Synaptics Incorporated (SYNA) Earnings Call Transcript & Summary

Perfect. Why don't we go ahead and get started. I'd like to welcome everyone to this afternoon's presentation fireside chat with the management team of Synaptics Incorporated, and it's my pleasure to introduce that management team. On stage with ME Is Dean Butler, the CFO and Senior VP; and then next to him, to his immediate left, Munjal Shah, who runs Investor Relations fr Synaptics. We've got about 25, 30 minutes in this room. It is going to be a fireside chat format. There is a mic in the middle of the room. I swear, it has not been used all day except for once. We're not passing it around for COVID protocol. But if you do have any questions, please just stand up, come to the mic, and I'll make sure that you get addressed. With that, Dean, I'd like to thank you for joining us today. It's great to be back in person after a 1 year hiatus of making this virtual. I always try to make the first question a little bit open-ended, to give you kind of an opportunity to set the stage. As I was mentioning before the presentation, the fireside, I took a break yesterday from writing questions that I got on my Linkedin account, I saw a very interesting post from you, which was, your stock performance relative to many peers year-to-date. You've just had a fantastic sort of move in the stock year-to-date. Help us understand kind of what's been driving that? How you've been repositioning the company and sort of why the outperformance this year?

Yes. So one, thanks for having us. I mean, the first in person for 2021, and I think all of 2020, so it's sort of good to be back and meeting everyone in person again. On the sort of year-to-date performance, which is, I think what you're referring to, John, is -- year-to-date, actually, Synaptics has sort of been an under the cover tech name, right? We don't get the same press that maybe an Apple would get, or maybe an NVIDIA would get and some of the other sort of huge stalwarts of the tech industry. But the reality is, under the cover, Synaptics is going through quite a bit of a transformation, and it has been the last 2.5 years. It's not just this year, and we've sort of done well this year. We've been doing well the last 2.5 years. It began first, with a new CEO appointment, Michael Hurlston, our new CEO about 2.5 years ago. I joined shortly thereafter, and we said about changing Synaptics, and what its strategy was about, away from a very mobile-centric company and into a much more diversified, growing end market, IoT-based company, and along the way, we've really pushed up gross margins by 2,000 basis points, which I'm not sure many management teams can claim to have accomplished in short period of time. The operating margins have gone up tremendously and under the covers of all of this change, we have this emerging IoT business that is now approaching 60% of our revenue portfolio. It's approaching $900 million to $1 billion in size, so it's sizeable and it's actually growing faster than a lot of the other IoT semiconductor names out there. In the past couple of quarters, we've announced a new set of earnings, where our IoT business in this past quarter was growing north of 70% year-on-year, and we got into December, growing again substantially. And I think that really has been reflected in the stock price most recently. So year-to-date, we're sort of up quite a bit, relative to a lot of other tech companies. And I think we're sort of getting uncovered around, hey, this turnaround that the company has been doing, the fundamentals have flowed through, and now sort of the growth engine, this IoT business is shining through, as a result, and I think we're getting recognized for that.

That's a helpful setup, Dean. Just kind of curious, can you unpack IoT a little bit? It tends to be kind of an umbrella term. What specifically is driving the business in that segment of the market for you?

Yes, you're right. It's a bit of a grab bag, and I think everybody's got a different definition of what IoT means for them. For us, our investment thesis around IoT is actually pretty simple. One, the market as a whole, is a large market, it's a growing market. For us it means, look, there's going to be more and more digital applications around us every day as consumers of the world and citizens of the world, and these things are going to get smarter and smarter over time. We're seeking to put together a portfolio that drives how all these devices are connected, how we interface with these devices, and really seek to build out a bigger bill of materials with our customers or technology set that they can use to drive forward, sort of the human interface between machine and customer -- client. Really, for us, there's a set of technologies in there. We've been trying to pivot the company into macro tailwinds. One macro tailwind would be around wireless connectivity. Almost everything in my home is wirelessly connected, either via Wifi, via Bluetooth. I mean the reality is, there are things that are connected via Wifi from Bluetooth these days, that probably don't need to be, but the new world that we live in, is a highly networked, highly connected end device and end set of applications, and we seek to play in that. So we have wireless technologies. We have audio processor technology, video processor technology. We have technologies that service automotive infotainment, and a whole slew of how do people interact and how the devices connect.

Got it. And I guess in the semi industry, you either have low class problems or high-class problems. A high-class problem that everyone has this year, is demand outstripping supply. Help us understand, how you're managing kind of the supply situation in the industry, and when do you think things might actually get a little bit more supply demand imbalance?

