margins are a function of several factors such as business volume, product mix and customer concentration and we expect to see variability quarter-to-quarter.

Operating expenses in the quarter came in at $440 million, slightly down from the operating expense level in the September quarter. Worth noting, I think, we decreased our operating expenses for the first half of 2018 to the second half by approximately $100 million as we managed spending relative to the softer business environment. R&D comprised nearly 2/3 of our total spending, consistent with the composition of spending in the previous 2 quarters. We maintained a high percentage of our OpEx and R&D to support the long-term growth objectives for the company.

Operating income in the December quarter was $728 million. Operating margin came in over the guidance range at 28.8%, mainly as a result of the reduced spending within the quarter as well as gross margin that came in slightly above the midpoint of our guided range.

The non-GAAP tax rate for the December quarter came in at 10%, which was slightly lower than the long-term rate. This was due to discrete tax benefits realized relative to statute of limitations expirations within the quarter. In the longer run, a tax rate in the low to middle teens is the right range for you to continue to include in your models and there will be fluctuations in the tax rate from quarter-to-quarter.

Based on a share count of approximately 162 million shares, earnings per share for the December quarter came in at $3.87, which exceeded our guidance range. The share count includes dilution from the 2041 convertible notes, and the dilutive impact was approximately 6 million shares in the December quarter. I'll remind you that the dilution schedule for the 2041 convertible notes is available on our Investor Relations website for your reference. I'd also point out that the 2018 warrants matured during the December quarter.

We continue to execute on our capital return program. For the December quarter, we paid out $168 million in dividends.

Related to the share buyback, in January of 2019, we completed our previous $4 billion share buyback authorization, repurchasing over 23 million shares in total. Additionally, as Tim mentioned and that we noted in the press release we issued today, our board has approved a new authorization to repurchase up to $5 billion of our common stock. Today's capital return announcement is consistent with our current plan of returning at least 50% of free cash flow to shareholders.

In summary, for the calendar 2018 year, we returned $3 billion in share buybacks and over $500 million in dividends, which, along with the new authorization that was announced today, continues to demonstrate our commitment to shareholder return.

Our cash and short-term investments, including restricted cash, was flat with the September quarter at $3.9 billion. During the December quarter, our cash from operations came in at $642 million, which was offset by pay down on our commercial paper program of approximately $360 million as well as the dividends that I previously mentioned. From the 2018 calendar year, our cash from operations was over $3 billion. This was consistent with what I mentioned in the last earnings call.

DSO during the quarter decreased by 5 days to 67 days. Our inventory level decreased and, consistent with our expectations, inventory turns increased to 3.2x, which was an improvement from 2.7x in the prior quarter.

Company noncash expenses included approximately $39 million for equity comp, $36 million for amortization and $46 million for depreciation.

Capital expenditures came in at $106 million in the December quarter, which was an increase of $56 million from September. Due to the timing of certain projects, December quarter CapEx was a little bit on the high side of what we expected.

I expect that as we go into calendar 2019, CapEx will be somewhat lower than the 2018 level. As we noted in the last quarter, our CapEx investments are focused on manufacturing expansion for our installed base business as well as strategic R&D investments.

We exited the quarter with approximately 10,950 regular full-time employees, which was relatively flat with September quarter. I think it's worth noting that we maintained flexibility in managing our costs by adjusting our temporary workforce for short-term changes in business conditions. We reduced our temporary headcount by over 700 people since the peak levels we were carrying earlier this year.

So looking ahead, I'd like to provide our non-GAAP guidance for the March quarter. We're expecting revenue of $2,400,000,000, plus or minus $150 million. We're forecasting gross margin of 44.5%, plus or minus 1 percentage point. Gross margin will decline sequentially due to customer concentration, product mix and lower factory volumes. And I just mentioned, as we sit here today, we expect the gross margin percentage will be at a low point in March relative to the rest of calendar year 2019. We're forecasting operating margins of 25%, plus or minus 1 percentage point. And finally, earnings per share of $3.40, plus or minus $0.20, based on a share count of approximately 159 million shares.

I'll just remind you that in the March quarter, we have an extra work week in the fiscal quarter, which happens approximately every 6 years due to the fiscal calendar cutoff. March spending is expected to be higher in cost of goods sold as well as operating expenses as a result of the extra work week. I'll also remind you that the March quarter has seasonal impacts due to payroll taxes that go up in the beginning of the year. Both of these things are included in our stated guidance.

