Phison Electronics Corp. (8299) Earnings Call Transcript & Summary

Welcome everyone, to Phison 2022 second quarter analyst meeting. I'm [indiscernible]. Today, we are glad to have chairman Mr. Pua with us to share about the business outlook and his view for the industry. Please note that this is a 16 minutes meeting, and we'll have Mr. Pua for the company's recent business updates and also followed by the Q&A sessions. So let me pass the time to president.

Okay. Thanks to ladies and gentlemen to attend Phison's CQ2 earnings call. [ Okay ], this today's report. Okay. In Phison, we are in the data storage industry, and we all agree with growing in the data storage view according to a lot and this report, this is still a big growing. And those are site we are in the, good industrial, the right industrial and we need to spread the better position. And again, according to the report, the net application from the 20 years ago, mainly in the renewables, then moving to the embedded small power PC. The next would be data center and automotive, which finally we are aiming to this industry. And we also have heavy R&D investment into both data center and automotive applications. This is present our CQ2 revenue breakdown. You can read our controllers revenue portion is every quarter growing. This quarter, we are around 33% in controller business. The reason we keep growing controller just are because since we work AMD with from start from 2019, we have heavy R&D engineering investment. Then we got many projects from the NAND producer. After 2, 3 years of development, it's the time to start to ramp up or controllers business. So in 2023, we are still very optimistic in the NAND controllers portion, we believe we can achieve pretty high level. And the next is about the embedded ODM. We started business from 2020. Right now, this portion also keep growing. And we believe this controller and embedded will be our main cash cow in the 2023. Gaming as a total, this also reflect the total inflection, which impacts the consumers' weak buying power. So gaming in the CQ2 is strict. I think we need to wait until Christmas season. But industrial module actually been impact by the CQ2, the China lockdown. A lot of assembly material component shortage [ saw ] a lot of industrial systems are able to assemble. But right now, we already feel the demand is slightly back in the CQ3. So hopefully, by CQ3, CQ4 we'll be able to get some more growing in the industry. So overall consumer is remaining 18%. This also declare that CO2 the consumer market is very, very rich. Consumer market to price, I think, is still one of our main business. We hope by CQ3, the Western country back to school and the China Double 11 in CQ4, then following by next Christmas season. So this consumer industry were able to help us to move our inventory. So anyway, first on, we have so many different business revenue combination. So overall, CQ2, I think this is very healthy. And we hope by CQ3, CQ4 the market will be able normal. So you're familiar with Phison. From day 1, we are starting from the USD consumer, then we start to migrate to the industrial. After we work with AMD, we are more focusing into the embedded development. Next is -- our last milestone is the data center and enterprise business. We invest a huge number of engineering resources into this enterprise application, which we are also great to have our partner Seagate announce their branding SATA enterprise SSD products by a few weeks ago, they start to promote this through their sales channel. And coming by next week is the FMS in a [indiscernible]. Our partner is going to announce our Gen4 by 4 enterprise SSD going to [indiscernible] and also going to ship with small volume went up to the server and data center customers. Okay. Then we move to our CQ2 financial report. Revenue-wise, it was $16.2 billion, which we have Y-o-Y, 2.4% growth. And gross profit is $4.9 billion. And this is also our second highest years in the same period. So these are some highlights here. The controller is 33% of our total revenue. And the controller group by Y-o-Y is 71%, okay, by unit, which including the mobile and the PCIe Gen4, we are in a very high growth. And in the PCIe or Gen3 and Gen4, we have a 6% growth. And modules wise, I need to highlight about the BGA SSD. BGA SSD is really niche application in the PC and some smartphone industrial applications, which the NAND producer they have not much interest to carry develop these products and looks like Phison has become the major key supplier in the world. So we are successful to put the BGA SSD into the mobile phone and follow up by the slim type notebook. And also, we are going to work with our CPU partners to promote these to the Chromebook applications. So we believe Phison will become the major BGA SSD key supplier in this industry. And the next is about our embedded ODM modules business. We have continuous growing and believe that 2023 these will become our major cash cow. So overall, the revenue is $16 billion, first half is $33 billion viz a viz growth versus Y-o-Y last year. And gross margin wise by CQ2 license gross margin is 30.3%. Still remember by CQ2, many investors, analysts, they question in Phison in may impact by the gross margin break, but overall, at the end, we're still able to maintain the higher level margin just because Phison has too many NAND, controllers and application modules. Even though CQ2 China lockdowns and world across heavy inflation but we're still able to manage our business with a better gross margin rate. And the earnings per share in CQ2 is $9.17. So first half is close to $20, okay? And this is also the highest in the same period. So we agree CQ2 is volatile in the overall with the [indiscernible], I think we are happy on this. And we still need to keep working very hard for our second half. Okay. In the balance sheet, the cash flow -- cash wise, we from CQ1 and sequence reducing [indiscernible] we accumulate more inventory. But CQ2, we have a good earnings. Overall, the cash back to the [indiscernible] by end of June. And inventory-wise, which a lot of shareholder investors, they may have a question. Okay, back to 6 months ago, CQ4 2021, Phison already announced to our shareholders, we are going to build up our inventory just because we got so many design win projects, and we have a big forecast from customers. So at that time, we set a target by CQ1, CQ2 this year, our inventory growth is 24 bps. That was setting up by the CQ4 last year. And anyway, we make it. But unfortunately, [ opposite ] through the market suddenly turn down to very slow. Delivery wise, we are not able to hit our target. So that's why cost at the end of the inventory is high. But overall inventory is just for our focus. The only difference is that they were not able to achieve our focus, okay? So I'm not much worried about inventory, but I mean inventory is heavy pressure to not only Phison but to everyone, but we have to work very hard to consume this inventory and keep buying back from our suppliers with more a material with a much lower price to leverage our total cost. So by the end to our net value per share is 119, which is a record high. And overall, the turnover rate -- inventory turnover days is 170 versus last year just because inventory increased by revenue [indiscernible] follow-up. But I believe that main market still will be really weak in CQ3, maybe also CQ4, but sooner or later, NAND will come back to normal, then the inventory problem can be easy to resolve. And by the income statement. Overall, the earnings per share -- okay, first of all, the gross margin range we are -- I think we have a very good achievement in the gross margin rate. And by the earnings per share, it's a little bit behind my expectation. But overall, CQ2 is a very challenging quarter Okay. In coming the CQ3, we think we're still able to try to gain more business, but inventory still can be a problem to us. Okay. We also, in the coming earnings call, we are going to also disclose our negative results. [indiscernible] presence since 2 years ago, we have issuing the stock option to the -- our employee that will cause some OpEx. So we start to highlight about this. So based on this cost expense on the options. Without that, Phison will be able to get the other extra 0.6% of the gross -- the net OP and also the net profit. So in order to get the more good talent, Phison will keep issuing our stock options. And we also have a buyback program as treasury stock. And that's [indiscernible] transfer to engineers. So in coming many years, we -- also, we'll keep highlight about [indiscernible] results to expect the shareholder most transparent understanding Phison, what is our OpEx, okay? So this is for a difference. Okay. And business highlights, you take by end of May, AMD, Micron and Phison announced the world's fastest PCIe Gen5. Most of the best technology modules with the 232 [indiscernible] which Micron announced yesterday. 232-layer [ flat ] is going to empty and also it's a more advanced [ network ]. So Phison, we feel proud we're able to work with AMD and the Micron on this much more advanced technology, and we become their ecosystem partners in their gaming and computing platform. So this also to share Phison through our heavy R&B investment, we're able to achieve as a key ecosystem players in the most advanced technology platform in the future. We're also happy to win and report that [indiscernible], they made some [indiscernible] of their ThinkPad notebook, which using the Phison's BGA SSD product. [ Samsung ], I also mentioned item become a key player, and we are able to design controllers, we build the BGA packaging, and we're able to service many design wins into platform. So in the coming years Phison, with BGM SSD, will contribute more revenue, of course, profit and also to build the highest position in the notebook and also in the server and in the mobile phone. So some business highlights here. In the CQ2 retail market, we're working with our partners, our supplier partners, we built the [ 1.5TB ] micro SD to the market. This is the highest density in the world. In the OEM side in the mobile, we're able to put our lowest power consumption EMC controller into the smartphone, which is a key player in the China and Japan. We are also successful to put our fastest, the most fastest Phison Gen4 controller modules into the gaming notebook. We have a few gaming mobile key brands that are using our platform with our [indiscernible] Gen4 SSD up to 4 terabits, okay? This is a high [ ASD ] products. As in gaming-wise, we work out with the new stock companies, [indiscernible]. They just announced a handheld gaming console, which Phison is a key supplier in their internal SSD. In the server data center side, we are successful to work with our partner to launch our enterprise SSD [indiscernible]. So my partner will make the big event at the next week at [indiscernible]. In the industrial application Phison gained a lot of design wins in the medical systems. Medical System, you see a lot of image and then the image needs storage, we're able to help them to do a lot of AI computing. Phison, we are the key player in this field. Okay. The total industry outlook. After CQ2 lockdowns, the war, the inflections, we agree the market tend to very slow. And the NAND looks like -- at this moment, I think NAND is not oversupplied. We define as under demand. The demand is getting slower that cause a huge inventory stock in the supply side. So we believe the net price in the CQ2 will keep sloping. And after few more months when price is cheaper enough, we believe NAND producer may announce to cut some production. This may happen, but we don't know when. But personally, my perspective will be happened by CQ4. After the NAND start to announce the cut production by the CQ1, the new platform, no matter the PC or notebook, it will start to increase device content to attract the consumer to buy that kind of systems. If it still happens then NAND will back to normal again. And we believe in the past year 2012, [indiscernible] these things happened. So we believe, again, this will keep happening again. Most investor, analysts are questioning Phison about OpEx. Yes, by CQ2, our OpEx still keep in a high level. This is Phison's policy. We agree the market turndown, and we also wait from the public a lot of big guy in the U.S. start to decide not to hire people or start to cut down the employee number. But Phison, it's the only key player, so there is a third-party man controller business, we've been requested by so many NAND producers, system makers to make the service [indiscernible] the NAND controller module to them. We still need over 1,000 engineers, new headcount. So we are trying to hiring more talent in coming few months to make a better service. We believe by end of -- by middle of next year, first half next year, Phison will be able to achieve maybe 3,000 headcount [indiscernible]. After that time, every engineer will training, there we're able to have more capability to service to our NAND customers