Wolfspeed, Inc. (WOLF) Earnings Call Transcript & Summary

My name is Craig Hettenbach. I'm at the semiconductors team at Morgan Stanley. Just before we kick off this morning, for important disclosures, you can reach them at the Morgan Stanley research disclosure website, www.morganstanley.com/researchdisclosures. And with that, we're very pleased to have with us Cree this morning. We have CEO, Gregg Lowe; CFO, Neill Reynolds. And Investor Relations, Tyler Gronbach, is also with us. So welcome.

Thanks. Thanks, Craig, for having us. Really appreciate it. And thanks, everybody, for your interest in Cree.

Thank you.

Excellent. So why don't we kick off, Gregg. I know there was news this morning on the sale of the LED, and that kind of leads to my first question on just the transformation of this company in just a few short years. And so if you can just start at a high level in terms of -- since you've got on board here, just what you've been doing to drive the business and really what that means for the future?

Well, thanks, Craig. And I've been at the company -- this will be coming on 4 years here in the August time frame. And basically, from the beginning, it was really to focus the company on what I believe to be our most differentiated asset, and that's our capability in silicon carbide and gallium nitride, basically compound semiconductors. And so that's been the focus of the company since I've joined. We have done a number of different dispositions. We sold off our lighting business, the lighting fixtures business to ideal industries a little over 1.5 years ago or so. And today, we announced the completion of the sale of the LED Business to SMART Global Holdings. We're very excited about that for our LED team and the future that it's going to give them. So it's a really great opportunity for them as part of SMART Global to continue to grow that business, but it also now creates a pure play compound semiconductor company focused on silicon carbide and GaN and what is possibly the highest growth potential that I've ever seen in semiconductors and that is this whole transition from a silicon-based substrate to a silicon carbide-based substrate in the power electronics industry. So tremendous amount of focus over the last 3 years on that. I think the sale of lighting and the sale of our LED Business now creates this pure play compound semiconductor company, and the growth potential just keeps getting stronger and stronger. Obviously, it's been led by the transition of the automobile from internal combustion engine to electric vehicles. More and more of our customers are seeing the advantage of silicon carbide. Basically, the equation is really simple. If you use silicon carbide versus silicon in an electric vehicle, the car will go anywhere from 7% to 10% further, depending on your -- actually, I've seen it higher than that, with the same amount of battery or you can have the same distance and have a smaller battery. And as batteries are the most expensive things in electric vehicles, it's a very nice value proposition. We're seeing silicon carbide adoption across other industries, industrial markets and so forth. And so we're really in the beginning of this transition from a silicon-based world in high-power electronics to silicon carbide. The fact that we've got such a strong heritage in silicon carbide is a huge advantage for us. We supply something on the order of 60-plus percent of the world's silicon carbide substrates. So that strong heritage that we have is really helping us drive this transition. So this is -- it's a completely different company than we were 4 years ago, but the core capability remains the same, and I think the -- that drive of this transition from silicon to silicon carbide is really what we're all about.

Got it. That's a great start. And you touched on 60% or more of silicon carbide wafers. Can you maybe just expand on that just from a supply chain perspective, right? So you are supplying silicon carbide wafers to also companies that you compete with on the device side. Just how that works today? And as we kind of fast forward out to the decade, do you see the supply chain changing at all in terms of where you sit from a wafer perspective as well as device perspective?

