Samsung Electro-Mechanics Co., Ltd. (A009150) Earnings Call Transcript & Summary

[Interpreted] Good afternoon. Thank you very much for joining today's conference call. We will now start the 2021 Second Quarter Earnings Conference Call of Samsung Electro-Mechanics. [Operator Instructions] Now we will start the company's presentation.

[Interpreted] Good afternoon. This is Taiyoung Kim, Head of IR and Planning team at Samsung Electro-Mechanics. Thank you for joining our second quarter earnings conference call. On today's call, I am joined by EVP, Bongyong Kang of the Business Support Team; SVP, Kook-hwan Cho, Head of Strategic Marketing; [ Choo-tek ] Park, Head of Support Team, Component division; Jungwon Lee, Head of Support Team, Module division; and [ Bom ] Park, Head of Support Team, Substrate division. We will start with a presentation on our second quarter company level and divisional business results, followed by market trends and outlook by product before taking your questions. First, our Q2 results. In Q2, our revenue was KRW 2,475.5 billion, which is an approximately 4% increase quarter-on-quarter mainly attributed to revenue growth of the Component and Substrate division, which offset the decrease in the Module revenue. On a year-over-year basis, revenue increased by about 41%, thanks to year-over-year revenue growth across all divisions. The details regarding revenue increase/decrease factors by division will be explained later on during the divisional results. Q2 operating profit was KRW 339.3 billion, which is an approximately 2% increase Q-o-Q and more than threefold increase from the operating profit of second quarter last year. OP margin was 13.7%, a slight decrease Q-o-Q, mainly due to labor cost increases. Pretax profit in Q2 was KRW 317.3 billion. Net profit after corporate income tax was KRW 224.2 billion. In terms of financials, as of end of June 2021, total assets was KRW 9,760.2 billion, which is a 1% increase from the end of first quarter. For the major financial indicators, debt-to-equity was 52%; net debt-to-equity, 3% and a decrease on a quarter-on-quarter basis. Equity-to-asset was 66%, which is a slight increase Q-o-Q. Next are the results and future outlook of each of our business divisions. First, the Component division. The Component division's Q2 revenue was KRW 1,195.2 billion, which is a roughly 10% increase Q-o-Q and a 42% increase Y-o-Y. A key driver for the revenue growth was the increased supply of high-end MLCC, including small-sized, ultra-high capacitance MLCC for IT applications and the large-sized MLCC for industrial and automotive applications. The improved product mix with increased share of high-end products and productivity gains from yield enhancements also contributed to the stronger profitability. In the second half, IT-related demand is expected to continue for products such as mobile, PC, TV and game devices, and we will focus on capturing market demand by increasing our supply of small-sized ultra-high capacitance high-end MLCC for IT applications. In the case of automotive MLCC, demand is expected to grow with recovery of automotive demand and increased electronic content on vehicles. And we will focus on timely response to demand growth by expanding our MLCC lineup and increasing our production capabilities. In the Module division, second quarter revenue was KRW 813.7 billion, which is roughly 3% decrease Q-o-Q but a 47% increase Y-o-Y. The key drivers for the revenue decrease was the decrease in supply of both flagship and mass tier camera modules due to the seasonality of the strategic customer. However, our camera module sales to Chinese customers continued to increase in Q2 with increased supply of multi-camera, folded-zoom and high-pixel OIS modules. In the second half, camera module demand is expected to recover with the launch of new flagship smartphones by key customers in Korea and overseas. On the other hand, there remains some demand uncertainty in China, such as the possibility of smartphone production plants being adjusted tied to chip supply issues. Accordingly, we will focus on continuing to secure leadership in the flagship Camera Module segment by increasing supply of our high-performance camera modules for the new flagships and also focus on increasing supply of camera modules for the higher-spec smartphones in the mass tier, which is a segment that continues to grow. Lastly, the Substrate division. Q2 revenue for Substrate division was KRW 466.6 billion, which is roughly a 6% increase Q-o-Q and a 27% increase Y-o-Y. Revenue increased as we maintained our package substrate capacity at full utilization, thanks to increased supply of BGA for high-end APs and high-end SSD memory and continued growth of flip chip BGA supply for thin CPUs for laptops. The Substrate division's profitability also improved quarter-over-quarter driven by some performance of package substrates with an increased share of high-end package substrates in the product mix. In the second half, demand for high-spec package substrates is expected to continue for APs, 5G antennas and thin CPUs. So we will focus on further expanding our profit margin by increasing the share of high-end products and maintain our market leadership based on differentiated technologies such as embedded parts and micro circuits. That ends my presentation on Q2 results. And now the Head of Strategic Marketing will go over the market trends and outlook for each of the key product groups.

