Hi. Good afternoon, everyone, and thank you for joining us today for Yageo's second quarter results webcast. Yageo is the world's largest supplier of chip resistor and tantalum capacitors, as well as a top three supplier for MLCCs and inductors. My name is Howard Kao, and I'm the coverage analyst here at Morgan Stanley. We are very honored to have Mr. David Wang, CEO, Mr. Eddie Chen, CFO, and Mr. Claudio Lollini, Head of Global Sales and Marketing of Yageo here with us today. We look forward to their insights and comments on the company as well as the market. The management team will first guide us through Yageo's second quarter results and also provide some forward-looking commentary, and after that, we will open it up to questions. At any time during the webcast, you can send in your questions in the text box on your screen.
I would now like to turn the call over to Yageo's management team for opening remarks.
Okay, dear investors, I'm Eddie Chen, the CFO of the company. In the next 10, 15 minutes, I'll guide you through the second quarter financial performance of the group. Afterwards, we'll take questions from you guys. First page. Yes. Okay. Well, overall speaking, the second quarter performance is relatively flattish from the previous one. As you can see here, the revenue is TWD 26.7 billion, we grew by about 2.5%, quarter-over-quarter. We're seeing a reasonable resilience in the sectors in the automobile, industrial, while the market for notebook and PCs was somewhat sluggish. All in all, we managed to grow the quarter-over-quarter revenue by a meager 2.5%.
Gross margin is relatively flat as well. You can see that the gross margin percentage stands at 33.2% in second quarter compared to the 33% in the previous one. Basically, the capacity utilization rate is pretty flat. We're not really seeing any big swing factors on the cost front, so we're able to maintain gross margin percentage quarter-over-quarter. On OPEX side, the OPEX dollars stand at TWD 2.8 billion, slightly up from previous quarter, or 14.2% of sales in the second quarter. Basically, the OPEX structure hasn't really changed much quarter-over-quarter.
The slight increase has something to do with the consolidation of the XSemi and the new inclusion of the Nexensos business that we acquired, effective April 1. On the operating profit, we're at 19% or TWD 5 billion. On the non-op, you notice that there's quite an increase of the non-op from 514 million to 1.36 billion TWD. Some of that is due to some one-off factors. We had over 300 million of reversal of a quality claim from the previous years that were managed to recoup.
On top of that, we continued to benefit from the favorable foreign exchange exposures as well as our positive carry from our cash investments. The net income before tax amounts to 24.1% or TWD 6.4 billion, which is about TWD 1 billion better than the previous quarter. Note that the net income in second quarter came up to TWD 3.7 billion, slightly down from the previous one. This is largely due to the second quarter tax accrual on the undistributed earnings. That is about TWD 1.3 billion or so. That alone is taking away about TWD 3.15 per share from our EPS.
You're looking at 8.92 EPS for second quarter. On the EBITDA, TWD 7 billion, percentage-wise, that's pretty flattish from the previous quarter at 36.4%. If you look at the second quarter financial performance on a year-over-year basis, you can notice that the net sales has come up quite a bit. I mean, if you recall, first half last year was relatively resilient. But since the end of second quarter, we started to feel that the market is slowing down and inventory continued to pile up. The net sales year-over-year was down by about 14.6%. Gross margin showed similar trend.
We were suffering from the idle costs or the increase of idle costs from that time. You notice that there was a 5 percentage points erosion on the gross margin percentage. Similar pattern has been there on the operating margin as well as the net income margin. Next page. Next slide. Okay, sorry for the slow. The first half income statement pretty much we're telling kind of a similar story compared to first half last year. You can see that the net sales declined by about 14% on similar pattern compared to the first quarter second quarter this year and same quarter last year.
Gross margin-wise, down by about 5.4 percentage points. Similar thing for the operating margin as well, down by about 6.1%. All in all, I think the first half last year and first half this year are telling you know the sort of market decline story. Right. Next, please. Right. I'd like to take a look at the snapshot at the end of second quarter in terms of the sales mix. Basically if you look at the sales mix by product, by region, I think quarter-over-quarter, we're seeing some signs of a recovery. Basically, the MLCC products are showing some momentum.