Well, thanks, Craig. And so a couple of different things. First off, and I come back to -- we're in the middle of a transition, and we're driving a transition from silicon to silicon carbide. And to try to do that by ourselves is, probably, we wouldn't be able to get there from here. So us supplying silicon carbide substrates as the world's largest producer of that, we play kind of an important role in terms of feeding, if you will, the other device manufacturers silicon carbide substrates so that we can collectively drive this transition. We've got great relationships with our long-term agreement customers. Most of our business, by the way, that we do in the materials or the substrate side is done through these long-term agreements. We're not really big into the spot market for silicon carbide. We'd rather have long-term agreements. And so we have got long-term agreements with Infineon, with ST, with ON Semiconductor and with a number of other companies that haven't been named. And these are great partnerships. These are companies that are using our substrates and helping drive that transition to the market. And then obviously, that helps us get scale in silicon carbide materials. The increase in scale that we get in silicon carbide materials drives our yield up. Our yield going up drives our cost down. Our cost down creates a situation where the delta between silicon and silicon carbide is shrinking over time. And we've been driving that like a racecar over the last 3.5 years with substantial cost reductions in silicon carbide materials and more to come in the future. So as we have these long-term agreements, we're utilizing that scale to drive efficiency. Efficiency drives cost down. Cost enables more markets. More markets enables higher volume, which allows us to get more learning, which allows us to drive yields up and cost down. And so we've kind of created a flywheel, if you will, in this thing where the sheer momentum that we're driving is helping continue even driving more momentum throughout that cycle. And then obviously, we -- as a supplier of silicon -- as a manufacturer of silicon carbide, it obviously gives us an advantage as a device manufacturer because we can supply ourselves, and I think that's a -- that's something that our customers are really looking forward to.

Great. And maybe just following up on that, one of the important points I think you make is driving the cost down to that adoption curve, right? And so can you maybe talk about silicon carbide today versus existing IGBT? And really, in the context of -- sometimes for these technologies, there's a long tail as well, right? So silicon carbides coming in. You're seeing that the penetration increase, but you also have technologies like IGBT that are still going to be kind of in place for the next number of years. And so what are some of the puts and takes to think about there in terms of the technology in that curve as you see it?

Well, I think this is a unique situation because you're seeing a transition of the semiconductor industry go from silicon to silicon carbide, and this kind of monumental transition doesn't happen often. In fact, the last time it really happened was about 40 years ago when digital semiconductor chips went from a bipolar transistor to a CMOS transistor. Everything that's happened in between now and then is kind of Moore's law and driving it from 130-nanometer to 60 to 10 to 7 and so forth has been kind of a Moore's law thing. This is another one of those monumental shifts. And there's always a case where there's going to be a tail in semiconductors. So there's going to be a transition of the business. So a lot of growth in silicon carbide, but I imagine there's going to be of IGBTs and silicon-based power transistors for a while. There just won't be the same kind of growth. And I think we're seeing some pretty nice adoption of silicon carbide now in industrial markets and in the automotive market, just simply because the value proposition is so strong. And as we drive the cost down, the value proposition even gets better.

Got it. And I think one of the big takeaways from your last earnings call was the discussion around moving from 6-inch to 8-inch for Cree. And that's a pretty big move in terms of the implications of this whole supply chain and being able to kind of ramp to kind of meet this demand. What gave you the confidence to kind of move from 6- to 8-inch? I know it's difficult even at 6-inch in terms of yields and from a product perspective. So can you talk about the backdrop around going to 8-inch and as we move forward?

Yes. So we've had a pretty intensive effort over the last couple of years on driving 8-inch or 200-millimeter silicon carbide crystals. I've personally been driving a monthly review of that progress every month for the last roughly 2 years. And the team has been intensively working on that, and that's everything from figuring out what the crystal growth machines are going to look like to figuring out what the formula is to translating into getting pools that are the right thickness or height, so to speak, the defect density, the ability to cut them. All of these things are areas that you need to address and tackle as you move from 150 to 200. And what I would describe as, Craig, is that if you take a look at where we were 2 years ago, there's been a really nice progression of what I describe as first downs, all -- basically, every month for the last 2 years where we're making more and more and more progress. And we got to the point a couple of months ago where we decided our ability to move to 200 is now there. And so we made the decision to go ahead and open up that factory at 200-millimeter. And the quality of our crystal is exceptional. Feel real good about that. We've got the machines that -- we produce our own machines. We've got a good handle on that, making really good progress on epi. And so ramping that factory at 200 millimeter is a huge positive for customers because it saves them an entire qualification cycle. They don't have to qualify the new factory at 150 and then qualify it at 200. It's going to be a single qualification at 200. And we're excited about that. We're going to be ramping that factory in less than a year from now at 200 millimeter. The initial cost of the 200-millimeter crystals won't be exactly where we want it to be, so we won't get the full benefit that you'd normally associate with going from 150 to 200 because the subsidiary cost would be higher. But we've got very good line of sight for getting that back to where we want it to be. So that by the 2024 time frame, when a lot of our customers are really ramping in volume, we're going to be in really great shape. So that's going to be -- that Mohawk Valley Fab in New York will be the world's largest silicon carbide factory. It will be the world's only 200-millimeter factory. And customers are super excited about it. The positive feedback that I'm getting from customers is really kind of off with charts.

