All right. Okay, welcome back to the Barclays Tech Conference. I'm Tom O'Malley, U.S. semi and semi-cap equipment analyst here at Barclays. We're here with Dean Butler, CFO of SLAB. Thank you very much for being here.
Absolutely, Tom. Yeah, good to have you.
Really appreciate it.
Thanks.
So, why don't we start off with just like a 30,000-foot view? So you went through, as a company, a pretty material correction. You saw the bottom. You've seen this recovery back up. And then if you look into December, you're seeing kind of like the first flattish quarter of a recovery that has been pretty strong off the bottom. And I think you've done a good job of kind of giving investors this view of things are getting better. It's really hard to tell how quickly things are getting better. But to investors who come back and say, "Hey, like, is this plateauing? Is this the level at which, like, the company will stay?" Maybe give a description of what you're seeing kind of growing off the bottom.
And is this really just a seasonal blip, or are you gonna continue to see this upside kind of in the next couple quarters?
Yeah, sure, Tom. Good question. Look, first order, have no concern about sort of growth of the company.
Yep.
I think Silicon Labs as a team has done a really super job on coming off the bottom in a pretty material way. You know, we troughed in December of 2023, so we're just about, you know, sort of 12 months, you know, past that point. You know, ever since sort of that troughing in Q4 of last year, the company's been sort of materially moving up. Like its first quarter, you know, after its trough, I think was up 10% or 15%, then it was up another 30%, and then up another, you know, you know, 14%, 15%.
Yes.
And then now a little bit of pause here for our December quarter, which just guided, which implied sort of a flat quarter to your point, Tom. I think this is really just a difference in some seasonality that's sort of playing in the Q4, but honestly, a little bit of a surprise out of Industrial that sort of became a little bit more flat than what we had expected. Industrial's been growing, as well as our, you know, Home & L ife business has been growing all through 2024. And what we see is really probably just a slight pause for Q4 of 2024. I don't expect that to continue. We've seen sort of strong bookings patterns, you know, for the business throughout 2024 that continues today. We've seen strong resales from our distributors.
Mm-hmm.
So, distributors is about 70% of revenue goes through channel. We've seen resales continue to grow. We've seen inventory levels continue to remain very modest at distribution. In fact, in Q3, we shipped, you know, quite a bit into distribution, yet days of inventory sort of decreased. I mean, you know, which implies actually resales at distribution had been going up in excess of.
Mm-hmm.
Of what the company had recognized as our ship into channel. So, you know, I don't have any real concern on, "Hey, where do we go from here? Are we plateauing?" I think there's a number of growth drivers that continue to lead us out even beyond sort of some of this recovery activity.
Perfect segue, so I think that during this period of time, you obviously looked at the different, the business differently from a segmentation perspective, Home & Life, Industrial consumer as well.
Mm-hmm.
So you split those up. Can you talk about the big growth drivers that are in those two buckets? Because I think that you guys have done a good job of kind of talking about the broader technology portfolio, but looking at like the pockets of growth within each of those. And for example, you mentioned, "Hey, Industrial is a little bit slower than we had originally thought." Like what specifically in that bucket maybe is plateauing? Just maybe the two biggest growth drivers in each of those and then what you're seeing in terms of demand?
Yeah. I mean, look, we report in two major buckets. One is called Home & Life. So think smart home, medical type applications. And the second one is Industrial & C ommercial, and think, you know, like smart meters, you know, electronic shelf labels, like on the commercial side. What we saw is actually when things declined and rolled over in 2023, what we saw is that Home & Life side of the portfolio actually started entering the downturn about two quarters before Industrial & Commercial.
Mm-hmm.
So, sort of part of us says, "Hey, what we're seeing right now on the industrial commercial side perhaps is just a time delay." You know, what we saw sort of two-quarter time delay on the down and sort of Home & L ife continues to grow up, you know, and moving positive even into this Q4. It is likely just a time shift as we see things sort of coming out of the trough and continue to grow. So, you know, without any sort of further detail around it, it looks like it's sort of perhaps just a time difference between sort of those two businesses. On the Home & L ife, it's a smart home business. It's a medical business. Smart home continues to do well. We're continuing to grow. We grew in Q3 in the smart home side.
