U.S. Markets close in 3 hrs 59 mins

Edited Transcript of MX.N earnings conference call or presentation 30-Jul-19 9:00pm GMT

Q2 2019 MagnaChip Semiconductor Corp Earnings Call

Aug 3, 2019 (Thomson StreetEvents) -- Edited Transcript of MagnaChip Semiconductor Corp earnings conference call or presentation Tuesday, July 30, 2019 at 9:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Bruce Entin

MagnaChip Semiconductor Corporation - Head of IR

* Jonathan W. Kim

MagnaChip Semiconductor Corporation - CFO, CAO & Executive VP

* Young-Joon Kim

MagnaChip Semiconductor Corporation - CEO & Director

================================================================================

Conference Call Participants

================================================================================

* Rajvindra S. Gill

Needham & Company, LLC, Research Division - Senior Analyst

* Sujeeva Desilva

Roth Capital Partners, LLC, Research Division - Senior Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Hello, and welcome to MagnaChip Semiconductor's Q2 2019 Earnings Conference Call. (Operator Instructions) And now I would like to introduce your host for today's call, Bruce Entin, Head of Investor Relations. You may begin.

--------------------------------------------------------------------------------

Bruce Entin, MagnaChip Semiconductor Corporation - Head of IR [2]

--------------------------------------------------------------------------------

Thank you, Twanda, and thank you for joining us to discuss MagnaChip's financial results for the second quarter ended June 30, 2019. The second quarter earnings release that we filed today after the stock market closed and other releases can be found on the company's Investor Relations website. A telephone replay of today's call will be available shortly after the completion of the call, and the webcast will be archived on our website for one year. Access information is provided in the earnings press release.

Joining me today are YJ Kim, MagnaChip's Chief Executive Officer; and Jonathan Kim, our Chief Financial Officer. YJ will discuss the company's recent operating performance and market outlook for our product categories, and Jonathan will provide an overview of our Q2 financial results and provide financial guidance for Q3 2019. There will be a question-and-answer session following today's prepared remarks.

During the course of the conference call, we may make forward-looking statements about MagnaChip's business outlook and expectations. Our forward-looking statements and all other statements that are not historical facts reflect our beliefs and predictions as of today and therefore are subject to risks and uncertainties as described in the safe harbor discussion found in our SEC filings.

During the call, will also discuss non-GAAP financial measures. The non-GAAP measures are not prepared in accordance with generally accepted accounting principles but are intended to illustrate an alternative measure of MagnaChip's operating performance that may be useful. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP measures can be found in our second quarter earnings release available on our website under the Investor Relations tab at www.magnachip.com.

I now will turn the call over to YJ Kim. YJ?

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [3]

--------------------------------------------------------------------------------

Welcome to everyone on the Q2 conference call. Revenue of $205.1 million surpassed the updated guidance we provided on June 11 and represented the highest revenue recorded in a second quarter since our IPO in 2011. Sequential revenue growth of 30.4% was due to strong customer demand across the board and throughout the quarter.

Revenue for the OLED and Power businesses both set records, and Foundry revenue rose sharply over Q1. An increase in wafer loading in the Foundry business led to higher fab utilization that helped lift our gross profit margin in Q2 to 21.4%.

On our Q1 earnings call on April 30, we provided Q2 revenue guidance of $173 million to $181 million or up 12.5% at the midpoint of the range. On that call, we guided for sequential OLED revenue growth of approximately 30% in Q2 and predicted that Foundry revenue would be about flattish in Q1. Our guidance, at the time, reflected our best estimates during a period of low visibility across the industry and widespread concerns about macroeconomic uncertainty and fears of a trade war.

When it became clear that we were on track to significantly exceed the high end of the guidance range, we updated our Q2 revenue guidance on June 11 to at least $194 million. We also updated our gross margin guidance to at least 21% from 16% to 18%. When all was said and done, we executed well in Q2. We surpassed revenue expectations in each of our 3 business lines and met our updated gross margin guidance.

Let's review Q2, beginning with OLED. OLED revenue of $73 million was a record. Revenue increased 50.4% sequentially, which exceeded our April guidance of approximately 30% sequential growth and increased 17.4% from the previous record of $62.2 million in Q2 a year ago.

OLED revenue represented 86.7% of our Display business as compared to 83.3% in Q1 2019 and 79% in Q2 a year ago. For the first half of the year, OLED revenue was $121.6 million, up 25.9% from the first half of 2018.

Our OLED business in Q2 benefited from the launch of 6 new OLED smartphones in Asia. Our current family of 40-nanometer Display drivers accounted for the majority of OLED revenue in Q2, but our ultralow power 28-nanometer Display driver is now in mass production, and will be a major contributor to the revenue in future quarters.