That's excellent. We do have some questions coming in through the webcast, and one is just on how differentiated the technology is for silicon carbide. And so maybe touch on that at substrate level in terms of how long Cree has been doing it and really the difficulty for others to kind of follow you in.

Yes. So we've been in the silicon carbide business since the founding of the company 30 years ago. And so we've been making silicon carbide crystals for a long time. The machines themselves are hand-built and they're built by us. And so the barriers to entry in this business are pretty substantial, and there's multiple barriers. One is the machines themselves. You can't go down the street and go find a third party to make machines. You really have to have that know-how you sell. The material is grown at a very, very high temperature, 2,500 degrees C. So you have to have an environment that can handle that kind of situation. And by the way, you don't get halfway through your crystal growth cycle and then kind of look inside the machine and see how it's doing. I mean it's 2,500 degree C. So you've really -- when you start that run, you got to know what's going to happen coming out of it. Silicon carbide is very, very difficult to grow because of those items. And then when it grows, it can grow into one of a number of 100 -- over 100 different crystal structures and one of them works. And so you're trying to grow silicon carbide in a very difficult environment, and you're trying to grow at a very specific way. If you don't grow it that way, it's going to have defects. The defects create problems and yield problems, and the devices basically won't work. So now that you've gone through all of that, which is all very, very difficult to do, you have a crystal now. Now you have to slice it into a wafer. Silicon carbide is second hardest material on Earth. So even slicing it is hard without breaking it or doing something negative to it and so forth. So slicing it is difficult. Epi is difficult. So all of that is all before you get into a wafer fab, and these are all tremendous barriers to entry. We've had 30 years experience on that. We supply roughly 60% of the world's silicon carbide wafers and materials that are out there. And again, we are ramping our manufacturing capability in materials pretty dramatically, a 30x increase from where we were in 2017. And we're using that scale to drive learning, which drives yield improvement, which drives cost down, which allows us to get more scale, which drives learning and cost, et cetera, and they're creating that flywheel effect, if you will. And so we feel very good about that. I think all of our device -- all of our long-term supply agreement customers and our device manufacturers are trying to get this into this -- into the business themselves in terms of doing materials. And I think most people find it a lot more difficult of a challenge than you think because of these items that I just talked about.

Got it. And another question coming through the webcast really around the penetration adoption rate of silicon carbide. Are you seeing much of a difference from kind of some of the upstarts, some of the new players in EVs versus the legacy OEMs will also shift into EVs? Is there any difference in the penetration?

Yes, there certainly is. And more upstarts have less legacy to worry about. And so they tend to adopt silicon carbide kind of from the get-go as opposed to some of the more traditional ones, have cars that are being introduced today to the market that were designed 5 years ago when the delta between silicon and silicon carbide were substantially higher. So I think it's -- you definitely see more of an adoption. What I would say, Craig, is that in terms of the interest in silicon carbide, it's kind of shot up very, very high for even the traditional manufacturers in terms of the designs that they're doing today that will get -- brought to the market in '23, '24, '25. They just see what's happening is the nontraditional companies come out with a silicon carbide-based vehicle and the range is substantially further than what they can get. And range is a big deal. There are new cars coming on to the market from start-ups that have 517, 520 miles of range. If you come out and you have 250, it -- this is -- it's not really competitive anymore. And so I think 500-mile range eliminates pretty substantially range anxiety. These cars tend to have higher voltages as well in terms of the bus voltage. Higher bus voltage equates to faster charging. Companies have announced 300 miles of additional range and 20 minutes of charging. That's pretty darn good and, again, kind of eliminates that range anxiety issue that's been out there. So I think that we're seeing a tremendous amount of interest from the traditional car manufacturers, obviously, from the start-ups as well in the adoption of silicon carbide, and we feel like we're at the -- really the right point in terms of being able to deliver for them.

