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Edited Transcript of MKSI earnings conference call or presentation 27-Apr-17 12:30pm GMT

Thomson Reuters StreetEvents

Q1 2017 MKS Instruments Inc Earnings Call

ANDOVER Apr 30, 2017 (Thomson StreetEvents) -- Edited Transcript of MKS Instruments Inc earnings conference call or presentation Thursday, April 27, 2017 at 12:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Gerald G. Colella

MKS Instruments, Inc. - CEO, President and Director

* Seth H. Bagshaw

MKS Instruments, Inc. - CFO, VP, Treasurer and Director

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Conference Call Participants

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* Amanda Marie Scarnati

Citigroup Inc, Research Division - Semiconductor Consumable Analyst

* Ashwini Birla

Dougherty & Company LLC, Research Division - Research Analyst

* Patrick J. Ho

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

* Sreekrishnan Sankar

BofA Merrill Lynch, Research Division - Director

* Thomas Robert Diffely

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

* 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, ladies and gentlemen, and welcome to the MKS Instruments First Quarter 2017 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I will now like to introduce your host for today's conference, Mr. Seth Bagshaw. You may begin.

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [2]

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Thank you. Good morning, everyone. I'm Seth Bagshaw, Vice President and Chief Financial Officer, and I'm joined this morning by Jerry Colella, our Chief Executive Officer and President. Thank you for joining our earnings conference call.

Yesterday after market close, we released our financial results for the first quarter 2017 as well as updated on our 2017 target operating model. You can access this information at our website, www.mksinstruments.com.

As a reminder, the various remarks that we make about future expectations, plans and prospects for MKS comprise forward-looking statements. Actual results may differ materially from those indicated by these statements as a result of various important factors, including those discussed in yesterday’s press release and in Annual Report on Form 10-Q for the year ended December 31, 2016, which is on file with the SEC. These statements represent the company's expectations only as of today and should not be relied upon as representing the company's estimates or reviews as of any date subsequent to today, and the company disclaims any obligation to update these statements. Today's call also includes non-GAAP adjusted financial measures. Reconciliations to GAAP measures are contained in yesterday’s earnings release. In addition, we'll refer to certain pro forma measures as if the acquisition of Newport Corporation, which closed on April 29, 2016, had occurred at the beginning of the first quarter of [2016].

Now I'll turn the call over to Jerry.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [3]

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Thanks, Seth. Good morning, everyone. And thank you for joining us on the call today. I'll begin with our results for the first quarter 2017. Following that, I'll provide a few highlights on our business and an update on our integration of our Newport acquisition. Finally, I'll provide our outlook for the second quarter 2017. Seth will follow me with further details on our financial results, and then we'll open the call for your questions.

We are very pleased that we achieved record quarterly revenue of $437 million, an increase of 33% on pro forma basis from a year ago and up 8% sequentially. Our strategic objective to drive sustainable and profitable growth has allowed MKS to not only leverage technology inflection points within the semiconductor market, but also to further drive growth in a number of adjacent markets.

In this quarter, semiconductor revenue and sales for other advanced markets on a pro forma basis increased 54% and 10%, respectively, from a year ago. Non-GAAP net earnings also reached a new quarterly record and totaled $70 million or $1.27 per share.

We saw the most difficult challenges by utilizing our deep and broad technology portfolio, thus enabling MKS to outpace underlying industry growth rates. In 2016, our semiconductor revenue growth rate was almost 2x the industry growth rate as we drove new design wins in critical applications.

There are also more diversified and broad-based drivers that provide additional long-term growth opportunities for MKS. Historically, the semi market has been driven by enterprise applications. However, the landscape has been changing with demand shifting to consumer-driven segments. Mobile devices are still the main driver in the consumer space, but smart vehicles and virtual and augmented reality are a few of the new technologies that should drive growth with cloud computing continuing to provide the infrastructure for these applications.

With respect to mobile devices, next-generation wireless platforms will require increased processing and storage capabilities. The demand from consumers for increased screen resolution as flexible displays is expected to further accelerate the adoption of OLED displays.

Smart vehicles are incorporating light-based proximity sensors and mobile connectivity for increased safety and a better driving experience, while virtual and augmented reality will require faster graphics rendering, enhanced color reproduction and complex algorithms, all requiring increased chipset performance.

MKS is well positioned to support this growth and our product portfolio plays a significant role, enabling the advanced solutions required by these applications.

One of our strategic initiatives has been tactical localization, providing tactical expertise and developing customer relationships close to our customers. This proximity is an effective method to rapidly identify and solve our customer's most complex problems.