Yes. I mean, everybody's got a supply issue. I don't know of any single semiconductor company that doesn't, so we're sort of not unique. Our supply capability outstrips probably our demand that we have on hand. So demand has been really strong for our products. I think we might have a unique problem relative to a few others, where winning in the marketplace, growing an IoT business substantially causes added pressure on to our supply chain. So not only are we trying to play catch-up to get our supply chain, to meet demand, to exceed demand where we can, the goalpost is actually moving on us. So as the sales teams have done a great job winning new designs, winning with customers, expanding our market share, that means the goalpost for the supply that we need, to go service, has moved on us, so we actually continue to sort of chase supply. I would say the good news is, I think, incrementally, we do sort of better here and there. I wouldn't say, we have our supply chain completely solved, but it's sort of getting better day-by-day where we can.

Well Dean, I'd be curious if you could quantify kind of the delinquencies, how much more could you have grown in IoT this year, had supplying not been a problem? As we think out to calendar year '22, how much supply growth do you have in place, and is that enough to cover the expected demand growth, OR will there be further delinquencies next year?

Yes. So our delinquency, it's pretty significant. I mean, we guided the December quarter sort of up pretty big. We guided the prior quarter, September and sort of came in with our results up big relative to where consensus was at the time. So we continue to improve and do better. When we look into calendar 2022, given that the goalpost, our demand sort of continues to grow from new design wins, we think that delinquency probably continues into 2022. I don't think there's any single thing that I can point to that says, look, this is why 2022 is going to be better. Why 2022, these constraints go away. I just don't think there's a driver in that. I mean, you have to remember, we're analog mixed-signal primarily, and that's on trailing nodes, and that tends to be highly constrained and not getting the same CapEx investment that you would at sort of leading-edge, where people are building fabs for 5 nanometer, 3-nanometer, and that's...

Are the constraints for you mostly at the wafer level? Is it mostly back end? Is it a little bit of both?

It's primarily at the wafer level. I mean, there's some back end. It's sort of pervasive throughout, but it's primarily at the wafer level.

Perfect. And then I'd be kind of curious, as you think out over the next 3 to 5 years, how do you think the split of your business between IoT, PC and mobile is going to look 3 to 5 years from now, as you look at your design funnel and kind of the growth expectations you see in the IoT business?

Yes. I mean certainly, IoT has the highest growth potential, and we don't see that changing. IoT has been growing rapidly for the company over the last couple of years. So when I had joined the company in 2019, the company was about 60% mobile, sort of give or take around numbers. December quarter that we just guided, is 58% IoT. So a complete 180 flip of the business, and the business has been growing that fast, that rapidly. Some actually has inorganic, we've done a few acquisitions along the way, to sort of bolster that. But if I'm on -- then IoT has the biggest growth potential, I think that pie keeps moving in that direction. Today, rough order at sort of 60, 2020. We think all the end markets have growth potential, but IoT continues to have the highest, and therefore, I think it probably continues to expand.

Probably not the first person to ask the question, but the investment community has a lot of concerns around the PC market. It's a market that pre-COVID was running 250 million, 260 million units a year, we're now up to kind of 350 million, 360 million, a lot of people think that's over earning. What's kind of your view on the PC market and the outlook, as you go into calendar year '22?

Yes. This is an area I think people overgeneralize. I mean, just saying, hey, PC market like has run real hot, where does it go now? There's sort of 2 camps in PC markets, 2 sort of sub end markets, if you will, just to sort of make it easy for people. One is consumer based, PC, laptops. One is commercial grade, PC, laptops. Synaptics is largely indexed to commercial, like our highest market share is -- we're pretty dominant in the commercial side, so we certainly see that as a fairly stable market. In fact, when you go to order like a new PC, there's still quite a bit of backlog for commercial PCs. There's still huge pent-up demand on getting commercial PCs, getting people back to work. There is a natural cadence that happens within refresh cycles in the sort of corporate enterprise world that doesn't happen in consumer. So consumer, I think, one has always been more volatile and I think that's the area of concern that people point to within PC, is more on the consumer side. And sure, we have some business there, but we're predominantly indexed to commercial. So I think for us, that's pretty steady. We feel pretty good about commercial and consumer. I think it's going to be volatile and I wouldn't look for a big consumer PC growth sort of in the coming year. I think that's probably going to find its equilibrium sometime soon.

Similar question in mobile, if you look by this time next year, we'll probably be well through the 5G upgrade cycle or at least half of all phones being shipped will be 5G, and that's usually a point in replacement cycles, where maybe growth starts to slow. How are you kind of viewing the mobile market from here?

