Silicon Motion Technology Corporation (NASDAQ:SIMO) Q3 2023 Earnings Call Transcript

Silicon Motion Technology Corporation (NASDAQ:SIMO) Q3 2023 Earnings Call Transcript November 2, 2023

Operator: Good day, and thank you for standing by. Welcome to the Silicon Motion Technology Corp. Third Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only. After the speaker’s presentation, there will be question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. This conference call contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 as amended. Such forward-looking statements include without limitation statements regarding trends in the semiconductor industry and our future results of operations financial condition and business prospects.

Although, such statements are based on our own information and information from other sources, we believe to be reliable you should not place undue reliance on them. These statements involve risks and uncertainties and actual market trends and our results may differ materially from those expressed or implied in these forward-looking statements for a variety of reasons. Potential risks and uncertainties include but are not limited to continued competitive pressure in the semiconductor industry and the effect of such pressure on prices unpredictable changes in technology and consumer demand for multimedia consumer electronics the state of and any change in our relationship with our major customers and changes in political economic legal and social conditions in Taiwan.

For additional discussion of these risks and uncertainties and other factors please see the documents we file from time-to-time with the Securities and Exchange Commission. We assume no obligations to update any forward-looking statements which apply only as of the date of this conference call. And now, I’d like to hand the conference over to Mr. Jason Tsai, VP of Investor Relations and Finance. Please go ahead sir.

Jason Tsai: Thank you. And good morning, everyone, and welcome to Silicon Motion’s Third Quarter 2023 Financial Results Conference Call and Webcast. Joining me today is Wallace Kou our President and CEO. Wallace will first provide a review of our key business developments and I will discuss our third quarter results and our outlook. Following our prepared remarks, we will conclude with a Q&A session. Please note that, Riyadh Lai, our CFO will not be joining us on today’s call. Riyadh worked intensively on the merger with MaxLinear over the last 15 months, while continuing to manage all the CFO responsibilities. He’s now devoting his time to prepare him for the arbitration against MaxLinear. As a result I was asked to lead our investor-related activities.

We will then conclude with Q&A. Before we get started, I would like to remind you of our safe harbor policy which was read at the start of this call. For a comprehensive overview of the risks involved in investing in our securities, please refer to our filings with the US Securities and Exchange Commission. For more details on our financial results please refer to our press release which was filed on Form 6-K after the close of the market yesterday. This webcast will be available for replay in the Investor Relations section of our website for a limited time. To enhance investors’ understanding of our ongoing economic performance we will discuss non-GAAP information during this call. We use non-GAAP financial measures internally to evaluate and manage our operations.

We have therefore chosen to provide this information to enable you to perform comparisons of our operating results in a manner similar to how we analyze our own operating results. The reconciliation of the GAAP to non-GAAP financial data can be found on our earnings release issued yesterday. We ask that you review it in conjunction with this call. As we have previously shared, Silicon Motion filed its Notice of Arbitration against MaxLinear for its willful and material breaches of the merger agreement that was signed on May 5, 2022. The company is seeking payment of the termination fee of $160 million further substantial damages interest and costs. Please note that, the arbitration process is confidential and we will therefore not be commenting further on this matter today.

With that, I will turn the call over to Wallace.

Wallace Kou: Thank you, Jason. Hello everyone and thank you for joining us today. It is good to speaking with you again after such a long break to provide an update on the progress we have made over the past year and a half. Since our founding nearly three decades ago the strengths of our business and the fundamental drivers of our growth have always been our technology leadership and the quality and depth of our customer partnership. Today, the statement has never been truer. Silicon Motion Technology leadership continue to enable us to win sockets and grow our share as NAND makers. At the same time, it drives them to rely on us more each day, to outsource more in order to target a wider range of end markets that their own R&D did not have the bandwidth to support.

