Magnachip Semiconductor Corporation (MX) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Magnachip 2020 through 2023 Planned Progress Call. [Operator Instructions]. It is now my pleasure to introduce, So-Yeon Jeong. Please go ahead.

Thank you. Hello, everyone. Thank you for joining us to discuss Magnachip's business update and 2020 to 2023 Plan Progress. The presentation slides can be found on our company's Investor Relations website. A telephone replay of today's call will be available shortly after the completion of the call. The webcast will be archived on our website for 1 year. Joining me today are YJ Kim, Magnachip's Chief Executive Officer; and Shin Young Park, our Chief Financial Officer. As we announced recently, Shin Young was promoted through the CFO position as of January 1 this year. I'm sure that many of you probably know her already, as she has been participating in our investor events for many years as one of the company's representative. YJ and Shin Young will run a formal presentation first, followed by a Q&A session. We expect the call to end in 1 hour. During the course of the conference call, we may make forward-looking statements about Magnachip's business outlook and expectations. Our forward-looking statements and all other statements that are not historical facts reflect our beliefs and prediction as of today, and therefore, are subject to risks and uncertainties as described in safe harbor discussion in the presentation slides and found on our SEC filings. During the call, we will also discuss non-GAAP financial measures. The non-GAAP measures are not prepared in accordance with generally accepted accounting principles but are intended to illustrate an alternative measure of Magnachip's operating performance that may be useful. A reconciliation of the historical non-GAAP financial measures to the most directly comparable GAAP measures can be found in the slide presentation. I will now will turn the call over to YJ Kim. YJ?