and also for the system customers. After that, Phison will slow down the R&D decrement. But from now until next first half, we are going to keep hiring. And of course, this will impact our OpEx, also impact to our profit, but this is our strategy. So you also [indiscernible] before 2018, we are just defined as a consumer players. We are just followers. But after AMD ecosystem event, Phison right has now become kind of building technology in the [indiscernible] Gen4 and Gen5. But our net goal is enterprise system. Phison will like to be the most in future controller supplier in the world by 2025, means we now have to keep investing to make our R&D teams much stronger and able to make a good service to the NAND customers and also to the system customers. Okay. This above is my report. Then we can start Q&A. After this Q&A, we can go to live. This morning, we had a Board members' meeting. We approved the cash dividend about our first half earnings. So this cash dividend will be distributed by next year early January. So this is NTD 10 per share, okay? As followed by Phison, our principal -- around 50% of the profit we'll share to our shareholders. Also, we've been pressing what is Phison's cash growth priority, okay? So Phison's, our capital priority first is on the technology development. Okay? Second is try to recruiting the global talent, okay, to make sure our R&D capability is strong enough to make a good service to all the key customers. And then ESG, we are expanding the green energy to follow up the request by our Western U.S customers' requirement. Second priority is we need to use our cash to maintain our liquidity, especially like right now the market is going down. The NAND suppliers, they are coming to us with some problems. With our enough cash, we're able to make a good deal, okay? So this -- our cash setting is for our business growings. And then we are going also to have a dividend, every half year dividend to the shareholders, okay? So now Phison keep good enough of cash flow. We believe this cash flow will help Phison to get more business opportunity and to grow ourselves rapidly. A few weeks ago at Phison, we announced to buyback our treasury shares. And these treasury shares is going to act as our bonus to employees. So this is a 5-year program. We are going to buy back up to 10 million shares and transfer to engineers. So the total potential cash spend will be like NTD 3.25 billion. And I think with this good kind of incentive program, Phison will be able to get a more good talent to help us improve our in-house technology. So for our long-term scope, we're still hoping we're able to consume 6% of total NAND production by year 2025. Okay, this is our growth. And we're still looking to our gross margin, 27% plus minus 3%. And the ROE is 20% to 25%. We agree we need to work very hard, especially right now there's a strong headwind in the semiconductor and the IT system business. CQ3, CQ4 we believe is more challenging, but no matter what, in this our R&D investing is our policy. And we believe with this strong investment by '23, '24, Phison we will be able to become the only key player in the world. And also due to our competitors being acquired, I think Phison will have a better room to play our position. So the only way is keep strong R&D investment. At the end, Phison will be able to occupy most of market share and enjoy the profit in business. Also, we've been pressured about the inventory, okay? Yes, we have high inventory, and followed by [indiscernible]. Every end of month, end of quarter, we have to review our inventory and we need to have a write-off. So by this CQ2, Phison properly write-off close to NTD 600 million of our inventory. Okay? CQ3, probably if the market is still going down, we still have to write-off. This may impact our gross margin. But overall, we believe this is still under our control. Okay? After we sell the components and the modules, these write-offs will come back to our profit. So impact may happen immediately, but after the market back to the number, then everything will be sorted. So talking about today's markets low, inventory high, what can we do? What we have to do is, again, keep a more diversified business, more design win projects, more controller project and margins development, keep insisting to strengthen our R&D capability. This is the only way. But the good thing is at Phison we have very strong cash flow, very healthy organization. And also, thanks to our competitors being acquired, there may something change very soon. So we keep ourselves solid, means after we overcome the current headwinds, I don't know when, maybe 1 quarter, 2 quarters. After that, Phison will start to enjoy the returns from our [indiscernible]. So the gross margin, even though with the CQ2 market still bad, we are able to keep 30%. CQ3 is challenging, but we're doing our best. And Phison, I define the IT semicon business, they have a so-called unit and capacity. We agree smartphone, PC, TV, automotive, IoT, whatever, that by unit in coming years, we don't believe is going to grow, okay? But each system definitely they need to use a storage, and storage is equal to NAND. And NAND, due to the price going lower, the content of a system will keep increasing. So our main business is a capacity business. Phison, we have a unique business, meaning we are selling controllers. But over here at Phison we have a module business, and this module we call as a capacity business. Capacity able to help improve our ASP and also improve our gross margin. So we're happy we have combined these 2 businesses in Phison's business model. And also, we have been kept asking, why the semicon, we need to outsource controllers from third parties. The reason is about the internal R&D cost is getting higher. The return on investment through the consumer looks like getting lower to negative. And also if we have a good talent, we prefer to use the talent to design the enterprise SSD, not client SSD, as enterprise SSD has a higher ASP per gigabyte, higher profit per gigabit. Then at Phison, we're happy to work with semicon, to service, our controller design services. And also, competitors being acquired may create some kind of a condition to the main producer. So I think we have a better position at this moment. Now talking about ESG, we are still awaiting the DJSI and the CS new rating. But Phison now looks like we are improving ourselves in the ESG performance. Okay. So vote is that QA will commence from advance, but now we can go to the online questions.

