A US tech company lists on the ASX

Alan Kohler here and today’s CEO is Jerry Cutini, the CEO of a new listing on the ASX, Revasum.  It’s an American company, entirely American, it’s got business in Asia but really nothing to do with Australia.  It’s based in Silicon Valley and its business involves producing and selling machines that polish and grind silicon wafers, silicon chips, semiconductor chips.  That’s the business, it’s actually based on some technology and IP assets that were bought from a company that went broke a couple of years ago called Strasbaugh.  Here is Jerry Cutini talking about the new listing, RVS.ASX, Revasum.

Listen to the podcast or read the full transcript below:

Jerry, I guess the first question to be asked is why are you listing on the ASX?

That’s everybody’s first question and it’s a good and appropriate question.  We had been thinking about going public and both myself and the CFO run public companies listed in New York but he had come from a company, he was a CFO of a small start up company here in Australia even though it was based in California they were listed here.  Then our primary investor is a company called First Hand Technology Fund.  They have another company, I would call them a sister company, Pivotal Systems that was getting ready to go public here in Australia.  What became clear to me is the Australian exchange first of all is thinking very broadly, they are a very strong market, it’s very well-regulated, the process to go public is very easy to follow, it’s very predictable.  This exchange is really well-suited for small cap to midcap growing companies that need $25 to maybe $100 million.  Those types of IPOs just cannot get done in the United States anymore, they’re just too small.

My view was it was a very good market, it’s liquid, it’s well-regulated, there’s a lot of intelligent investors that want to see a broader array of investments than traditionally you’ve had available to you in Australia.  The Australian exchange, the more we looked into it the more logical it seemed to me.  Maybe last but not least 70% of my business is in Asia anyway and so coming down to Australia once a quarter or once every four months is easy for me because I’m in Taiwan and China pretty regularly.

Just before we get onto your company do you think it’s going too far to say that your listing is a further pointer to the idea that the ASX is becoming some sort of global small cap technology exchange?

I think, Alan, that is absolutely the case.  When I was at ASX yesterday they were telling me how many foreign companies that are small cap and midcap are coming to the exchange.  Since this has all happened I live in Silicon Valley, you can imagine there’s a lot of start-ups there, I’ve had a handful of my friends that are in similar sized companies to ours ask me and we talk about it, what’s the Australian exchange like.  I think that this is a brilliant move by ASX and I think absolutely you’re going to see more of this, more quality companies coming through and listing on this exchange regardless of where you’re located.  We all know it’s a global market nowadays, this exchange that is very well-suited to be considered the leading small cap midcap market.  What other exchanges are really in this position?  I think it’s perfectly well-suited.

That’s very interesting.  Okay, let’s get onto your company.  You were formed in 2016 to acquire the assets of a business called Strasbaugh, is that because Strasbaugh went broke?

More or less.  The longer version of the story is I had known the company and actually I wanted to buy the company back in 1996, I was well aware of the company and the technology, I was friends with a lot of the people there.  In 2014 they called me and said they were struggling and needed a path out and they didn’t know what it was.  They had an unusual cap table, there was no way to bring capital in.  I had written the business plan that we’re following now, probably it was in 2015 when I wrote the plan.  It just couldn’t happen the way their structure was so we all agreed let’s form Revasum, we’ll buy the assets out and we’ll just wind up Strasbaugh. 

The reason Strasbaugh failed is that it was an engineering company through and through.  They weren’t very good at getting out and talking to customers, understanding what the problems were.  My background is predominantly product and customer development.  The company just couldn’t get out of its own way, they would engineer something and they had spent millions of dollars developing some machines that just didn’t sell because they weren’t addressing a problem that the customer had.  The thing that got me excited, and first hand as well as I look inside the company, I thought my gosh we could develop new machines faster and for less money than any other semiconductor equipment company that I had been at.

We have a great deal of technology inside of our company so in the prospectus we talk about launching two new products.  The risk is very low for development.  I am not inventing things.  When I tell people about our R&D budget I saw it’s a very small R and big D, we’re developing products on known technology so it’s a good platform.

What’s your own background, why were you looking at this company, why did you want to buy this company in 1994 and why were you writing a business plan in 2015?  What were you doing at those times?