We do notice that there was a bit of a customer restocking in this particular product lines. All in all, I think we're not seeing a huge migration of the sales mix. On the region front, we see a bit of momentum picking up in Europe and in China as well. Next. In terms of the channel and segment, well, I think the breakdown by channel is relatively stable. The segment, we're seeing a bit of momentum picking up in auto, in industrial, and a bit in the consumer sectors. Next. Right. Here's a look at the balance sheet.
We were able to expand our balance sheet by marginally by about 4.4%. We're close to TWD 300 billion in terms of the scale of the balance sheet. We continue to increase the liquidity. I mean, the cash balance this quarter stands at about TWD 73.8 billion compared to TWD 65 billion last. You can see that the inventory at that TWD 25 billion is relatively flat from the previous quarter. The company has continued to keep our inventory at a reasonable level. Rather, we'll continue to try to digest the inventories away, but then I think the market is somewhat flattish at this point.
You also notice that the company has managed to bring down its net financial debts. Right now it stands at about TWD 14.4 billion. That's down from TWD 19 billion last quarter. I think that's largely provided by our operating cash flow. Overall, we're seeing good liquidity and improving gearing ratio for the company. A very sound balance sheet for the group. Next. I'll leave David to comment on the guidance for the quarter.
Thank you, Eddie. Before we give the quarter three guidance, let me have some more remarks on the quarter two result and also the current market situation. For our Q2 result, I think in terms of revenue, gross margin percentage, and the operating margin percentage, no surprise, they all met the guidance we had on the last conference call. For the last 12 months, which is since 2020 to quarter two, we had a quarter-on-quarter revenue decline. Mainly this is because of the softer market demand and the general inventory correction. Since then, so a year ago, on purpose, we had to reduce our production utilization in order to control our inventory. This is one of the main reason that we see the gross margin erosion in the last 1 year.
The good news is that I think we see the current market seems to reach its bottom. However, we do not see signs of very strong recovery yet. We believe the softer market demand and the general inventory correction might continue another 1 to 2 quarters. Going forward, therefore, the quarter three, our next quarter guidance, revenue will be flat. Gross margin and the operating margin percentage will be flat or slightly better. Because of this flat outlook, in quarter three, next quarter, we'll continue to control our production utilization to the same level in the quarter two, which is for the premium and special product, the utilization, production utilization will be kept around 70%. For commodity, utilization will be between 40%-50%. Thank you.
Great. Thank you so much for that, Eddie and David. Again, as a reminder, please send your questions in the text box on your screen, and we will get to them shortly. Now we will move into the Q&A session. While we wait for questions to come in, maybe I can ask the first question. Maybe the question is to you, David. You mentioned that utilization rate, you guys are trying to keep it unchanged quarter on quarter. Your revenue guide is flattish QOQ. Your margin, you guys have said is flat to slightly up.
I guess my question is, where do you think the margin improvement, even though maybe only slightly, where do you think that may come from? Because quarter-on-quarter, we still have the continuous cost improvement program. Although we suffer the idle cost, but we certainly can compensate something from other cost item. That's why we give you the guidance that it can be a slight improvement in next quarter, although the revenue is flat and also the utilization will be flat.
I see. Got it. Understand. As you guys look out into Q4, I know maybe visibility right now is a little bit limited, but any kind of preliminary comments on Q4 outlook?
We believe. Again, as I mentioned earlier, because we see the softer market demand and the inventory, general inventory correction will continue another 1 to 2 quarters. I think quarter four will be kind of flattish.
I see. Got it. Thank you. Maybe we can move to questions from online. There's a question here asking about more details on these quality claims that Eddie, you mentioned earlier. What was that about, and whom was it from?
That was from the KEMET legacy brands. That was from years ago. I can't really name the clients though. There was a provision made back then to sort of cover the potential quality claim with customers. Over years of negotiations and discussion with the customers that we were able to clear the page with customers with a much better outcome. We were able to accrue that usual provisions.
Understand. A question here on inventory. Please could you talk about how your inventories have changed over the past 12 months?
