Lattice Semiconductor Corporation (LSCC) Earnings Call Transcript & Summary

Hello, and welcome to the Lattice Semiconductor First Quarter 2023 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Rick Muscha, Senior Director of Investor Relations. Please go ahead.

Thank you, operator, and good afternoon, everyone. With me today are Jim Anderson, Lattice's President and CEO; and Sherri Luther, Lattice's CFO. We will provide a financial and business review of the first quarter of 2023 and the business outlook for the second quarter of 2023. If you have not obtained a copy of our earnings press release, it can be found at our company website in the Investor Relations section at latticesemi.com. I'd like to remind everyone that during our conference call today, we may make projections or other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution you that such statements are predictions based on information that is currently available, and actual results may differ materially. We refer you to the documents that the company files with the SEC, including our 10-Ks, 10-Qs and 8-Ks. These documents contain and identify important risk factors that could cause the actual results to differ materially from those contained in our projections or forward-looking statements. This call includes and constitutes the company's official guidance for the second quarter of 2023. If at any time after this call, we communicate any material changes to this guidance, we intend that such updates will be done using a public forum such as a press release or publicly announced conference call. We will refer primarily to non-GAAP financial measures during this call. By disclosing certain non-GAAP information, management intends to provide investors with additional information to permit further analysis of the company's performance and underlying trends. For historical periods, we provided reconciliations of these non-GAAP financial measures to GAAP financial measures that can be found on the Investor Relations section of our website at latticesemi.com. Let me now turn the call over to Jim Anderson, our CEO.

Thank you, Rick, and thank you, everyone, for joining us on our call today. We delivered strong results in Q1 with record quarterly revenue, which grew 22% year-over-year, and non-GAAP net income growth of 36% year-over-year. While we're certainly not immune to any macroeconomic challenges impacting the industry, growth in our core strategic markets was driven by growing demand for our leadership product portfolio, strong customer momentum and solid execution. Let me touch on a few Q1 highlights. In addition to the strong revenue growth, we expanded non-GAAP gross margin by 260 basis points year-over-year to a record 70.3%. We achieved record non-GAAP operating profit of 41%, which was an increase of 470 basis points year-over-year. We further expanded our product portfolio with the recent launch of the sixth device family based on our Nexus platform while we launched enhanced versions of multiple software solution stacks as we continue to expand our software portfolio. Let me now provide an overview of our business by end market. In the communications and computing market, revenue was down 9% sequentially and up 4% on a year-over-year basis. As we expected, the sequential decline in revenue in this segment was primarily due to softer industry-wide server end market demand. However, we continue to see this segment as a long-term growth driver for the company as it includes multiple growth vectors such as content expansion in data center servers, new greenfield client computing designs and growth in wireless infrastructure and data center networking. Turning now to the industrial and automotive market. Revenue increased 21% sequentially and was up 55% on a year-over-year basis. Q1 growth reflects strong customer adoption of Lattice solutions and new design wins across a broad range of applications, including industrial automation and robotics as well as automotive ADAS and infotainment systems. I'll now provide some product road map highlights. We're pleased to announce that MachXO5-NX began production shipments in Q1, which is our fifth Nexus device family to enter production. We also recently introduced MachXO5T-NX, the sixth device family built on the Lattice Nexus platform. This device family provides advanced system control in multiple applications, including data center networking, machine vision and industrial IoT. Overall, we continue to be pleased with the broad adoption of our Nexus-based products, and our commitment to continued investment and expansion of our Nexus platform has further strengthened our leadership position in the small FPGA segment. We also continue to be pleased with progress on our new Lattice Avant platform, which launched in early December. Avant is targeted at mid-range FPGA applications and doubles our addressable market and creates new greenfield revenue opportunities for Lattice as it ramps over the coming years. Customer engagement and momentum continues to grow, and we look forward to launching 2 new Avant device families later this year. Turning now to our software strategy. As we discussed over the past few years, software is a key component of our strategy, and we've been increasing investments in our software portfolio. These investments are driving faster customer adoption of Lattice products. Over half of our new silicon design wins are now enabled by at least one of our software solution stacks, which increases the value that we're delivering to our customers and the long-term stickiness of our products. In Q1, we expanded the capabilities of 3 of our solution stacks, and we expect our expanding software portfolio to remain a key driver of customer enablement and momentum. In summary, while we're certainly not immune to any macroeconomic challenges impacting the industry, Lattice continues to be well positioned in long-term secular growth markets with an expanding product portfolio, accelerating customer momentum and strong financial execution. We look forward to sharing more about our future plans at our Investor Day on May 15. I'll now turn the call over to our CFO, Sherri Luther.