In 1995 I had taken another company public on Nasdaq and the name of that company was On Track Systems.  It was also a semiconductor equipment company and we had adjacent technology, in other words the predecessor company, Strasbaugh, and my company On Track the wafers would go through the Strasbaugh machine then my machine.  I wanted to broaden my footprint in the market and I wanted to buy Strasbaugh and we had just gone public, I think we’d raised $40 or $50 million back then and I wanted to acquire the company and then grow it.  It was an adjacent technology.  In 2015 I was actually semi-retired, I was golfing badly I say all the time, and they called and wanted some help.  I was intrigued by it because I always knew the technology was there, I was always happy with the technology.

It just was a little bit of serendipity and a little bit of the market too, the timing was right for these products that Strasbaugh had and now Revasum has which is perfect, it was serendipitous.

What was in the 2015 business plan that you wrote up, I presume that’s what you’re implementing now.

Yeah, we had looked at a couple of very specific things and I’m persistent when I talk about how we looked at the business.  I look at it from the end first, what are the markets that would buy my machines, that’s the first thing.  In the semiconductor equipment industry you have to start at the end before you can go to the beginning and the end for me is the electrification of cars.  Cars are going to grow at 1% or 2% a year, the electronic content in a car is growing by nearly 50% a year.  The dominant portion of the chips that go into cars are made on smaller wafer sizes, in other words wafers that are not used for memory and microprocessors.  That was one fundamental thesis and that encompasses a lot of silicon and a new material called silicon carbide. 

I believed then and I believe now that we are in the very early stages of the electrification of cars that will require more electronics.  You look at the 5G conversion from 4G LTE to 5G.  That is also based on some silicon carbide technology and some 200mm, that is also a market that we believe is in the very early stages.  Last but not least is the internet of things, and I joke all the time I don’t know if I need a refrigerator connected to the internet but I’m pretty sure I’m going to end up with one.  There are more and more devices every day being connected.  The dominant portion of those semiconductor devices that are made are made on smaller wafer sizes, 200mm and 150mm.  That is the exact genesis of the technology that we have in our company.

I start at the end but I kind of pull it back to what is our expertise, our expertise is on silicon carbide wafers and 200mm silicon wafers.  That’s how we started looking at the business.

Tell us what the IP that was in Strasbaugh that you now have.

When we think about our company what I like to tell people is we have a heavy mechanical engineering and electrical controls basis inside our company.  When you’re working with a semiconductor wafer you’re dealing in dimensions that are less than one one hundredth the thickness of your hair.  Our teams are very good at moving a 500-pound assembly of one one hundredth the thickness of your hair so that you can put very precise dimensions.  The bulk of our intellectual property is centred in the mechanical engineering of these large assemblies that control very precise dimensions on the surface of the wafer.

Right.  What exactly is the IP that you own?

We own IP related to grinding wafers and polishing wafers in a very simple sense.  It’s like sandpaper, right, you have course grinding is typically very course, you’re trying to remove material to a precise thickness and then you have to polish it to a very perfect mirror finish.  As it relates to semiconductor technologies we have intellectual property both patented and things that we consider trade secrets that are related to grinding surfaces and polishing those surfaces.

Your business involves selling the machines that contain these grinding machines, right?

Correct.  Maybe I’ll give you just a little touch on that.  Think about Revasum this way.  We make large capital machines, these machines are the size of a small conference room, they have many thousands of parts on them.  The average selling price for our machines today, and we make a variety of different machines, some sell for $400,000 and some sell for $1 million but the average when you blend it is about $650,000.  80% of our revenue comes from selling those machines, we install them in customers’ factories all over the world or all over the semiconductor producing regions of the world and then the 20% left over is spares and service for those machines. 

We provide warranty repair for parts on the machines that we install.  Our business is helping a semiconductor company.  We produce these machines that in our case provides two or three different processing steps out of many hundreds, very specific.  We design machines, we help make sure the machine does exactly what that customer needs and then we install and support those machines for our customers.

Okay.  I suppose the fate of Strasbaugh tells you that you can’t just assume that you’re going to succeed with this.  I presume what that tells us is that it’s a very competitive market even though you own some patents on this grinding stuff.  It must be quite competitive and it must be something that you can’t just assume success in.