Our relationship with our module maker customer continued to deepen to our broad portfolio of solution enable them to be the most competitive in their respective end markets. Our technology leadership also paves the way for us to expand into additional markets; like enterprise and data center storage, automotive, commercial, industrial and IoT. And now that is clear that we will remain a standalone company. Our engagement with our customers have been steadily increasing as well. Our unwavering focus on technology leadership will be what continue to drive our growth longer term and ensure our partnership with both NAND maker and module maker alike remain strong. With that, I will turn to our results for the third quarter. Our business continued to gain momentum with the revenue growing 23% sequentially to $172 million and earning per ADS growing 67% sequentially to $0.63.

We saw inventory level begin to normalize across the majority of end markets and OEM order activity pick up in the third quarter leading to a strong revenue growth in the quarter. We expect this trend to continue and are confident they will lead to strong sequential growth in the fourth quarter. While the first half of 2023 was challenging due to the global macro economy weakness and excess inventory in the channels the inventory level across our end market are normalizing and OEM demand continue to improve. Today, I’m pleased to say that we are shipping to more customers than ever before working with all the major NAND makers on the multiple engagement across several end markets and expanding our footprint among market-leading module makers with an innovative solution for the smartphone, PC, automotive, industrial, commercial and enterprise markets.

We continue to invest in our technology leadership and in coming quarters expect to introduce several industry-leading solutions for SSD and embedded market. That will drive sustainable long-term profitable growth for our business. QLC NAND is essential to further improve affordability of solid-state storage, but also posted greater challenging to overcome leading to worsened endurance reliability, data integrity and performance. As flash makers continue to roll-out next-generation higher-density 3D QLC NAND with 200 to 300 plus layers controller technology requirements are scaling up significantly requiring the use of more sophisticated LDPC as well as our proprietary 3D RAID technology for better error correction and recovery data, protection and reliabilities.

These next-generation controllers will require final design and manufacturing processes to deliver a much higher performance while maintaining the same low-power consumption as previous generation solutions. We invest early in supporting QLC NAND and Silicon Motion have more experience managing the technology than any other company in our industry. Our leadership in these areas are second to none, especially, in the merchant market. We expect to continue to maintain our leadership in the market with these next-generation solutions and win meaningful share of a new product with all NAND flash makers as well as all the leading module makers. By end market standpoint excess inventory in the PC and smartphone markets have plagued the industry since late 2022 when the global economy weakened and demand lowered.

It has taken nearly a year, but we believe the inventory level in both the PC and smartphone markets are normalizing. We are seeing more consistent order patterns from our customers and better visibility that are more closely aligned with end market demand. We are optimistic that this trend will continue and that the industry is well positioned to return to growth in 2024. Now let me now discuss our SSD controller business. Our SSD controller business grew 5% to 10% sequentially in the third quarter. We are beginning to see the PC market rebound and believe that the replacement cycle of corporate that personally no going early days of COVID are beginning. This should lead to stronger PC demand in the coming months. For the current PCIe Gen4 SSD market, we just began shipping our Gen4 controller to our newest Korean NAND maker customer for their PC OEM customers.

And we’re now supplying our SSD controller to all but one of the major NAND makers. Our large expanding NAND flash customer base and our strong share with all the leading module maker continue to position us well in the PC OEM and channel market for SSD. We expect Gen4 SSD to continue to be the majority of the PC SSD market through 2025 and PC OEM will begin adoption of PCIe Gen5 SSD for high-performance PC in 2025, when Intel and AMD adopt standard in notebooks. This PCIe Gen5 SSD will enable much higher data bandwidth and performance that will be critical for next-generation PC and will also enable new capabilities such as AI as an edge and will eventually become standard. We already secured design wins with other flash makers that are outsourcing controller to merchant supplier and expect to begin shipments in late 2024.

Our first Gen5 controller is tapping out in this quarter and will serve the high-performing market with an 8-channel solution using TSMC’s 6-nanometer technology that will deliver unparalleled performance and low-power consumption. PC OEM expects significantly higher performance with Gen5 SSD. But at the same time power consumption in Gen4 SSD requiring us to move 6-nanometer process technology to achieve both high performance, as well as low-power consumption requirement. This new SSD controller USB will be nearly double than our comparable 8-channel Gen4 controllers. We expect to tape out our second PCIe Gen5 controller a full channel solution in the second quarter of next year and began sampling in the second half of next year. We expect this solution to help expand the adoption of Gen5 SSD into more mainstream PC in 2026.

