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

Good afternoon. Thank you very much for joining our conference call today. We will now start the 2022 Second Quarter Earnings Conference Call of Samsung Electro-Mechanics. The conference call will start by a presentation from the company following a Q&A session. [Operator Instructions] Now we will start the presentation by the company.

[Interpreted] Good afternoon. This is Taiyoung Kim, Head of IR and the Planning team at Samsung Electro-Mechanics. Thank you for joining our 2022 second quarter earnings conference call. On today's call, I am joined by our EVP, Sung-jin Kim, our CFO; EVP, Kook-hwan Cho, Head of Strategic Marketing Center; [ Teutak Park ], Head of Support Team, Component division; Jung-won Lee, Head of Support Team, Optics and Communication Solution division; and VP, Jung-hoon Ahn, Head of Support Team, Package Solutions division. We will start with a presentation on our second quarter company level and divisional business results, followed by an outlook and market trends by product before taking your questions. First, our second quarter results. In Q2, our revenue was KRW 2,455.6 billion, which is approximately a 6% decrease Q-o-Q, but a roughly 2% increase Y-o-Y. The details regarding revenue increase, decrease factors by division will be explained later on during the divisional results. Second quarter operating profit was KRW 360.1 billion, which is approximately a 12% decrease Q-o-Q and 1% increase Y-o-Y. Pretax profit in Q2 was KRW 385.2 billion. Net profit was KRW 281.3 billion after deduction of corporate income tax. Next, in terms of our financials, as of end of June 2022, total assets was KRW 10,708 billion, which is approximately a 6% increase from the end of Q1. In terms of major financial indicators, our liability-to-equity was 44%, debt-to-equity 19%, a slight Q-o-Q increase. The equity ratio was 69%, a decrease in Q-o-Q. Next are the divisional results and future outlook. First, the Components division. The Component division's Q2 revenue was KRW 1,140.1 billion, a roughly 7% decrease Q-o-Q and a 5% decrease Y-o-Y. Revenue decrease is attributed to decrease in commodity MLCC supply for applications such as Chinese smartphone, PC and TV, driven by the weaker IT set demand. However, our high-end MLCCs for industrial and automotive applications saw an increase in both supply and revenue, thanks to the diversification in EV-related customer base and increased demand from network applications. In Q3, market uncertainty is expected to continue for commodity MLCCs, but demand for high-end MLCCs from flagship smartphone, servers and automotive is expected to remain solid. We will focus on increasing supply around our high-end MLCCs such as small-size and ultra-high-capacitance. We will also focus on diversifying our automotive customers across Europe, U.S. and China to continue sales growth exceeding market growth rates. Next is our Optics and Communication Solutions division. Second quarter revenue division-wise, was KRW 779.1 billion, which is roughly a 10% decrease Q-o-Q and a 4% decrease Y-o-Y. Decrease in revenue is mainly explained by slow smartphone market demand, which led to decreased supply of camera modules for the strategic customer and Chinese OEMs. But in Q2, we started supplying camera modules for the new flagship smartphone of the key Korean customer, as well as overseas customers scheduled for launch in second half, including slim cameras for the strategic customer's new foldable and triple camera with folded zoom for an overseas customer and related sales have increased. In the third quarter, we expect camera module demand to recover the strategic customer -- as the strategic customer and major overseas customers launch new flagship smartphones, and we will focus on capturing the full effects of the launch by supplying differentiated high-spec camera modules, leveraging our internal capabilities in key parts. As continued growth in automotive camera modules is expected, driven by advances in ADAS and autonomous driving, we will focus on increasing supply of new high-pixel camera modules to major automotive customers, while also diversifying our customer base. Lastly, for our Package Solutions division, Q2 revenue was KRW 536.4 billion, a roughly 3% increase Q-o-Q and a 35% increase Y-o-Y. In BGA, while supply for mobile AP and 5G antenna applications decreased, supply for high-end AP and memory applications increased. And so, overall, BGA revenue was similar to Q1 despite the weaker smartphone demand. In flip chip BGA, which continued to see solid demand, generated a high revenue -- higher revenue than Q1, thanks to increased supply for ultra-thin CPUs, for high-end laptops and automotive applications. In Q3, in the package substrate market, continued demand growth is expected for high-end package substrates from server, network and automotive applications that require high multi-layer, large size and finer pitch. Our focus in Q3 will be increasing supply around high-end products for high-end AP, laptop ultra-thin CPUs and automotive applications that offer us higher technology barriers, and we will focus on preparing for the successful pilot mass production of the high-end substrates for server applications, which is scheduled for the second half. That ends my presentation on our second quarter results. And now, our EVP, Kook-hwan Cho, of Strategic Marketing Center, will go over market trends and outlook.