We had 4 new designs wins in Q2, including 2 for the 28-nanometer driver and 2 for a 40-nanometer driver. Since its introduction a few months ago, the 28-nanometer Display driver has had a total of 3 design wins so it is off to an excellent start. The 28-nanometer driver features more than a 20% reduction in chip size and power consumption as compared to the previous generation Display drivers. It also supports various display types, such as rigid, flexible, foldable and VR and AR applications, and maximize design flexibility for the latest full-screen displays, such as bezel-less or fold-type displays. It also supports various interface technology like optical sensing and fingerprint on display.

Our OLED business strategy is to innovate our way to future success. We have developed 2 new 28-nanometer display drivers that are being sampled at major smartphone OEMs. We also have 2 new 40-nanometer display drivers currently being sampled, and another 40-nanometer device that's being taped out in preparation for sampling. By the end of this year, we'll have a total of 7 40-nanometer display drivers and 3 28-nanometer drivers in various stages of design and production that will set the stage for continued growth.

During Q2, we achieved the modest amount of shipping a cumulative of total of 500 million OLED display drivers, which reflects our long track record of success as the industry's high-volume and leading independent supplier of OLED DDICs to 2 world-class panel makers in Korea.

Let's turn now to our Power standard products business in Q2. Power revenue of $47.7 million set a record and increased 13.5% sequentially and 19.2% year-over-year. In the first half of 2019, Power revenue was $89.8 million, up 14.1% from the first half of 2018. Premium Power products, including Super Junction MOSFETs, IGBT and Power ICs accounted for 53.6% of total Power revenue and was nearly 13% quarter-on-quarter up.

Demand was especially strong for Super Junction MOSFETs, a product that generated its sixth consecutive quarter of record revenue. Demand came primarily from the UHD television segment and industrial lighting markets. Revenue for battery FET devices, which help protect lithium-ion batteries in devices like smartphones, was at its highest level since the business launched in 2008. We are currently in develop on a -- about a dozen different battery projects in Asia and have the #1 market share for battery FET at a leading smartphone maker.

Looking ahead, we continue to view the automotive market as a long-term growth opportunity for our Power business. We currently are engaged with a half dozen designs projects in the automotive sector where our Power products match up well in industry requirements. This is especially true for electric vehicles that need high-speed switching devices to control the speed of electric motors. We continue to believe that the automotive sector will account for approximately 5% of our Power discrete revenue in 2021 and 10% in 2022, due mainly to sharp growth expected in EVs.

Now turning to the Foundry business. Foundry revenue was $73.1 million, down 9.7% from Q2 a year ago and up 28.1% from Q1 of this year. The year-over-year decline was far less than we had anticipated, and the double-digit sequential increase was better than our April guide for flattish sequential results. On the Q1 earnings call back in April, we said Foundry weaknesses stem from a customer inventory correction as well as our decision to be more selective about taking new Foundry business as a result of strategic evaluation process of the Foundry business and Fab 4. However, we also added on that call that customer inventories were slowly being worked down, the China market appear to be leveling off and that several new products from Foundry customers were in early-stage production.

As it turns out, new products in early-stage production ramped faster than we expected in Q2. Demand was especially strong from the computing segment, but we also saw positive signs from the consumer and communications segments. Foundry demand also increased for BCD square PROM and mix signal technologies and another encouraging sign was that the number of tape outs increased in Q2 versus Q1.

On the Q1 earnings call, we also said that current market conditions at that time pointed to a gradual improvement for the Foundry business in the second half of the year. However, it's clear now that the improvement we projected started a quarter sooner than we expected. As it stands now, we expect continued sequential improvement in the Foundry business in Q3.

As the strategic -- as for the strategic evaluation of the Foundry business and Fab 4, I'm encouraged by where we are in the ongoing process. Our decisions regarding the outcome of the strategic evaluation process will be guided by what the Board and management consider to be the best available path to improve MagnaChip's profitability and to maximize shareholder value. There has been a lot of really good analytical work done by -- behind the scenes by our internal strategy team, our outside advisers, and the Board has been actively engaged with our management team as we consider the range of possible options, including, but not limited to, joint ventures, strategic partnerships (inaudible) stay tuned.