For the enterprise market we will sample our MonTitan PCIe Gen5 SSD controller this quarter. We are working with several enterprise and data center customers around the world and expect to generate initial revenue in late 2024, with more meaningful revenue in 2025 and beyond. Now moving to our eMMC and UFS business. Revenue from these products rebounded strongly in the third quarter and more than doubled as demand ramped ahead of the holiday season and inventory level in the channel and smartphone OEM are normalizing. Our diversified customer base of NAND flash makers and module makers have expanded our share with a leading handset OEM. UFS 3.1 as well as the UFS 2.2 solution remains a dominant interface for smartphones and we continue to win new programs with both flash makers and module makers.

UFS 4 is only adopted by factory smartphone today and we do not expect to see adoption of UFS 4 into mainstream smartphone until 2025. We are working on our own UFS solution also using 6-nanometer process technology to deliver higher performance while maintaining the same power consumption of the UFS 3.1. We expect to tape-out the product in early January and start sampling in the first half of 2024, with mass production expected in early 2025. We are already engaged with the flash makers as well as module maker targeting leading handset OEMs and on track to meet their expected ramp for UFS 4.0 in 2025. We are also seeing expanding use case of eMMC and UFS beyond smartphones and have significant wins already in the automotive IoT, commercial and industrial market with NAND makers as well as module makers.

We believe we are well positioned to continue to see our eMMC and UFS business to continue to grow in 2024 and beyond. We have talked a lot about expanding use case of solid-state storage and I would like to highlight a particular end market as an example of our success in diversifying our business. In the automotive market our embedded SSD controller as well as our FerriSSD are making significant progress with the flash makers and module makers, targeting storage for central vehicle control unit infotainment dashboard and ADAS functions. We are shipping our controller to two flash maker already and in development with two additional flash makers for solution targeting this market. Our FerriSSD are already shipping to several top carmakers including two of the largest Japanese automakers.

As we said, we see significant opportunity beyond just smartphone and PC to continue to grow our business. And the success we are seeing in the automotive market across all our product groups is a good example of the traction we have been making. Overall, we are pleased by the progress we are making despite macroeconomy headwinds for the industry this year. Our focus on our technology leadership has yielded strong customer traction strong share in the market we serve and diversified the end market our products are using. Combined we expect all of this to drive growth in 2024 as the end market and the NAND flash industry economies improve. Now I will turn the call over to Jason to discuss our financial results and our outlook.

Jason Tsai : Thank you, Wallace, and good morning everyone. I will discuss additional details of our third quarter results and then provide our guidance. Please note that my comments today will focus primarily on our non-GAAP results unless otherwise specifically noted. A reconciliation of our GAAP to non-GAAP data is included with our earnings release issued yesterday. In the third quarter we grew sales 23% sequentially to $172 million. SSD controller sales grew 5% to 10% sequentially. eMMC and UFS controller sales more than doubled sequentially, as we benefited from ramping holiday season build and normalizing inventory levels. SSD solutions sales decreased 5% to 10% sequentially. Gross margins in the third quarter were stable sequentially and remained at 42.5%.

Operating expenses in the third quarter were $49.5 million, $1.5 million higher than the prior quarter primarily from higher R&D expenses to support our technology leadership. Operating margin in the third quarter was 13.8%, an increase from 8.3% in the second quarter. Our effective tax rate in the third quarter was 22.8% an increase from the 12.7% tax rate in the second quarter. Earnings per ADS were $0.63, 67% higher sequentially. Stock-based compensation and our operating expense, which we exclude from non-GAAP results was $3.8 million in the third quarter. We had $350.3 million of cash, cash equivalents restricted stock and short-term investments at the end of the third quarter compared to $305 million at the end of the second quarter. Inventory decreased again sequentially in the third quarter to $199 million from $251 million in the second quarter.

