Earnings Call: Q3 2018

Nov 6, 2018

Good afternoon, and welcome to Diodes Incorporated Third Quarter 2018 Financial Results Conference Call. At this time, all participants are in a listen only mode. Session. As a reminder, this conference call is being recorded today, Tuesday, November 6, 2018. I would now like to turn the call over to Leanne Sievers of Shelton Group Investor Relations. Leanne, please go ahead. Good afternoon, and welcome to Diodes' 3rd quarter 2018 financial results conference call. I'm Leanne Sievers, President of Shelton Group, Diodes' Investor Relations firm. Joining us today are Diodes' President and CEO, Doctor. Keishi Lu, Chief Financial Officer, Rick White, Vice President of Worldwide Sales And Marketing And Lee Yang and Director of Investor Relations, Laura Murl. Before I turn the call over to Doctor. Lu, I'd like to remind our listeners that the results today are preliminary as they are subject to the company finalizing its closing procedures and customary quarterly review by the company's independent registered public accounting firm. As such, these results are subject to revision until the company files its Form 10Q for its third quarter 2018. In addition, management's prepared remarks contain forward looking statements, which are subject to risks and uncertainties, and management may make additional forward looking statements in response to your questions. Therefore, the company claims the protection of the Safe Harbor for forward looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from those discussed today, and therefore, we refer you to a more detailed discussion of the risks and uncertainties in the company's filings with the Securities And Exchange Commission including forms 10 K and 10 Q. In addition, any projections as to the company's future performance represent management's estimates as of today, November 6, 2018. Doubt assumes no obligation to update these projections in the future as market conditions may or may not change. Additionally, the company's press release and management statements during this conference call will include discussions of certain measures and financial information in GAAP and non GAAP terms. Included in the company's press release are definition and reconciliations of GAAP to non GAAP items, which provide additional details. Also, throughout the company's press release and management statements during this conference call, we refer to net income attributable to common stockholders as GAAP net income. For those of you unable to listen to the entire call at this time, A recording will be available via webcast for 90 days in the Investor Relations section of Dial's website at www.diodes.com. Please see the company's press release for more information. And now, I'll turn the call over to Diodes' President and CEO, Doctor. Kaishu Lu. Doctor. Lu, please go ahead. Thank you, Diane. Welcome everyone and thank you for joining us today. The 3rd quarter marked Diodes' best quarterly performance in the company's history, achieving record financial results. And the 6th quarter of sequential organic revenue growth in the past 7 quarters. Our consistently strong growth reflects our aggressively past design win activity. And the continued market share gains at the new and existing customers. Which also contributed to record automotive revenue growing 27% year over year. As well as record industrial revenue increasing 32% over the same time period. This above average corporate growth has resulted in those 2 end market combined reaching 36% of the total revenue. We are closer to our goal of 40%. Diodes solid positioning with the customers, diversified product line and end markets as well as continued advancement in technology and packaging innovation. Has generated exceptionally performance across multi product categories. Including continued growth from our telecom products. Also worth highlighting is Diodes significant earning power and the cash generation as we drive revenue growth with non GAAP operating expense at our target model of 20% of revenue. Which we achieved in the third quarter. In fact, our trailing 12 month non GAAP earning per share exceeds the 2 years commanded total for 20162017. As we look to the fourth quarter, we expect to further extend our better than market performance as a result of our strong past design wins and the strong POS driving ongoing market share gains. Strength in Asia is anticipated to largely offset the typical seasonality in U. S. And Europe, resulting in our guidance for revenue being down only 1.9% sequentially. At the midpoint. Based on our current expectations, we are on track to reporting one of the best performing year in Diodes' history. With that, let me now turn the call over to Rick to discuss our third quarter financial results and our 4th quarter guidance in more detail. Thanks, Doctor. Lew, and good afternoon, everyone. As part of my financial review today, I will focus my comments on the sequential change for each of the line items and would refer you to our press release for a more detailed review of our results as well as the year over year comparisons. Revenue for third quarter 2018 was a record $320,900,000, a 5.5% increase from $304,100,000 in the second quarter 2018. Gross profit for the third quarter 2018 was also a record at $115,200,000 or 35.9 percent of revenue, representing a 7.4% increase on a dollar basis from $107,300,000 or 35.3 percent of revenue in the second quarter 2018. The increase in gross margin was due primarily and the continued 8 inches ramp in SFAD. GAAP operating expenses for third quarter of 2018 were 69,400,000 dollars or 21.6 percent of revenue $65,000,000 or 20.3 percent of revenue on a non GAAP basis. Meeting