Now I'd like to share my perspective on the business environment. Looking back on the first half of 2019, we've met or surpassed expectations while also contending with macro uncertainty, fears of a trade war and on industry-wide customer inventory correction. In past conference calls, we indicated that total revenue for 2019 likely would decline by no more than mid-single-digit percentage points as compared with 2018 despite weakness in Foundry. However, with our higher-than-expected revenue performance in Q2 and expected sequential growth in Q3, we now believe total revenue in 2019 has the potential to show modest growth over 2018. We currently expect revenue to grow between 7% to 12% in Q3 over Q2, but we remind you that quarterly distribution of revenue for each business typically varies widely, especially in Q4 and Q1, due to seasonality and other factors.

Now I'll turn the call over to Jonathan and come back for the Q&A. Jonathan?

--------------------------------------------------------------------------------

Jonathan W. Kim, MagnaChip Semiconductor Corporation - CFO, CAO & Executive VP [4]

--------------------------------------------------------------------------------

Thank you, YJ, and welcome to everyone on the call. Let's start with revenue for the 2 business segments and then move to a review of profitability, fab utilization, operating expenses and balance sheet items.

Revenue in the Standard products group, which includes Display and Power business lines, was a record $132 million, up 11.2% year-over-year and 31.6% quarter-over-quarter. Display revenue was a record $84.3 million, up 7% year-over-year and up 44.7% quarter-over-quarter. The year-over-year improvement in the Display business was offset in part by a continuing strategic reduction of our lower margin LCD business of 31.9% from a year ago. As stated previously, Power revenue was a record $47.7 million, up 19.2% year-over-year and up 13.5% from Q1.

The Standard products group represented 64.3% of total revenue, up from 59.5% in Q2 a year ago and slightly up from 63.7% in Q1 of 2019. Display was 41.1% of total revenue in Q2, up from 39.4% a year ago and up from 37% in Q1 2019.

Power was 23.3% of total revenue, up from 20% in Q2 a year ago and down from 26.7% in Q1 2019. The Foundry Services Group represented 35.6% of total revenue, down from 40.5% in Q2 a year ago and down from 36.3% in Q1 2019.

Let's now recap profitability metrics in Q2. Total gross profit was $43.8 million, down 18.6% compared to a year ago, and up 93.1% from $22.7 million in Q1 of 2019. We believe gross profit is an important financial metric to monitor because of the potential flow-through to operating income, adjusted EBITDA and cash flows. Total gross profit margin of 21.4% in Q2 met the updated gross profit margin guidance we provided on June 11. Gross profit margin was down from 27% a year ago and up from 14.4% in Q1 of 2019. The sharp improvement in the total gross profit and gross profit margin in Q2 versus Q1 was due primarily to an increase in fab utilization as a result of higher-than-expected wafer loading and better-than-expected revenue in the Foundry business as well as an increase in our OLED revenue.

Fab utilization in Q2 was in the low 80% range as compared to the mid- to high 60% range in Q1, and compared to the low 90% range in Q2 of 2018. We currently expect that fab utilization will increase in Q3 primarily due to an anticipated increase in Foundry revenue.

Gross profit from our Foundry Services group segment was $12.2 million, down 45.1% from 22.2% million in Q2 2018 and up more than threefold from $3.6 million in Q1 of this year. Gross profit margin in Foundry was 16.7% versus 27.4% in Q2 a year ago and 6.4% in Q1 of this year. Gross profit from our Standard products group segment was $31.6 million or flat as compared with $31.6 million a year ago and up from $19 million in Q1 of 2019. Gross profit margin in SPG was 23.9% as compared to 26.6% in Q2 a year ago and 19% in Q1 of this year. Gross profit and gross profit margin in Q2 of 2019 benefited from an increase in revenue of OLED Display drivers and premium Power products but was impacted by a reserve of $2.2 million related to a legacy Display product.

Turning now to operating expenses in Q2. SG&A was $17 million or 8.3% of revenue as compared to $18.9 million or 9.5% of revenue in Q2 2018 and was down 6.1% from $18.1 million in Q1 of 2019. The year-over-year decline was attributable primarily to decreases in certain employee incentives, equity-based compensation and legal and consulting service fees. Looking ahead, SG&A expense for the second half of the year will be about flattish with that what we reported in the first half of 2019.

R&D was $19 million or 9.3% of revenue compared to $21 million or 10.5% of revenue in Q2 2018 and $20 million in Q1 2019. The year-over-year decrease was primarily attributable to a decrease in certain employee incentives and a decrease in outside service fees and various overhead expenses. Operating expenses, excluding special charges in 2019, are expected to be slightly lower than 2018 as we continue to focus on cost control.