That's great. Maybe we can touch on the design pipeline that you're working on and maybe talk a little bit about EVs versus other applications and how you see that evolving over time as well.

Yes. So we've got a device opportunity pipeline that's greater than $10 billion. It's been that way now for several quarters, and roughly half of that device opportunity pipeline is automotive related. Most of that is in the inverter, but we see some DC to DC converter, onboard charging type applications as well in there. So you got roughly half of it. The device opportunity pipeline is automotive. About 1/4 is industrial, energy and some of the broader applications. Here's where the partnership we have with Arrow is really helping us out. We have a very small subscale sales footprint as a company. It's a tiny footprint compared to our device competitors or some of the big guys that are out there today. And trying to build that ourselves would just take forever. So what we've done is we've partnered with Arrow, and they have a giant sales footprint. I haven't done the math, but they probably have more people selling in some of the big cities around the U.S. and Europe and China than we have worldwide. I mean they just have a lot of people. And so we partnered with them. And our first great result was the 650-volt program where they brought us well over $750 million worth of new opportunity. They were able to find opportunity in greater than 40 countries. And in about half of those countries, we don't have employees. So they've been able to very substantially increase the sort of the adoption in areas that we wouldn't have an opportunity to go after. So pipeline looks really good. Last couple of quarters, we've gotten multiple hundreds of million dollars worth of design-ins. You're not always going to be sort of up into the right. Sometimes their customers are going to decide more often. Sometimes they'll push things out. But we've been very pleased with the design-in percentages that we've seen so far.

Great. And then another question coming through the webcast, just in terms of the design for silicon carbide and just how much of an influence the OEM has versus the Tier 1 suppliers and some of the interplay that you see with that in terms of who you're engaged with.

Well, I would say that over the last couple of years, what I've noticed is that the OEMs or the car manufacturers have been very, very engaged in the electrification of the powertrain. And they're engaged because most of the car manufacturers create the personality of their car around the engine. In fact, some of them name their cars after engines. A BMW 525 is a 2.5 liter. You got the Dodge Hemi. The engine was such a big deal in terms of the selling and the promotion of the car, they see this transition from the internal combustion engine to the inverter and they say, "We've got to have some kind of hand in that." So for the last couple of years, they've been very engaged in working with companies like us to try to figure out what their strategy is going to be in that regard. What's amplified that, Craig, over the last 6 months is the supply shortages in the semiconductor industry in automotive. And I know you've written about it, and a lot of people know about it. But this whole supply chain issue that the auto industry is facing right now where car manufacturers have shut down production lines and so forth, that has now also sort of amplified the OEMs or the car manufacturers' attention to the supply chain and semiconductors and the attention to the supply chain in silicon carbide. And here, we score super high marks. When I talk to the car manufacturers about silicon carbide, we start with we're 60% of the world's supplier of silicon carbide wafers. We're growing our silicon carbide wafer manufacturing capability by 30x over the next several years. We're building a mega fab in the state of New York. 11 months ago, that mega fab was ground and dirt. Today, it's a building that will move into production in less than a year. I was just up in Mohawk Valley and visited that site last week. Tremendous amount of positive walk through the clean room. It's not a clean room yet, but walk through the ballroom, which will eventually be the clean room. Waffle floors up. Things are moving and in really good shape here. And so those car manufacturers look at us and they go, "Wow, this is a company that's investing in the fundamental technology of silicon carbide. They're putting in the world's largest silicon carbide fab. And by the way, they're going to ramp that at 200 millimeters or 8-inch as well." So we get a pretty solid checkmark when those OEMs look at the supply chain. And again, we didn't forecast that there would be this strange dynamic in the auto semiconductor industry of the tremendous amount of demand overtaking the supply and having a supply-demand issue here. But it certainly has come at a time where we look really smart, to be honest with you. Part of it, I will admit, it's a little bit luck. I mean we happen to be doing this at the time when that's happening. But this was our strategy from the outset was to build a high-quality, high-capability wafer fab so we could begin ramping these customers.