This strategy has been a significant contributor to our success in the Asia region. For example, South Korea has been and continues to be a major growth driver for MKS where revenue increased in the quarter of 118% from a year ago and 35% sequentially.

During the quarter, we won a significant order from a large Korean customer for our new ozone product supporting their OLED manufacturing. This win was based on a new green idle mode technology, which significantly reduces the amount of water and electricity needed, which in turn, reduces customer cost and is also ecofriendly.

Our Korean OEM business remained strong, and we received significant follow-on orders during the first quarter for ozone systems, plasma sources and power applications.

We continue to generate significant design wins for enabling next-generation technologies. We began a collaboration with one of our largest customers to develop plasma sources for new and emerging ex processes enabling 7-nanometer and beyond FinFET devices.

Our flow ratio control of a selective for next-generation ex chamber provide uniformity. In our next-generation plasma source has been specified for new thermal processing tool by one of our largest customers.

A major strength of MKS is the deep customer relations we have, in particular at the executive and key decision-making levels, which, of course, is good communication, understanding and collaboration between our engineering teams and our customers. These long-standing relationships allow us to more clearly understand our customers' issues and technological roadmaps, and to introduce new and acquired product to solve these challenges.

One of the significant opportunities of the Newport acquisition is the ability to introduce the extensive Newport product portfolio into the existing MKS customer base and sales channels. For example, during the quarter, we won a $1 million purchase order for a Light and Motion Division solution with a leading Asian OLED manufacturer due to the strong executive relationship that we earned through the Vacuum and Analysis Division.

We also have a number of other opportunities to introduce Vacuum and Analysis products and solutions to Light and Motion customers and have been conducting joint sales meetings to further leverage these opportunities. The integration of Newport, now our Light and Motion Division, continues to progress very well. And we're pleased with its performance and the strength and dedication of the management team and its employees. In a relatively short period of time, we've been able to reorganize the Light and Motion Division to provide additional focus. We've revised compensation plans with clear and attainable goals that made increased investment in our sales channels.

Due to these structural changes, new product development activities and all of the hard work of Light and Motion team across all product groups, we are pleased to report that revenue for our Light and Motion Division was $159 million for the quarter, which was its strongest quarterly revenue performance in the past 5 years.

At Photonics West, we introduced our next-generation beam profiling system, which measures the characteristics of a laser beam. This product was well received, and we have already won significant orders to this new platform.

Our laser business continues to expand, and we are finding new opportunities in the semi market as well as industrial applications. We won several major orders, prospective physics, industrial lasers in mobile device manufacturing, energy and other advanced manufacturing applications.

In addition to our growth initiatives, it is important for us to continuously evaluate our portfolio of businesses to ensure that each business involved in addressing our key markets is adding significant value for our customers and shareholders.

In 2006, we acquired our Data Analytics Business Unit, which is a leader in multivariate analysis software for easier analysis of large and complex data sets. Our goal was the expansion of these product offerings into potential semiconductor and industrial applications. After careful market and strategic analysis, we determined that the potential opportunities in this group are no longer aligned with our internal goals. And in April, we completed the sale of this business unit for approximately $80 million in cash.

We felt the timing was right to sell this business, and by doing so, we will be able to use the proceeds for effective capital utilization.

At this point, I'd like to turn our outlook to the second quarter of 2017. We are seeing continued strength in the semiconductor market, and we are well positioned to leverage our broad product portfolio and our customer relationships.

Our integration activities with Newport are tracking ahead of plan. We're also well positioned to drive growth in the general industrial, life sciences and research markets.

Based on these facts and looking at current business levels, we anticipate revenue in the second quarter of 2017 may range from $440 million to $480 million. At these volumes, our non-GAAP net earnings could range from $1.26 to $1.50 per share.

With that, I'll turn the call over to Seth to discuss our financial results and expand upon our guidance.

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [4]

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Thank you, Jerry. I will cover our first quarter financial results for an update on our 2017 target financial operating model. And finally, I'll discuss our Q2 2017 guidance.

Revenue for the quarter was $437 million, increased 8% compared to Q4 2016 revenue of $405 million, an increase of 33% compared to pro forma revenue of $330 million in Q1 of 2016. Revenue for the quarter was above the high end of our guidance range due to continued strong demand from our semiconductor customers. Sales to the semiconductor market increased 14% sequentially to $260 million, which represents a new quarterly record for MKS.