Thank you, Jim. We are pleased with our strong financial results in Q1 with record profitability driven by double-digit revenue growth and continued gross margin expansion. We continue to focus on cash generation while investing in our long-term product road map. We also returned capital to our shareholders through our tenth consecutive quarter of share buybacks. Let me now provide a summary of our results. First quarter revenue was a record $184.3 million, up 5% sequentially from the fourth quarter and up 22% year-over-year. Q1 was the 12th consecutive quarter of sequential revenue growth. Revenue continued to grow year-over-year in our 2 strategic market segments of Industrial and Automotive and Communications and Computing. Our non-GAAP gross margin increased 30 basis points to a record 70.3% in Q1 compared to the prior quarter and was up 260 basis points compared to the year ago quarter. Both the sequential and year-over-year increases in gross margin continued to be driven by strong execution on our gross margin expansion strategy, which is now in its fifth year. Non-GAAP operating expenses were $54 million compared to $52.5 million in the prior quarter and $47.2 million in the year-ago quarter. Both R&D and SG&A expenses increased sequentially as we continue to make investments in our product portfolio, customer support and demand creation. Our non-GAAP operating margin increased 80 basis points to a record 41% in Q1 compared to the prior quarter and was up 470 basis points compared to the year ago quarter. We continue to balance operating margin expansion with investments that will drive Lattice's long-term revenue growth. Q1 non-GAAP tax expense increased to $3.2 million primarily due to tax reform changes related to the capitalization of R&D costs. Q1 earnings per diluted share was $0.51 compared to $0.37 in the year-ago quarter, which represents 37% year-over-year growth, which is faster than the rate of revenue growth. Cash generation continues to be a priority. We ended the quarter with $112 million in cash after repurchasing 119,000 shares or $10 million in stock, and we also paid down $25 million on our credit revolver. Subsequent to the end of the quarter, we paid down an additional $60 million on our credit revolver. Let me now review our outlook for the second quarter. Revenue for the second quarter of 2023 is expected to be between $183 million and $193 million. Gross margin is expected to be 70%, plus or minus 1%, on a non-GAAP basis. Total operating expenses for the second quarter are expected to be between $56 million and $58 million on a non-GAAP basis. In closing, I'm very pleased with our strong financial results and continued execution despite the macroeconomic challenges impacting the industry. We are looking forward to our Investor Day on May 15 when we will share our plans of how we continue to build long-term shareholder value. Operator, we can now open the call for questions.

[Operator Instructions] Our first question today is coming from Matt Ramsay from TD Cowen.

Jim, I wanted to start my first question, I think, in Sherri's script. She mentioned 12 consecutive quarters of sequential revenue growth, which is remarkable. And you guys just put up 22% growth in Q1, which is a lot better than the industry is doing, let's say. Maybe you could talk to us a little bit about the drivers of the growth now as you continue to consolidate share in the low-tier FPGA market. And then in particular, do you feel comfortable -- one of the questions I get as you've gone -- put up this much growth is do you feel comfortable with where distributor and channel inventory is and the inventory levels so we can still see further growth going forward at maybe a similar pace.