[Interpreted] Good afternoon. This is Kook-hwan Cho, Head of Strategic Marketing at SEMCO. I would like to share the update and outlook for MLCC, camera modules and substrates, respectively. First, for MLCC, in Q2, MLCC demand remained solid across all applications driven by increase in production of PC, server and network equipment tied to the working-from-home trend. And there was also demand for inventory from smartphone and automotive customers. In response to such demand, we were able to maintain high utilization levels. That said, some customers, especially the Chinese smartphone OEMs, downward adjusted their production targets to usual levels, which led to a slight increase in the MLCC channel inventory intended for such customers. However, at an entire MLCC industry level, inventory appears to remain at balanced levels. Also, supply chain concerns remained as the pandemic is resurging in certain areas leading to extended lockdown measures, which is expected to keep customers wanting to preemptively secure component inventory. Regarding the second half market outlook, despite growing vaccination rates, there are concerns over market volatility with increased cases of variant viruses, breakthrough infections and possible extension of the pandemic situation. Also, there appears to be some uncertainty around the demand tied to certain Chinese smartphone OEMs. That said, overall MLCC demand for the second half is expected to remain solid, considering the new flagship launches planned by the major smartphone companies and the growth in set demand, such as PC, TV, server and game devices. On top of that, the demand to secure part inventory early on to prepare for consumer demand rebound in 2022 is expected to add upside to the MLCC demand in the second half. Regarding the supply situation, some are expecting that demand/supply may balance out during Q4, given the continued capacity that has been added by MLCC companies since late 2020. However, tight supply is expected to remain in the high-end segment such as the small-sized high-capacitance MLCC for IT applications as well as MLCC for industrial and automotive applications, which are expected to report significant growth. Given this outlook, we will actively respond to changes in the MLCC market situation by closely tracking key market variables such as vaccination trends, pace of global economic recovery, semiconductor supply as well as market inventory for both end products and MLCC. Also, we will continue to focus on further expanding our MLCC revenue in the future by strengthening the fundamentals of our MLCC business such as developing new small-sized high-capacitance products, improving yield and productivity. We will also focus our resources around the high-growth segments and operate our product mix to be closely aligned with the demand shifts across applications. Next for camera modules. In Q2, camera module demand decreased Q-o-Q due to decreased demand of strategic customer's flagship model and Chinese customers adjusting their production and sales plans in response to COVID-19 resurgence in India. In the second half, overall smartphone demand is expected to increase versus the first half considering the launch of new flagships by major OEMs while uncertainty will remain in the second half around smartphone related with demand by certain Chinese OEMs. Accordingly, we will focus on actively promoting our differentiated component technology as well as folded zoom and other technology advantages targeting the foldable smartphones to be launched by the strategic customer in the second half and also the strategic models to be offered by the Chinese OEMs. The market is expected to demand more differentiated camera modules that deliver better image quality, functionality and convenience. And we will focus on actively capturing such demand by developing high-end camera module products using our advantage in internal production of lenses and actuators. Also, by proactively proposing our technology solutions to customers, we will continue to focus on the higher end of the mass tier smartphone segment, which continues to adopt more high-value technologies. We will focus on strengthening the competitive edge of our Camera Module business through continuous internal innovation and create a camera module business that captures the value in the high-end markets and offer new experience to customers and the market. Lastly, the substrate market. In Q2, BGA substrate demand remained solid with expanded demand of high-end substrates, including SiP and 5G smartphones while supply expansion plans were delayed due to equipment shortage and other factors, resulting in a continued tight supply. The supply shortage also continued for flip chip BGAs as demand for PCs remained strong, driven by the working-from-home trend, and the flip chip BGA capacity erosion was aggravated by growth in demand for the high multilayer and large-sized substrates for servers and network equipment. In terms of future market outlook, BGA demand is expected to continue to grow driven by recovery of smartphone demand and the increase of 5G models in last year, which would drive demand for BGAs for 5G antennas and APs. Because substrate capacity expansion plans are being delayed due to shortage of substrate production equipment, supply is expected to remain tight even in the second half. For our flip chip BGA, demand for flip chip BGA for enterprise PC, server and network market is likely to grow as demand for these end products grow with wider vaccination and return to normal business operations. Compared to the growth of the end product markets and substrate demand, the pace of and magnitude of flip chip BGA capacity expansion is expected to remain insufficient resulting in continued shortage of flip chip BGA for some time. SEMCO, which offers superiority in technology, such as micro circuit and thin flip chip BGA and outstanding quality continues to attract requests for key customers and the market for more supply. So we will focus on flexibly responding to market demand based on the approach of selection and concentration by improving our product mix around high-end BGAs, such as micro socket BGAs for 5G antennas, smartphone APs, multi-layer SiP and thin flip chip BGA and aim to increase supply as much as possible by further improving our productivity. We will strengthen our leadership in key technologies such as high multilayer, microcircuits, embedded parts and devote more resources to application areas with a mid- to long-term growth momentum such as server and network in order to maximize customer satisfaction. Thank you very much.