our target model exclude $4,400,000 of amortization of acquisition related intangible asset expenses. This compares with GAAP expenses in the second quarter 2018 of $69,400,000 or 22.8 percent of revenue. And $64,200,000 or 21.1 percent of revenue on a non GAAP basis. Total other expenses net amounted to approximately $1,400,000 for the quarter, including $2,300,000 of interest expense. Income before taxes and non controlling interest in the third quarter of 2018 amounted to $44,400,000 compared to $36,400,000 effective income tax rate for the third quarter 2018 was approximately 29.7%. GAAP net income for the third quarter of 2018 was a record $30,900,000 or a record $0.61 per diluted share. Compared to GAAP net income of $25,100,000 or $0.49 per diluted share in the second quarter of 2018. The share count used to compute GAAP diluted EPS for the third quarter of 2018 was 51,100,000 shares. 3rd quarter 2018 non GAAP adjusted net income was $34,500,000 or $0.68 per diluted share. Both of which are records. The adjusted net income excluded net of tax $3,600,000 of non cash acquisition related intangible asset amortization costs. This compares to non GAAP adjusted net income of $29,300,000 or $0.58 per diluted share in of GAAP net income to non GAAP adjusted net income, which provides additional details. EBITDA was a record $72,000,000 or 22.4 percent of revenue in the third quarter 2018. Compared with $64,500,000 or 21.2 percent of revenue in the second quarter of 2018. We have included in our earnings release a reconciliation of GAAP net income to EBITDA, which provides additional details. Cash flow generated from operations was $35,500,000 for quarter which included $19,200,000 of capital expenditures. Net cash flow was negative $2,700,000 including the paydown At the end of the 3rd quarter, cash and cash equivalents plus short term investments totaled approximately $158,000,000. Working capital was $386,000,000 and long term debt including the current portion was $166,000,000. At the end of the 3rd quarter, inventory decreased by approximately $4,000,000 from the second quarter of 2018, to approximately $219,000,000. The decrease in inventory reflects a $11,000,000 decrease in finished goods. A $2,000,000 increase in work in process and a $5,000,000 increase in raw materials. This is the 2nd quarter of finished goods inventory decreases, reflecting our focus on reducing finished goods inventory. Finished good inventory days were 30 in the quarter compared to 38 in second quarter. Total inventory days were 99 in the quarter, down from 106 days in second quarter of 2018. Capital expenditures on a cash basis and within our target We expect revenue in the fourth quarter of 2018 to be approximately $315,000,000, plus or minus 3%. At the midpoint, this represents growth of 17.3% over the prior year period and down 1.9% sequentially. Which is better than our typical seasonality. Non GAAP operating expenses, which are GAAP operating expenses adjusted for amortization of acquisition related intangible assets, are expected to be approximately expense to be approximately $2,000,000. Our income tax rate is expected to be 29.5 percent plusor-3 percent, and shares used to calculate diluted EPS for the 4th quarter are anticipated to be approximately 52,200,000 Please note that purchasing accounting adjustments of $3,500,000 after tax or Pericom and previous acquisition are not included in Thank you, Rick, and good afternoon. As Doctor. Lu and Rick highlighted, 3rd quarter revenue was up 5.5% sequentially and up 12.5% year over year setting a new quarterly record. Q3 distributor POS increased by 3.3% and POP was up by 3%. Channel inventory increased 2.2% sequentially in support of POS. In fact, we had record POS results in both Asia and North America. During the quarter, customer activity remains strong across all regions as we continue to penetrate our key customer base with an expanded sales footprint. We set revenue record in 12 product categories, collectively representing 76% of our total revenue. Including ACDC, BTRX, CMOS, LDO, ARRIS, interface, LED, MOSFET, power protection, SAS, signal integrity, standard linear and switch, along with continued strong momentum in battery management, Connect ASIC and TPNS driven by recent design wins on new products. Going forward, we expect to make continuous progress with expanded revenue growth, new product introductions and design wins. Looking at global sales in the third quarter, Asia represented 78% of the revenue, Europe 11% and North America 11%. In terms of our end markets, industrial was once again our largest representative end market at 27 percent of revenue Consumer represented 25%, communication 23%, computing 16% and Automotive 9% of revenue. Starting with our automotive market, which remains a key focus area for Diodes. We achieved record revenue in the quarter increasing 6% sequentially and 27% year over year. Our consistent growth in this end market is underpinned by our continued design win momentum across all application areas, particularly our 3 focus areas of connected driving, comfort style and safety and powertrain. In connected driving specifically, we saw continued demand for USB Type C charging and packet switches as well as our high demand for production products as our growing automotive protection family offers high reliability and high performance for ESC production. Which is an important factor in today's connected cars. This portfolio includes Canvas, line bus, high speed data line sector that covers the full spectrum for connected driving applications. Biodes also continues to secure an increasing number of mass decide ins on brushless DC motor, electric power steering, water pump, power