Sales to our other semiconductor customers were broad-based as we experienced strong growth in both OEM customers and semiconductor device manufacturers. Sales to other advanced markets were $177 million, increase of $1 million from Q4 2016, an increase of 10% on a pro forma basis from a year ago. Shipments into certain areas of these markets are project based and can and do vary quarter-to-quarter. We also experienced strong order growth rate in the first quarter in these markets.

GAAP and non-GAAP gross margin was 47%, and non-GAAP operating expenses were $107 million, all of which were within our expectations at this revenue volume. Non-GAAP operating margin was 22.5%, reflecting the strong operating leverage at these revenue levels. GAAP operating expenses included $12.5 million in amortization of intangible assets, $1.4 million in integration costs related to the Newport acquisition, $500,000 of restructuring costs related to consolidation of certain facilities, and finally, $4,000 in cost related to the sale of the Data Analytics Business Unit, which closed early in the second quarter.

GAAP interest expense was $8.8 million, which included $2.4 million of amortization with deferred financing costs and non-GAAP interest expense was $6.4 million.

The non-GAAP tax rate was 26%, which is in line with our expectations for the quarter. And the GAAP tax rate was 16%, including the unfavorable impact of a tax benefit from the deduction of stock compensation expense for certain restricted stock units that vested during the quarter.

GAAP net income was $65.1 million or $1.18 per share, and non-GAAP net earnings were $70 million or $1.27 per share, both of which also represent new quarterly records.

We continued to execute on the financial strategy to deliver the balance sheet and reduce our interest costs. During the quarter, we completed another voluntary principal prepayment totaling $50 million on our term loan. Since we originated the term loan on April 29 of last year, we've completed a total of $200 million of voluntary principal prepayments as well as successfully completed 2 reductions interest rate spread, reflecting the strength of our financial results.

Combined, these actions have reduced our annual cash interest costs by more than 40% in less than one year. Adjusted EBITDA for the quarter was $119 million, and our trailing 12-month pro forma basis, our adjusted EBITDA to gross debt ratio was approximately 1.5x.

We also continue to provide a balanced approach to capital deployment. And during the quarter, we paid a cash dividend of $9.4 million or $0.175 per share. This increased dividend rate reflects a 3% increase over the previous quarter's dividend rate and a cumulative dividend rate increase of 17% this year's dividend in 2011.

As we ended the first quarter, we had cash and short-term investments of $416 million, of which approximately 38% was in the U.S. and the remainder in our international operations.

Capital additions for the quarter were $4 million, depreciation and amortization expenses were $22 million, and stock compensation was $8.8 million.

Free cash flow for the quarter was $62 million. And in terms of working capital, days sales outstanding were 56 days, which was consistent with the fourth quarter of 2016 and inventory turns further improved to 3.3x compared to 3.2x in the fourth quarter of 2016

Turning to Newport acquisition. Integration activities are continuing to progress very well. In exiting the first quarter, we've realized $32 million of annualized cost synergies, which is ahead of expectations entering the quarter and well ahead of our original schedule. We continue to project our total cost synergies would be $40 million annually, up from our original $35 million projection. We expect to achieve these additional cost synergies in 2018.

Furthermore, we are very pleased with the strong financial results that the Light and Motion Division generated this quarter. As Jerry mentioned, revenue for the Light and Motion Division is at the highest rate in 5 years, and non-GAAP operating income more than doubled from a year ago, reflecting strong revenue growth and significant improvements in the Light and Motion Divisional financial operating model.

Early in the second quarter, we complete a sale of Data Analytics Business Unit for aggregate cash purchase price of approximately $80 million. The cash purchase price includes a $72.5 million received April 3, and additional cash payment of $7.6 million based upon post-closing adjustments, which we received on April 26.

Revenue in 2016 for this business unit was $13 million. The impact of this business on our financial results for the first quarter were not significant.

Last night, we also published an updated fully synergized 2017 target operating model to reflect the annualized effect of higher revenue levels we are generating. The impact of divestitures of the Data Analytics Business Unit and the impact of the $50 million principal prepayment, completed in the first quarter.

At an illustrated annual revenue level of $1.9 billion and including $40 million annualized cost synergies, our illustrated model shows potential non-GAAP EPS at the midpoint of this potential range of $5.82 per share or further increase of 23% compared to a model entering 2017, in which is more than double the financial model a year ago, before completing the acquisition of Newport Corporation.

We always continue to seek further opportunities to improve our financial performance while providing additional resources to support customer requirements.