[Foreign Language] [Operator Instructions] [Foreign Language] The first question will be presented by Gang Ho Park from Daishin Securities.

[Interpreted] I have 2 questions regarding your MLCC business. The first question regards the key data point for your MLCC business in Q2 on a quarter-on-quarter basis. What was your MLCC shipments, utilization, inventory and ASP in the second quarter? And can you also share with us your key guidance for the second half on these metrics? Second, question about MLCC is about your automotive MLCC business. During the first half, the automotive chip shortage has been a major challenge, but recent media reports are suggesting that the chip situation may be improving and easing. If that actually happens, what kind of upside can we expect on your automotive MLCC business in the second half? And how is the company planning to respond to the automotive MLCC in general?

[Interpreted] To answer your first question. In the second quarter, even though there were some adjustments to the demand from the Chinese smartphone OEMs due to the semiconductor supply issue and also the resurgence of COVID-19 in India, overall, our shipments of MLCC in second quarter continued to grow for the fourth consecutive quarter, thanks to a strong solid demand from smartphone OEMs other than the Chinese OEMs, also demand related with servers and automotive MLCC demand. In Q2, our utilization remained at full utilization. Also, inventory remained similar to first quarter inventory levels. ASP in Q2 increased mainly driven by product mix improvement as the share of high value-add MLCCs increased, for example, such as the MLCCs -- the high-capacitance MLCC for 5G mobile as well as the high-capacitance MLCC for server and automotive applications. Regarding the second half, we expect the shipments as well as the blended ASP to improve versus first half as we expect there to be continued demand for the IT applications with the increased adoption of 5G smartphones and also the launch of new smartphones by key customers and also increase in demand for the automotive MLCCs as there is increased electronic content on vehicles by adoption of EVs in auto systems and other electronic systems and also the recovery of overall automotive demand. Second half utilization and inventory is expected to remain at levels similar to the first half. Your second question was about the automotive MLCC business and whether there's any upside we're expecting if the semiconductor issue eases. We are actually seeing the key automotive OEMs and suppliers expecting there to be an improvement in the semiconductors for automotive applications, and we're noticing that they are actually increasing their production plans for the second half versus the first half. So based on that, we are expecting that the demand for automotive MLCCs would increase in the second half as well. Our response is to actively capture the increasing market demand by further enhancing our production capabilities. And overall, we're expecting that the automotive MLCC shipment in the second half may record a double-digit growth. In the mid- to long term, given the fact that automotive MLCC growth rates are expected to be higher than the overall MLCC growth rate, we are focusing on expanding our addressable applications, for example, to infotainment or powertrain areas by expanding our product lineup and also expanding our supply capabilities in order to respond timely to increasing demand by our customers.