[Interpreted] Good afternoon. This is Kook-hwan Cho, of the Strategic Marketing Center at SEMCO. I would like to share the update and outlook for our products at MLCC, camera module and substrate markets. First, MLCC. During second quarter, stronger headwinds continued throughout the market due to inflation, interest rate increases, China lockdown, supply chain issues and the Russian-Ukraine war. While demand for industrial and automotive MLCCs remain solid, driven by advanced server functionality, increased 5G penetration at base stations and growth in automotive applications with the wider adoption of ADAS and EV, demand from IT applications was affected by slower set demand and customer inventory adjustments. So overall, in second quarter, MLCC demand was slow. In particular, the Chinese lockdown triggered supply chain issues for raw materials and finished goods, affecting demand, not only in China, but demand in global markets. While recessionary concerns are growing due to weaker investment sentiment from global interest rate increases and weaker consumer sentiment under accelerating inflation, on the upside, the recovery of the Chinese manufacturing index may be a signal of demand rebound and seasonality may also be a source of stronger demand. While market uncertainty and inventory risk, like the first half would still remain, we expect third quarter MLCC markets to show increase demand for small size and high-capacitance MLCCs tied to the launch of flagship smartphones and also increased share of high-end PCs for gaming. Also, with demand for high-temp, high-voltage, high-reliability MLCCs for industrial and automotive applications remaining solid in third quarter, we look forward to a single-digit growth in MLCC demand versus second quarter. In terms of MLCC market inventory, inventory for industrial and automotive is at a balanced level. But for some excess inventory was seen around commodity products for IT applications such as smartphone and TVs. We think that this excess inventory will gradually decrease from its peak in Q2 as customers adopt a lower inventory strategy for their components. Our focus will be on building a revenue base ready for sustainable growth, driven by design in activities around the high-end MLCCs such as our small size and high-capacitance MLCCs for IT applications and also high-temp, high-capacitance for servers, high-voltage, high-reliability MLCCs for automotive applications. We will also focus on greater market responsiveness that preemptively responds to rapidly changing market demand by actively sensing the market and building stronger customer relationship. Next, camera module. In Q2, camera module demand decreased Q-o-Q due to decrease in demand from the strategic customer's flagship smartphone and customer adjustment of their production and sales plans due to the Chinese lockdown. In Q3, overall smartphone demand is likely to increase versus the first half as major smartphone OEMs are planning the launch of new flagship models. But demand uncertainty will remain due to the instability in external factors and weaker consumer sentiment facing inflation. However, continued growth is expected in slim cameras, which is applied to foldable phones, a growing form factor led by the strategic customer. Even in the mass smartphone segment, demand for flagship like cameras with high-pixel and OIS is likely to grow as more mass-tier phones are adopting high-performance cameras. We will focus on fully capturing opportunities created by the flagship launches of the strategic customer and Chinese OEMs, as well as greater penetration of slim cameras on foldable. We will highlight our technology differentiation on flagship model, cameras using our internalized key components such as large aperture lens for big image sensors and ball-guided actuators, and also focus on increasing penetration of a high-end mass-tier market, which has been adopting high-pixel and OIS camera modules. The recent advances in ADAS and autonomous driving technology are expected to drive demand growth for automotive cameras. We will focus on developing differentiated products for key automotive customers by applying technologies from our IT camera business and also focus on expanding supply to existing customers and diversifying our customer base. We will focus on strengthening our competitiveness through continued internal innovation and create a camera business that provides new experiences for the high-end smartphone and automotive markets. Lastly, on our substrates. In Q2, despite slower smartphone demand, BGA supply remained tight due to solid demand for high-end substrates such as the high-end AP substrates. The increased adoption of high-performance, high-efficiency ARM processors and the increased number of ARM developers is expected to drive continued growth of the ARM processor substrate market, which, in turn, has been driving rapid demand growth for new substrates. Flip chip BGA continues to be in a supply shortage despite slower demand from some applications such as PC. This is because demand for high multi-layer and large-size substrates is increasing with the growth in server, network and automotive markets and because of demand tied to high-spec PCs. Looking towards the third quarter and onward, the tight supply of BGA is expected to ease somewhat in certain markets such as mobile AP substrates, reflecting slower smartphone demand. However, demand at the entire BGA market level, including high-end products such as 5G antenna substrates is expected to continue a growing trend. Also, substrates for ARM processor is a new source of growth, which is likely to continue over the long term. This is characterized by high technology barriers such as fine pitch and high-reliability requirements. For flip chip BGA, the supply shortage may ease in certain markets such as substrates for low-end PCs due to slower PC demand, but demand at the entire flip chip BGA market level is expected to continue to expand, driven by greater demand from server, network and automotive applications and solid demand for high-end PCs. We will focus on increasing sales around high-spec, high-end substrates such as SIP for 5G antenna, thin flip chip BGA for laptops and ARM processor substrates. We will also focus our resources on growing market segments in high-end package substrates and respond flexibly to changing customer demand to generate greater customer satisfaction. We will secure the basis for long-term growth of the substrate business by offering flip chip BGA for servers on time and further enhancing the capabilities of our substrate business. Thank you.