We think Q4 continues to grow in a smart home. We think that sort of continues to grow. Many applications that existed just five or six years ago were not connected. More and more things inside the home are sort of being connected, networked. Wireless standards are sort of de facto there. Medical is probably the biggest growth driver.
Yep.
Like that engine I think is here to stay. The company's done a really super job in its history in sort of first going after industrial type applications. Smart meter’s a great example where it did super well. It then moved into smart home applications. That's been paying great dividends. It then took that smart home, you know, sort of position, moved that into sort of the commercial side of the portfolio, and in the last two years, the investments have been around sort of medical applications.
Yep.
You know, there's some pretty significant design wins there. I think externally we talk about blood glucose is one of the applications that's sort of been a needle mover. We that's sort of just getting started, Tom.
Yep.
Like, so as I think about like, "Hey, how does, how is the company confident about 2025 and sort of beyond in its growth prospects?" One is like a bird in the hand on that medical side of the portfolio.
It's really continuous glucose monitoring. Then on the other side, you have the smart metering. I've heard in the past, you know, this is a tougher industry to track. You see where upgrades happen, but there was some smart metering upgrade in India. Can you talk about certain areas? Like, how should you see that rollout kind of move globally? How are you able to like give investors a feel? 'Cause I think it's really hard to go out there and track, you know, where you're seeing smart metering upgrades.
Right. Right.
Like where should we turn to look at that kind of cadence or help us out and kind of give us like where you're starting to see that get deployed?
Yeah. I mean, smart metering, like, the company's got a great position in smart metering. It's on the electrical side, it's on the water side, it's on the gas side. So it's across, you know, all the different.
Mm-hmm.
You know, metering applications. The company likely has, you know, very high market share in all three of those in every major country in the world. I mean, to be quite frank. I think the only outlier that we see is sort of domestic China. We sell into China makers that are for the export market. We don't sort of sell for their internal domestic consumption. Like you said, Tom, look, smart metering, it's a slow and steady rollout. Like it's your classic industrial seven, 10-year time horizon. You're not gonna see sort of these big pops up. India's is maybe a little different. Like their rollout seems to be faster than some of the other countries.
Yeah.
We've won a big tender in India. I think it's 250 million, you know, meters that are rolling out. We've been shipping in the back half of 2024. Those things started shipping. It looks like that rollout actually might happen faster than some of the other countries.
Mm-hmm.
So that, that's sort of giving us, you know, sort of a nice little tailwind on, on to next year and sort of continuing. But look, the share among metering is very high. And like we're very confident in continuing to lead in that business. What's also happening there is ASP lift.
Yep.
So it's going from sort of single communication link to multi-communication link, upping some of the processing capability that some of these meterings are doing. And that, that's leading to sort of higher ASP uplifts as well, sort of as, as you roll out sort of generation to next generation.
Perfect. So I wanna dive into two of the comments you made. So the first one is we went by product type, but how about we look at it from a technology perspective? You mentioned in the last call that Bluetooth was kind of the fastest growing technology medium within SLAB. So oftentimes, like we have conversations where like you have a connected MCU, you have different radios. Like over time, the flavor of those radios really changes kind of in the demand profile of the marketplace. And like Bluetooth has been one for a prolonged period of time now. I think it just works really well across a variety of different products.
Yep.
Is Bluetooth in your eyes like the key to your success? Is it the radio or is it the ability to kind of have the MCU with the Bluetooth with a bunch of other radios with it as well? Is it the entire offering or is it just your ability to out-execute in a single radio?
Yeah. I mean, look, on just a pound-for-pound hardware, one, I think we have the best engineers in the world.
Yep.