[Foreign Language] The next question will be presented by Hyung Wou Park from Shinhan Investments.

[Interpreted] I have 2 questions. The first question is about your Substrate business. As you know, the package substrate supply remains tight. Given that, does SEMCO have any plans of additional capacity expansions in the second half? And if it does have capacity expansion plans, where would those investments be made? Would it be more on the BGA side or the flip chip BGA side? Second question is about your Camera Module business. Given the fact that your strategic customer is expected to not launch its Galaxy Note model this year and also may delay the launch of its master SE model, do you expect this to have any negative impact on your Camera Module business in the second half? What kind of impact are you expecting?

[Interpreted] The package substrate, as you mentioned, is continuing to see very tight supply situations for both BGA and flip chip BGA. This is being driven on the demand side by increased demand for the high-end products, such as smartphone APs, 5G antennas and Arm CPUs, as well the increased need for the high multilayer large-sized substrates for servers and network applications. Whereas on the supply side, there is a delay in supply capacity expansions due to shortage of package production equipment. Given the situation, in order to continuously respond to the demand increase of packaged substrates, we are closely monitoring and analyzing the market demand-and-supply situation and is considering capacity expansion for both BGA and flip chip BGA in multi-stages in order to respond to the demand for the high-spec and high-end products. Currently, our schedules are on plan without any disruptions. And we will focus on supplying to the customers' demand for greater volume in a timely manner in order to further expand our top line.

[Interpreted] On your second question about the Camera Module business, even though we are not at liberty to mention details of our customers' model launch plans, we have already started the supply of our high-spec OIS camera module for the new foldable phone model launched -- to be launched by the strategic customer in the third quarter. Also, we have been expanding our position in the mass-tier smartphone market where there is increased penetration of high-pixel OIS, folded zoom and other high-spec camera modules. So overall, we are expecting to deliver results that are better on a year-over-year basis in the second half.

[Foreign Language] The next question will be presented by from Sung Kyu Kim from Daiwa Capital Market.

[Interpreted] I have 2 questions. The first question is about the MLCC business. You did highlight the fact that your product mix for the MLCC improved, but it doesn't seem that the company took advantage, for example, of the shortage to raise its prices, but still, your margins, especially the OP margin, appears to have improved significantly. Can you give us some more detail of what explains your improved margins? And also, do you think that there is further upside in terms of your profitability for MLCC? Second question is about the package substrates. You did mention that overall, package substrate shortage is expected to continue in the second half. Do you expect then the price increase to also continue in the second half? Can you give us some outlook or guidance on your package substrate prices for the second half?

[Interpreted] To answer your first question. In the past, there were times when the MLCC industry's profitability mainly improved driven by price increases due to the supply shortage. However, the improved margins of SEMCO during the first half is explained by different factors, different drivers. It was mainly, number one, from the improved supply capabilities that we were able to achieve by better productivity such as improved yield. Also, second factor explaining our improved productivity is the improved product mix as the share of high-end products such as the high-capacitance and ultra-high-capacitance products increase within our product mix. We think that these 2 drivers will continue to act in the second half. However, in the mid- to long term, we also see that there are key structural drivers for the MLCC market growth such as the increased MLCC demand on smartphones with the wider adoption of 5G smartphones, also increased demand for base stations and servers as well as the accelerated electronic content in automobiles. With all of this driving a structural growth of the MLCC market, we think that there will be continuous increase in MLCC demand for high-reliability automotive MLCC as well as the small-sized high-capacitance products, and therefore, this will lead, we expect to additional improvement in our margins.

[Interpreted] Your second question about the package substrates, yes, as we have been discussing, there's a tight supply of package substrates across not only the high end, but also even the low-end package substrates as there is continuous growth in market demand. And given this tight situation on the supply side, we are expecting the package substrate prices to continue to increase. Our response to this is to respond appropriately and effectively considering the market situation and also our relationship with our customers.

[Foreign Language] The next question will be presented by Ji-San Kim from Kiwoom Securities.