[Interpreted] Now Q&A session will begin. [Operator Instructions] [Foreign Language] The first question will be provided by Ji-San Kim from Kiwoom Securities.

[Interpreted] [Foreign Language] I have 2 questions regarding the MLCC business. First is, can you share with us the details of your second quarter MLCC shipment, inventory and ASP level? And also some guidance on the third quarter for these indicators? Second question is about the impact from China. I assume that Chinese contribution in your MLCC and camera module revenue is relatively high. How much of an impact did you feel on your second quarter results from the Chinese lockdown? And do you think the China-related performance would rebound in the second half?

[Interpreted] [Foreign Language] To answer your first question about our second quarter MLCC shipment inventory, ASP and third quarter outlook, as you know during second quarter, there was a decrease in shipments and increase in inventory as overall, the global market risk increased and there was a slowdown in demand and inventory adjustments by customers, especially around the IT applications. However, during second quarter, the industrial MLCC demand remained solid relative to IT applications and the automotive MLCC continued to grow. This resulted in an improvement of our MLCC product mix and an increase of our blended ASP. Looking towards the third quarter, we think that demand from industrial and automotive applications will continue to remain solid. On the IT MLCC demand, there is a possibility that customers will continue to work through their inventory. But then there is the expected effect from the launch of new flagship smartphones during the second half and also seasonality. And so, we think that in the IT application, there would be a demand increase for high-end and high-capacitance MLCC. [Foreign Language] To answer your second question about the impact on our Chinese-related revenue. Even though it's difficult to quantify the impact in exact numbers, there was some disruption on our revenue in the second quarter in our MLCC and camera module businesses due to the decrease in customer set production and also slow demand tied to the Chinese lockdown. Regarding the China-related revenue, I think it's -- there is still uncertainty as to whether the revenue rebound or the demand will rebound in the second half when you consider the possibility of the global economy slowing down and also considering where component inventory levels currently stand. But then if you consider the gradual easing of the Chinese lockdown and also some signs of improvement on the supply chain, such as improving manufacturing PMI and also logistics industry indicators and also the seasonality of set demand in the second half, we hope to see a rebound during the second half. The share of Chinese-related revenue in our overall revenue makeup is gradually decreasing. But that said, we will continue to focus on minimizing the impact and volatility in our business results related with China by increasing the global revenue of our high-end products such as targeting the industrial and automotive applications and also increasing our customer responsiveness.