Turning now to the balance sheet. Cash flow is $103.8 million at the end of Q2 as compared to $105.8 million due primarily to an increase in gross profit dollars. We generated net operating cash flow of $28.8 million in Q2 and $17.2 million in the first half of 2019. Accounts receivable totaled $96.8 million, an increase of 5.1% from $92.1 million in Q1. The increase in accounts receivable in Q2 was attributable to the timing of payments from certain customers. The related payments were all collected during the first week of Q3.

Inventory totaled $67.2 million, down 16.8% from $80.8 million in Q1 as we continue to focus on balancing the need between meeting customer demand and keeping inventories lean. CapEx was $3.8 million in Q2 as compared to $11.2 million in Q1 and $8.4 million Q2 2018. CapEx for 2019 will be lower than the normalized CapEx expenditures made in 2018, which was approximately $29 million.

With that, here is our guidance for Q3. For the third quarter of 2019, MagnaChip anticipates revenue to be in the range of $220 million to $230 million, up 9.7% at the midpoint of projected range when compared with revenue of $205.1 million in the second quarter of 2019 and up 9.2% year-on-year when compared to $206 million revenue recorded in the third quarter of 2018.

Revenue guidance for the third quarter reflects a current expectation that revenue for both Standard products group and Foundry Services Group will show sequential improvement as compared to Q2 2019. Gross profit margins to be in the range of 22% to 24% as compared to 21.4% in the second quarter of 2019 and 27.1% in the third quarter of 2018. Gross margin guidance for the third quarter primarily reflects the current expectation that fab utilization will show sequential improvement from the second quarter of 2019.

With that, I'll turn the call back to Bruce. Bruce?

--------------------------------------------------------------------------------

Bruce Entin, MagnaChip Semiconductor Corporation - Head of IR [5]

--------------------------------------------------------------------------------

Thank you, Jonathan. So Twanda, this concludes our prepared remarks. We would now like to open the call for questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question comes from line of Sujeeva Desilva with Roth Capital.

--------------------------------------------------------------------------------

Sujeeva Desilva, Roth Capital Partners, LLC, Research Division - Senior Research Analyst [2]

--------------------------------------------------------------------------------

YJ, Jonathan, congratulations on the progress here in the recovery. So the OLED market, you have very strong design momentum here. How would you describe what's happening for you guys versus the overall smartphone market? Is the overall smartphone market recovering or are you seeing secular growth in what's a stable smartphone market? Any contrast there will be helpful.

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [3]

--------------------------------------------------------------------------------

Yes. Sure. I mean according to the market studies, smartphone, overall, is -- I don't think is that growing, but OLED portion is growing and as you can see. And if you look at the market outside the high end of the Samsung or the Apple phones, most of the phones right now is a rigid or rigid variance. And we're doing very well in that regard. So I think, we have about 12 -- about dozen end customers or end users. We -- as you know, we sell directly to the panel makers, and we have about dozen end customers and so we saw a very healthy growth in the Q2.

--------------------------------------------------------------------------------

Sujeeva Desilva, Roth Capital Partners, LLC, Research Division - Senior Research Analyst [4]

--------------------------------------------------------------------------------

Okay. And then in the Power products segment, can you tell me the premium part of the Power products, has that a potential to go higher than the just over the 50% mix that it's at now or is this kind of a natural sort of mix long term with the lower end products kind of staying at levels they are as well?

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [5]

--------------------------------------------------------------------------------

Our continued desire to increase the premium products, the premium products are the Super Junction, IGBT and the Power IC, and also when the automotive start kick in a few years, that also is one of the premium products. So we hope to continue to grow the premium products segment.

--------------------------------------------------------------------------------

Sujeeva Desilva, Roth Capital Partners, LLC, Research Division - Senior Research Analyst [6]

--------------------------------------------------------------------------------

Okay. And then the last thing, on the Foundry restructuring efforts, any thoughts on the -- and the overall macro environment impact on that process? Is it realistic with the linearity you've seen here in Foundry recovery to be achieved prior mid-80s level or is that not the target here? And is the macro environment at all affecting the restructuring effort?

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [7]

--------------------------------------------------------------------------------

As we said today that the -- some of the new product that were in preproduction in Q1, we saw a very good sign of full production. Those included somewhere in the computing segment as were some in the communication and also recovering some of the existing customer base in the consumer. And so we are going to grow in the -- sequentially in Q3 as well. So I cannot say about the overall Foundry, but our Foundry has done a better than expected in Q2 and we're going to sequentially grow in Q3.

--------------------------------------------------------------------------------

Operator [8]

--------------------------------------------------------------------------------

Our next question comes from the line of Rajvindra Gill with Needham & Company.