Like actually the hardware itself, actually the specifications are sort of bar none. It's like, you know, top of the class. But I think the real secret sauce actually comes down to the software.
Yep.
Sort of the usability of software. As you know, our customer base is, you know, thousands, if not tens of thousands of customers. We cannot handhold every single customer. So we actually have to design our solutions and software for ease of ability so that, you know, our customers, engineers can sort of get the hardware, get the software, get up and running and integrated into their operating system in fairly easy manner. And I think that's ultimately our secret sauce is sort of that software. Then you have leading hardware specs on top of it. Oh, and by the way, we have every type of radio that you would really need for your application. And some people are using, you know, a point technology. Say they were using just Bluetooth. Some people are using multi-protocol.
Some people like have a Bluetooth radio, a Wi-Fi radio, and a long range, sub-gigahertz radio, sort of all in, all in one, and we can run that on one set of software and sort of make that easier for customers on how they deploy it.
Super interesting. And then to the point that you made earlier on the ASP increases, you talked a lot about Series 3, refreshing the portfolio. To a non-product person in the connected MCU world, what does it mean going from Series 2 to Series 3? Is it the upgrade of the MCU? Is it the upgrade of the radio protocols? Are you packaging them differently? Like what gets you to that next level and what does that mean from an ASP perspective for your business?
Yeah. I think the thing that many people don't quite grasp, you know, understand about the company is not only do we sell a lot of wireless technology and sort of these great, you know, wireless, you know, technologies that are connected, we also sell either standalone MCUs or integrated MCUs.
Mm-hmm.
In the vast majority of our solutions and in Series 3, look, we're designing for what do we think comes next in the world? We think actually what ultimately comes next is sort of the AI craze that's happening. It's happening at the data center. You know, that will likely move into the enterprise. But ultimately the winning prize is kind of at the client edge.
Mm-hmm.
Look, on the IoT world that we service, look, you're looking at potentially a hundred billion of these, you know, sort of client connected devices out there in the world. Ultimately, the AI is actually gonna move toward the edge, and Series 3 for us is gonna continue to enable sort of that future proofing. On the processing side, it's spec'd out to be, on the high-end version, 100x on what the Series 2 is on the processing capability. We're upping the game again in security. So if you know, well, Tom, then you know, I've talked about it. Security has been a big sort of feature set that's enabled the company to outperform in its design win capability and capturing a lot of these new applications.
In Series 3, the expectation is we actually have a post-quantum resistant, you know, set of security features that run on the chip, which says, look, at someday we're going to be faced with higher and higher, you know, ability to crack the code and these things. If one day actually more and more things autonomously happen, you know, AI at the edge, you are going to want higher levels of security. And that is a choice that we think many customers will make. I think what we've seen over the last 10 years is going from fairly sort of basic protocols, say just like a basic Bluetooth, you know, it was relatively insecure. Like there wasn't a whole lot of protocols that were securing a lot of Bluetooth links.
Now that tends to be a very strong sort of winning feature set for us on a lot of our customers, specifically like medical applications. Security protocol has been huge. So as we think about security Series 3, hey, upping processing capability, enabling the future of sort of client AI, and then actually adding security levels on top of it, and there's a bunch of other neat tricks that are sort of for customers as well, that has a seamless upgrade path as customers move forward, by the way, using the same software. So we actually have customers that are using Series 3 versus Series 2, same software stack so that people can go back and forth, whether using Wi-Fi or Bluetooth or sub-gigahertz or Thread or any of these other protocols sort of all packaged in one.
I would imagine with the increased performance, you're talking pretty substantial gen over gen gains. You have some ability to take some price. This goes back to the conversation that we've had many times as well.
Mm-hmm.
I think the biggest debate on the stock is there was an ASP trajectory into the pandemic, which really benefited you guys and that benefited a lot of names as well. But since then, you've seen some give back of that pricing and units are really going to be the driving factor of growth on a go-forward basis. So I guess question one is, can you talk about what kind of uplift that Series 3 could get you from an ASP perspective? And then two, if I look at like the standard cadence of pricing without an upgrade cycle kind of going on, what does that look like on a go-forward basis for Silicon Laboratories?