Okay. I read some questions in the chat room. So just we'll go to the chat room first. So anyone you can raise your hand. Ray, if anyone raise their hands, please let me know, okay?

Okay. Sure, sure.

The question here is, can you give us some color of, one, '22, '23 big growth expectation? Let's say, 2022 versus '21, we have a high expectation in the big growth in our business. But unfortunately, business was back in CQ2 due to the China COVID and also the inflation. CQ3 looks like being slow, but we have a few opportunities there. Western countries back to school. We believe the demand is gradually coming back and that's coming by Double 11 and the Christmas season. So overall, '22, we're still able to have a big growth, but not able to have accurate expectation how many percent we are going to grow. But by '23, we believe inflation we're able to manage very soon. The market will be back to normal. Look to the 2020, after COVID lockdown, 6, 9 months later, everything became stronger. So '23, personally, I think, I'm more optimistic. And with our enterprise SSD start to NP, we'll be able to have enjoyed the much higher growth in '23. So second question about the [indiscernible], we are providing the modules, we are not selling controllers for them. We're providing the whole modules, combining the client SSD, industrial SSD and enterprise SSD. Okay. Yes. Simon, long time no see. I read your message. You can write down the question or you can raise a hand. So Ray, any question on the line?

Yes. I think some investors -- I also received some questions from here. Some of the investors are asking about the overall inventory -- sorry, the inventory level. So it seems like it's still much higher than this quarter. So what is our strategy going forward for the inventory build? Or how to adjust inventory?

My strategy is keep buying more and keep selling more. This is the only strategy, okay? At Phison, we start to automate the inventory from CQ4 end. This inventory buildup kept forward by the forecast by Q1 '22 is too strong. But unfortunately, suddenly everything backed up, but this happened. My strategy is we keep pushing, moving inventory. Of course, this with struggles and low margins, but we've done much worse. And then we keep buying base from our suppliers with a better cost structure of inventory. Okay?

Yes. Got it. And also, I think there's a pretty nice discussion about presently, past few quarters, we don't have enough foundry supply from foundry players due to the tight demand. What is the situation now? And looking forward for the next few quarters, how do you expect the foundry supply? And also what's the supply-demand ratio for you?

