Silicon Laboratories Inc. (SLAB) Earnings Call Transcript & Summary

Welcome back. I'm Blayne Curtis. Thanks for joining. Next company up Silicon Labs. Very happy to have with us again John Hollister, CFO. Welcome, John. Last time you were with us, we were talking about recovery. Clearly, it's a different landscape. So I thought it may be a good place to start. You're now a pure-play IoT company growing at 20%. So maybe just some thoughts on why, during this pandemic, that was the decision for you guys to make? And what are you excited about for this next leg of growth for the company?

Yes, Blayne, thanks a lot, and thanks for having us again at the Barclays conference. It's great to see you again. So we sat down and looked at the business a little over a year ago and looking more strategic, longer-term, came to the conclusion that the 2 pieces of our business, the Infrastructure and Automotive versus the IoT part of our business were more just similar than similar in terms of not only the types of products, but also the customer footprint. There really were not a lot of cross-selling opportunities. And even the supply chains were a bit different. So we considered could we gain some benefits by actually going ahead and separating the 2 businesses. And part of the rationale for the IoT business was to establish greater focus and clarity and management focus and attention on this enormous growth opportunity that we see in the IoT business. And at the same time, providing a long-term home for the Infrastructure and Automotive business, we considered a number of techniques to achieve that separation and ultimately decided to pursue divestiture and sale to Skyworks Solutions, which is a great home for that business. It provides them some nice diversity in their business and allows us to now focus on the huge market opportunity in front of us in IoT, which as we look at this, we see roughly a $7 billion SAM. We see an opportunity pipeline on a total lifetime revenue basis that's approaching $11 billion. It's a very large opportunity, and we're working very hard to continue to gain share and establish ourselves as the market leader in this market. So that's what we're really excited about.

I want to ask you on that 20% target, and we've had this conversation. If you look back maybe 5, 10 years, that is a CAGR that makes a lot of sense. If you look at '19 and '20, growth was a lot more moderate. So -- and then this year, you're obviously growing well above that, but I think the whole market is. You see a lot of people growing 30%, 40%. So kind of what gives you confidence that this 20% is the right range?

Yes, it's really looking at a number of factors. I mentioned the opportunity pipeline is very large. The SAM itself is large. We look at our estimates of the growth rates in the SAM that we see in the mid-teens and see an ability for ourselves to continue to outperform the embedded CAGR in the SAM. And another nuance on that, Blayne, is we think the industrial and commercial segment of the SAM is actually going to grow faster than the home and life SAM. Home and life has some great growth ahead of it as well, but really excited about the industrial and commercial growth opportunity. It's diverse. It's sticky. There's a lot of ROI around companies, governments, grid operators, et cetera, establishing wireless sensor networks to enhance their operations and give themselves better real-time information about what's happening.

And you've started to kind of talk about the business in those 2 halves. And I guess the concern people have is everybody sounds great. Everybody has the visibility, lead times have extended for a lot, and they feel like they have the visibility well is next year. But really, what's the base to kind of start this CAGR off on? Do you need to see some sort of correction? When people look at the home and life, I think you've seen a lot of people at home, more disposable income, fixing their homes, buying light bulbs, buying thermostats. What gives you the confidence that I guess you don't need a reset? And is there any way to think about -- I know you haven't broken out officially those 2 segments, whether they've seen different trends during this period.

Yes. It's certainly the stay-at-home dynamic likely has had some positive effect on the business. I think that's a reasonable presumption. On the other hand, and we indicated this in the third quarter call, we saw roughly equivalent growth in the 2 segments for the third quarter. And the industrial and commercial segment has been growing significantly over the years here. And then we look at what's driving that. We've got a market-leading position in smart metering, for example. We're very active in Wi-SUN, which is a new standard building off of our proprietary sub-gigahertz radio technology to add even more capabilities to the smart grid and meters, and that may be extended into novel smart city applications, like lighting and other such applications. You look at what's happening in smart retail, where retail operators are installing electronic shelf labeling, for example, to enhance their operations and reduce labor to address that need, et cetera, industrial automation. So there's a lot of drivers behind that, that gives us the confidence that we're going to be able to grow that business as well.