Turning to Q2 2017 guidance. Based upon current business levels, we estimate that our sales in the second quarter could range from $440 million to $480 million, an increase of 5% at the midpoint driven largely by [distracted] continuing strength in sales to our semiconductor customers. Our Q2 GAAP and non-GAAP gross margin could range from 46% to 47%, reflecting these volumes and expected product mix. And our Q2 non-GAAP operating expenses could range from $103 million to $108 million.

Non-GAAP interest expense expected to be approximately $5.8 million, and the non-GAAP tax rate could be approximately 26%. Given these assumptions, second quarter non-GAAP net earnings could range from $69.6 million to $83.1 million or $1.26 to $1.50 per share.

In the second quarter, amortization of tangible assets expected to be approximately $11.4 million, integration-related costs are expected to be approximately $2.3 million. GAAP interest expense estimated to be approximately $6.8 million and interest income is estimated to be approximately $500,000.

Finally, in the second quarter, we expect to recognize a net gain of approximately $72 million on the sale of the Data Analytics Business Unit. Majority of the proceeds of this sale are -- were internationally based, and therefore, we expect to record U.S. federal income tax stands approximately $14 million in the second quarter for incremental income taxes related to repeat trading these funds.

The actual timing of the (inaudible) of these funds will depend upon strategic business considerations as well as assessment of the impact potential favorable tax reform, legislation that may become available later in the year and potentially early in 2018.

Primarily as a result of this sale, we expect our GAAP net income in the second quarter to be substantially higher than non-GAAP net earnings.

Our GAAP net income expected to range from $117.3 million to $131.2 million or $2.12 to $2.37 per share on approximately 55.3 million shares outstanding.

This concludes the prepared remarks. We'll now open the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes the line of Amanda Scarnati from Citi.

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Amanda Marie Scarnati, Citigroup Inc, Research Division - Semiconductor Consumable Analyst [2]

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Just a quick question on kind of the trajectory of your business. You look at semiconductors versus the nonsemiconductor market. Jerry, I think you mentioned that the nonsemi markets are looking good, and you're seeing growth in industrial, life science and research. How does that play into kind of percentages of the business? That makes it around 60% of sales. And I believe, the goal is to get it to a 50-50 split, but with some of these performing so well, do you see that happening? Or do you think that 60% range is more reasonable for semi?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [3]

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Right now, I mean, based on what we're seeing with continued positive news from our customers and their customers, it's just the adoption of MKS's products in Asia. China is another growth region we expect to pick up over time for ourselves. It's hard to be a 60-40 split on semi. We are running real fast to continue to increase the non-semi business, and we're progressing well there, particularly with the Newport acquisition. But I think 60-40 right now for the foreseeable future, just because of the strength of semiconductor, is probably not a bad projection. And I'll take that. Make a lot of money with that.

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Amanda Marie Scarnati, Citigroup Inc, Research Division - Semiconductor Consumable Analyst [4]

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Great. Semi is performing great, so it's hard to beat it. In terms of kind of growth in Asia and China, specifically, do you see any increase in direct sales to Asia? Or is it more just kind of following along with buy materials and land and what they are seeing?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [5]

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Well, we have a tremendous position and Korea is an example. This quarter alone, Korea represented about 11% of our total revenue out of $437 million. It was in the mid-$40s million. We took the business from -- in 5 years ago, it was like $60 million to $114 million this past year, with this quarter being -- last quarter being so tremendously successful. So I certainly -- we expect to have complementary growth as our customers do, but we've got a lot of different opportunities and things like OLED and industrial applications in China as well as other areas in the region. So I mean, I think right now best to model our growth to theirs, but I think we just see continued upside based on our position. In China alone, I think we have like 30 additional design opportunities right now in semiconductor, where we already have pressure and pressure control and flow control and power in a lot of these OEMs in China. So one of the differences that separates us, I guess, a little bit in the cycle 1 with an answer from our customers is that our position with these Chinese OEMs and the Chinese OLED companies. And if the China decides to buy local, then you would see our growth rate, I don't want to say higher than our OEM customers, but on a similar, if not, higher rate. Because obviously, if they win, we win. But if -- with some of the Chinese producers do well, then we'll do well. The other thing is in DRAM in Korea, we've been very successful. And we have penetrated all of the major OEMs that don't compete with our customers. So people like PSK and WONIK and Jusung, Genentech and others, we penetrated them as well. So with AMAT and Lam grow in Korea, we'll grow with them, and we'll get some additional upside from OEMs that don't compete with their business. Sorry about that. I know it's a long-winded answer, but it's an exciting area for us. And I never want to say we're going to beat our customers that aren't growing, because they're all doing such a great job, but there are some places that may be differentiate us, certainly from our competitors, if not our customers.