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

I have one on flip chip BGA and another on camera modules. First is on flip chip BGA. So recently in June, you announced an additional KRW 300 billion CapEx for flip chip BGA and now plan to spend a total of KRW 1.9 trillion. So with regard to this, what will be the investment time line and the application that you're targeting, as well as the revenue size you're aiming for in the mid- to long-term? And the second question is on camera modules. So the major smartphone companies are reportedly cutting production and reducing component orders. So I would like to know if there will be any impact to your business. And with this context, it would be great if you could share the second half outlook for your camera module business as well.

[Interpreted] [Foreign Language] To answer your first question about our flip chip BGA investments, we have decided to execute a step-by-step investment program for our flip chip BGAs based on increased requests from our global customers to increase supply, also looking at the market where there will be an enhancement in semiconductor performance over the mid- to long term and also in order for us to respond timely to increasing flip-chip BGA demand. Most of this investment program will be executed during the next 2 years. The investment will be made mainly on the high-end segment that would target applications such as server, network, CPU and automotive applications. And we think that with this investment, we'll be able to further improve our product mix. So by increasing our capacity and also by focusing, transforming towards a higher value, higher end business structure, through this investment, we expect to further enhance our mid- to long-term competitiveness and also deliver significant revenue growth. [Foreign Language] Regarding your second question about the camera module business outlook. Even in the second half, there are uncertainties in the camera module market, such as weaker consumer sentiment due to inflation and also delay in the recovery of smartphone demand of some customers within China. However, despite these uncertainties, we will focus and we will look forward to delivering results above last year's level by number one, increasing supply of camera modules with differentiated technologies such as the slim camera modules for foldable that have also improved video performance, which will be targeting the new flagship model that the strategic customer -- key customers will be launching in the second half and also internally by focusing on further enhancing our efficiencies, including productivity.

[Interpreted] [Foreign Language] The following question will be presented by Rok-ho Kim from Hana Securities.

[Interpreted] [Foreign Language] I have 2 questions. First question is about commodity MLCC. I think the market is concerned that prices would be soft in that commodity MLCC segment. Can the company share its views on that topic? Second question is about flip chip BGA market outlook. I think the market had a mixed outlook about flip chip BGA supply and demand situation. On one side, the market is concerned that the expansions by the suppliers may result in an oversupply of flip chip BGA. Can you share with us your market outlook and also your outlook on the supply situation?

[Interpreted] [Foreign Language] To answer your first question about outlook on MLCC pricing in the second half. As you know, the supply and demand situation is different by each application, whether it's IT, industrial or automotive MLCCs. And so this is also resulting in different pricing outlooks depending on the application. If we start from the IT commodity MLCCs, there is an overall slow demand. And so we think that tight competition will continue in IT, commodity MLCCs, especially around the low end and low capacitance products. However, when you look towards the IT high-end MLCCs and industrial and automotive application MLCC supply remains tight. And so the impact on pricing, we think, will be limited. Given this market outlook, we will focus on increasing supply around the high-end MLCCs such as those targeting the industrial, automotive and also in the IT applications, the small size and high-capacitance MLCCs to continue to improve our product mix. [Foreign Language] Your second question was about the outlook on flip chip BGA supply and demand situation. And even on the flip chip BGA, we're seeing a divergence of growth rates between different segments of the flip chip BGA market, for example, whereas the high-end flip chip BGA market is expected to maintain high levels of growth, the low-end side of the market would actually be recording low growth. If we look at the segments that SEMCO is focusing on, one of them goes main targets here would be the high-end PCs, including the gaming PCs, their demand is expected to remain solid. And also, our focus is the high-end flip chip BGA segment, which ties to server, network and automotive applications. That part of the market is also expected to maintain high levels of growth. Also, there is a high entry barrier to that segment. So there is only a limited number of companies that can supply these high-end flip chip BGA. So given all of that, we expect the supply situation to remain tight in that market.