Maybe you want to dive into those drivers. But maybe just first on the supply side, that's the other thing that's been a big headwind for all. And you've navigated and delivered some decent growth, actually, very good growth, not decent growth despite all this. But give us a perspective on what is the supply headwind? Have you -- how much of an impact has that had on your results this year? And kind of how is it improving as you look into next year?

Yes, sure. We continue to have a gap between the demand that we have and our ability to supply it. Our major nodes from a fab perspective are in 90-nanometer for our Series 1 platform. That's really our first newer system-on-chip platform. Also the Series 2 platform is in 40-nanometers. So those 2 nodes are driving a lot of growth. It's very tight in both of those nodes. And we've been just working closely with our manufacturing partners to see what incremental supply we can secure and deliver to our customers. But for sure, the demand is outpacing that. We haven't really quantified that, but it's significant. And actually, recently, it has widened rather than having narrowed in recent months. But heading into next year, we're continuing to do a number of things to activate additional supply. Hopefully, things will become more in balance over time. But Blayne, I think it's going to take a little while. I actually think we're going to be in this condition for several quarters. It takes a while to add fab capacity. So I think we're really looking at 2023 and beyond to really getting the full fab new capacity online out in time period.

And is there a way to think about with this gap widening where your lead times have gone? I don't know if you want to talk about it, but please dive in to it?

Yes, we have. It's on average to about half a year, about 26 weeks. And you know us, that's very, very much atypical versus how we've been operating with roughly half a quarter of lead time. I think some of that change may be more persistent even as things normalize, but I don't think it will be at that level long term.

And one of the trends that come out of this pandemic is that companies have signed longer-term agreements, both with their supply base as well as their customers, what can you say on that topic?

Yes. We generally remain -- conduct our operations on the basis of variable business terms without long-term commitments. We've done some of that relatively small scale so far, mainly on the supply side. And -- but our general view is that all players in the ecosystem generally benefit from maintaining the variability in supply and demand. That said, I wouldn't rule out something along those lines. But so far, it's been fairly modest.

And you've seen some of the broader semiconductor companies talk about pricing becoming a tailwind, maybe they haven't fully caught up, but they do expect pricing to continue to rise as they sign new deals. Kind of how do you gauge pricing as a tailwind for revenue. And then, I guess, with these long-term supply agreements, how much of a headwind will your input cost pricing be?

Yes. The way I think about this is we are experiencing inflation both in supplier cost and in price and top line, and potentially, as we head into next year in OpEx, as we need to think about wage inflation, et cetera. But we haven't quantified specifically, but we have implemented price increases so far this year, maybe more coming. We have to see what's happening on the costs side. But the main point, Blayne, is our philosophy is to stay on our model. When we announced the divestiture, we introduced a new model that we're striving to operate toward. And our objective is to operate to that model. And so far, we're doing that with some good success.

Maybe just a comment on the competitive landscape in supply. I mean, I think you -- you kind of compete with smaller, more dedicated IoT companies, you compete with broader ones. I think some of the bigger broader ones have had a hard time supplying the market. So do you think the tightness in the industry has benefited you or hurts you in terms of your share position, particularly as you win new business?

Yes. I think we are gaining share. I think that's really mainly driven by the design win momentum that we've had over the last couple of years, where we've really made a concerted effort to secure additional design wins. The design win momentum is strong. We had -- even in the first 9 months of this year, we have already surpassed design win lifetime revenue achievement that we experienced in all of 2020. That's a good indicator. I think -- and we're doing our best on the supply side. And it's a struggle for everyone in the industry, it's a struggle for us, but we're trying everything we can to get more supply.

I want to ask you, another way you carve up your business as you prior talked about wireless within your IoT business as a percent of revenue and giving us some color on that growth. And by my math, it's actually kind of approaching 80% of the bank. So maybe -- it's also going to here. Obviously, the trend is to more and more wireless. I think the general purpose MCUs though, by definition, are probably not growing much.