Yeah. Just like on a pricing perspective, Series 3 should come with a higher ASP. There's a lot more feature sets in there.
Yeah.
There's, you know, 100x of processing power, so I would expect like a pretty decent ASP uplift and sort of margins to kind of pull with that. If you said sort of agnostic of Series 3 and if the world would just sort of go back to its past history, semiconductors are sort of single-digit down ASP year on year. I think what's interesting now is what's tending to evolve is most semiconductors are dependent on the suppliers actually getting more efficient and giving some cost downs. That doesn't seem to be happening quite as much.
Yeah.
I'm sure you sort of get pockets here and there. But I think with the buildout of all this CapEx and these fabs all around the world that are happening, I think it's difficult to foresee a lot of supplier input pricing coming down. And I think that will lead a lot of semiconductor, you know, designers to sort of not be able to give the same price downs that maybe historically you could. At the same time, you're adding more features. And like.
Yeah.
I think at least from a Silicon Labs customer perspective, we haven't seen like a material push in like, you know, trying to get ASPs down or pricing battles that are happening in the marketplace that people are just going after cost rather than features. We see the ability to hold, you know, ASP or increase with increased feature sets.
So technology is one side of it, but competition is another side of it. So I think we talked last year at this time kind of about, you know, increased competition from other U.S. suppliers in the MCU market. I think TI was called out at that time. Are you still seeing additional pressure from the larger guys trying to move into areas where they may have kind of backed away from? And then, too, multi-part question here, on China. How aggressive are you seeing China in the marketplace? Are they popping up in areas that you didn't see before? Is that a real threat to kind of the areas where you're playing?
Mm-hmm. Yeah. And about a year ago, you're right, Tom. You know, we talked about, you know, larger competitors that maybe own their own fabs that are getting a little bit more price aggressive to try to, you know, fill fabs sort of during this downturn. We have not seen any sort of new activity in that side of the world. Like, hey, there's not an increased sort of battle around price to try to fill fabs. In fact, even when that had been occurring about a year ago, we were still winning despite, you know, you know, larger competitors sort of lowering prices and trying to win. And really it's on the basis of we have a very clear focus. Like, our clear focus is these set of IoT customers.
And we work day and night to try to fulfill their orders, you know, give them the feature sets, like, you know, upgrade our software, you know, features that they may need where when they're with a larger competitor of ours, this is like number 72 on their, you know, priority list, where for us it's like number one. So I think a lot of the customers during the pandemic supply crunch and then now sort of the rolling over are sort of realizing actually it's better to go with somebody that, hey, is focused on your same market that cares about you in a way that a larger supplier wouldn't. So we're actually, I would say, winning more and very resistant to, you know, people bombing prices for no rational reason.
And we're still holding our own and still winning, you know, despite some of that. On the China side, look, I think there's a weird dynamic that's starting to happen where historically you would say China competitors bombing price, maybe that's bad for you, maybe that's, you know, leading down the road of commoditization. The opposite is actually happening. The opposite in the geopolitical tension is starting to evolve where actually like Western, you know, companies, Western, you know, customers of ours are starting to say, actually we would rather move away from some of the China suppliers and actually harden our ability to sort of, you know, resist any geopolitical tensions that might, you know, arise there. And people are waking up to, look, it's not about price, it's about actually, you know, sustainability of supply chain, it's sustainability of your partnership.
In what people worry about, China is actually also a positive in some respects.
Interesting. Yeah. You're seeing that in certain other areas of the market, like potentially in interconnect, but I didn't realize it was moving all the way down. So customers are coming to you. Are, are they reaching out proactively being like, look, we're trying to, you know, be more internal U.S. products or is it more in negotiations? They're like, oh, we prefer to go into.