Hello, everyone. Thank you for joining our call today. It is great to be able to speak to you all again today, and I'm looking forward to meeting many of you in the near future. I realize that 3 earnings sessions have gone by and over the period, we were not able to actively communicate with our shareholders and provide insight into potential future performance of the company. So I wanted to give our shareholders an update on our business for the past 3 quarters and the progress we have been making on the previously announced 2020 to 2023 plan. We are in the process of closing the Q4 of 2021 now, and we will be ready to discuss the Q4 results on February 16, 2022. We are disappointed by the outcome of the regulatory approval process relating to the now-terminated merger transaction. However, this outcome does not impact the sound fundamentals of our business and our ability to accelerate our MX 3.0 strategy as an independent company. Without further ado, let me jump to business update starting with display business on Slide 4. As you can see, overall, OLED market is very healthy and our technology leadership and customer alignment are getting stronger. As one of the pioneers in 28-nanometer OLED drivers, we will continue to provide more innovative products and reliable services to the growing customer base that includes top-tier panel makers worldwide. Now Slide 5. Looking at the display business from the demand creation, the severe supply constraints certainly limited our ability to meet customers' needs. And we unfortunately had to forgo some of the demand in both shipments and design activities. Against this drop, we have been navigating these challenges by strategically focusing on high-value, high-margin products to protect our profitability. We carefully focus on 9 design activities during the past 3 quarters, including a design win at a major Korean smartphone OEM for their new key model, which was recently revealed. At the end of Q3, we had 41 cumulative smartphone design wins and our efficient mix management efforts are reflected in the recent margin expansion. I am very pleased to report that we have successfully broadened our customer base to include a top-tier panel maker outside Korea. The initial revenue is expected to start in the later part of 2022, followed by the ramp-up throughout 2023. We are well aligned with top-tier panel makers in the world now and positioned to benefit from the increasing OLED adoption in multiple geographies. Switching to non-smartphone applications. OLED TV project is progressing well. We are under qualification process with a major Korean TV OEM and initial production started in Q4 2021. Next, OLED Automotive. We are developing next-generation OLED DDICs for automotive displays, which is designed for center stack displays and instrument cluster displays. One of the key features of this next-generation DDIC is that it will be made as an all-in-one solution, which means that the source drivers, gate drivers and timing controllers are integrated on a single chip enabling the cost-effective production and increase reliability of display panels. We secured 2 design wins with premium European automakers. We expect the initial mass production to start in the second half of 2023 based on our customers' current plan. Coming to the emerging new display technologies, MicroLED is for very large next-generation high-end TVs, and it offers high luminance, fast response time, excellent contrast ratio and long product lifetimes. We continue to work with our customers to enable them to deliver these innovative products and our customers has recently showcased some of the models. We are working towards an imminent launch in 2022. Overall, despite the reduced shipment and design activity caused by severe supply shortage, we feel that the demand for our innovative products is very strong, and we remain our customers' preferred partner. We thank our customers for their ongoing trust and support. Now let's move to Slide 6, the supply side of the display business. Severe supply shortage in 28-nanometer 12-inch OLED wafers negatively impacted our display revenue in recent quarters. We expect our severe supply shortage to continue in the near term. We tend to side with the view that ongoing global shortages in manufacturing capacities will persist throughout 2022 and is set to last until 2023 for certain chips. Our team has been really going all out to secure and expand meaningful and sustainable supply capacity. As we previously announced, we secured some additional 28-nanometer manufacturing capacity for coming years. This capacity will start to come online in the later part of 2022. In addition, we are in discussion with one of our foundry partners regarding our multiyear supply agreement in order to secure long-term capacity. And we expect to share more details about this effort to the extent that we reach and sign a final agreement. Next, let's switch gears to our Power business on Slide 7. Power semiconductors offer us a huge TAM that is growing at a healthy rate, which gives us ample opportunities for sustainable growth. We embarked on go-to-market strategy and special investments in our Fab 3 in 2020 and 2021, and our efforts are yielding not only strong results, but also a robust pipeline of new products. Moving to Slide 8. The demand for our products -- for the first 9 months in 2021 was very strong, and our efficient R&D is gaining momentum in new product introduction, especially for premium products. Speaking of the premium products, we achieved greater than 50% premium product mix at the end of Q3 2021. Power IC that had crossed $10 million annual revenue threshold in 2020, achieved greater than 50% growth in the first 3 quarters of 2021, which has already surfaced -- surpassed through Q3, the expected gross trajectory of the 35% year-to-year growth in 2021 we mentioned. Our team expanded Power IC design wins to include wider applications in computing, communication and consumer. The super junction MOSFET Q3 '21 year-to-date revenue increased by 45% compared to Q3 '20 year-to-date demonstrating strong momentum in TV, LED lighting and industrial application. IGBT in Q3 '21 year-to-date revenue also increased by 32% compared to Q3 '20 year-to-date revenue with expanding into solar and renewable energy. Our team also developed and introduced exciting next-generation product portfolio, including new PMIC for tablet and notebook display and new generation low-voltage MOSFET for battery protection applications. We also commenced preproduction of next-generation Super Junction MOSFET. These value-added products tend to carry higher margins than the other MOSFET products. Coming to the Automotive Power. We are working with the end customers to address evolving changes requested by them, which caused a delay in initial shipment timing. The qualification and design activities are progressing in line with the end customer schedule. We expect the initial mass production to start in the second half of 2023, based on our customers' current plan. Last slide on the business update is Slide 9, the supply management in the power business. Our prudent supply management, along with demand creation led our power business to achieve record quarterly revenue for 3 quarters in a row and our sixth consecutive quarter achieving sequential revenue growth as of Q3 2021. We are on track for: one, adding about 40% incremental capacity for standard power products by end of 2022 compared to the 2020 level; and two, introducing a set of next-generation power discrete product families that will carry superior performance with an improved cost in 2022. In addition, as the demand for our product continues to increase, we plan to tap into external foundry capacity for Power IC and some of the MOSFETs in the future. Now that we finished the review of each business group, I will now illustrate how it is translated to our 2020 to 2023 plan. Now let's go to Slide 11. You may recall that this is a set of metrics that we announced in October 2020 upon the completion of the sale of the Foundry business. In October 2020, -- in October 2020, we plan to, one, grow our top line at a double-digit CAGR between 2020 to 2023; two, consistently achieve above 30% gross profit margin; three, exceed 10% adjusted operating income margin; four, tax rate to be approximately 14% to 16% in the next 2 to 3 years; and five by 2023, generate free cash flow in excess 8% of revenue. That's what we stated in October 2020. Since then, our team has been pushing the limits and pressing forward with the plan amidst severe global supply constraints. And I'm pleased to report that some of the target goals were already delivered. Now let's turn to Slide 12. We have the right products, expanding customer list, proven go-to-market strategies and most talented employees with whom our customers enjoy working together. While our near-term outlook is still being challenged by the continued and deepened supply constraints, based on our current business pipeline, we are confident in our ability to reach beyond our original targets. By the time we exit 2023: First, we expect to grow the top line at a double-digit CAGR for 2020 to 2023; two, we already achieved above 30% gross margin for the whole company, including foundry services. That is transitional. We strive to consistently maintain above 30% gross profit margin for the whole company. We already exceeded 10% adjusted operating income margin in the first 9 months of 2021. By the time we exit 2023, we expect to reach mid-teens adjusted operating margin. Four, tax rate to be approximately 22% to 24% for 2022 and 2023. #5, by 2023, we expect to generate free cash flow in excess of 10% of revenue. With that, let me turn the floor over to our new CFO, Shin Young Park. She has been with the company since 2014 and played a crucial role in building the strong finance and accounting team that we have today. I feel confident that her long history with the company and comprehensive understanding of our operational discipline will be instrumental to our journey to sustainable and profitable growth. Shin Young?