Maybe, it is a very competitive market, it’s a global market.  We have competitors in Japan and in the United States.  However, what I would say is not only myself but new people that I’ve brought on the team it’s one thing to have an engineering capability, it is another thing to be able to fully engage a customer to develop a product that fills a need in the market.  That’s where Strasbaugh went wrong, they wanted to engineer machines without dealing with customers.  My background, relatively successfully I’d say, has been engaging customers in finding a solution that works for them.  The good thing in our industry is the solution that I have for one customer will also fill a need for another dozen or dozen and a half different customers.

What I like to do is I spend time – and I’ll give you very specific examples.  The machine that we’re releasing in 2019 is a combination of different technologies that we had inside our company and had been there for many years.  I want to a handful of customers, myself and a woman that runs product management and our CTO.  We talked to the customers about some emerging trends that are coming.  We then went back and configured a machine and we spent a lot of time understanding and doing experiments, went back to those customers and every one of those customers has now lined up to take the first handful of machines that we’re building.

You have to look at this industry and the company’s ability to execute new products that fill the niche.  It will be very clear in six or nine months when I start communicating to the investors that we’ve received orders from customers for this machine, for this location, and we’ve put these things out there.  It is competitive, Alan, of course it is.  It’s a global business.  I think what you need is a team, and I believe in my team and our ability to fully engage customers.  The thing that I’ll tell you is yes, Strasbaugh had its challenges, as I sit here today we are re-engaging with customers that did business with Strasbaugh 20 years ago.  It wasn’t the company per se but it was the management.  I believe me and the management team at Revasum do business in a very different way.

What’s your market share?

We’ll talk about a handful of different machines.  The primary machine that is generating the bulk of our revenue right now we have about 45% to 48% share of machines that process the base sub straights that a device is made on, it’s called a silicon wafer.  We have about 45% to 50% share in that market.  In other words nearly half of the wafers in the world that are made for IOT and automotive devices come over our machines.  We have a very substantial technology footprint.  There is an emerging technology called silicon carbide, we have approximately 60% to 70% share in that market.  That material is very difficult to deal with, it’s nearly as hard as a diamond.  In fact the only thing harder than silicon carbide is a diamond.  We make a new generation of grinding machines and a new generation of polishing machines so we have very high share in that.

There’s another market that we’re developing a new machine for in CNP for making the devices, actually putting different layers on devices.  We have a very small share but historically going back in time we basically invented the industry for polishing these wafers.  The customers are already engaging me to develop a new machine and we’re working with them to develop new machines for that as well.  It’s hard to go to just one market share because we have so many different processes.

I presume you’ve got different market shares geographically too.  Tell us about your position in the Chinese market.

Yeah, the Chinese market, all the recent perturbations aside, is an important market for semiconductor production.  Within a year or two they will be the largest consumer of semiconductor capital equipment.  In the area of making silicon wafers we have one of our largest customers from Taiwan is putting a factory in China.  We have partnered up with another company in China that makes a different machine for that market and so we are penetrating that market right now.  I think China is going to be probably in 2019 25% to 30% of our business, and we are getting the lions share of the market for making silicon wafers, the sub straights again. 

There’s so much activity so we are forming a company in China early next year.  We are already adding people in China.  China is going to be an important part of the business for us.

Take us through your prospectus forecasts if you wouldn’t mind, and how they look.  I think your first half revenues I think you’re doing about $20 million revenue per half at the moment.

Roughly, yeah.  I think we’re going to kind of be trending more and more in that direction, the second half of 2018 is going to be about 21.5 million, for the full year it’ll be 27 million, for 2019 – we did the forecast first because we did the prospectus back in November.  We did a full year from July 1 2018 to June of 2019, so we provided a $20.5 million forecast for the first half of 2019, that gives you a number of around $36 million from July 1 to June 30 although our fiscal year end December fiscal 2018 is going to be around $27 million.  We’re going to have good growth from 2018 to 2019.

What sort of margin do you make?