No, it's proactive. Look, it's not like every customer. It tends to be, hey, the more the customers value their brand, like perhaps they're a bigger customer and sort of their brand is a higher value, the more often we're seeing that as like a starting place on why they're opening a design up.
Okay, so I think people generally understand the trajectory of revenue where you have a couple really good pockets of growth across your two businesses. The Series 3 transition gets you maybe a little bit of an ASP upgrade increase that maybe offsets some typical declines in the business, but I think like where I think generally people struggle is just on the gross margin expansion, so ASPs play a part in that. Disti plays another part, which we can touch on.
Mm-hmm.
But can you talk about what you can get from a gross margin leverage progression into this 25 period of time with the anticipation of some growth year- over- year? Where are you seeing that leverage? Is it really just the absorption on the revenue side or is there other levers that you can pull?
Yeah. I mean, it's one, distributions. We tend to get a little better gross margin on distribution. Long-tail customers deal with different pricing dynamic. Secondly is scale on revenue. And then there's, of course, mix and, you know, mix is sometimes positive, sometimes negative. And the company's been really clear on, hey, what our model is. Like our model is, hey, mid-50s to high-50s, somewhere in that range. Look, when we sort of hit our trough, we were low-50s. When we were at our peak, we were like mid-60s. And even at the point where we were mid-60s, we told people, look, that's not the sustainable gross margin of the business. It's, you know, mid to high-50s. And that's where we think we continue to trend to. So all throughout 2024, we've sort of been moving up.
And I think we're, you know, last quarter 54%, and so we're kind of already back in that sort of mid-50s% sort of zone. As we look into 2025, 2026, look, I think there's, you know, a reasonable path to continue to march that up into higher 50s%. But I would sort of set the expectation that unlikely will the company move into a model where we expect 60% or more gross margin. I think it's probably just not the right business model, you know, for the company. And look, I think we want to continue to grow as fast as we can. And, you know, mid-50s% among semiconductors is, you know, really good.
Yes. And to have the same gross margin structure you did at the peak of the pandemic would be surprising, right? Over the longer term.
Right. And I think you look across semiconductors and, you know, no one does.
See that across.
Yeah. No one does.
Many, many companies.
Yep. Yep.
Okay. So disti was one of the ones. So you mentioned sales mix, disti versus direct. So you saw direct as a percentage of revenue and then your top 10 customers grow pretty significantly. You stopped giving the top 10 at least, I think, about a quarter ago. But in terms of the disti, can you talk about what the normalized level is? Are you going to go back to that like 80% range that you were before? Is that the right way to think about it? Or as you're growing into this kind of new phase with a couple different growth drivers than you had before, like are you going to be a little bit more direct than you were historically?
You know, I don't think we've quite figured out what that mix is because look, the base business hasn't fully recovered back to where it was historically.
Yeah.
Like the historical mix on disti versus direct was about 80%, you know, distribution-based and about 20% direct. We're at 70% today. So 70/30. Look, my expectation is it's going to be somewhere in that range. Look, I think some of the, you know, recent growth drivers around, you know, medical, actually it's a mix. It's not all direct and it's not all distribution. So I think as these things grow, there's going to be a mix between distribution and direct. How it totally plays out, it's going to be in between that 70%-80% is my expectation. You're not going to see 90% distribution. You're also not going to see 60%, 50% distribution. So it's likely in this zone. I mean, I think our intention is not to focus solely on direct. I mean, the distribution channel, the long-tail has come a long way for the company.
We do a lot of work around that activity. That business is growing super well also. And we'd expect that to continue to grow. So I do think that it will be up above this 70%.
So we've got the growth trajectory kind of mapped out. We have the profitability kind of mapped out. If you look at the spend, as you're starting to see this acceleration in growth, how should we think about the fall through in the model? Where do you have areas of flexibility in spend? What is the framework we should be thinking about into this coming year?