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Operator [6]

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And our next question comes from the line of Tom Diffely from Davidson.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - SVP and Senior Research Analyst [7]

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First a question on the target model. And I guess, the comment would be that you're running out of room on that target model, you change it so often. So when you look at the change, the most recent change, and it looks like the operating margin is the big change there, is that simply just the incremental margin or the drop-through? Or there any kind of cost changes that happen along the way?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [8]

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Yes, so the big change in that $1.9 million model is really it's a volume-driven piece. And we mentioned in the past, we've got a 50% variable margin, gross margin. And probably $0.40 to $0.45 variable operating margin, so that flows through the model and has the full $40 million of cost synergies. And we exit this past quarter 32 so that’s the other real delta. And then, obviously, a little bit of an interest rate, because of the pay down of the debt.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - SVP and Senior Research Analyst [9]

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Okay. Great. And then, I guess, shifting over. You mentioned the design win on the OLED side of the business. In general, how much growth have you seen in OLED or in flat panel to date? And how much growth do you think you see over the next year there?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [10]

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Well, the win that we got was optical subassembly, which came out of our Newport acquisition, which we're really thrilled about. So the cross-selling is in full force. But in general, OLED is about 5%, 6% of our overall business. So it's strong, but it doesn't necessarily have a material impact, although, we'll take a $1 million order. And that order itself could actually turn into something more substantial. I guess, we're at the leading edge of this application in the subassembly. But right now, it's 5%, 6%. It will continue to be strong. We've got right now new product development and that is being looked up by our customers, which could increase our position beyond where we are right now. So it still looks good. Customers are reporting more opportunities for us, but I wouldn't say it's materially altering the business going forward. When you're at -- when it's 5% of 1.6, 1.7 business, it's nice, but it doesn't necessarily move the needle significantly.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - SVP and Senior Research Analyst [11]

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Okay, great. And then when you look at the Light and Motion business, I think you said, you had was a -- a record quarter for Light and Motion?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [12]

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The last 5 years. This was the highest in the last 5 years.

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [13]

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Revenue side. Yes.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [14]

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Revenue side, $159 million.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - SVP and Senior Research Analyst [15]

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Okay. I was hoping you could just kind of break down the individual or pieces of the growth that you've seen there dealing from the semi side? Is it different industrial side?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [16]

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Well, first of all, it certainly is in semi. We took the semiconductor-related business called ISB, and we moved that under the Vacuum and Analysis Division. They have customers like KLA, Ultratech, Rudolph, ASML, and they're all doing very, very well. And then we've also seen a strength in the industrial side, particularly on the laser side of the business. So a lot of the micromachining, scribing, dicing, and closure, machining. So that side of the business has done well. And we do expect though that over time hopefully the research will pick up a bit for them, so in the defense spending. But it was really a lot of the semi side and the industrial, primarily coming out of the legacy side of the business as well as some of the optic stuff. Things like pedestrian recognition systems with sensing, things like that.

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Thomas Robert Diffely, D.A. Davidson & Co., Research Division - SVP and Senior Research Analyst [17]

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Okay. Great. And finally, Seth, when you look at your cash balance today, what percent is offshore?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [18]

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It's 38% in the U.S. or 62% offshore right now at the end of the March quarter.

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Operator [19]

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(Operator Instructions) Our next question comes from the line of Krish Sankar from Bank of America.

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Sreekrishnan Sankar, BofA Merrill Lynch, Research Division - Director [20]

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Couple of questions. First one on the guidance. Is it fair to assume when you look at it sequentially semis, it's going to be flat in June quarter?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [21]

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Yes, Krish, this is Seth. I don't think that's the case. I mean we're seeing real strong growth in the semi market, both on the device side as well as the OEMs. So I would think and -- we don't really guide by market in the second quarter, but I would expect that growth rate would be driven by semi more than the other markets, just given the nature of kind of how we're exposed to those growth areas.

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Sreekrishnan Sankar, BofA Merrill Lynch, Research Division - Director [22]

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Got you. So is it fair to assume then Light and Motion is going to be flattish or down?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [23]

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No, I think that will be up for the quarter as well.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [24]

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Well, we finished at $437 million, the midpoint is $460 million. If we do the math, that's growth.