Phison, we are the chief player in the PCIe Gen4 controllers. We have a big demand in the second half and also the next full year. By the second half, we are still undersupplied like 2,000, 3,000 pieces of wafer. And by next CQ1, we still need to have asking double supply from our suppliers due to the strong demand in the PCIe Gen4 controllers shipments. So overall, by PCIe, we are tight. I hope by CQ1, we're able to stop this problem, then we're able to gain the better revenue and gross margin. And then talking about the mobile application, we believe mobile already accumulated too much inventory. So controller for mobile in the second half was too weak. So we believe this will be balanced or maybe kind of a little bit oversupplied in the second half.

Yes. And maybe can you also talk about, for the new business, like for the redriver and also for the retimer?

Okay. Phison, we have a [indiscernible] sample since end of last year, then the successful design win to almost all the motherboards in Taiwan and also in the U.S. customers. By this April, we get a strong focus and order from those customers. Unfortunately, our foundry is still undersupplied. So we paid a bit higher price to get more wafer location. So at that time, we were able to fulfill the whole year 2022 supply demand. But turning to the June time frame, due to, again, the inflation, customers' focus started to cut down. Even though they placed order, they also asked to push out the shipment just because the motherboard is less strong again in the market. So we have to carry our digital inventory, maybe from CQ3, CQ4, little bit, some portion to next year. But again, this is a healthy inventory, it's not as much, but we believe this year we will become the key player in the market. We're happy over the next year at redriver we can play the better position. And talking about retimer, now we are aggressive with the server makers to correct the aspect and to understand what they need. The chips will ship out by end of this year. So NP can only happen by second half next year.

Got it. Mr. Khein, I see Simon raise his hand, so maybe he has questions.

Yes.

Let me read the one in chat box. So you asked that double counting of NAND controllers given your module sales already include controller while your sales breakdown shows NAND controller sales.

No. Controllers is controllers. Modules is a different. Our module sales excludes the controllers segment. The controllers we are counting into the controllers. We are not making the double-counting. Okay? [Foreign Language] Yes, we are selling big amount to the chip makers. So who's the chip maker? Is the NAND design alike? Okay. Not the same chip maker equals to the NAND producer. NAND producer is at present a key customer. Yes, we are selling controllers to those NAND producers, not only the NIM you write here, but also other NAND manufacturers. And to OEMs, OEMs [indiscernible], they are not willing to buy controllers. They buy modules. So we are selling modules. Yes, Simon, answer is yes. So other than Simon's questions, anyone? You can either raise hand or type it out here.

So what was the overall controller prices back in the second quarter? And what's your expectation for the third quarter and the fourth quarter by sequential magnitude?

Foundry, across the foundry, they still believe demand strong, supply constraints, so they keep double the price or they're trying to wrestle with the price. But overall, in the systems side, we believe markets are too weak. So we're talking to the foundry, but they keep insisting right now the price is the price there. But when we look to our customers in controller side, we believe they are also starting to suffer some price pressure. So Phison we are willing to work with our customers to lower controller price back to much reasonable price to help them able to get more business, to sell more of the modules. So we believe keep discussing to foundry, maybe some of it we're able to get better treatment from the foundry.

It seems like these foundry players, they already started to have some price negotiation for like DDIC sectors. But I'm not sure when do we expect that like this controller industry also have -- who will start for this discussion.

We keep discussing, but again up to today, still not happened yet, but we don't know tomorrow. So let's wait and see. So 2 questions from Simon about SSD demand risk. SSD demand, basically, in the PC OEM side, the SSD Gen3 high inventory. Gen4 is a new product, no inventory, but they have to ramp up. They have to tracing the Gen4 demand. It looks like from this year most PC notebook platforms have to move to the PCIe Gen4. This issue is good to us to expand our business. In Phison, we've been good in Gen3, now definitely we have to suffer the high inventory. But in Gen4, we are good. We're still high in supply. Game console outlook. Game console, why they keep saying they suffer the component shortage. They are not able to improve the shipment. We believe, by the weak demand in the industry, game console guys may be able to get more enough components to build the system. So I think by '23, console is more optimistic in next year. So any other questions? I think if not, Ray, maybe we can close today's earning call.

Yes, sure. Okay. So thank you, everyone, for your time. And also thank you, Mr. Khein, for your time. Thank you.

Yes. Thank you.