Yeah. I mean, the company's been spending ahead of revenue. And, you know, rightfully so. And we look at it sort of very closely on, hey, are we doing the right thing on spend and revenue? Look, design wins, like the bird in hand actually says, look, we're spending in the right areas and like the thing is going to pay off. Our expectation is we are likely to hold the operating expenses kind of at the same level. I think, look, we're spending at the right amount. We're spending on the right things. We're capturing enough new design wins and net new revenue coming in to say we're doing the right thing. That being said, in 2025, we will have sort of the typical Q1 step up between, you know, tax reset, merit cycles, and then resetting of the employee bonus pool.
So we do expect the operating expenses to come up a little bit just for 2025 on that basis. But under the covers, everything else is sort of staying flat in the company on what we're investing in. And look, I think if you look at the history of the company, look, it started in a lot of sub-gig, you know, technologies that were for smart meter. Then it moved into a lot of 15.4, Zigbee, Thread, Z-Wave, you know, type technologies that were great for smart homes. Built a, you know, a fantastic business there. Then about six years ago, the company focused on Bluetooth. So a lot of the investments started going into, hey, how do we build out the Bluetooth technology of the company?
And that's paid huge dividends, you know, not only in smart home, but it's been a big driver in some of these medical wins have been sort of Bluetooth-centric. Now, over the last couple of years, the focus has been Wi-Fi. So Wi-Fi is like the next leg of technology that's being built. And a lot of effort in the company is going into that. And like we expect that to pay off in a big way. This last earnings call, publicly we said we expect the first production shipments on our Wi-Fi device called SiWx917 is expected to also occur in the first calendar quarter as well. So that, that's starting to pay off. So I think what we're investing in, you know, totally makes sense to me.
I think what we're doing, we don't need to add a whole lot of incremental from here, to allow some of that leverage from the model to flow through like as the design wins come into revenue.
It's almost like you've spent ahead here. Let's keep things where they are because you feel like that's generating the growth at the.
Yeah. Exactly. Exactly done.
Okay. Lastly, capital returns. Early after the split, there was a lot of accelerated buybacks. Is there any different way that you're thinking about capital returns right now, given where the business is? The way that you're describing it, it seems like things are on an upwards trajectory for the next several quarters. So would you be more aggressive with share buybacks or are you going to think about it from like a multi-year period of time? Like what's your framework for capital returns?
Yeah. I mean, I think our framework for capital return just a little bit of history on sort of this accelerated buyback. We ended up buying back about 25% of the company, and look, that was, you know, from a divestiture, you know, that we sold off about half the company to Skyworks. And we had a big cash balance, and we said, look, it's really prudent to return that to shareholders in the best way we can, and share buybacks is sort of the mechanism that we chose. Look, the framework for the company is we're likely going to be active in share buybacks and going forward. I think two things are going to happen. One, we're going to return back into profitability and get the scale running.
I think what you want is like a multi-quarter under your belt that says, hey, yes, the scale's happening. It's looking good. We'll start sweeping some of the excess, you know, free cash flow, you know, back into share buybacks. Look, the company has got so much growth, projections ahead of itself that look, we don't need the capital self-fund. Like organically we can fund ourselves on what we need to do. Anything that we earn in excess, I think you'll see come, you know, as EBITDA grows, you'll see excess cash flows, you'll grow as well. We'll start returning back to share buybacks. You know, we keep an eye out for M&A, just to be clear about that, Tom, because the company was built on a lot of technology acquisitions that cobbled together actually to make the IoT platform that we have.
We'll probably continue to look for that. But look, we're very prescriptive on what we're looking for. Look, there's not a whole lot of assets that can meet our 20% growth target. There's not a whole lot of assets that can sort of help us grow faster. We don't feel like we're missing a bunch of technologies that we need to go add to the portfolio. So while that's still on radar, I think that's just lower likelihood relative to like a share buyback, you know, type program.
Super helpful. It's been a pleasure. Thank you for being here, Dean. Have a great rest of the day and into 2025.
Absolutely. Thanks, Tom.
Be well. Yeah.