Thank you, YJ. Hello, everyone. Nice to meet you all. I look forward to meeting and engaging with more investors in the future. Next page. Today, I'll walk through our capital allocation philosophy and near-term focus of our cash use. In terms of our cash use philosophy on Slide 14, will use cash to build and maintain sustainable competitive advantages and enhance the value to shareholders. Our first priority is to reinvest cash flow back into our organic growth. We will invest in innovative technologies and products, talent management, manufacturing and supply chain management, including long-term supply agreements and efficient sales marketing channels. For instance, to support our OLED and power semiconductor customers in China more efficiently, we are establishing a new sales and support center in China. Our next priority is to fund potential inorganic growth opportunities. Also, we are committed to returning capital to our shareholders. Next slide. Slide 15 describes our near-term cash use focus. We target to maintain over $100 million cash on the balance. This is mainly for working capital but it also reflects our customers' desire to see a solid cash balance. We are also committed to shareholder return. On December 21, 2021, our Board authorized a new $75 million stock repurchase program. And as an immediate step, we entered into a $37.5 million accelerated stock repurchase agreement, which is to be completed by first quarter of 2022. The rest of the cash will be used for flexible optionality, which will enable us to support key investments in organic demand creation, supply management as well as opportunistic and accretive acquisitions, technology tuck-ins. With that, I'll turn the call over to So-Yeon. So-Yeon?

Thank you, YJ, and thank you, Shin Young. So operator, this concludes our presentation, and we are now open the call for questions.

[Operator Instructions] And our first question comes from the line of Raji Gill with Needham & Company.

Just YJ a question on the new targets, if I may. The gross margin as of the third quarter was 36.7%. And the -- if you strip out the transitional services, it was 39%. And the operating margin, the non-GAAP operating margin for the third quarter was 17% based on my model. So well above your 30% gross margin -- initial target and well above your 10% -- and so -- and then you also commented that you're going to continue to grow double digits, which would imply a much higher growth rate this year and next year. So I'm curious in the slide, you're saying you're going to maintain above 30% gross margin and then operating margin kind of exiting mid-teens 2023. I would think it will be much higher than that on the gross margin front, and same thing on the operating margin, you're already are at 17%. So maybe can you elaborate that further, is there certain specific things that are temporary that might have positively impacted the gross margin in the third quarter that you don't expect to continue into this year and next? Because I would think that you would be putting out much higher targets as opposed to just qualitatively saying it's going to be above 30% gross margin?

Raji, thank you. I mean a very smart question. Thank you for that kind of detail. Well, first of all, the quarterly margin, it fluctuates and also the quarterly margin can change based on when you have more allocation wafer right now that could have been shipped versus not. And when the wafer cost goes up versus not goes up, so it could fluctuate. So what we say over 30% is consistently over 30%. I understand, we're achieving higher than mid-30% in the third quarter. But our point is to be consistently and obviously, we want to make sure that we provide better than what we can expect and beat. So that kind of thing is also built in, but take out the quarterly variance and the unpredictable things that may happen. At the same time, about the revenue, as we said in my remarks, we are in a deep severe supply shortage for our OLED wafers. Our demand is huge. In fact, in 2021, our demand, I believe, is more than 50% higher, but we could not get the supplies, right, so things like that. So -- and we are saying that for a few quarters, we still have a severe supply issue that is not meeting our demand. And we expect the -- our capacity to get better towards later end of this year. So we are putting that kind of picture along with what we are carefully guiding to you as well to our investors.

And in terms of your comment that you're going to maintain the double-digit CAGR from 2020 to 2023 despite the supply constraints, that would imply a significant growth rate this year and in 2023 because in 2021, obviously, your revenue looks like it's going to be down. We don't obviously know what Q4 is going to be, but it looks like they're going to be down. So you just mentioned that there are supply constraints that are going to continue in display that won't get rectified maybe later into the year, yet you're committed to the 10% CAGR or double-digit CAGR from 2020 to 2023. So it implies a very significant jump this year and next year to get to that [ $75 million ] number in 2023. I was just wondering how you're getting to that. What's giving you the confidence over the next 2 years that you'll be able to achieve that because the growth rate will be much higher than 10% this year and next year? Is there something I'm missing there in terms of the math?