window, electric horn, infotainment, battery management, and advanced driving assistant applications. Standard and application specific products including Diodes, Bridges, Zener and TBS also saw strong demand within automotive. DY's proprietary SBR technology continues to penetrate a diverse range of automotive applications, such as running daylight, battery management system and infotainment. We also saw significant revenue growth in hall sensor design in activities for power window Shenrude, door, tailgate, seat belts, and gear shift applications. Turning next to our industrial market. We also achieved record revenue in this end market, growing 6% sequentially and 32% year over year. We continue to have strong demand in our product, driven by a broad range of locations, such as emitter, smoke detectors, surveillance, lighting, solar and power tools We are also seeing increasing design wins for LDOs, audio, call sensors and SASP products, along with SDR products. Our FBR products are ideally suited for industrial applications as they have excellent performance in high temperature operating environments due to the proprietary SDR structure, providing low and stable leakage under this condition. For the same reasons, solar is out of fast growing target market in regions where high temperature operation and ruggedness in the harsh environment is critical. Turning to communication market, related to the cell phone market, our ACDC product line has been growing market share in mainstream smartphone charger applications. At the same time, high end AC DC product line has gained traction in emerging USB PD3.0 quick chargers or power adapter applications. We also continue to see ongoing success in this market with strong design activities especially our MOSFET, Xener, Diodes, protection products, SDR, Shalky, and Hall sensor products, We are also seeing strong demand for mid teens switches to support multiple cameras in the new generation smartphone. In the consumer market, we achieved solid design win momentum across a broad range of applications, such as panels, earphones, wearables, portables, smart speakers, chargers, and set top boxes. We also continue to expand design in and design win activity with major customers for our LED lighting products, including MR16 LED drivers and linear drivers for halogen lamp replacement. Additionally, our PCIe gen 2 package switch are gaining traction in applications like office printers. And our USB Type C redrivers are gaining momentum in tablet applications. Lastly, in the computing market, we continue to expand our opportunities, especially for our Pericom products, our SaaS, SATA, USB displayed for HDMI PCIe redrivers, clocks, buffers, and signal switches, including video and USB Type CMux has been exceptionally strong. We also saw strong design in activity with our USB Type A USB Type C and display to our redriver products as we've maintained our leading position in the PC and notebook applications. The growing demand for our USB Type C interface on mobile internet devices and computing platforms has greatly expanded the USB C PD interface opportunities for Diodes. As one example, our latest 3a power switch and USB PD switch are gaining increasing traction in the notebook and PC segment. In summary, we are very pleased with our achievement of record results once again this quarter. Our product initiatives and aggressive past design win momentum has lead to our above market growth and continued market share gains. Additionally, our contact and customer expansion efforts, specifically in the automotive industrial market, have resulted in this end markets growing at a higher rate than our corporate average and reaching 36% of total revenue. We expect to gain increasing traction in this market as we continue to serve as key contributors to our Certainly. Our first question comes from the line of Tristan Gerra from Baird. Your question please. Hi, this is Maggie Sims on for Tristan. Thank you for taking our question. The midpoint of gross margin guidance is about flat year over year, yet it's on a revenue guidance midpoint in Frank's 17% growth, presumably better mix than ASPs. Are higher raw material costs the offset to gross margin guidance? Or what are other factors preempting that year over year growth And should we expect that year over year gross margin growth to resume? Well, I think that we continue to improve our product mix and therefore even the revenue due to the seasonality or actually better than the seasonality, we only guide 1.9% down. We still able to maintain our gross margin at 36% or improved from 35.9% to 36 And we'll be deep next year, if the 1Q could be down due to seasonality, but we're hoping we'll continue to improve our gross margin especially when we start to ramp our 8 inches capacity 8 inches fab and continually improve our product mix. I hope in all those will be able to helping us to maintain the gross margin even we still have guidance constantly price going down SP decrease probability by those efforts, when the 8 inches product mix and the new product with all those efforts and the cost reduction, all those efforts, I believe we should be able to maintain at least and maybe improve our gross margin Okay. Thank you. And given a more measured outlook into 4Q in the supply chain. Do you see any impact on pricing for your products? And also if you could talk about wafer availability and pricing with that? Well, we typically put in 1.5% ASP reduction per quarter. And that's our model. Sometimes we improved that AFP erosion by product mix So currently, we still see the 4Q, we should be able to maintain our gross margin by in continually improve the product mix, but the utilization do