Interesting, I won't comment on overall general mobile because our mobile market has really changed considerably over the last few years, right? I mean, the company was largely a mobile focused company. We've deliberately selected to not focus on mobile phones. But we have selected to focus on certain sub elements of the mobile phone market, and that is really at the flagship level, sort of premium. For us, it's servicing flexible OLED type displays, which are prevalent in flagship models. There, we're doing really well in the Android ecosystem, on the touch controllers. We also have a set of roadmap designs around a display driver focused on, again, the flagship level, flexible OLED based displays. From what we can tell, flagship level models are doing fairly well. I think within the Android ecosystem, I think what's -- the battle is, who takes over the Huawei flagship, sort of void that's been created. And that will sort of yet to be written on who is the ultimate winner, and I think sort of there's some dynamics happening there. But we've been focusing on things that are useful to deploy our engineering, with high-end flagship touch controllers, high end flagship display drivers and keeping our mobile phone business within sort of this 20% envelope. We have no desire to go build it back to 50%, 60% of the company.

Can you talk a little bit about the margin profile across the 3 businesses? I'm assuming a big driver of the margin expansion story has been the mix story in revenue towards IoT, away from sort of mobile and PCs?

Yes, that's right. I mean, largely, I mean, the mix has been the primary driver. So 2, 2.5 years ago when Michael Hurlston and I walked in the door, gross margins, on a non-GAAP basis, 38%. We just finished this last quarter, September to 58%. So 2,000 basis point improvement. That's largely been on the back of 2 things: one, mix in IoT. IoT has gotten well. We have sort of better margins sort of in that profile. 2, we focused on premium versions within the markets. So even example, mobile phones, like, hey, look, we're not going after low end mobile phones, we're going after premium flagship. PCs, we're actually not going after all the consumer PCs. We're focused on commercial, where can we add our quality of design, where can we add feature sets, where can we extract sort of better margin, sort of get rewarded for the engineering that we do. So it's been a big focus inside the company on gross margins, focus on premium features, high end, focus on being in the right markets and IoT specifically. And then really just a heads down focus on fundamentals on cost reduction, bill and materials, getting more strategic with a few of our foundries, to really extract the right bill of materials for the company going forward. And that's been about the last 2.5 years, we've been working on that. Right now, the supply crunch and so some of those things have different dynamics, but that's been largely the focus around mix.

And then Dean, in the IoT business, who do you see as your main competitors? And given sort of the impressive growth there, when do you win, why are you winning?

So I mean, we have a number of different competitors. There's probably no single competitor that has a like-to-like portfolio, but there's a few that are sort of closed. We have like the NXP portfolio, sort of have some similar offerings. Qualcomm has some similar offerings and sort of that like. We generally are winning on our focus in that market and application. So a good amount of our wins come in from smart home applications. We have a big focus there on where can we make sort of the consumer experience a lot smarter and interconnected. IoT hubs in the home, thermostats, doorbells, garage door openers, surveillance cameras, sensors, lights, so we get sort of a whole plethora of these end applications, the end devices that we focus on, and that's paid off well. Both large customers, sort of like big Tier 1 providers, as well as longtail IoT customers that maybe can't wholly design an IoT and an application by themselves, we might sell them reference designs, modules that sort of help them get started on how to use an audio processor, a video processor, Wi-Fi, Bluetooth, etcetera.

I'd be curious, how much of the IoT business would you characterize as being smart home? And are there other big buckets underneath smart home?

Yes. I mean there's a number of sort of pretty big buckets. Smart home is probably one of the biggest. So like the big buckets are smart home, interestingly enough, VR is now becoming a big bucket. We have an automotive business, which is focused on infotainment in the car, which is a big bucket, and then we have a big bucket around premium audio. So think about premium headsets that people might be using. Another big bucket around video processors, that are set-top boxes, over-the-top streamers, sort of things that are carrying and processing video streams.

And then your -- you've announced the acquisition of DSP. Can you talk a little bit about the strategy behind that? And I think it's expected to close by the end of this year, and we're getting pretty close to the end of this year. Any update there you can give us?