[Interpreted] I have 2 questions, one is about your MLCC Tianjin new plant. It seems that it's -- the operation of the Tianjin MLCC new plant is imminent. Can you give us some details about when the operation would start? And what kind of products will be the main products to be produced in the new Tianjin plant? Second question is about the substrates for the 5G millimeter-wave antennas. Given the fact that there is increased adoption of 5G smartphones, can you give us an update on your 5G millimeter-wave antenna substrates as well as future guidance?

[Interpreted] The Tianjin MLCC new plant actually completed its construction during the second quarter. It has gone through the pilot mass production phase and is currently in mass production. In terms of the land area, the new Tianjin plant is about 1.4x that of the existing Tianjin plant land size. In terms of the production, we are planning to really increase the production volume of the new Tianjin plant in line with IT and automotive demand and to utilize the new plant as a major production base for SEMCO.

[Interpreted] The wider adoption of 5G smartphones is expected to continue to drive the demand for 5G millimeter-wave antenna substrates. However, on the supply side, currently only a handful of companies, including SEMCO, have the technology to supply the substrates in a stable manner. So supply for the 5G millimeter-wave antenna substrate is expected to remain tight versus the expected demand growth. As you know, leveraging the technology advantage that we have accumulated by working on the package substrate business, we have been cooperating with key customers from the initial phase of their 5G model development and have already established SEMCO as a major vendor in the 5G millimeter-wave antenna substrate market. This year, we are being invited or designed in, into a larger number of models by the key customers and also we'll be increasing our substrate supply volume for the 5G millimeter-wave. And so overall, we are expecting our 5G millimeter-wave antenna substrate revenue to increase significantly versus last year and we'll continue to focus on driving our revenue growth.

[Foreign Language] The next question will be presented by Woon Ho Kim from IBK Securities.

[Interpreted] My first question is about the WiFi module business that the company tried to sell. We're hearing that, that deal has fallen through. Can you give us an update on the WiFi module business sales plan? And the second question is about your guidance for the second half. Myself included, the market had expected that SEMCO's second quarter earnings would be less than its first quarter, but actually you have significantly outperformed market consensus. Do you think that this positive momentum will continue in the second half. Can you share with us your second half guidance?

[Interpreted] As you may have heard, the sales of the WiFi module business, that contract was adequately unwound by both parties before the deal closed. Regarding this business, we currently have no decided plans and we'll be communicating with the market once we have more details decided.

[Interpreted] To answer your second question about second half guidance. To just recap the highlights of our second quarter earnings, even though there was a decrease in our Camera Module revenue quarter-on-quarter due to the seasonality of the smartphone, we were able to actively capture the customers' demand for MLCC and substrates in order to deliver performance that was higher than the first quarter results. To briefly describe our second half outlook, as we have been mentioning, there are some uncertainties. For example, pandemic factor. The risk is expected to remain in the second half. And also, there seems to be some uncertainty related with certain set market situations. But overall, we are expecting to continue to deliver solid performance trends continuing on from the first half of this year. To look into specific business divisions. Even though there may be some uncertainty in our Camera Module business tied to decreased demand of the flagship model of the strategic customer and possibly some volume adjustments of certain overseas customers, we will be actively capturing the solid demand that is being generated for MLCCs for not only IT products or PCs and TVs, but also the automotive and industrial applications and also increase our supply of substrates especially around high-end package substrates. So combining all of this, overall, we are expecting our results to improve in the second half. In addition to operating our businesses to deliver better business performance in the second half, another key focus for us is to continuously monitor the areas that need concentrated investments, for example, by forecasting the market situation for year 2022; and also to build the foundation to drive our continuous growth in the mid- to long term by making the necessary investments enhancing our productivity and further enhancing our yield. So overall, even though there are many unpredictable variables remaining out there, including COVID-19, the U.S.-Chinese trade dispute and also the continuing supply issues around semiconductors, we will focus, first of all, in constantly monitoring the changes in the business environment, also continuing to drive our free cash flow enhancement program and also thoroughly managing the risks.

[Foreign Language] The next question will be presented by Giuni Lee from Goldman Sachs.