not improve because our revenue actually guiding down. So we don't expect our utilization going going up. Yes, but we prefer Each fab will continue to ramp. I think in the end of September, we are running about 6000 wafers per month now on our AEGFET, we expect to about 9000 wafers per month by endofDecember. So in 4Q, we'll still expect the ramping of our engine fab. Okay. Thank you very much. Thank you. Our next question comes from the line of Gary Mobley from Benchmark. Hi, everyone. Happy Election Day. I want to start with, a follow-up question about the gross margin. If I recall correctly, the, gross margin was negatively impacted in the second quarter because of some efforts to reduce some internal inventory, perhaps you overshot there. On your internal inventory. How much of an impact did that have on the 3rd quarter gross margin? And, I'm assuming it's no longer a headwind the 4th quarter? Yes. So in the second quarter, our margin went down from 35.9 percent in the first quarter to 35.3% and in the 3rd quarter, it's back at 35.9%. So we think the impact on the the margin from the effort to reduce finished goods inventory is basically done. And we're holding that in the 4th quarter 36% the guidance. Okay. As you guys So basically the SEC inventory, the deal set in 2nd quarter position us for this for the inventory reduction and it's already done. So right now our inventory is at a very good position and we don't see a need to continue to reduce that internal inventory. Okay. All right. Just shifting gears on the top to the top line. As you guys are well aware, the performance of your competitors, has it been uneven to say the least? And it's obvious that you're you've got to be taking share. And so I guess one of the questions I wanted to pose is, which company or group companies do you think you're taking the most share from? And, and are you seeing any pockets of weakness as we are wrapping up calendar year 2018? Well, I think several times I did mention before, We have a very strong automotive growth. If you look at our CHEI in the last 5 years, of automotive is like 28% a year and even this time you can see our automotive is at 20 7% of them above last year. So you can see we continue to grow faster than market growth. But I think last time I always say it's not just say we're gaining the take the market from so and so. It's really due to the automotive content increase and we are able to get in there when the content new content was put in. And since the diode was qualified for automotive, our customer can just go ahead using our product and they increase their content. Therefore it's very difficult for me to say, we get it from store and store, we get it from this. That's not really the case. It's Since the customer increase the content, our product is available for that and so we are able to significant game, the design win. Okay, that's in the automotive side. In industrial, we have been continuing to improve our industrial partitions. Now you can see our industrial is 27% of our total revenue And if you remember, I want to do is, is automotive and industrial growth to 40% of our total revenue. And we are in full toward that direction and we'll continue introduce the new product, introduce the correct product for industrial and automotive need okay. So we don't want to say we get it from which company we just gain it from from the market growth we came in from the increase of the market and even the market spread or go down, we will still continue gaining more market share. Right. So we really focus more, extending the compact and also more dollars per form for box. That has been our focus. Got you. Another one is the total solution. Okay. We are now with the PELCOM with the DCD, now we offer we are able to offer a total solution for our customer So we when we're working with our customer, we are able to offer them more product portfolio than before. And that's why we came in the market share. Okay. Last topic for me and then I finished is, can you give us some updated thoughts on the impact of tariffs. And that's it. Thank you. Sure. So we have so everybody remembers there was there were 2 tariff lists. One was in the 1st part of July. And the second tariff list was at the end of August. We have basically all of our products covered by tariffs now when they're imported into the United States. We are billing those tariffs charging them to our customers. And we will continue to do that in the fourth quarter and going forward. And we've, Emily's been dealing with the customers and it seems to be going okay right now. Thank you. Our next question comes from the line of Edgar Rose from Sidoti And Company. Your question please. Good evening and congratulations. Thank you. I wanted to ask about First of all, European autos. There was, to my understanding, some market disruption related to new fuel economy standards, implemented in that market. And I was wondering if you felt any impact or might in the coming quarter? Yes, we definitely understand the change of the policy in Europe. It actually created more opportunity for us because there are a lot more focus on the electric cars and this kind of applications. And from the content point of view, it created more opportunity for that to engage with our partners and customers. So, we definitely understand what you're talking about, but we at we see in more on the positive side for us. Okay. But it sounds like no production disruptions were impacting you. So that's good. And then the second one, will the 6 inches fab complete qualifying customers by the end of Q4. Could you update us on that? This is the KPAB that was moved over to, Shanghai? Yes. KFAP to SFAP 1 is what it's asking. Well, actually