For 2019, first half business view is lower than our prior outlook given the recent announcements of reductions that you've seen from commentary from others in the technology space. With this current environment, we continue to exercise discipline in our spending and we're focused on prioritizing investments that support Lam's SAM expansion, market share gains and installed base growth.

Operator, that concludes my prepared remarks. Tim 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) And we'll take our first question today from C.J. Muse with Evercore.

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Christopher James Muse, Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst [2]

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I guess, first question. As you think about WFE levels in the 4Q and 1Q time frame, can you share with us what you think the implied forward bit rate growth rate is for both DRAM and NAND?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [3]

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C.J., it's Doug. I think, generally speaking, as Tim mentioned, we expect bit growth as we go through 2019 to decline as we go through the year as customers adjust their spending. Overall, I think 2018 ended from a NAND standpoint in the low 40s. DRAM, I think, is low 20s. And we expect that to decline as we go through 2019, Tim, as customers adjust their spending levels.

Tim, would you add anything?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [4]

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No, I think that's a -- the comment is we, at this point, see us ending the year below what Lam has said about the long-term sustainable demand growth rates. So I think that the -- it's why we're pretty optimistic about the setup exiting 2019.

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Christopher James Muse, Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst [5]

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I guess, if I could clarify the question. If you look at order run rates today, what is the implied bit growth that will come online, say, 3 or 4 quarters from now? I think you've done analysis on that where I think Q4 DRAM, we're tracking maybe up 10% if spending just stayed at that -- at those levels. Is there any analysis you can share there with us on both DRAM and NAND?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [6]

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Yes, Tim. I don't have specific numbers for you except what we described, which is as we go through the year, it's going to decline as customers adjust their spending level.

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Christopher James Muse, Evercore ISI Institutional Equities, Research Division - Senior MD, Head of Global Semiconductor Research & Senior Equity Research Analyst [7]

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Okay. As a follow-up, I'm trying to do a little bit more work here and better understand your leverage to technology versus capacity buys, in particular as it relates on the 3D NAND side and high aspect ratio etch. So can you walk through what percentage of overall etch spend r etch is in 3D, particularly as we scale up the layer counts?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [8]

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Yes, Tim. We haven't given hard numbers on that because I think as customers invest in conversions, they spend less money, but they spend more as a percentage on etch and deposition. We described that consistently in the past and that's very much what we see happening this year.

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [9]

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But I think if the question was the percentage of high aspect ratio applications where Lam's position is very strong, it's increasing node by node. And that's just based on the fact that it takes longer in general to complete those etches. And that's obviously our task to make those continuously faster, but it is increasing at each technology node.

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Operator [10]

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Next, we'll hear from Timothy Arcuri with UBS.

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Timothy Michael Arcuri, UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment [11]

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Doug and Tim, I had a question just about the trajectory of the year. So if I take the WFE you guys are guiding to like 42 for this year, it looks like your product WFE share, you don't tell us what services are, but it looks like your product WFE share is somewhat in the low 15s the past couple of years. So if I just assume they stay flat, which I wonder that it will given that EUV's ramping, that implies that revenue kind of like is flat throughout the rest of the year from this level. Is that the wrong way to think about it?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [12]

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Tim, I think what we're trying to describe here -- sorry. Yes, Tim, I'm getting confused who I'm talking to. I think as the year sets up, we expect the first half of the year is going to be weighted towards foundry and logic. It will be stronger in the first half than the second half. And memory is maybe a little bit stronger in the second half than the first half. We don't see a significant recovery occurring, not in memory, I would point that out. But I think, as you know, we tend to be very, very strong in memory. So with memory down year-on-year, our share likely trends along with that. That's not a statement around any application, win or loss. It's just a statement of who's spending money.

Tim, would you add anything?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [13]

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Yes. I think, internally in the company, your -- I don't think your thinking is too far off. And we look at the most important measures of success for us this year and it is how we're doing on the applications that we want to make sure that we own when the spending does pick up. And as long as we're doing that, then the precise timing of when spending comes back in NAND is less important to us. So it's really our focus.