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [25]

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That's 5% at the midpoint. But I think, you've seen -- our expectation is both sides will grow, but the semi has the biggest upside for opportunity. I think just given where we are in the...

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [26]

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And you got -- rates for both are strong.

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [27]

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Q1 orders are very good on the nonsemi side as well.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [28]

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We just don't report order rates.

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Sreekrishnan Sankar, BofA Merrill Lynch, Research Division - Director [29]

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Okay. Fair enough. And then, I had a question on the OLED side. So do you guys actually sell lasers into the OLED or is it just more the -- from (inaudible)?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [30]

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No, it's more the component side, most of it coming from Vacuum and Analysis. Light and Motion had a win on this optical subassembly for manufacturing, which is new. And a lot of it comes out of our LIQUOZON group out of Vacuum and Analysis for cleaning. We've been doing OLED cleaning for a lot of the major suppliers for years and that business just continues to pick up.

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Sreekrishnan Sankar, BofA Merrill Lynch, Research Division - Director [31]

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Got you. And then, I mean, do you guys plan to get into like the excimer laser business for OLED? Or is it something you're looking at?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [32]

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Well, if you look -- it's an intriguing business. And if you look at from what I understand, there are high cost of ownerships and downtime and reliability issues. And anytime MKS looks at a customer problem, we always find a way to fix it. That's how we win. So we don't have excimer lasers in our Spectra physics portfolio, but there are most likely over time alternative solutions to that. So whenever there is an opportunity and there is a problem, that's how we gain share. So we think it's an intriguing business, and we'll continue to pursue looking at that and we are -- there's an entry point for us at some point.

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Operator [33]

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And our next question comes from the line of Patrick Ho from Stifel.

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Patrick J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - Director [34]

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First off Jerry, in the past you talked about with the Newport acquisition about the potential integration of products from both your core vacuum MKS products and some of the Newport Light and Motion products. You talked about some of the cross-selling opportunities today. How do you see the development going in that area where that would potentially be a growth initiative for you guys down the road?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [35]

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Yes, first of all, the $1 million win was a cross-selling win. Without the executive-level relationships and the feet on the ground in Korea, I have a feeling that Light and Motion may not have won that business for a fact. That really was driven by the Vacuum and Analysis group. Some of the things we're working on, we have this group -- the PNA group that's into environmental monitoring. But also they have got some interesting opportunities to the semi side pathic. And one of the challenges they have had is on the lasers and optics side. And we're seeing a collaboration between the Light and Motion team and the optics group for some development on -- for the PNA products. The other thing was, we had a yield issue for Light and Motion. They were doing -- they were codings -- they do a lot of codings work on their optic side. And they were having some significant yield issues. And we took some of our key design engineers from Vacuum and Analysis, flew them out there and they were able to really solve this coding issue. So we continue to see a good collaboration. We have the office of the CTO, which jointly our COO runs. He has a PhD. Obviously, a lot smarter technically than I am, and he is getting these 2 teams together to really look at road mapping and each one can effectively work with each other to reduce the cost of the product itself, make technical advances. So there's a lot of good things going on technically, and certainly, the cross-selling, we, obviously, saw a major win. And a couple of -- a quarter or so ago, we also talked about gaps analysis win that we had at a back-end customer that was a Light and Motion customer. So we think there is some tremendous opportunity. We think lasers have an opportunity with some of our OEMs in the semi side. And we've certainly been having discussions that have been evaluating the product. So nothing happened to the right as far as this was concerned, Patrick

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Patrick J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - Director [36]

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Great. That's helpful. And maybe as a follow-up question to one of the questions regarding China. You guys have made significant inroads into the Korean market and that probably is a good blueprint for you as the indigenous Chinese semiconductor market growth. But given how fragmented and at the early stages of the equipment industry in China is today, how are you, I guess, balancing the need to spend and invest in that region versus some of the opportunities down the road of penetrating some of the local equipment vendors that are likely to emerge down the road?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [37]