KFAP transport S5-one is actually completed about the complete is about first quarter end of first quarter, fully ramped is about end of second quarter this year. So basically that's behind us now. And that's why if you look at our SFET 1 door in, is pretty good. And so far, we don't see any any problem or interruption to our customer support. Right. The majority of the customers have been transferred over to the FVAC that I would say pretty much completed. Okay, great. And just one last one. I know you've spoken about your capital spending putting in place enough capacity to get you through the second half of twenty eighteen, but if growth were to continue at its current pace, let's say, when would the decision be upon you to to ramp up more and how are you feeling about that at this point? We do not have a plan to aggressively put up the capacity. We only put up the capacity when we see a pretty tight supply. Okay. So we do not back in the past crazily adding up the capacity. We are now at this stage. We want to gradually improve our capacity but not significant increase. And if you look at that's why we keep to put in our CapEx is 5% to 9% of our revenue and we're going to continue in keeping that area except our CAT, our Cheng to assembly side. I will turn to assembly side. If you remember our phase 1, we view building and the creating room, creating area and office area. And the manufacturing site is going to be fully prototypes, the space probably for another 2 years, we'll be fully occupied Therefore, we probably need to or we are doing now for the design and we probably wait for another year, you know, next year this time, we'll start our construction and then probably take 1 more year to finish it up. So we are talking about finish up by end of 2020 and ready for more expansion. Yes. And then what we would do there is like we did in CAT-one in the first building, We would fill it up as it's needed. We won't go just fill up the building with assembly test equipment. We'll put in a minimum line and then start running that. And gradually increase it over time. So there won't be this huge increase in capacity that's underutilized. It's really helpful. Thank you very much. Our next question comes from the line of Sean Harrison from Longbow Research. Your question please. Hi, evening, everybody, and congratulations on the results. I guess the Doctor. Lu, as you look at the guidance into the fourth quarter, it didn't get better than seasonal. Are there any market verticals sequentially where you're seeing the greater strength out of Asia than you would normally see something that you could point to, to highlight this growth? Well, actually we're still seeing, you know, somebody sell to multi voltage slowdown but we still see a strong growth for us in automotive area due to the content increase and due to the past design win. Okay. So if you look at the last several quarters, our announcement, we always say we are very strong design win We have very good POS and all those is resolving us, resolving updated and seasonality for 4Q and we don't see any particularly area. We see communication is increased. Automotive is increased and industrial probably not, but communication, consumer and industrial, we will see a good growth or better than seasonality, better than seasonality, but also. Got you. And on the other side of that spectrum, you said industrial maybe is not growing. Are you seeing anything with maybe, Chinese or Asian distribution partners getting a little bit more cautious given the uncertainty caused by the tariff situation, maybe not seeing the same level of order strength as you've seen in prior months. Always. Actually, doesn't matter their caution or not always in the 4Q, but enter the 4Q or in the 4Q, This team typically don't want to carry the inventory except Asia. US and Europe this team For sure, there's no one who would like to carry the inventory over the year. Now China typically at TDP front because Chinese New Year is in early February and therefore they're going to be much stronger in January. Therefore, the Adisti in China typically will carry a little bit more inventory by theendofthe4thquarter to support their strong knee in January and then thanks a lot on during the Chinese New Year. Okay. And then last question, Rick, the SG and A leverage in particular was impressive on the sequential sales growth this quarter. Was there anything specifically to that? Are there any good cost control? I guess is my question. No, I don't think there's anything specific. If you look at the SG and A plus R and D, it's been fairly stable around the 64% to 67%. In the first quarter, it was $7,000,000. 2nd quarter was $64,000,000, 3rd quarter $65,000,000. And if you look at our guidance, the 21% is around 6 $6,000,000 in fourth quarter. So SG and A plus R and D this year has been just fairly stable every quarter. Okay, helpful. And once again, Mike And remember, our biggest model is R and D and SG and A will be 20% to 21% in a Our old model is 20% and we say if we started to increase our gross margin from 35% model to 40% model, we might allow R and D increase a little bit So, we have been stick to that business model and we are currently it's a 20% slightly over 20.3, 20.3. So we are maintaining that kind of a business model. Does that answer your question? Thank you. This does conclude the question and answer session of today's program. I'd like to hand the program back to Doctor. Keh Shulu for any further remarks. Thank you for your participation on today's call. An update on our digits next quarters. Operator, you may now disconnect. Thank you. Thank you ladies and gentlemen for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.