No, I think you are kind of getting the hint that there has to be very significant next year in '23. This year, at the same time, we are giving some conservation that the -- for the foreseeable few quarters, we still have supply constraints. So I think you can see what kind of curve that could be. So -- but, a, we said we have a new customer outside Korea but b, we have new capacity coming towards the later end of the year. We have signed MOU, things like that, and we are also working on other LTAs. So that kind of things and the design momentum, we feel good about maintaining the double-digit CAGR from 2020 to 2023.

Got it. But it's kind of fair to assume that it will be more back-end loaded into the end of this year and maybe into next year?

Yes, I think you're picturing it correct.

And just last question, I'll step back in the queue. With respect to the capital allocation plan, it's good to see that you are implementing this stock repurchase plan and returning capital back to shareholders. When you're balancing working capital and stock buyback with tuck-in acquisitions, I'm just wondering how you're kind of prioritizing that. Obviously, you want to complete the full $75 million. But based on these kind of long-term metrics, you'll be able to generate a lot of free cash flow. So are there tuck-in acquisitions that you're thinking about in certain areas? Or is that just more of a secondary kind of thought, and it's really more about buybacks first and foremost?

So let me expand on what Shin Young said. I mean I think we have said that $75 million has already been authorized. We already going to be done half that amount for the ASR by end of Q1. We need about $100 million working capital. And then the rest of money, as Shin Young pointed out, we're going to carefully looking at the balance of the supply chain management, CapEx as well as the opportunistic accretive M&A. So that's how we are looking at that. And the focus is to accelerate MX 3.0 strategy and to maximize shareholder value.

Your next question comes from the line of Suji Desilva with ROTH Capital.

Shin Young, congratulations on the new role and best of luck there. So on the diversifying opportunities YJ, OLED TV, automotive, MicroLED, I know in the past, LCD TV you got out of because it was lower margin. But are these new opportunities gross margin accretive? Is that how we should think about?

Yes. I think all these are margin-accretive opportunities.

That's great. And then switching over to OLED, the non-China OLED panel customer, can you help us understand what the size of that opportunity is versus your traditional customers? Are you kind of a second source there? Are you coming in kind of at the beginning or are you going to have a meaningful share opportunity there? Just to understand how that -- those panel customers are shaping up relative to your historical relationships?

Yes. So what we -- Suji, let me correct your question. So the -- our statement was outside Korea panel makers.

I apologize. My mistake.

So that was the -- it's okay. So yes. So as I said before, we will give more details later on, but they are a very respectable top -- world top-tier panel makers and we are looking forward to grow our business and provide a competitive solution to our new customer as well as our existing top-tier customers in the world. So our partnership with our customer has not changed at all. And we will be expanding and solidifying with all our top-tier customers.

That's helpful color, YJ. And maybe my last question is really on the newer automotive opportunity, very exciting time for automotive here. I'm just wondering, with the wins you may already have, if you have -- that, that segment provides suppliers like yourself, multiyear visibility. So I'm wondering if you have wins or design wins in hand that provide you multiyear sort of revenue visibility already? Or are those design wins still to be achieved. I'd imagine a year or 2 out, somewhere that ramp starts to kick in and provide you much more confidence in your revenue. Is that a fair characterization of where you are right now in OLED automotive?

Well, I think we mentioned 2 OLED automotive design and we kind of gave some time line based on our current customers' plan. It's moved second half '23 and those are targeted at premium European carmakers. And I think what's important is that the OLED is now starting to appear in the center stack display and instrument cluster display, which is key and that consumers will enjoy the much brighter and more crisp and better display in the car along with the evolution of the car market. So I am very excited in the long term. And usually, these type of design lasts multi-years and not like the smartphone market, it's only 9 to 18 months.

And our next question comes from the line of Martin Yang with Oppenheimer.

My first question is about the power semi segment. Do you expect the segment to maintain its current growth rate we saw in the first 3 quarters of 2021, do you expect that growth rate to continue this year?

Yes. So your question is that are we going to have that kind of growth in 2022.

That's right.