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Timothy Michael Arcuri, UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment [14]

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Got it. And then, Doug, I had a question on deferred revenue. It was down about $130 million again. So it sounds like shipments were more like maybe $2.4 billion for the fourth quarter. So the question is how much more can you draw down deferred revenue? Because obviously, it sounds like if you give a shipment in March, they'd be lower than $2.4 billion. But where does that number -- where does that $493 million -- where is the deferred revenue? Where does that bottom out?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [15]

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Yes. I think I described it, Tim, in the past. It's going to run about $100 million quarter-on-quarter. I think some quarters, it will be down as you're seeing now. In some quarters, I think it will also be up. I don't know that it meaningfully changes from the level where it's at right now, but it will vary, depend on the percentage of new tools we're shipping, how strong the business with certain customers is. There's certain regions of the world it's a little bit different. I don't view it as going to 0 at any point, Tim, but it will bounce around plus or minus $100 million is how I'd be thinking about it.

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Timothy Michael Arcuri, UBS Investment Bank, Research Division - MD and Head of Semiconductors & Semiconductor Equipment [16]

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Okay. Got it. So Doug, that means that shipments are about equal to revenue for March. Is that right?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [17]

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I'm not guiding shipments anymore, Tim. What I said was it will be plus or minus $100 million quarter-by-quarter. Some quarters, it would be down. Some quarters would be up. It's all just timing, quite honestly.

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Operator [18]

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We'll now hear from John Pitzer with Credit Suisse.

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John William Pitzer, Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head [19]

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Doug, maybe another way to ask Tim's question. I was intrigued that you commented that March quarter should be the bottom in gross margin for the year. I'm just kind of curious, is that because you expect March to be the low point in revenue or are there mix drivers that help gross margin going forward?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [20]

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I always say, John, there's a variety of different things that impact gross margin. I even mentioned 3 things. Overall business volume is a component, but as I think you know, we have a highly variable cost structure. This isn't a big fixed cost business. This isn't like our customers. We're highly variable on our cost. Tool mix is important. Not all of our tools have the same gross margin. And sometimes, that mix will be beneficial sequentially. Sometimes, it will be negative. And then customer concentration, when you get the bigger customer spending more or it's a more concentrated customer, you might have a little bit of margin headwind. All of those things are important to think about relative to the trend in gross margin and all of those are relevant to the comment I had about March being a low point.

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John William Pitzer, Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head [21]

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That's helpful. And then maybe kind of a follow-up to C.J.'s question, just relative -- appreciate the fact that in this volatile environment, your willingness to give us a view on the full year on WFE being down mid- to high-teens. I'm just kind of curious, when you look at your SAM and whether that be some incremental share gains on the logic front at 10 or some incremental SAM gains as we go from 64 to 96 and/or 1x to 1y to 1z, do you think your SAM outperforms, performs in line or underperforms the overall WFE this year, Tim?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [22]

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I think if we -- taking all those things into account you just said, I would think that we feel that our SAM actually underperforms WFE this year. And that's primarily because of the heavy concentration of our SAM in 3D NAND this year as you know. And so I think that should be the expectation if the year plays out as we have described, which is no material increase in 3D NAND or NAND spending through the year.

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Operator [23]

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Krish Sankar with Cowen has our next question.

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Sreekrishnan Sankarnarayanan, Cowen and Company, LLC, Research Division - MD & Senior Research Analyst [24]

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I had 2 of them. First one, Doug and Tim, just trying to reconcile what you said in the front cap WFE here versus what ASML said. Is it fair to assume is it because the back half is mainly concentrated on EUV from the foundry side? And then I have a follow-up, too.

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [25]

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Well, I think there's a few things. I'll let Doug jump in here with his comments as well. But the -- when you look at ASML's comments and the best we understand them and talking about a recovery in DRAM in the second half of the year, that's not necessarily inconsistent with us exiting the year with a better setup for the first half. I think you have to think about the way the tools come into fabs and new projects. Our experience is that litho and metrology tools usually lead etch and deposition tools sometimes by as much as a quarter or so. So that made -- those things may be not inconsistent and that's kind of the way we're thinking about it. I mean, I guess, our view, everybody in this environment have a slightly different view that spending could come back, but we're wanting to state at this point that our best view from conversations with customers is no material increase in memory spending throughout 2019.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [26]

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Yes. I don't have anything to really add, Krish. I think as Tim said, litho usually leads our stuff. And we'll tell you what we're seeing right now. We could have it wrong. But when we parsed what we heard from ASML, it didn't really feel inconsistent to us.