Yes, it's still on track. So it's expected to close by the end of December 2021. So it's sort of imminent, it's coming up pretty soon. We don't see any hurdles on that. There are no regulatory requirements, subject to shareholder vote and a few closing items, and it should close on track. That business is a great business, sort of long-term for Synaptics. It's aligned to really our vision of what IoT ends up being sort of longer term, which is all of these digital devices around us gets smarter and smarter over time. DSP team has a nice track record on AI at the edge for acoustic environmental monitoring. So think about these IoT applications that might be around us in our homes, in our offices, workplaces, in smart cities. We think the first step that a lot of these things get more intelligent, is they literally understand the environment they're in. So DSPG has done a good job in deploying AI capabilities for acoustic environmental monitoring. So that is sort of aligned to where we think these IoT devices end up going. Another application which Synaptics had been working on organically is, visual IoT environmental monitoring. So having a small camera attached to your IoT device, and understand sort of what's happening around it either visually or the DSPG side sort of acoustically. And then there's sort of great product alignment in general with DSPG and customer alignment with what Synaptics was going after. Another great example is smart home for security purposes. So a lot of these security providers like this ULE wireless standard, which has bidirectional communication, that's really suited well for security applications. ULE is separate from what we have today, which is Wifi, Bluetooth, ZigBee. So this is ULE in addition, which is aligned to Synaptics' smart home, right, smart security surveillance around the home. That's aligned very well. And then, I mean, there's a few other businesses that we have that are sort of legacy in nature, and those will sort of continue going forward, probably just in more of a legacy mode. But I think those 2 exciting ones sort of are perfectly aligned to longer-term vision on so where Synaptics things IoT is headed.

And Dean, you guys have not been shy about M&A, as you've tried to reposition the company? I think when DSPG Group closes, that will be the fourth or fifth acquisition in like 4 years. How do you think about M&A going forward, as far as an arrow in your strategic quiver?

Yes. I mean, we're not shy. I mean we're pretty open to -- look, we think that's an essential part of our strategy. Really, I think, as good capital deployment managers, we really owe it to the shareholders to really deploy the capital into markets that have the most potential, that are growing, that have the best return. For example, we actually exited a mobile business by selling half of our mobile business that we historically had, which was focused on low end, actually exit that, get some capital back, redeploy it in the IoT. We've redeployed in the wireless capability. We redeployed into a video transfer business. We are redeploying into DSPG Group. We sort of like these tuck-in businesses. They've worked out well for us. We think those are businesses that we can wrap our hands around. They don't come with a ton of other businesses that we're sort of less interested in, when you get these sort of small tuck ins. We look for businesses that have high customer alignment or high-end market alignment or businesses that have high-technology alignment. So DSP is a great one, IoT -- smart IoT, wireless for home security systems. So that's sort of what we look for and we've been pretty successful to date, sort of pursuing those and I think we'll probably continue to pursue those sort of opportunities.

And then Dean, can you spend a little bit of time just talking about the longer-term financial model here? How should we think about the long-term growth rate, gross margin, op margin over time?

Yes. So one, we have a little bit of a stale investor business model that, in fact, we're doing as good or better than now. We've sort of exceeded. And so we'll probably look to give updates after we get to DSPG sort of digested. But the reality is, the focus is on long-term sustainable growth, that largely means the IoT businesses, which are double-digit growers that continue to drive forward for the company. Our previously stated gross margin goal is 57%. We just guided to 59%. So we're up ahead of that. Don't have an update for you today, John, but this is when you look across the peer group, really a leading company in gross margins, relative to many of the other sort of IoT focused businesses that you can find out there and benchmark.

Great.

And then we're dropping all that to the bottom line. So we're 30% plus. I think our last quarter's actuals is something like 34% operating margin on a non-GAAP basis. So again, not only is it leading in gross margins, it's leading in operating margins and really has great growth potential, and we don't see that changing anytime soon. Really, we've been focused on, get the company n long-term tailwind markets that continue to grow. Automotive, IoT, VR, get the company focused in the right places, to get carried forward as a macro trend.

And then as a high-class problem, as you execute the double-digit growth at good levels of profitability, you're going to generate a lot of cash. We talked about your M&A strategy. What's the strategy around cash return to investors?

Yes. Cash return, I mean, we've been pretty clear with investors is, one, we look to manage debt maturities. So we don't want to get out of our skis. We're pretty modest in our use of debt, and so we look to find prepayable debt to finance things. And 2, we think the best return is actually M&A. So inorganic, we think is the best return and continue to accelerate IoT, add bolt-on technologies that we can take advantage in the right market space. So we think that's probably the best return. Absent M&A is probably when we start talking about shareholder returns and buyback sort of applications. But I think for now, we actually think there's a fair number of targets, that could be interesting for the company, that M&A is probably still the priority before shareholder returns.

Great. I think with that, we'll end this session. But I want to thank everyone for joining us, especially for Dean, for being here. It's a great conversation. Really appreciate the time.

Yes. Great. Thanks for having us.

Thank you.