Right. Yes, that's right. They're actually down year-on-year in the third quarter. And Blayne, I mean, that's really a result of our investment profile. I mean we've been heavily investing in the wireless platform for several years. And we've had some investments in the MCU products, the stand-alone MCU products, but much less than the wireless products. And that's really what drives longer-term growth is new product introductions. That's really the main thrust of it. And our strategy is rooted in our belief that more and more of these microcontrollers are going to be wirelessly connected. And as you think about the right platform strategy to address that growing need, one point of view could be to add connectivity chips separately to stand-alone MCUs, but we think that the benefits of a high level of CMOS integration are very strong and provide you a single point solution in a monolithic form factor that saves board space, it operates better, lower power, all the benefits you get from CMOS integration. And that's what Silicon Labs is very strong delivering.

Yes. I mean I want to ask you, I mean, obviously, the trend is to more connected MCUs. And by definition, some of your own wins just transfer to wireless. But really, the standalone MCU market is still a very big market. There are areas of growth. Used to differentiate on power, maybe there's some integration on the sensor side. So I mean is that a market that -- I mean you said you're investing some, but is it a decliner from here? Or could you actually, once supply comes back, see that business return to growth?

The vast majority of our growth is going to come from the wireless portion of our portfolio. I think over the near to midterm, the microcontroller on a stand-alone basis may grow some, but really the major growth is going to come from the wireless portfolio.

Want to ask you on just kind of investment and the -- you have a handful of radio technologies, but then there's probably subsets beyond that, that are -- forget the quote, but it's tens, if not a hundred flavors you have. And there's always a new flavor. I'm always surprised being on the call and there's a new name for some flavor of Zigbee or whatever. How do you manage the investment to kind of maintain all this software? I think you've had a great year. If you look at '20, the IoT business was not very profitable, and you've been in things like Zigbee. I mean I was a banker in '99 and we were banking Ember. So it's been a long, long time. How do you think about the investments you make in all these flavors of radio technologies and whether it's getting the right payback?

Yes, you bet. So I mean we kind of think about the portfolio today as the 4 major pillars of connectivity that we have. We have the 15.4 based technologies Thread and Zigbee. And then you've got the sub-gigahertz proprietary. Now those are, as you just mentioned, 2 that we've been in for a long time, 10, 20 years, and we're market leaders in those. And then you've got more up-and-coming standards, Bluetooth and Wi-Fi, that folks are more familiar with. And the interesting thing that's happening is the 15.4 technologies and the proprietary technologies are becoming more mainstream, with technologies like Sidewalk and Matter now that's helping to ease the implementation and expand the use cases of those technologies. And at the same time, Bluetooth and Wi-Fi are becoming more relevant for the IoT market, where that hasn't been as strong in the past. Of course, Bluetooth is little further along, but Bluetooth low energy, though, we're pretty familiar with. And there's more to come on Wi-Fi as far as improving and increasing the relevance for the IoT market. So these are all very positive trends for Silicon Labs business. All of those areas were up strongly in the third quarter, and we see good growth ahead in all of those areas. So we think the investments are paying back. They're going to continue to pay back. And part of our task and part of what we continue to focus on is to improve the ease and simplicity of use and adoption for our customers and lower the cost of incremental wins for ourselves. We think we're making progress there. It's a journey. We're not at the destination, but I think we're doing at least as good as competitors on that point as well, Blayne.

I wanted to ask you, you mentioned sub-gigahertz a couple of times, you mentioned on your earnings call a lot. I mean, immediately, I had to look at what Wi-SUN was when I heard it the first time. Sub-gigahertz, the benefit is it can go long distance, right?

Right.

I guess maybe explain that for maybe some investors who don't know. Why -- what is Amazon Sidewalk conceptually? And then there are other standards, like there's -- LoRa was part of that Sidewalk effort, which is also sub-gigahertz, but not Wi-SUN. And I guess there's a whole -- how baked is this whole concept in terms of what standards that are going to be used? And you keep mentioning it, do you think sub-gigahertz will be a meaningful contributor?