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Sreekrishnan Sankarnarayanan, Cowen and Company, LLC, Research Division - MD & Senior Research Analyst [27]

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Got it. Got it. Actually, that's very helpful, Tim and Doug. As a follow-up question, when you talk to your memory customers, I'm kind of curious how did they look at CapEx? Are they waiting for your pricing/margins to bottom before they start getting comfortable about buying semi cap equipment or is it going to be in tandem or does one lead the other? And as a subset to that, which do you think is going recover first from hereon, is it NAND or DRAM?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [28]

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Well, it's a tough question. I mean, I think there's -- actually, when they're going to spend is a question better asked to them, I mean, exactly what metrics they are looking at.

I guess, if we look at which of the 2, NAND or DRAM, might recover earlier, I guess, if we look back, we saw NAND correction starting earlier in 2018 than DRAM did. And so we're -- I guess, at the end of the day, it's all about demand, but we see both of them tracking, as we get to the end of the year, well below what we think are the long-term demand growth bit rates. So either one could recover, neither one could recover. I mean, that's -- it's not a great view, but we think that, in both cases, the market sets up for investment in either one as we exit the year.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [29]

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Yes. What I would tell you, my own personal view, Krish, is it will recover at some point. That I know for sure. And the trend we see relative to spending in the year that we just described suggests to both Tim and I that they're going to need to invest relative to long-term bit demand. We just don't necessarily see it happening in 2019 quite yet, at least not in a meaningful way.

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Operator [30]

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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 [31]

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Thanks for all the detail and outlook for 2019. But can you guys just true us up on your prior view first half '19 versus the second half of last year? Relative to the weak spending environment, how are you seeing the first half of this year relative to last year second half?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [32]

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Yes. Harlan, what I tried to described in my remarks is first half of '19 now looks weaker than it previously did. And I'm not going to give quantification of it because then I'd essentially be guiding you for 2 quarters. We're going to get back to our normal practice of guiding one quarter at a time. But given the well-understood weakness of smartphones and inventory adjustments in some of our customers as well as the cloud guys, it's somewhat weaker than it was when we described it last time.

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Harlan Sur, JP Morgan Chase & Co, Research Division - Senior Analyst [33]

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Great. Appreciate the insights there. And then given the view on WFE being down kind of mid- to high-teens this year, at the same time, the team had a strong shipment growth last couple of years. You were driving -- I was looking at it first half of last year, you guys were driving like 25% year-over-year shipment growth. Many of these tools are coming off warranty and onto service contracts this year. So this should be a tailwind for the team. So how should we think about the installed base business trajectory relative to your WFE outlook?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [34]

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Well, I guess, I tried to cover some of that in my opening remarks. But clearly, we feel very good about our installed base business on 2 dimensions. One, the strength of Lam's business over the last several years has caused our overall installed base to grow. So there's more tools for which we can sell things. And 2, we've been investing in that business to create new products and services. Some in the areas of -- this can be data economy, using data to make our tools more productive for customers. And those products and services are getting traction and this will be another strong year for CSBG for our installed base business. So that's a focus of mine and I think it provides a very important revenue stream for the company long-term.

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Operator [35]

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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 [36]

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On that topic of installed base business, I wonder if you guys have considered providing sort of better disclosure around that? It seems like that would go a long way towards understanding the sustainability of that business versus the other parts of the business.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [37]

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Yes, I guess, we haven't really accomplished our objective very well, Joe. We've been talking a lot more about it more recently then we have. We're providing you with tools kind of the installed base on a consistent basis and I will try to make it easy to understand everything we talked about in the past.

Relative to segment reporting, we're not going to do that. We don't need to because we're not tripping the role up there. And from a competitive standpoint, we don't necessarily want to have an out quite as visible unless we have to, but it is a meaningful part of how we generate profit. It's a meaningful part of how we generate cash for sure. And we're trying to talk more about it so you understand it. I mean, Tim talked quite a bit about it. So we'll keep trying to do a better job, Joe.