Well, if you look at it from balance sheet, you can see that we pretty much bring down the overall inventory balance from TWD 28 billion to TWD 25 billion. In terms of days, right now I think we're around 730 days level. This is pretty much where we were second quarter last year. I think over the course of the year's time, we've managed to bring down the overall inventory balance. We were able to bring down the turnover days as well. I wouldn't say that we're at the perfect situation yet, but then I think the trend is there. It's really the market demand that we haven't really strongly felt coming back.
Otherwise operational-wise, I think we've done everything we could, and we continue to work on that to meet the market situations. Right now I wouldn't say it's a perfect situation for inventory, but then I think we are in the right path and continue to proceed mitigation there.
I see. Thank you. Maybe can I just follow up on that inventory question? It seems like from an absolute level, inventory levels ending in Q2 is flattish QOQ. I guess I thought maybe we could have worked on from an absolute dollar perspective inventory levels a little bit in Q2, given the kind of still subpar utilization rate. But seems like it was just flattish. Is there any reason why it wasn't worked down more from an absolute dollar perspective?
I think the market is still not showing strong signs of recovery. That's number one. The inventory digestion is still taking place, you know, across different dimensions. I suspect that the currency played a little bit of a role in there as well, cause the stronger dollar somehow has boosted up, you know, the value of the inventory. That could be marginal. Overall I think that's the main issue that's happening in the marketplace that's not really helping out.
I see. Got it. Thank you. There's a question here on MLCC. I think in the prepared remarks, you mentioned that you guys are seeing some restocking demand in Q2. Is there any more color on what segment that is coming from?
Howard, I can comment on that. We have still a very high presence in a variety of segments for MLCC. Remember we sell to the market the KEMET brand and the Yageo brand, so we really cover full spectrum there. The KEMET brand of the MLCC is widely adopted in automotive, and that segment continues to be strong and continues to have extensive backlog. While the Yageo MLCC is mostly more exposed to consumer computing business, and there has been some moderate improvement there in Q2 and some moderate improvement for the second half. Not significant, but enough to drive the increase.
I see. Thank you. There's a question here on tax rate. What is your tax rate forecast for this year?
We'll probably settle in the range of 20% to 23%. Second quarter definitely is an, you know, anomaly. If you look at the second quarter last year, I think we're exhibiting a similar pattern because of the undistributed earnings tax. Overall, I think we managed to.
We've always managed to maintain that ETR at around 22% to 23%.
I see. For Q2, I think yours came out to be about 40, a little bit over 40% tax rate. I think you guys have mentioned that you guys will likely keep the dividend payout ratio largely unchanged. Is that something we can expect for next year Q2 as well?
Too early to call that, but then I think that that's pretty much the idea. I mean, we like to keep certain liquidity to ourselves to manage the growth opportunities.
I see. Got it. There's a question here on Heraeus Nexensos, and how the acquisition is coming along. The question is more on how Yageo can incorporate their products into the portfolio, like the EV heat pump application.
Howard, can you repeat the last piece of the question?
The question is, how do you incorporate Heraeus' product into your portfolio, especially for the EV heat pump?
Yeah. Yeah. Well, first of all, the integration was successful. The closing was on time. We managed to plug all the systems in the right manner, so shipments have been flowing as expected, and this is always the most important thing when you have an integration. In terms of sales portfolio integration, we kick off already synergy meetings with the Nexensos team. They have a very strong portfolio. They have very good customer presence, but they have also limited exposure to the channel and limited exposure to certain markets. The two teams are working together to make sure that we accelerate their growth plan. Then, there will be jointly cross-selling activities.
For any customer that is buying Yageo Nexensos sensor product, then we will introduce immediately the rest of the Yageo Group portfolio and vice versa. It's a very complementary offer. As you know, we had other type of sensor, but not temperature sensor. It plays very well. In particular, it plays very well in the EV segment.
Yeah. Is there any further kind of details you guys can provide us on how these cross-selling synergies have been coming along? Is that something we already started to see in Q2, or is that something we expect to see in the second half of the year or maybe in 2024?
Definitely not in Q2. I think, let's not forget that that's a product that requires design-in activities or design cycle, especially if you are targeting automotive customer, can take anything between six months to up to a year or two. There is also activity in distribution where we can have a faster turnaround. We expect some positive momentum in the second half of the year, but I would say majority of those actions will play out next year.