Yes, I do. I do think sub-gigahertz is a meaningful contributor. And it's really foundational for the -- well, for both parts of the business, but you can think about the industrial and commercial side, as you just said, longer distances, having a lot of use cases around that, and metering, smart city, lighting, street lights, et cetera. But Wi-SUN creates connectivity in longer-range applications. It carries more payload than some of the prior standards. So more data can be transmitted. And it's an open standard. This is not proprietary to Silicon Labs. We think that's an advantage over time that allows for more companies to adopt it with more longer-term assurance that there will be a broader base of suppliers for that technology. It has good industry momentum, and we were looking ahead, looking forward, to seeing the success that Wi-SUN can deliver. Sidewalk, the concept around Amazon Sidewalk is to effectively extend the MESH network that you may have in your home to throughout your neighborhood by leveraging the connectivity of your neighbors in your application. So if you're walking down the street or getting more remote in whatever you're doing, you won't necessarily lose the connection just because you're getting out of the range of what your home can deliver. And that's enabled by piggybacking off of what your neighbors have in terms of their own connectivity. It's a novel concept. It's early days. But it's a powerful concept and it effectively creates a bit of a metro area network without using network operators and like 5G technology to achieve that.

I want to ask you on Wi-Fi and Bluetooth, and there's mainstream flavors of these. Then within Bluetooth, there's other flavors, low energy, MESH, which starts to get into the realm of where you guys have operated on things like Zigbee and Bluetooth, MESH are similar. I felt like for a while you guys were saying, look, we're not going to be a standard Wi-Fi, Bluetooth, that's high-volume handsets and such. I think the worlds are kind of meshing together. And you bought a Wi-Fi asset, right? So I guess can you talk about within these broader standards, how you can still differentiate?

Absolutely. Low power is kind of a quick answer. And that allows novel uses of these technologies where you can activate a light bulb with Bluetooth seamlessly, or a door lock. And part of the benefit of what that provides you in terms of Bluetooth is giving connectivity to your smartphone. So the more powerful, if you will, or traditional Bluetooth chip that may be in your smartphone has both traditional Bluetooth and the ability to connect to a Bluetooth low-energy chip on the other side, we are on the other side with the Bluetooth low energy chip. And that's really cool because you can have a smartphone app, for example, and use that communication to activate a new device, register it, pass the security credentials, et cetera. And then in a number of cases, increasingly so, it could be multi-protocol, where then that device connects to Zigbee because that is the larger network that's at work and whatever application you have.

I want to go back to this breakout between kind of the home and then there's the industrial/commercial aspect. And I guess you mentioned smart metering that I'm assuming it's in the industrial-commercial side. But maybe just can you give us a perspective as to what are the big drivers within industrial and commercial?

Yes, industrial automation is a significant one. Metering, commercial lighting, smart retail is increasingly prominent there. And it's got a long tail, Blayne. There's a lot of applications and examples and even like power tools that folks are -- and commercial-grade power tools, people are wanting to add connectivity to control how those are used in the field. So it's very broad-based. And helps companies and institutions deliver more ROI for their applications.

And I do want to ask you a couple of CFO questions, if you can handle them.

Sure.

You've done a great job with the technology. The -- on the financial model, I mean, OpEx is run historically for Silicon Labs 40% of sales. If you look within IoT, you haven't broken it out for all the periods, but it's higher. If you back out what you sold to Skyworks, its probably 50% or 60% of sales. And that's where I got to the statement that in 2020, it's probably moderate, very negligible to profitability in IoT. Why are you now going to see leverage in the model if there hasn't been leverage for the last 10 years?

Yes, Blayne, we've talked about for a number of years that we were investing and positioning our IoT platform to serve our revenue base much larger than what we have been in the past. We have invested ahead. We've built the technologies. We've built the platform to drive strong revenue growth, and we're seeing that now. We're seeing the strong revenue growth. I mean, you're right, that -- there's an industry phenomenon going on, but we think it's also durable and secular and has a lot of powerful drivers behind it. And we've made a lot of progress on the technology side of having a reusable platform that we can spin out derivatives and quickly get more chips out of that platform for lower marginal costs. As well as on the sales and marketing side, driving lower and lower customer acquisition costs and the cost of winning new designs. We're simply getting better on both sides of that, and we think we're going to continue to get better. That's our goal. Another way to think about it is from a technology perspective, back to that, where you've got the 15.4 and proprietary, the 2 big pillars are really at a sustainable at scale platform profile at that or close to it. Wi-Fi, Bluetooth or more in development mode. Bluetooth is closer, Wi-Fi is still in development mode. But we think we've got a great Wi-Fi platform to build a multi-hundred million dollar business and get that to scale and delivering the profit it needs to as well.