Thanks for the question, Matt. Yes, we're quite pleased with the results that we saw in Q1, in particular, the year-over-year growth of 22%. We feel like we're off to kind of a good start for the year, especially considering over the last 2 years, we've grown at over 20% per year and, like I said, 12 consecutive quarters of growth. So we feel good about that. I attribute it to really 2 things: number one, from a market perspective, we positioned the company in, I think, the right long-term secular growth markets, and we have really strong Lattice-specific growth drivers within those markets; and then number two is product portfolio expansion where, right now, we're in the midst of, I would say, the largest product portfolio expansion the company has ever done in its history. And so I think both of those have just positioned us really good for growth. On the first one, just a little bit more color, from a market perspective, we're certainly pleased with our continued progress in the Industrial and Automotive segment. Industrial robotics, industrial automation, automotive electronics like ADAS and infotainment systems, all of those applications are really good applications for Lattice devices. The power efficiency that we bring, the flexibility, the increasing software content that we're delivering to our customers, all of those help us bring really unique and, I think, compelling solutions to our customers. And that growth that we're seeing in those segments is really driven by design wins that we've accumulated and driven over the last 1, 2, 3, 4 years, in those design wins entering production. So we're quite pleased with the growth that we see in that segment. And Comms and Computing, even though we saw some sequential decline in that segment, we again chalked up growth on a year-over-year perspective from that segment, and I think that stands out relative to the industry. And there again, we see growth in content expansion, in servers, good growth in data center networking, wireless infrastructure, so a number of specific growth vectors there. And then like I said, on number two, on the product expansion, we continue to expand out our small FPGA platform of Nexus. Just got our fifth device family into production. Number 6, we just launched. And Avant is still ahead of us in terms of revenue ramp. We're just kind of just getting started with Avant this year. And so we're pretty excited about the continued product expansion. And I think the last part of your question was around disti and channel inventory. When I look at our distribution and channel inventory at the end of Q1, relatively -- it was relatively unchanged from the end of last year Q4. And our disti and channel inventory is still low relative to what we would consider normal levels of inventory. So when you look at the channel inventory and say, "Well, that's what's pretty healthy," and over time, we'll need to replenish that a bit. And so we feel well positioned for long-term growth for the company. We're certainly not immune to any of the macroeconomic challenges or any demand fluctuations in our end markets, but we feel really well positioned over the long term.

As my follow-up, you mentioned in some of your commentary, Sherri, the growth in the Auto and Industrial segment being really, really strong, but Comms and Computing, it's no secret that there's been some temporary server build softness and also some softness in the PC market that seems to be bottoming and maybe starting to turn. So if you could maybe talk us through the next couple of quarters in that particular segment, maybe lead times for your devices relative to when servers ship or when PC builds start to turn around, if you could just kind of walk us through how should we think about the sort of reacceleration of that segment if those end markets do turn.

Yes. Thanks, Matt. Yes, we've certainly seen just -- along with everybody else in the industry, we've certainly seen some end market unit softness in most servers and PCs. For us, servers is a bigger factor. Our position of revenue in servers is much larger than what we have in PCs at this point, although we see PCs as a continued long-term large TAM opportunity for the company. But in the server space, both hyperscale and enterprise servers, that's been a great growth area for us for at least the last 3 to 4 years. Actually, Comms and Compute has grown double digits for us now, as of the end of last year, 4 years in a row, servers being one of the main drivers of that. But for us, most of that revenue growth in servers has actually been driven by content expansion. That's either higher attach rates, higher ASPs. That's been a much bigger factor for us than the underlying server unit growth in terms of the server TAM. And we expect that to continue to be the bigger driver for us over the long term, the continued expansion of dollars and content for Lattice. We continue to see great areas of opportunity to grow that, and we expect that to be the bigger factor in our continued growth. That said, to the extent that there starts to be a pickup in end market server demand, we would expect to benefit from that. Generally, we would benefit from that maybe a quarter or so ahead of when the actual servers start to ship just given the systems getting built and our chips getting ordered ahead of time. So we would expect to see a pickup about a quarter ahead and server deployments yet. But again, I'd stress that the majority of our growth in that segment is really more driven around, again, that dollars of content per server.

Next question is coming from Tristan Gerra from Baird.

Great gross margin showing in terms of results and guidance. Could you talk about the driver and also how sustainable that is, if you could talk about the key drivers and your expectation for pricing for the rest of the year?

Yes. Thank you, Tristan, for the question. So we're really very pleased with another record quarter gross margin for us, 70.3%, a 260 basis point improvement year-over-year. As I mentioned in my prepared remarks, I mean, we're now in our fifth year of our gross margin expansion strategy where we've driven 1,360 basis points improvement since we started this program in 2019. And really, the drivers are multiple factors. New products have added value to our gross margin, pricing optimization, mix, product cost efficiencies, all of those items have been factors that have contributed to us expanding our gross margin. So we'll continue to focus on gross margin, and we look forward to our Investor Day on May 15 where we'll give you an updated financial model at that time.