Got it. Thank you. There's a question here on smartphone. You guys have some exposure to a very large North American smartphone brand. The question here is, how do you expect that to play out in your Q3 outlook, when the phone is launched in September?
At the moment, we do see some marginal moderate improvement for the second half. Still early to really quantify that impact exactly. There is positive momentum in the second half compared to the first half. I would also use as a reminder that the year-over-year trend is still a negative trend. Although we see improvement in the second half, when you compare that business versus a year ago, it's still a decline.
I see. Thank you. Just on, as a follow-up to that momentum and outlook, is there any further kind of color on how volumes and pricing are playing into that guidance? Either from a sequential Q-over-Q perspective or a year-on-year perspective?
Quick comment from me on pricing. I would say so far we see fairly stable pricing for our premium business and for our commodity business. No significant trend in either direction. There is the usual pressure on ASP, obviously, that comes with the nature of the product, but we have not seen any major change.
I see. It's fair to say that in terms of pricing, likely you will continue to see seasonal kind of declines and pressures, but nothing more substantial than that. Is that the correct way to put it?
Yeah. Nothing out of the ordinary. Yes.
Got it. All right. Can we come back to, you know, in terms of M&A, you know, Nexensos was acquired on April, but you still have a Telemecanique Sensors that is expected to close in the second half of this year. Is there any updates on the progress of this acquisition?
We're still in the closing mode. Well, the target is still trying to close that by end of the year, so that plan hasn't changed. There are regular contacts, interactions between the multiple teams there. I would say it's in progress, but I can't really comment on the exact timing of the closing yet. It's going to be hopefully by end of the year. Yes.
I see. You guys don't foresee any kind of hiccups, from here until your end?
Even if there is, it's going to be pretty marginal. Yeah.
I see. Got it. In terms of, I guess similar to acquisition, just going to XSemi, you guys have now consolidated that, I guess, as part of the Yageo Group now that you guys have majority share. Is there any other, you know, details you can share with us on how you guys expect to benefit or grow the MOSFET business going forward?
Yeah. I think that divestment is more of a redirection of resources in terms of the strategic initiatives. Obviously, the XSemi has been pretty aggressive in expanding its product development for SiC or power IC, MOSFET, et cetera. We gradually found that there was a growing lack of consistent focus on the team. After several rounds of discussion with our partner, I think we decided that we should divide the efforts a little bit on the front end in SiC and power IC.
We decided to carve that out, because there's more related to product development, R&D efforts, a lot of resources, we have to be prepared for the end products. Whereas the MOSFET part of the business is much more mature and ready to be promoted. I think we've somehow decided to make like the XSemi business and have that carved out and leave the XSemi as still a joint venture between Hanwha and Yageo, but more focused on the MOSFET business development. That was sort of the refocus of the business strategies.
I see. Does that mean that, going forward, cause I think Silicon Carbide, SiC, is still a very big potential market? Does that mean going forward, Yageo, in terms of the Yageo Group, will have limited access to that market?
No. I think the partnership between Hanwha and Yageo is still there. I mean, we'll continue to sort of, you know, collaborate on any fronts that's going to help out the business, collaboration. It's just that at this stage, I think the focus obviously is slightly different given the fact that the XSemi part of the R&D efforts is probably more geared, more turning to whatever Hanwha is deploying it. We're much more ready to expand the more mature business in MOSFET. So that's really the redirection of resources. It doesn't mean that we don't collaborate on the potential markets going forward.
I see. Thank you. Just last one, on this is, can you share a little bit on, more details on the strategy, you guys look to implement, to grow this business within, for MOSFET and for XSemi?
I'm sorry, you were talking about the new XSemi, right?
Yeah. Just any details around the kind of strategies you guys are looking to implement to grow this business?
I would say maybe Claudio can comment more. Obviously the more focus on the MOSFET business, like I said, is more mature and it's more ready to go. Obviously, I think Yageo has a great distribution channels that really carry the products in terms of the nature, in terms of customer reach, et cetera. I think that's a low-hanging fruit, and being able to be more focused on that marketing strategy would enable XSemi and Yageo to benefit from that efforts.