I wanted to ask you about the investment. If you look at your R&D spend between software and hardware, I mean, every semi company is spending more on software. But when you see certain mature mainstream standards like Wi-Fi or Bluetooth, there becomes a -- maybe the operating system of the handset ends up kind of making that software investment for you if you're the semi guy. Maybe some of these more nicher standards, maybe you guys are. So maybe you can explain that equation and any perspective as to what your spend is between software and hardware. And then is that a wrong statement that some of these wireless technologies you're pursuing, you're doing all the heavy lifting.

Yes. We are definitely increasing our software mix. Our software headcount is more 2:1 and growing, where it's been more at parity in the past to the hardware team. And that's going to -- that's a trend that's going to continue. And it's a function of the wireless protocols, Blayne, but it's also really a function of the leadership position we have as the SoC provider in these applications. There are examples of applications that we address where there's really not a lot of additional technology in the products, the SoC that we deliver is not only operating the network protocols and providing the connectivity, but it's running the customer's application as well. So that takes a heavier software lift. And we're pleased with the global expansion of our workforce. We have a new site in Hyderabad that was part of the rationale of the Redpine deal in addition to some great Wi-Fi products and technology, and adding a lot of talent there as well as in other sites around the world as we expand our global workforce to address that need.

And I do want to ask you on gross margins, and I apologize upfront because I know I beat you up both ways. Question this time is the model is mid-50s, even trending much higher than that. Can you talk about the moving pieces that would drive you back down to 55%?

Yes. It's dynamic. The model we put out at today's revenue level is more upper 50s, and that's basically where we're operating at, even outperforming that a little bit. Over time, we'll see -- we'll have to see how the industry progresses as we move forward here. As we -- the standards-based technologies do carry a bit lower gross margins, and those are going to be a major driver of growth for us. We have larger customers growing in the mix in addition to our long tail of customers. So there's a few factors, but we'll continue to assess that as we march forward here.

And then we have a few more minutes, so 2 more questions. I want to ask you on the buyback. So you did a Dutch, it was partially filled. You did another buyback, it maybe equates to $1 billion. You're committed to returning $2 billion through various sorts of returns. Maybe just update us on progress and buybacks. And then, yes, why don't you do that first and then I'll answer the second part.

Yes, you bet. You got that right. So we wanted to begin to deliver on that. So we executed the Dutch tender auction in August. We had about a 64% subscription rate, which if you look at other tenders that have been completed this year, that's actually on the high side. It's one of the highest ones as far as the overall subscription level. So we're pleased with that. And then we supplemented that with an accelerated share repurchase activity, which is ongoing and that will extend through mid-Q1. And we did also do some open market purchase in between those 2 actions. So altogether, that should come out around $1.1-plus billion. Blayne, from there, we're continuing to talk to the Board about this. I think we'll be -- I expect we will be active in some form of capital return next year. And we'll see what the exact form of that is as we march forward and have more dialogue about it.

That's the first -- leading into my final question. I just wanted to ask on the dividend. You mentioned that as one of the options you have on the table. I get this question a lot. There's not a lot of kind of that smid- to mid-cap range companies that pay a dividend. It definitely opens up a different group of investors. But if you do it, you need something meaningful. I mean you need to continue to grow it, but it can't be a token dividend. So how do you think about dividends? Obviously, startup companies and dividends don't always mix, but it would open up a bigger group of investors.

No, good question. So we have not really considered a recurring dividend as part of this. We have considered a special onetime dividend. But looking at the landscape, talking to investors, talking to the Board more. We've seen that, at least for now, the share repurchase strategy makes more sense. So that's what we're pursuing. But I think we've got a ways to go to be in a position to really consider a recurring dividend. I think it's early for that.

Perfect. With that, we're out of time. Always a pleasure, John. Thanks for joining.

You bet, Blayne. Thank you very much.

Take care.