[Interpreted] [Foreign Language] The following question will be presented by [ Sang Ku Kim ] from Daiwa Capital Markets.

[Interpreted] [Foreign Language] I have 2 questions. The first question is about the automotive camera model, which is starting to show meaningful growth at the revenue level. With that in mind, can you give us some updates on your automotive camera module business and outlook? Second question is about CapEx. I think I recall the company announcing a series of investment plans related with the package substrate since last year. And so overall, your package substrate related investment is increasing. With that in mind, can you give us an update on your CapEx plan for 2022? Are there any changes versus guidance?

[Interpreted] [Foreign Language] To answer your first question about the automotive camera modules. The recent advances in autonomous driving and ADAS technology at the vehicle level has been driving an increase in camera module content on the vehicle and also greater need by the automotive makers for more precision sensing technology. This is opening the door wider for companies such as us that have the technology to supply that high-picture quality and high-pixel camera modules. Leveraging this unfolding market and technology trend, we have been increasing our supply to the major customers by using our differentiated precision sensing functions of our camera modules, which is possible because we use the optic design and manufacturing technology that we have accumulated while producing our IT camera models. At the same time, we're also focusing on diversifying our automotive camera module customer base. All of this, we expect will result in a significant growth of our revenue on a year-over-year basis and also that our growth trend will continue in the future.

[Interpreted] [Foreign Language] So your second question was about our CapEx plans this year. As we execute the CapEx plans that we have been announcing related with the flip chip BGA capacity throughout this year, we do expect that on an executed CapEx basis, investments will increase significantly versus last year. These flip chip BGA investments are all supported -- our flip chip BGA investments are supported by long-term agreements with customers. And so we believe that the investments need will contribute to stable performances, business performance in the mid- to long term. Our current focus, therefore, is to go through the capacity expansions and ramp-up on schedule without issue, so that we maintain our leadership in the package substrate industry. On the other hand, our investment policies towards our other businesses such as MLCC and camera would be to continue investments in line with market demand so that overall, we're able to achieve maximum investment efficiency and maintain sound cash flow level.

[Interpreted] [Foreign Language] The following question will be presented by [ Tahi Jo ] from [ Hangul Investment & Securities ].

[Interpreted] [Foreign Language] I have 2 questions. First question is about the automotive MLCC business as there is an increase in EVs and also adoption of others. I think there are market expectations that your automotive MLCC revenue would -- growth would accelerate. So in that context, can you give us some updates and outlook of your automotive MLCC business? Second question is about the BGA, the package substrate business. I think one concern there is the recent slowdown of smartphone demand. What kind of impact are you expecting in the second half?