We’re around the 40% to 42% range.  One of the things that we firmly believe – and we have been growing pretty rapidly, I would be the first one to tell you we haven’t been as efficient as we could be.  I think that we’ve got headroom in the margin model and we have said all along as we release these new machines they’re going to have higher selling prices because they’re more capable machines.  We will have a model that starts to approach 45% to 46% probably by the end of 2019 so we see increasing operating leverage in the model as we go forward.  I think we’re calling it around 41% or 42% right now, end of 2019 I believe we’re going to be 45% to 47% probably at that point. 

How much of your revenue is what you might call annuity style revenue from service and parts and do you think that proportion will increase?

That portion of the business is about 20%, it will continue to increase on a dollar basis but as a percentage I’m going to guess as we get into the $75 to $100 million, that number is going to get probably in the 15% to 16% range.  It’s going to go up on a dollar basis but down on a percentage basis as we grow.

Right.  One of the risk factors listed in your prospectus is reliance on key customers and in particular lack of formal contracts.  Tell us about the contractual relationship you have with customers.  Is it just you just sell them per machine, you have no deals, no contracted long-term deals with them?

Our industry is probably different than some other industries.  What happens is first thing that we do let’s use a new customer as an example, we will go through six months to a year of different evaluations.  We run their processes, we run their wafers, their people come to our factory and then they buy machines.  Although the machines – they’ll buy one to ten, let’s say, or fifteen machines, those are under a contractual purchase order but they do not give you multi-year contracts, it’s just not done in our industry.  It’d presumed in our world once I meet those technical requirements as long as we keep satisfying the customer, improving the machines, that the next buy and the next buy comes to you.

When you’ve won a technical position, it all starts with winning that technical position first then purchase orders follow.  When I get a purchase order then typically I get about 30% deposit.  My POs for the most part have a deposit and a lead time between 4 and 6 months.  We have a good look at our – we keep talking about the first half of 2019, I’ve got more than 60% of that booked, it’s all under purchase orders, it’s all with deposits.  We have a surety of that contract being fulfilled but we do not have, let’s say, a multi-year contract and a full commitment to buy those machines because the customers are adding capacity, changing technology all the time.  They buy with the visibility they require.

To what extent does your future revenue rely on what you were talking about before with the R&D, that you’re spending a lot of money on D?

We are always going to have a big R&D spending line, a big D line.  We have gone on a path of developing these first two machines right now and our industry is one that if you look through the industry at other equipment companies we have very high R&D spending, supporting customers with continuing improvements of those machines is important and then developing new machines and engaging customers in problem areas to release new machines in the outyear.  We are a technology development company, we don’t have to invest things but we do have to develop these products that fit these needs.  We will always have a big engineering line, R&D line.

You mentioned operating leverage before, can you just explain to us in a bit more detail how the operating leverage works?  In your latest half yearly June 2018 the cash receipts were $9 million and the payments to suppliers and employees is $8.6 million, so a little bit positive just on the top line of cash flow.  As the cash receipts grow how fast will the outgoings grow?

That’s where we get the gross margin leverage and here’s what’s going to happen.  I’m going to try to simplify things.  We are shipping machines that we have had in our company for many years but they are not designed to, let’s say, state of the art operational techniques.  As we go forward and release new machines where we will get operating leverage is a couple of things.  Number one, we’re bringing supply chain from other parts of the United States as well as other parts of the world, typically China.  We have cost improvements in front of us so we will just simply reduce the cost of the machines. 

The next thing that we will do is we will rely on, and we’re doing this in fact right now, we have two partners that are helping us with the new machine.  They will design and build that machine, so I’ll only pay for an engineering charge.  They will build those sub-assemblies and by the end of the year they will ship part of the sub-assembly to the customer.  I will ship the main body of the machine, so I will have a working capital improvement because I just don’t need to bring those parts in.  I will have a more efficient labour because my labour will be more focussed on the really critical parts of the machine.  We will have the ability over the next 12, 18 and 24 months to produce more machines out of this factory with a very minimal increase in headcount or inventory. 

We have a very specific plan on how we’re going to execute that and it starts with engineering these new machines in a different way.

I’ve run out of time here.  I’m going to have to leave it there.  Thanks very much, Jerry.

Okay, thanks Alan, I really appreciate it.

That was Jerry Cutini, the CEO of Revasum.