Yes, and maybe I'll jump in. I think Tristan also asked about pricing at the very end of the question. Tristan, just to address the pricing perspective, I think you're asking kind of go-forward pricing. We believe our pricing is durable. As Sherri mentioned, part of that gross margin improvement initiative that we've been working on over the past, now our fifth year, is that included pricing optimization and just, frankly, better pricing discipline within the company. And so we feel like we've built some strong muscles around pricing and we feel like our pricing is durable. And also, what I would add is we've added a tremendous amount of software content to our software portfolio. And we see increasing adoption from our customers of our higher-level software, our application solution stack. The adoption rate -- or attach rate's now over 50%. And software, when it's adopted by our customers, that also helps us secure higher ASPs and helps drive generally better solutions to our customer and better ASPs for us over the long term. And so that's a net tailwind to our ASPs over time as well.

Great. And then for my follow-up, you've mentioned the attach rate above 1 in data center. You mentioned just on this Q&A that you expect the attach rate will continue to increase. So if you could talk about the drivers. Obviously, as you expect to continue to outpace data center units, what are going to be the driver for attach rate to go even beyond where they are today and/or the ASPs to go further? Is that going to be reliant on new products? Or do you feel that there is more functionality that you can address or that your existing products already addressing in data center? Any color on that path for continued expansion of data center.

Yes, it's a great question, Tristan. And let me talk about both parts, the attach rate and the ASP expansion, which combined to drive dollars of content per server. On attach rates, which are now, I would say, well above 1x, we continue to see more opportunities across the server infrastructure for more Lattice chips to be used within the server, whether it's on the motherboard itself or the cards that are attached into the motherboard or just sort of multiple different places where we can see additional Lattice chips being adopted. And so we continue to see more opportunity there, number one. And then number two, and you kind of alluded to this, is as we bring more functionality, more capability through our new products, new devices through the new software that we're developing, and even with Avant coming out as well, we see opportunities to just bring additional content and capability to servers just like we've been doing over the past 4 to 5 years. And so when you combine that opportunity to continue to bring more content, which brings higher ASPs, with continued growth in attach rates, we continue to see this as a really good growth area for the company. And you should expect us to talk in a little bit more detail about this at our upcoming Investor Day. We'll give some more kind of specific examples of where we see continued opportunity in the server and data center infrastructure segment.

Next question is coming from Christopher Rolland from Susquehanna.

I was wondering, I don't think you guys have given this before, but I have a feeling it's growing a little bit more. I was wondering about auto as a percentage of total in I&A now. You mentioned ADAS, but would love to know what's driving that? Or is it really just purely industrial automation? And then also, sometimes you guys kind of force-rank the segments. I'd love a little bit of color there, too.

Yes. Thanks, Chris. So on automotive, yes, we're very pleased with the continued progress on automotive electronics. And it's a combination of ADAS and infotainment applications, many different places where a power efficient, flexible, adaptable chip like we provide can be used in automotive electronics applications, both for EV applications but also for the increasing electronic content that's growing even within gas-powered cars, right? So we're pleased with the growth that we've seen. In the most recent full year, Automotive and Industrial overall grew very strong. I think it was about 41% year-over-year, but our automotive business actually grew well above that. And in the most recent quarter, Q1, we again saw very strong growth in automotive. And so we see this as a really good growth area for the company, very kind of compelling and exciting design win pipeline that we have ahead of us. And so we feel good about that growth. Now that said, it is still the smaller portion of that segment, but we're pleased with the growth of it. But we are seeing strong growth in industrial automation robotics applications as well. Although over the past quarters, automotive has been growing a bit faster, we're still quite pleased with the growth we're seeing throughout the industrial segment in many different applications, especially when it relates to automation and robotics.

Great, yes. And if you can kind of force-rank the segments and give us an idea of where you think we may have more or less strength in the next quarter.

Well, in terms of next quarter, if you look at Q2, I would expect, on a sequential basis, certainly, if you take the midpoint of our guide for Q2, we've guided up sequentially, I would expect the sequential growth in industrial and automotive. I would expect Comms and Computing to be sequentially flat, but overall, for the revenue to be sequentially up based on the midpoint.