Earlier this week, our Board declared a new annual dividend of $2 per ADS. The first $0.50 installment will be paid in November. Now let me turn to our fourth quarter guidance and forward-looking business trends. In the fourth quarter, we expect revenue to be up 10% to 15% sequentially to approximately $190 million to $198 million. We expect SSD controller sales to be stable in the fourth quarter while eMMC and UFS controller sales will increase. Fourth quarter gross margin is expected to be stable and be in the range of 42.5% to 43.5%. Fourth quarter operating margin should be in the range of 13.5% to 15.5%. Fourth quarter effective tax rate to be approximately unchanged from the third quarter. And in the fourth quarter, we expect stock-based compensation in the range of $6.2 million to $7.2 million.

Let me provide some additional colour to our fourth quarter expectations. Our business will continue to rebound in the fourth quarter and sequential revenue growth is expected to be stronger than normal seasonality. Our gross margins are expected to be flat to up slightly. We expect our gross margins to improve gradually over the next few quarters, as the financial health of the NAND makers and the memory market overall slowly improves. Most of our NAND maker and module maker customers have been selling NAND products below their cost since early this year. And even with the sharp increases in NAND prices we’ve seen lately it is still challenging, especially for NAND makers. Our pricing is somewhat reflective of our customers’ challenges and as their financial conditions improve we believe we can gradually improve our pricing and our margins but it will take time.

Our cost of goods especially wafer prices remain high but we believe we can extract some additional manufacturing cost improvements over the next few quarters as well. Combined with an improving mix of new products including the new — our new Gen — PCIe Gen4 and five controllers and UFS four solutions, we believe we can gradually return to our historical gross margin levels. For operating expenses as Wallace mentioned, we will be taping out three new 6-nanometer controllers our 8-Channel PCIe Gen5 controller this quarter, our UFS 4.0 controller in the first quarter and our four channel PCIe Gen5 controller in the second quarter. The total investments to get each of these products to market are more than $15 million. So we expect our operating expense to be elevated for these three quarters and then come down a bit in the second half of next year driving additional operating margin leverage.

As Wallace mentioned our business is steadily improving as end market demand stabilizes and inventory levels normalize. We’ll continue to invest to maintain our technology leadership with best-in-class next-generation storage controllers. Our broadening product portfolio and diversified customer base will further solidify our strong foundation for continuing revenue and profitability growth. We are optimistic that industry conditions will improve and believe we are well positioned to benefit from these improving market dynamics. This concludes our prepared remarks. We will now open the call to your questions, Operator?

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Q&A Session

Operator: [Operator Instructions] Our first question comes from the line of Mehdi Hosseini from SIG. Please ask your question, Mehdi.

Mehdi Hosseini: Yes. Thanks for taking my question, two for me. First in terms of technology migration among the NAND manufacturers I wanted to better understand how increased adoption of QLC is helping you? And how should we compare that to end market system unit trend? In other words, how a smartphone, notebook unit would fare against migration to QLC? And my second question has to do with strong cash. And what would it take for a company to — or for the Board and the company to become more aggressive in a stock buyback?

Wallace Kou: So let me answer your first question Mehdi. Regarding QLC, we see the trends. All NAND makers are going to have a QLC NAND and product by late 2024. So we see QLC initially all transition to client SSD. And we believe in 2025 probably value line more than 80% of value line SSD will all adopt QLC in 2025. And we’ve seen the QLC trending into mobile phone will take time. And I believe the leading smartphone maker which will try to adopt QLC but when it’s going to be in mass production when it will create a meaningful volume we don’t know yet. All the NAND makers are trying to explore the opportunity. But we also believe QLC will enter data center sometime in 2026 or 2027. That’s why QLC becomes very, very important and it becomes a major offer for the NAND maker after 2026 2027.

Jason Tsai: And Mehdi to answer your second question about the share repurchase as you know our share repurchase program has been opportunistic in the past. We do not have a program in place today but the Board is always evaluating ways of returning cash to shareholders and share repurchase is something that they will continue to look at.