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Joseph Lawrence Moore, Morgan Stanley, Research Division - Executive Director [38]

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Great. That's helpful. And then, I guess, in terms of the buyback and the pace of the buyback and the 50% of free cash, what's your assessment of the right amount of cash to have on the balance sheet? And do you need to have any? Can they be leveraged? Just how do you think long term about what the balance sheet should look like?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [39]

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Yes. It's a good question, Joe. I haven't communicated specific numbers. We need a certain amount of cash. We like to be able to fund a certain amount of R&D and CapEx and so forth. We're carrying more cash today than we need to, to run the company. What we decide to do relative to that, I think, will evolve over time, but I don't have a hard and fast number that I'm going to share with you necessarily. We certainly could have more debt on the balance sheet though if we chose to do that.

And the pace of the buyback, I think we're going to be opportunistic. I'm not going to communicate a time frame. And I'll let you know quarter-by-quarter on how we're thinking about it and what we're doing.

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Operator [40]

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Patrick Ho with Stifel has our next question.

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J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - MD of Technology Sector [41]

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Maybe first question in terms of the installed base business. I think in your last Analyst Day, you talked about $1 billion incremental opportunity. Over the next 3 to 5 years, how do you see the revenue growth rate? Is this a 10% type of growth business? Or do you see it higher to get to that incremental $1 billion you talked about?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [42]

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I guess, yes. So you'll recall the $1 billion number. I mean, as we mentioned, we're on -- we feel we are on track for that trajectory. At the Investor Day, we said that the installed base business was approximately 25% of our total revenue. And so, I guess, with that information, you kind of figure out the growth rate. It's a business that is definitely growing. Our objective is to have the installed base business itself grow faster than the rate of growth of the installed base. And now, again, we provide information this year with the installed base growing from approximately 50,000 chambers to ending -- year ending 56,000 chambers at the end of last year. So maybe with those, you can triangulate the numbers. We can also maybe do it for you and get back to you.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [43]

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Yes. Patrick, how I think about it and Tim described it the way I think about it, which is, at a normalized rate, it's been about 25% of the company's business. If you recall back at the Investor Day, Tim described 3 growth vectors, each about the same size. So if you think about the installed base, it's 1/3 of the growth and normalized at 25% of the business. So you can triangulate that, that way relative to the growth of it. It will grow faster than the installed base for sure. Now, in the year like 2019, if it shapes up the way perhaps it's going to with WFE volume as much, it will be more than 25% obviously.

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [44]

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Again, I think one important point since we're talking about installed base business. As I just mentioned, I think it can sometimes get lost in terms of how we are driving this business faster than the installed base itself is growing and it all comes down to investing in the creation of new products and services. Things that help the customer relocate tools for new applications, extend the technology for those tool sets to new applications. Higher productivity, higher throughput from those assets. And as we've seen in many ways, the lagging node business gets stronger and more heavily utilized. We find a lot of installed base business for tools that had been around and out in the field for quite a number of years where there's a lot of interest in getting new products and services for that fleet. So it's a pretty attractive business.

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J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - MD of Technology Sector [45]

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Great. That's very helpful.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [46]

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Go ahead. You can do one more if you got one, Patrick.

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J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - MD of Technology Sector [47]

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Yes. Real quick on the DRAM, on the memory side of things. We know that capital intensity trends increase on the 3D NAND side of things with the layer count. How do you see the transition for etch and deposition as you go from 1x to 1y and eventually to 1z?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [48]

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Our SAM continues to grow as we step through that. That's all about self-aligned patterning and that is very etch and deposition SAM, Patrick.

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [49]

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Yes. And actually, these technology nodes also create new opportunities for films. I mean, so I spoke a little bit about our effort in atomic layer deposition. As you step from 1x to 1y to 1z, there are new applications being created for atomic layer deposition, for instance, that wouldn't have existed in prior nodes. And so we're looking at it both from growth in our existing applications as well as our ability to win new ones also.

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Operator [50]

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We'll now hear from Atif Malik with Citi.

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Atif Malik, Citigroup Inc, Research Division - VP and Semiconductor Capital Equipment & Specialty Semiconductor Analyst [51]

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First, quick clarification. On the last earnings call, you guys expected DRAM up in first half this year versus second half last year and NAND down. Is it fair to say that you're seeing both the DRAM and NAND down in first half of this year versus second half last year?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [52]

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Yes. We're not going to provide segment level color on the quarterly guide except we gave a little color on how we see WFE setting up in that you can interpret it however you like, which is foundry logic is the first half-weighted. Memory, probably a little bit stronger than the second half.