So if that is the first question, so -- but if you -- let's look at the general market, the -- as we said, the power market expectation from the analysts in 2022 and '23 is low single digits. So I mean -- but our goal is to do much better than that. But I mean we grew about 40% plus in the first 9 months. I think that's going to be very tough, but we're going to do our best to beat the low teen single digit, what the market expects.

Got it. And the follow-up question is also regarding power semis and how much supply chain constraints do you see particularly for your power products? Do you see more demand over your own supply or your third-party supply source?

We only see what we have in our own demand and our demand from our customer for power is it's double-digit percent higher than what we can supply. And it's -- still, we are in a shortage situation.

Got it. My next set of questions is about a clarification regarding the OLED driver IC panel customer outside of Korea. So Shin Young mentioned that you are building local infrastructure for Chinese OLED panel makers as well as for Chinese customers for power products. So can you maybe confirm that the panel customer outside of Korea is a Chinese panel maker? If not, are you also in conjunction with that one design win also exploring additional Chinese panel maker customers for your OLED driver IC product?

To repeat what she said, our priority to invest in some of the area, including efficient sales and marketing channels for instance, to support our OLED and power semiconductor customers in China more efficiently, we are establishing a new sales and support center in China. However, we did not really say much in detail. So at this time, I think we will leave it at that. But at the same time, I did say that we have gained top-tier panel maker outside Korea. So let me leave it at that.

Okay. And -- but can you confirm that's for a smartphone panel type of products? Or is there any other product configurations associated with that panel?

Yes. So Martin, thanks for asking that question. I think your gut feeling is good, but let me defer that more detail in the future earnings call.

No problem. And the last question is on automotive new products. Do you -- or can you maybe inform us does your competitors also offer the all-in-one architecture with the timing controllers itself?

There are many competitors who does in the car, but as you know, we are one of the leading OLED. So I think for the leading OLED, I am only aware of ourselves and our neighbors. So I don't know how the other guys they achieve our type of architecture or not.

Okay. No problem. And so also for automotive design wins, can you maybe help us understand the potential pricing range for those type of chips comparing to smartphone?

Well, the automotive because of the volume is not as high as mobile, but the development cost is similar. So it tend to carry a premium and because of lower volume and the more vigorous [ qual ] and cycle and it takes longer to bring up from design winning to production. So by nature, it has to be more premium.

And our next question comes from the line of Jon Lopez with Vertical Group.

I had a couple of clarifications and then 2 main questions, please. The first clarification is, if I remember right, in the second half of calendar 2020, I realize it was a while ago, but obviously, we haven't talked in a while. You were shipping low single-digit millions of dollars in your display business, which were not OLED, which I think we understood to be DDICs for LCD automotive panels. Has that continued -- a, is that right? And b, has that continued? In other words, are you still participating in the automotive market via LCD through the course of 2021?

The short answer is yes. Yes, and it's a small amount.

Okay. Got you. My second question is as we think about 2022, you've obviously couched supply concerns fairly starkly. Are you comfortable that you can hold your OLED display driver business flat in 2022? Or are we potentially looking at a decline before what I'm assuming is going to be a pretty significant rebound in 2023? Can you talk through some of the puts and takes there?

That's a very good question, Jon. So I think -- I mean, I think Raji also had expected the right curve. So I think -- I don't think -- we are not trying to go down. But again, they will be all dependent how much supply we can get. So our demand is higher. So we will be -- we are working hard on the severe constraints of the supply. But right now, we may be plateau or up depending on supply situation.

Understood. And sorry, just on the supply side, is what you're waiting on here expansion of existing supply, in other words, with existing foundry partners? Or are there new engagements or agreements that you're either qualifying or waiting to come online?

I think we hinted that there's a new supply chain to come up later part of 2022.

Later part of 2022. Okay, that's great. And sorry, my last question to come back to the power side. You commented on your automotive opportunity. I guess I'm a little surprised that if I heard it right, that's moved out to 2023. Can you perhaps just help us understand what some of the puts and takes are there? And whether there are opportunities in addition to that one you've been pursuing within automotive that may perhaps also layer in as we go through the course of the next 2 calendar years?

Well, I think it has to do with some supply and demand in the current market of the -- how hard to get the chips. So I guess that may change some of the end customer product launch or the model. So I think that's what it is.

And now I'll turn the call back over to So-Yeon Jeong for any closing remarks.

Thank you. This concludes our call. We are participate at Needham Conference on January 13 and 14. Please look for details of our future events on Magnachip's Investors website. Thank you for joining us today. Goodbye.

This concludes today's conference call. Thank you for participating, and you may now disconnect.