Mehdi Hosseini: If I may just a quick follow-up to Wallace, let me rephrase my first question. Let’s say, if units — units of smartphone and notebook were to go flattish next year could the migration to QLC for client SSD drive growth? Is that something that could provide additional growth drivers?

Wallace Kou: I think that we believe our customers will gain market share in 2024, although the total unit for PC might not grow very much maybe just a single-digit of 2% to 3% because our strong technology in QLC and supporting with our major controllers for both Gen4, Gen5 are going to be helping us to transition to take additional market share in 2024.

Mehdi Hosseini: Great. Thank you.

Operator: Thank you. Our next question comes from the line of Quinn Bolton from Needham & Company. Please ask your question.

Quinn Bolton: Hey guys, congrats on the nice results and outlook. I guess maybe first Wallace and Jason, can you just maybe expand on your outlook for gross margins? I know you’re looking for a gradual recovery as the market improves. But can you give a little bit of shape to that gradual? Is that 50 basis points a quarter? Is it 100 basis points a quarter? What trajectory would you see? And any thoughts on when you might get back to a 48% to 50% gross margin would be helpful?

Jason Tsai: Yeah. So, look, obviously as you know there are still a lot of challenges in the NAND flash industry. NAND makers are still struggling economically. And our goal is obviously to continue to gradually improve our gross margins and get back to where historically we were. And as the industry’s health improves, we believe our pricing, our gross margins will also improve. And as we roll out new products, the new products that we talked about just a little while ago right some of the new PCIe Gen4, Gen5 and UFS four controllers as those come out to market that will also have an uplift to our gross margins. But we haven’t provided specific guidance for next year. And certainly as we move into January report on fourth quarter we’ll have a better view on what that longer term gross margin profile looks like for next year.

Quinn Bolton: Great. And then just looking forward to the eMMC and UFS market, can you give your thoughts on market share looking forward? I think one of your customers is trying to in-source UFS 4. Does that have a significant impact on your outlook? Or do you think it’s just — there are some puts some takes, but you still feel very confident about your overall market share position in UFS? Thanks.

Wallace Kou: Yeah. We believe one of our major customer partners or NAND makers they have a internal solution controller for UFS 4 since four years ago that we know that. But as you know, we’re working closely with this particular partner because for each of the NAND makers their controller probably supports one to two generation NAND. So they have — when you have a new generation NAND and that’s the opportunity we’ve taken. So we’ll continue to discuss the future opportunity with this customer and to expand even to the additional new legacy UFS 2.2, 3.1, as well as the potential newer generation including UFS 5.0. In addition, we have engaged multiple NAND makers not just one for UFS. So we are targeting a new customer in production from late Q1 or early Q2.

And so I think because our technology expanded and because there are more NAND coming to the market and we definitely benefit for more NAND maker, which don’t have internal resource on the Wave G third-party controller like Silicon Motion to help engage with the smartphone market.

Quinn Bolton: Got it. Thank you very much, Wallace.

Operator: Thank you. Our next question comes from the line of Anthony Stoss from Craig-Hallum. Please ask your question, Anthony.

Anthony Stoss: Thank you. Wallace, you gave us some info on what you expect PC growth and that you expect to grow faster for taking share. I’m curious, if you’d offer something overall including smartphones, auto, et cetera where you think 2024 growth might be for Silicon Motion? Then I had a couple of follow-ups.

Wallace Kou: Well, I think it’s a good question, but I think we will wait for our Q4 earnings call. We’ll give you guidance. But we’re definitely looking forward to continue growing in 2024. And what scale? I think that we will give our guidance for next earnings call.

Anthony Stoss: Okay. And then following up on the comment on large Korean NAND maker now back and I believe you said in Q3, can you give us a sense of kind of design activity you have with that customer for 2024? What percentage of their share you think you’ll have?

Wallace Kou: We’re not able to comment regarding particular customer. But overall, we see significant growth opportunity with all flash makers although there is some potential consolidation, but we believe we’ll continue to see opportunity open for Silicon Motion to grow our share with our customers.