Congratulations on the solid results. My first question is on MLCC. Your Chinese competitor in the passive component space has recently laid out its plan to meaningfully increase the portion of premium products. Against this backdrop, how should we think about the impact this could have on your MLCC business? And my second question is on Camera Modules. So after the Chinese smartphone makers have gone through a period of production adjustment in the second quarter, recently, there have been talks about adjustment possibly continuing in the third quarter as well. So what is your view on this? And how is your Camera Module business prepared if such events does occur?

[Foreign Language]

[Interpreted] Regarding your first question about the Taiwanese MLCC competitor's plans of increasing its premium share, as you know, SEMCO has been devoting considerable resources in developing the core basic technologies for the high-end MLCC segment addressing automotive applications, but also the IT high-end applications. We have been, therefore, developing key technologies such as developing thinner layers and also developing materials that can withstand higher temperatures and pressure. This research and development effort has been what has supported our technology edge, especially in the high-end MLCC market and this is what explains the leadership that we have in the industry. So going forward, in the high-end MLCC market, we will continue to focus on maintaining our technology leadership, especially in the industry's smallest MLCC sizes. Also, continue to make the necessary investments and continue to enhance our productivity to secure the supply ability that enables us to flexibly respond to whatever market situation that unfolds to further strengthen the competitive edge that we have.

[Interpreted] To answer your second question about the Chinese smartphone and Camera Module business. Looking at the third quarter Chinese smartphone market, there are opportunities, for example, the plans of the Chinese customers launching new models in the third quarter, but also there are some issues, for example, the possible resurgence of COVID-19 and also some supply issues related with mobile semiconductor. Given the situation, we are going to focus on securing stable business structures by, first of all, strengthening our local Chinese response capability so that we're able to nimbly respond to the key needs and demand changes of our Chinese customers. At the same time, focus our resources on leveraging the technology differentiation we have such as the high-performance OIS and folded zoom products that we have, which can address the flagship segment based on the key technology advantage that we have in the lens and actuator space, but at the same time, continuing to expand the camera module supply, especially to the higher end of the mass tier segment, which would tap the trend of master smartphones adopting higher performance camera modules.

[Foreign Language] The next question will be presented by Jay Kwon from JPMorgan.

Yes. Congratulations on your great results. I have one each for MLCC and the Substrate division. First, on the MLCC, it appears your Asian competitors have gone through some production hiccup in Malaysia due to the broad-based COVID-19-driven lockdown. So would you be able to share implication to your operation? Wonder if this has benefited SEMCO's MLCC business. Second question is on your substrate regarding your flip chip BGA business. Once again, there has been a series of big CapEx announcement at your competitors, I think, in the last couple of quarters given the robust server and the networking demand, the outlook. What would be SEMCO's mid- to long-term growth strategy with this rising competition?

[Foreign Language]

[Interpreted] Events such as the lockdown in Malaysia due to COVID-19 appears to be affecting, to a certain extent, the operation of companies that have global production sites. But according to our sense, the impact of such events to the overall MLCC supply is expected to be limited. In that context, we are doing our best focusing to ensure the safety and health of our employees as well as officers in both the site in Korea as well as overseas in order to minimize any risk posed by COVID-19. Also, we are focusing on minimizing any supply disruptions to our customers by enhancing the flexibility of our production, which would also help minimize the risk related with product supply.

[Interpreted] Regarding your second question, as you know, our current key running product for our flip chip BGA operation is CPUs for PCs. And so our current focus on the flip chip BGA is to expand our capacity for the substrates for CPUs that are used on the high-end laptop PCs and also to increase the stability of our supply. Regarding the server and network applications that you have asked for, currently, we are focusing on developing the core basic technologies necessary to implement the large size as well as the high multilayer specifications that are necessary for these applications. And we have actually been invited by many customers participate in their product development projects and have been actively participating. And so looking towards to the future, we will focus on expanding our flip chip BGA business scale in order to respond to our customers' demand in a timely manner.

[Interpreted] That completes our earnings conference call. If you have any additional questions, please for them to our IR team. Thank you very much. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]