[Interpreted] [Foreign Language] Your first question was about our automotive MLCC business. As you know, with the penetration adoption of electric vehicles and adoption of ADAS technology, the market for automotive MLCCs is expected to record a high growth. For example, compared to an ICE, internal combustion engine vehicle and EV is expected to require about 4x the MLCC content per vehicle. Regarding our automotive MLCC business, as you know, recall, last year, in 2021, our automotive MLCC business reported quite significant growth at a revenue level. This year, we're expecting that our growth would be similar to the growth that we saw last year. And so overall, after these 2 years of strong growth, the share of automotive MLCC business within our overall MLCC revenue is expected to increase to 2-digit levels this year. In terms of our automotive MLCC business, our focus would be on acquiring customers, automotive customers; number 2, expanding the product line up and also focus on the part of the automotive market that has higher growth potential such as EVs and ADAS, so that we are able to deliver faster growth rates than the market. [Foreign Language] Your second question was about the BGA outlook for second half and the impact from the smartphone slow demand. As you mentioned, due to slow demand at smartphone levels, we do expect that there will be a somewhat of a decrease in demand for mobile AP substrates. But then the demand for the ARM processor substrates is expected to remain solid. And also, we expect an increase in demand for 5G antenna substrates. In the second half, overseas customer is planning to launch new products. Combining all of this, overall, we expect that BGA demand will be increasing. As you know, SEMCO's BGA portfolio covers many applications, including not only AP, 5G antenna and memory, but also the ARM processor substrate, which is a segment of the market that is expected to continue to grow. So we have this very wide portfolio that addresses different applications. And leveraging this, we will continue to monitor the market situation and respond to customer demand by leveraging our strength most effectively.

[Interpreted] [Foreign Language] The following question will be presented by Kangho Park from Daishin Securities.

[Interpreted] [Foreign Language]. My first question is about the server substrate mass production plan that you've mentioned during the first quarter conference call. I'm wondering whether that mass production plan for substrates for server applications are going ahead without issues? Are you on schedule? I think also what the market is wondering about is of the timing of when you think that this server substrate mass production will start to show up significantly on your revenue. Second question is at the corporate level, can you give us an update on your guidance for third quarter and full year given that uncertainties have continued in the market, including the Russia-Ukraine war inflation and higher interest rates.

[Interpreted] [Foreign Language]. To answer your first question about the mass production plans for our server substrates. As we mentioned during the first quarter conference call, we are preparing for mass production of high-end package substrates for server applications. Our mass production preparation is going ahead without any issues. Currently, so our focus is on pilot mass production during the second half of this year. Our time line after that will be to go through pilot mass production second half of this year, continue to increase our production capacity throughout 2023, and then to see a significant contribution on our revenue from 2024 onwards.

[Interpreted] [Foreign Language]. This is the CFO, and I'll be answering your second question about guidance. Looking back at second quarter, even though we were able to further increase the supply of our high-end MLCC products around the industrial and automotive applications and also saw solid business results from our package substrate business. There was some negative factors, headwinds such as the Ukraine-Russia war, the Chinese lockdown, which resulted in a slower set demand from applications such as smartphones and PCs, which drove a slower demand for our IT component. And so overall, second quarter, our revenue decreased versus the first quarter. [Foreign Language] Now regarding guidance, first of all, in third quarter, uncertainties are continuing in external environment, such as global inflation and also higher interest rates that are being introduced in response to inflation. In the IT commodity side, the demand visibility is still limited, but then we do expect to have a positive effect from the launch of new flagship smartphones by our key customers. And also, we expect demand for the industrial products for server and network applications and automotive components for EVs and ADAS remain solid in the third quarter. So overall, we think that in third quarter, we could record a revenue growth on a quarter-on-quarter basis. Now for the full year guidance, we look forward to the stronger fundamentals of our overall business. For example, the increase in contribution from the package substrate business. And so we do expect, on a full year basis, we would be able to deliver growth on a year-on-year basis, considering that we plan to increase the automotive business related with -- on the MLCC and camera module side of the business and also increased camera module supply -- the slim camera modules for the new foldable phones that are being introduced and also by increasing supply of the high-end package substrates. [Foreign Language] So in order to deliver on those objectives and goals, we will continue to monitor the market trends and plan response and contingency plans accordingly and also create and operate a flexible business operation structure and maintain a sound free cash flow and practice diligent risk management to minimize volatility in our business results.

[Interpreted] [Foreign Language]. That completes our second quarter earnings conference call. If you have any further questions, please contact our IR team. Thank you. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]