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Yes, well, one of the good things about MKS is our brand is well known. And a lot of the equipment engineers that are in Korea or -- and in China, in particular, we actually have -- are very familiar with MKS, because, one, they were either educated in our universities here in the United States. Or two, they worked at the equipment companies in the U.S. and then migrated back home. So we're very fortunate that our brand is a draw for these engineers who have either worked in the labs at the universities or have worked on designing and putting our product in U.S. OEM equipment. We have a lot of feet on the ground in China. It's -- there is a lot of opportunity for both Light and Motion and both Vacuum and Analysis. So I don't think there is a real concern for us in terms of investing in infrastructure. And we took a flyer years ago, Patrick, on a company called Plasmart in Korea. And the idea behind that was to have people on the ground that were very connected to all the KAIST University graduates in Samsung and Hynix and lot of the other Korean OEMs and that flyer worked. So putting an investment on the ground in China to develop significant opportunity over time is not something we shy away from. But we're very fortunate that our brand is something that's well known and that sells itself. And the other thing though is we've worked for a long time with some of these companies. We're giving sample at AMEC, (inaudible) company. They were a very small startup. And they -- we have 3 awards in our lobby from them. It is because we paid attention to them. We help them. They're good customer. Obviously, we can't win everything, but we help them with a whole range of technology and solutions that -- when other people wouldn't pay attention to them. And when they weren't doing so well, we still stuck by them. And they will do well, and we have the same model with other Chinese startups that we've been familiar with. So I think the customer relationships, the brand recognition, the investments we make, the feet on the ground, I think all that's going to continue support our growth in China, just like it did in Korea.

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Patrick J. Ho, Stifel, Nicolaus & Company, Incorporated, Research Division - Director [38]

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Great. And final question from me, maybe for Seth, for the target model. Given the revenue growth that you guys are anticipating, there is a lot of leverage that goes to the bottom line. One of the notable things I am looking at right now is OpEx. How are you getting the leverage on the OpEx? Or how are you balancing that to drive higher operating margins, because as revenues grow, you would assume that SG&A and even R&D would grow. What are some of the balance or what are some of the moving parts there that are helping to drive higher operating margin targets down the road?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [39]

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Yes, sure. Good question. So on the R&D side, I would say it's project-based. So if you looked at our operating model change like 9x in the last several years. You wouldn't see the model that we present, but we've been adding investment in certain areas as we go along. So we've been making improvements on the -- efficiency of the model in our internal structure. At the same time, we have been putting money back to work in terms of product development activities and sales channel, particularly in China and Korea, as Jerry mentioned. So we've been actually -- we've been some leading out, there's more opportunity going forward, do meet on a -- as executive level, every month to kind of grow through opportunities to drive efficiencies in the Vacuum and Analysis side as well as the Light and Motion side. And within that, there is always a cadence to add additional funding back into the business. So that's been sort of our DNA and now continue going forward as well. When we look at quarter-over-quarter, growth rates are even year-over-year, typically because it’s so well entrenched in the customer base, you don't really see additional sales activity required. We tend to make investments on the front end to design wins. And then you get a lot of leverage as the revenue comes through, because the sales structure, some variable compensation, obviously, but it's pretty much well funded from a headcount and structure perspective. So that's where leverage comes through in the model going forward. One other point too in the Light and Motion side, we mentioned in the call that the profitability more than doubled in the last year. At that revenue volume, we had this Q1 2017, $115 million of revenue, L&M generated about 18% or north of that operating income. A year ago, before we closed the transaction, we've been more like a 12% level. So we've added 600 basis points just on the divisional side alone at the higher volume. So it's really something we've done for a number of years. We'll do it going forward. It gives more opportunity as well. But at the same time, we're going to reinvest back in those critical areas.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [40]

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I think, the other thing, Patrick, to add to that was we've been a company that followed lean principles for well over 20 years. We -- when I came to the company in 1983, one of the first things that my job was to outsource noncore manufacturing functions. And if you look at our businesses now, we're basically just final assembly in test. And so what that means is that is all the infrastructure that's required for multiple layers of manufacturing, don't exist within the company. And so if you do -- you have to be really good supply-chain management. And we have a team of experts and managing our supply chain effectively. Our customers have actually commented on how effectively we dealt with this realm. So I think applying the lean principles to manufacturing, applying the lean principles to everything we do, we look at things like efficiency rates and utilization rates. We leverage management to handle significant swings in the business. So I think that JT principles, the lean principles, demand flow technology principles have helped us. And before we went public in 1999, we were about $150 million company in a wildest cyclical business that was privately held. So we understood how to manage a buck. And I think that we've kept that core principle while not being afraid to invest aggressively in high-growth areas. And I think that's paid off for the company when you look at how we can leverage the revenue upward.

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Operator [41]

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(Operator Instructions) Our next question comes from the line of Ash Birla from Dougherty & Company.