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

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Got it. And then can you just talk about what you're seeing with respect to domestic spending in China? If I recall correctly, you have talked about China domestic was $5 billion in spending last year. What -- could it be in the $42 billion to $43 billion WFE this year?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [54]

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Yes. Actually, we did say that we thought 2018 was going to come in at about a $5 billion range. I think when all is said and done, it may have come in a little bit lower than that, but pretty close. We actually see 2019 shaping up to be a bit stronger. And if we look actually at the SAM and share position that we hold where the money would be spent this year, Lam's China domestic business should be up.

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Operator [55]

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Tom Diffely with D. A. Davidson & Co. has our next question.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - MD & Senior Research Analyst [56]

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Yes. Maybe just a quick end market question. After 3 or 4 quarters of the price declines in the NAND market, are you seeing evidence of elasticity of demand that we've been talking about for a couple of years?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [57]

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Yes. I had a very small comment to my opening remarks about the fact that we believe we have seen some demand elasticity at the end of last year. And it was primarily driven by an uptick that we've seen in the adoption rate of SSDs into the client. And there was some data that showed that the percentage of laptops or client devices with SSD in the lower price ranges had a material uptick. And so it's just one data point, but we do think that as prices have come down, we're starting to see increased demand.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - MD & Senior Research Analyst [58]

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Okay. And then given that when you look at kind of the long-term view, the next 3 to 5 years, do you still -- or do you view NAND market as the real big opportunity for you versus the DRAM market, knowing that both are strong?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [59]

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For us, without a doubt. Our SAM position, if you think maybe just the world that we've gone through, the transition from 2D to 3D NAND, we had a very meaningful increase in the intensity of etch and deposition in that space. And when you think about also end demand, we see NAND outpacing all other markets. And so that's why when I talk about our focus on applications that we want to hold continuously in that critical space in the NAND area. Now, of course, we want to do well in all markets, but NAND is our biggest opportunity going forward and in the long term.

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [60]

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Yes. Just to add on for me, Tom, independent of where things are at in 2019, I'm extraordinarily optimistic on the opportunity for both NAND as well as DRAM going forward. Again, Tim alluded to the data economy. We talked about that extensively at the Investor Day. All of that stuff is still completely intact. It doesn't mean it will happen every single year. It won't, but data is exploding in society. It is not useful unless you can store it and you need a low latency memory to do anything in compute architectures. Memory is critically enabling for all of that and none of that has changed.

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Operator [61]

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Our next question comes from Quinn Bolton with Needham & Company.

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Quinn Bolton, Needham & Company, LLC, Research Division - Senior Analyst [62]

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Just want to come back in the prepared comments. You mentioned the share gains in high aspect ratio etch, 3D NAND deposition and ALD wins in both NAND and DRAM. Can those share gains help offset some of the SAM underperformance you see in 2019? Or do you really think that we need to see the memory markets recovering before you see the full benefit of those share gains?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [63]

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Well, the simple answer is no, they cannot offset the decline that we see this year. But the other aspect there is one of timing. Typically, the types of applications and wins I was speaking to, we focus on critical application wins. Usually, one to 2 nodes before that, node ever ends up ramping. And so in a majority of those cases, those will be entering production sometime next year or the following year. And that's why the start of like -- those are the applications, once you win it, you kind of know that your business is pretty well locked in for the foreseeable future.

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Quinn Bolton, Needham & Company, LLC, Research Division - Senior Analyst [64]

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And just a quick follow-up. On the China domestic, is that fairly well-balanced between memory and foundry logic or does one segment lead the other in 2019?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [65]

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It's fairly well-balanced, Quinn. I mean, memory is probably somewhat stronger than foundry and logic, but there's a broad base set of customers that are spending. It's not just one or 2.

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Operator [66]

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Sidney Ho with Deutsche Bank has our next question.

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Shek Ming Ho, Deutsche Bank AG, Research Division - Director & Senior Analyst [67]

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Starting off with a clarification. You said revenue will be first half-weighted in 2019. Is that an expectation for your revenue or is it for the industry?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [68]

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No. It was a statement, Sidney, around WFE. I didn't say anything relative to Lam's revenue. It was a statement on WFE.