I can supplement what Eddie just said, the customer base who's gonna buy MOSFETs is the same customer base that is buying today the rest of the Yageo Group products. These are not completely new conversations. Also here there is a design cycle that we have to consider, but when it comes to distribution and stocking packages with XSemi-branded MOSFETs are now available in some of our partners. That will be the start of creating that AVL adoption in our customer base. The strategy is first to look at leveraging the channel, what you can consider being a more platform type of sales. Shortly after that, we're going to deploy our sales organization around some of our key OEMs and ODMs for the rest.
Again, expectation for the rest of the year, I think, somewhat limited and a little bit because of the timing, the visibility design cycle. There is no doubt that this is a line we want to grow significantly for next year.
I see. Thank you so much. There's a question here regarding second half outlook. The question is, why is some of your Japanese peers seeing a QOQ recovery while your forecast is flattish QOQ until end of the year?
I think, well, I can't really comment on their outlook, but I suspect that we're probably in a different position in the sense that they probably suffered more retreat from their business momentum in the previous quarter. Hence, the stronger, I'll call it, rebound or recovery from that prior quarter. That's my suspicion. If you look at Yageo, I think quarter-over-quarter, we're able to maintain somewhat flattish momentum, you know, amid the market backdrop. I think it's a different pattern that we're showing.
Got it. Thank you. Just going to automotive, I think, Claudio, you mentioned that the backlog you guys are seeing in automotive remains quite extensive, but there's a question here just asking you to provide a little bit more color in terms of demand and outlook for the second half, particularly whether you see a slowdown in terms of demand for autos.
There has been. The backlog I refer to is the KEMET-branded ceramic, which is not the only product we sell in automotive. In that particular case, the backlog remained extremely healthy. In terms of overall demand, EV continued to grow, although the pace at which it's growing this year may not be the same pace that we've seen in the past. Directionally, we continue to be very strong. In general, we have seen and observed with some program that has suffered some push out, not necessarily cancellation, but I think our automotive customers are also trying to rationalize their demand. They're also confronting their programs with their supply chain lead time.
In case of lead time that are contracting, then they tend to reforecast their needs and so we see a lot of that movement. All of these, in the end, translates into a demand that continue to be stable, fairly strong, no significant downtrend in automotive that we see.
Got it. Can we parallel into industrials? Any comments on the outlook for the industrial segment?
Yeah. Industrial has been positive, led by Europe, which is very industrial driven in terms of segments. We have been enjoying solid growth in our industrial segment and it continues to show positive momentum for the rest of the year.
I see. Got it. Thank you. Just going back to MLCC, there's a question here saying you guys are expecting or you guys said MLCC demand is improving, but the guidance is flattish. Like, which segment is showing slight decline or moderation?
We continue to see a demand from our notebook PC market below expectation. I think when you factor that, for example, into the broader picture, then you do have that offset somewhat.
I see. Would that be related to tantalum capacitor outlook being a little bit more moderate in the second half of the year versus the first half?
For example. Although tantalum is also adopted in servers, where we see some improvement. Yeah.
I see. Got it. Maybe just going to end demand, and the most asked questions here today is your exposure to server, you know, which end segment or which technology, I guess I should say, in terms of MLCC, R chip, tantalum or inductors have the highest exposure to servers?
All those products have exposure to servers. I would say that we are pretty balanced when it comes to product mix in the server market. I wouldn't be really able to say that there is a product that is more predominant. We have probably significant market share across all products in the server. I'm thinking about our inductor from the Pulse brand is certainly a very strong presence. I'm thinking about the acquisition we did with Chilisin to reinforce that position. Even from our previous acquisition from TOKIN, we have a good portfolio of inductors that can be deployed in server. That is very complete. At the same time, our tantalum product offers great capabilities in server because of the volumetric efficiency that you can achieve with tantalum capacitor.
When you go into resistor and MLCC, I mean, it's hard to find an application that doesn't use MLCC and resistor, so they are so ubiquitous to anything out there. I would say with the exception maybe of our more specialized and larger product in film technology or aluminum electrolytic, everything else is very much used in server.
I mean, the next question is then on AI. Now that, you know, the market is talking about AI servers and the potential growth in terms of demand over the next several years, how do you think Yageo would benefit from this trend? And is there any way we can kind of think about the potential growth in terms of the market opportunities over the next 2 to 3 or even 5 years?