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Ashwini Birla, Dougherty & Company LLC, Research Division - Research Analyst [42]

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It's Dick. Say, just a question on Light and Motion. I think it was roughly $177 million. So it looked flat sequentially. I think you said, 10% year-over-year. Using a proxy of global PMI, I would think we might see a little more growth there. But is there a seasonality in that business, or how should we consider that?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [43]

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Yes, it's Seth. A couple of things, $177 million that's total combined nonsemi revenue in the quarter, not Light and Motion. And so the $177 million in Q1 was up a $1 million from Q4, but 10% from a year ago. So it's up year-over-year, although consistent sequentially. In the call I mention that the order rates within the, I call it the, nonsemi business, were actually pretty strong in the quarter. So really it wasn't Light and Motion, it was really the nonsemi piece. The Light and Motion was up sequentially quarter-over-quarter and from a year ago as well.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [44]

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And that $159 million for Light and Motion is a combination of their semi business and their nonsemi business, Dick.

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Ashwini Birla, Dougherty & Company LLC, Research Division - Research Analyst [45]

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Well, where did the Data Analytics Business fit when you incorporated those numbers? Was it in semi or was it in nonsemi?

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Seth H. Bagshaw, MKS Instruments, Inc. - CFO, VP, Treasurer and Director [46]

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Yes, the nonsemi, and it's actually in Vacuum and Analysis side divisions well, by the way, it would the nonsemi piece. And again, last year in '16 it was about $13 million for the year. If that one unit we sold, but relatively small.

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Ashwini Birla, Dougherty & Company LLC, Research Division - Research Analyst [47]

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Okay. And Jerry, what -- we've heard of tight supply chains out there. Are you giving any incremental wins from competitors that are having problems stepping up meeting demand?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [48]

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I don't -- I really can't say that we've done that. We're -- did a lot of design cycles and design times in our product. And so sometimes they are subassembly level where we are subsystem level, it's not just something that went from based on last month or so. I mean, we're continuously gaining share based on technology and that's where we see the biggest gain. I did see another company of space that talked about gaining share, because of the lack of delivery. I would say that we're getting more and more design wins before of our capability. And you'll see the company continue to grow based on our operational ability. But I can't really say, I've seen anything specifically, because we're beating the competition on delivery. I wish I could tell you that, but I can't say I've seen that. We haven't lost anything, though. I guess, we didn't lose anything.

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Operator [49]

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And our next question comes from the line of Weston Twigg from Pacific Crest.

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Weston David Twigg, Pacific Crest Securities, Inc., Research Division - Director and Senior Research Analyst of Semiconductor and Industrial Technology [50]

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Just wondering you mentioned orders were really strong in Q1, guidance is really strong for Q2, but I'm wondering if you're seeing any signs of those orders may stabilize or start to slow down for a little digestion in the second half. Or do you think we're still on the same trajectory?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [51]

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Well, I think earlier in the year, there were some of the customers were calling for a maybe a slight more of a front-end load to the business. Recently, looking at earnings calls and talking to customers, I think the landscape is changing there, Wes. Do I think we go up another 33%, I mean, it's kind of hard to say, but I don't -- I got the sense that we're pretty at a good point right now. And it looks fairly good for the rest of the year, and people talking favorably about 2018. I did spend time with some of our Korean customers. They talk positively about the year. I asked about things like gifts and things like that. Things can change on a dime. I know that for fact, but I can't -- I think this has been more positive as of late from people around the world that we have talked to.

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Weston David Twigg, Pacific Crest Securities, Inc., Research Division - Director and Senior Research Analyst of Semiconductor and Industrial Technology [52]

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Okay, that's really helpful. And just on the semi demand, in general. Can you give us an idea of where the strength is really coming from? Where the upside is coming from?

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [53]

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Well, it’s certainly, 3D is helping a lot, the multi-patent part. There is no question that continued strength. We do see as, we talked about, DRAM is helping. And we said, we knew our Korean business would do -- would increase if we saw DRAM spending increasing, and I talked to customers last July and that's what they told me would happen. Here it is. So I think it's primarily those 2 things strengths that we see right now.

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Operator [54]

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Thank you. At this time, I'm showing no further questions. I would like to turn the call back over to Jerry Colella for closing remarks.

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Gerald G. Colella, MKS Instruments, Inc. - CEO, President and Director [55]

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Thank you. We are very pleased with our strong start to 2017. We set a new record for quarterly revenue, continue to enhance our organizational strength and collaborated more closely and effectively with our customers. Thank you for joining us on the call today and for your continued interest in MKS. We look forward to updating you in our continued progress when we report our second quarter results in July.

Thank you.

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Operator [56]

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Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program, and you may now disconnect. Everyone, have a great day.