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Shek Ming Ho, Deutsche Bank AG, Research Division - Director & Senior Analyst [69]

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Okay. Great. And then my question is it looks like from 3 months ago to now, the change is primarily coming from the DRAM side, CapEx slowing down. Would you say the NAND side is also incrementally weaker? Or do you think this stability -- there's more stability there and then CapEx could start coming earlier?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [70]

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Well, we haven't so far, Sidney, in the past, given you any color on the full year of 2019. It's the first time we're making statements on the full year. So I'm not sure I can even say anything about trajectory of what we thought before because we haven't done all the full analytic work that we've now done on 2019.

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Shek Ming Ho, Deutsche Bank AG, Research Division - Director & Senior Analyst [71]

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All right. Maybe just a housekeeping one. Operating expenses, obviously much lower than what you guided for the December quarter. Understanding March is an extra week, should we think about June quarter to kind of go back to the December level or is it just -- it's something higher than that?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [72]

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Yes. I'm not going to guide it beyond the current quarter, Sidney. Everything else equal, flattish to maybe slightly down if you just take the one week out, but we'll give you the hard guidance when we get to earnings in the quarter.

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Operator [73]

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We'll now hear from Mitch Steves with RBC Capital Markets.

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Mitchell Toshiro Steves, RBC Capital Markets, LLC, Research Division - Analyst [74]

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I just had one on kind of your commentary on the back half in memory dynamics. So, I guess, what is the reason why there wouldn't be a significant increase in investment when you move to 96 layer technology? Is that because the majority of the WFE spend or the increase in memory spend is because of the planar NAND transition or 3D NAND transition? Or is it because there's something special about 96 that makes it a lower investment cycle?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [75]

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No. There's nothing special about 96. What we see happening, Mitch, primarily is node conversions in both DRAM as well as 3D NAND. And so that's the way to be thinking about it. It's a heavy focus of spending on node conversions, which -- that's a very cost-effective way for our customers to invest because they just need to upgrade essentially etch and deposition equipment or add to the process flow.

I don't know, Tim. Would you add anything?

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Timothy M. Archer, Lam Research Corporation - President, CEO & Director [76]

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No, I think that's fair. Obviously, it's heavily driven by the ratio of node conversions to greenfield adds. On a greenfield basis, last year, I showed a chart that described our increase in opportunity at 96-layer. And fundamentally, on a greenfield basis, it's significantly higher as you go to 96. So it's a dynamic of conversion versus greenfield adds that's Doug's speaking to.

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Operator [77]

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Our final question will come from Vijay Rakesh with Mizuho Bank.

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Vijay Raghavan Rakesh, Mizuho Securities USA LLC, Research Division - MD of Americas Research & Senior Semiconductor Analyst [78]

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Yes. Just on your 2019, just wondering, when you look at 96-layer 3D NAND, what do you -- how do you see capital intensity at 64 versus 96?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [79]

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If you do a greenfield to greenfield wafer, capital intensity goes up. You've got a longer process flow. You have more tools in the process flow. It goes up. I don't think we've quantified it. The good part for our business is when you do that conversion, all you're really adding is etch and deposition equipment. You're making the stack bigger and the etch becomes a little bit more challenging to do and so it takes longer.

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Vijay Raghavan Rakesh, Mizuho Securities USA LLC, Research Division - MD of Americas Research & Senior Semiconductor Analyst [80]

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Got it. And just as you talked about a little bit more softness in memory spending through the year, have you seen -- are you seeing any push out on either the 96-layer 3D NAND or the 1y transition in the DRAM side?

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Douglas R. Bettinger, Lam Research Corporation - Executive VP, CFO & CAO [81]

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From a timing standpoint, no. I mean, we always had expected 2019 would be a 1y investment year in DRAM with the beginning of 1z, and that the investments in NAND would be on 96-layer devices. And that's totally what we're seeing. And again, it's primarily focused on conversions right now.

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Tina Correia, Lam Research Corporation - Corporate VP of IR & Communications [82]

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Okay. So this concludes our conference call for this quarter. Thank you for joining us.

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Operator [83]

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That will conclude today's conference call. Thank you for your participation. You may now disconnect.