--------------------------------------------------------------------------------

Rajvindra S. Gill, Needham & Company, LLC, Research Division - Senior Analyst [9]

--------------------------------------------------------------------------------

Congrats as well on good results. On the Foundry recovery in the last few quarters, China was a decent percentage of the Foundry business, Chinese customer. I just want to get a sense of the business environment on the ground in China as you see it. Is it improving? Or -- are your Chinese customers starting to rebuild inventory for some of your Foundry products? Any sense on the environment in China, given the whole ongoing trade -- China trade war, would be helpful.

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [10]

--------------------------------------------------------------------------------

Yes. Thanks for the question. So just to clarify, our Chinese direct customers or that Chinese companies that was established in China is still relatively small and -- so we have a tremendous opportunity to grow in that regard. And our customers, whether they are located in the U.S. or Europe or Asia, they do business in China. So again, so I think the -- all the combination, we have a lot of potential to grow, especially with the direct customer in China in Foundry. So I think that's a good place to have because we still have a lot of room.

--------------------------------------------------------------------------------

Rajvindra S. Gill, Needham & Company, LLC, Research Division - Senior Analyst [11]

--------------------------------------------------------------------------------

Okay. And on the Power business, you talked about premium products showing a lot of growth, over 50% of Power, and you mentioned specific growth in Super Junction MOSFETs, can you talk about the capacity environment, the supply environment? As you know, this is an area where there's been a lot of tight capacity for many quarters, how do we think about the ability to meet accelerating demand and what the capacity constraints are and are they being lifted from your suppliers? Any sense there will be helpful.

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [12]

--------------------------------------------------------------------------------

Yes. So again, I'm going to focus the -- our situation rather than the total market I think each maker has a different situation. But for us, as you can see that we probably outpaced the growth of the market of the discrete, we grow in the first half over double digit.

We manufacture IGBT and Super Junction internally, so we are trying to increase the output there very smartly and efficiently. We are also a leader in battery FET, which is a special battery protection FET, and so we I think one of the leader in the marketplace. And then some of the Power IC we also manufacture internally. And we have ways to grow the capacity both internally or externally, so we can continue to grow this Power business. So that's our case.

--------------------------------------------------------------------------------

Rajvindra S. Gill, Needham & Company, LLC, Research Division - Senior Analyst [13]

--------------------------------------------------------------------------------

Okay. Great. And last question for me on the OLED segment. You're seeing a lot of good traction, both on the 40-nanometer and the 28-nanometer product. Can you talk about as you're going into calendar '20, how you think about 5G as being a catalyst for OLED? Is that something that will, based on your feedback with your customers will really accelerate the adoption of OLED or is it just going to be -- you're seeing just an increase in penetration rates and having that continue given the transition from LCD to OLED?

--------------------------------------------------------------------------------

Young-Joon Kim, MagnaChip Semiconductor Corporation - CEO & Director [14]

--------------------------------------------------------------------------------

Yes. Very good question. So I think there are a couple of fronts there. One, 5G and AI, which is increasing, that's very power intensive. So having 28-nanometer Driver IC in the market, there are only 2 of us in the market do that, and that creates a compelling advantage.

First of all, our 20-nanometer is lowest power consumption device in the market. So that's a key advantage. And even for us comparing 40 to 28, we can reduce the power another 20%. So I think that becomes a compelling feature when you are building a 5G smartphone or a phone that has a lot of artificial intelligence because they tend to use more CPU Power.

Second, in terms of the LCD to OLED penetration that is happening, I was in China about 3 weeks ago and what we saw is that the -- many of our end customer or end users, they are -- in 2018 they may had 20% of the phone was OLED. They have grown that to 18% -- I mean to 30%, now looking to 40% a year later. So I see the gradual shift there.

And then the other interesting was they think the foldable is really future to go. So I think that's really good, and foldable really require one or more Drive IC and also will be very 5G-based because given the price points. So I think it all points to who is going to have the lowest Power consumption device. And I think that's going to be an edge for us.

--------------------------------------------------------------------------------

Operator [15]

--------------------------------------------------------------------------------

I'm showing no further questions at this time. I will now like to turn the call back over to Bruce Entin for closing remarks.

--------------------------------------------------------------------------------

Bruce Entin, MagnaChip Semiconductor Corporation - Head of IR [16]

--------------------------------------------------------------------------------

Okay. Thank you, Twanda. So this concludes our second quarter 2019 earnings conference call. Please look for details of our future events on MagnaChip's Investor Relations website. Thank you for joining us today.

--------------------------------------------------------------------------------

Operator [17]

--------------------------------------------------------------------------------

Ladies and gentlemen, that concludes today's conference. Thank you for your participation, you may now disconnect. Everyone, have a wonderful day.