Yeah. When it comes to AI, it's important to frame correctly what that means. AI really drives hardware devices that have to deal with a much higher need for computing power. You have now, thanks to ChatGPT or other autonomous vehicle requirements, the amount of data that needs to be processed thanks to AI model is exponentially high. That drives a type of hardware, like server in this case, that need more components, and need components that are capable to provide that higher computational need capacity. Volumetric efficiency, higher voltage, harsh environment. When it comes to Yageo, the participation is very active, very positive.
If you think about companies that are pioneering the AI world out there, some of the big names you hear, NVIDIA, Google, Microsoft, they're all our customers, and they're all our top customers. When it comes to server and AI server, there is a number of reports and research out there that try to do exactly that, measuring how many of those server today are considered AI. The number I've seen is still a very low single digit, between 3% to 4%. But it is growing. It is estimated that that piece of AI server is growing several times, a factor of several times compared to a standard server. In that sense, we will see the same growth.
We participate in that growth and our products that are more tailored towards that, providing that higher voltage, harsh environment, and higher volumetric efficiency will see that growth as well. But the overall percentage of AI-enabled server is still at the beginning.
I see. Maybe I know it's a bit hard to quantify, but from, if you compare an AI server to a normal server, is it safe to say that the amount of different passive components will increase by a pretty sizable magnitude, which will result in a larger dollar content for you guys per box?
Yeah. I think as a general statement, I would say that is correct.
I see. When you guys look at, you know, this opportunity, do you guys prioritize or view this as big of an opportunity as you guys view the automotive market?
Well, AI plays a role in automotive too. You think about all those NVIDIA products, graphic cards that will support autonomous driving, that is very much AI, and we've been participating in that for already several years. It is a very attractive growth opportunity for us. We are geared towards that, and we have active new business opportunities with all the major customers today already in our pipeline.
I see. Can we just get some color on your exposure to server today and which category is it booked under?
Server is including in what we call computing, computer.
Okay. I see. For your kind of server exposure in computer, are you able to, you know, give us a breakdown as to what percentage of that is server today or?
Not at this moment. We have in there servers as well as notebook and desktop solid-state drives equipment. There is a variety of devices that they all flow into that.
Got it. Thank you. When we look at this server industry, are there passive components that you guys ship? Does that need to pass a qualification of the end customer who are actually buying the server? Or do you have to pass just the qualification with the ODMs?
It's a mix. It depends very much on the strategy of the end customer. Some brand over the years decided to take more direct control of even the passives to be in the bill of material. In that case, we have to at least gain qualification at that level before we can dialogue with the third party contract manufacturer. In other cases, the end customer, the brand of the end customer, not necessarily control in details the passive components bill of material, and delegate that to the CM. I would say it's a mixed bag.
I see. Got it. Thank you for that. Can we just go back to your fourth quarter kind of preliminary comments earlier, David? The question here is, does that comment of roughly flattish QOQ for Q4 include the acquisition of Telemecanique Sensors?
No. No. That has not been factored into the outlook.
Got it. I see. Can you give us an update on your CapEx guidance for this year and maybe for next year?
We'll continue to spend about 35% to 36% of our EBITDA dollars in CapEx. This year, I think we'll probably come in the range of about TWD 14 billion-TWD 15 billion.
14 to 15. Got it. That will mostly be spent on your factory in, down south?
That one is part of it. There are some other projects at different regions. Yeah.
Got it. I see. Maybe lastly, just any kind of update on the midterm target that you guys have set forth a while back?
I think the still the midterm target is still remain unchanged. We know for the time being it's going to be a challenge, but we see when the market rebound, when we increase our utilization, I think we can get closer to that kind of target. That midterm target remain unchanged.
I see. Got it. All right. I think that's all the questions we have for today. I think we're getting pretty close to the one-hour mark as well. In the interest of time, maybe this will conclude our webcast today. Thank you again, David, Eddie, and Claudio, and thank you everyone for joining us today.
Thank you.
Thank you.
Thank you, Howard Kao.
Thank you. We'll see you next time.
See you.