Yes. No. It's certainly timely indeed in terms of what's going on in terms of the pressure OEMs are on. So I'm sure that helps the level of engagement in terms of looking at future business. Can we also touch on -- because a lot of the things we're talking about in the next number of years, just the near-term environment for Cree. I mean the business, Wolfspeed, in particular, I think, feels like it's kind of turned the corner. So what -- over the next number of quarters, what are some of the important growth drivers that we should be focused on?

I'd maybe kick it off, and I'll hand it over to Neill to give a little additional color here. But basically, we're focused on building the infrastructure and building the capability to hit our goal of $1.5 billion 2024. That's roughly $900 million worth of device business, $600 million worth of materials business. And I think we feel very good about the design-in rate that we're seeing from customers, the pipeline, the conversion of that pipeline and so forth to hit those numbers. In between now and then, we've got the challenges of -- we've got subscale fabs here in North Carolina that we need to get through. We're increasing the fabrication in North Carolina by moving the LED Business out of that fab. So there's going to be some amount of -- up there, but maybe I'll turn it over to Neill who will give a little bit more color on the transition between now and Mohawk Valley.

Yes. I think that's right, Gregg. I think if you look at the short term, things are kind of playing out, like we anticipated, coming over the last few quarters. As you look into the first half of this year and the second half of this year, we've got some capacity constraints in areas like MOSFET. We're seeing some pickups on the RF side in 5G, and we're seeing some strengthening in the materials as it relates to the overall environment. So it's playing out a lot, I think, like we had kind of anticipated. And from here, what we see happening is, as we get into 2021 and '22, we've always talked about those as being investment years. Of course, we see a transition in the business as we start to invest in it as [Audio Gap] time frame. And look, a lot of these automotive opportunities we talk about in our pipeline, they take 2-, 3-, 4-plus years for them to manifest themselves as revenues. So it's really just a transitional period here between '21 and '22 as we invest and increase capacity [Audio Gap]. So you can see the OpEx a little bit elevated. And then we'll start to see the bigger pickups in '23 and '24 as we get out to the long-term model to $1.5 billion. And I will say, in terms of revenue, and I will say, I think that coincides with the build-out of the capacity plan. It takes a couple of years to get the capacity in place. Gregg mentioned we saw Mohawk Valley making really good strides, and I think as we start getting capacity benefits there, we'll start to see the revenue pick up. So I think kind of modest '21, '22, and you start to see the inflection point as you get out beyond that. But I think it's starting to play out like we anticipated as we've been talking about over the last couple of quarters.

Got it. And then another question from the webcast is just on gross margin. And you guys have been pretty vocal in terms of some of the drags currently on gross margin before you transition to Mohawk Valley, but can you kind of just remind people in terms of some of the things you're seeing today at the gross margin level and kind of how you bridge to that ultimate target?

Yes. Maybe I'll kick it off, and then Neill can give a little bit more color. So basically, we have subscale fabs in North Carolina. They're pretty dated fabs in terms of the size, and there's a lack of automation and so forth. So we're basically kind of hand-to-hand combat in terms of increasing the yields there. But I think those yields will probably remain challenging for -- as we -- until we really begin to ramp the Mohawk Valley Fab. And Neill, maybe you can give a little bit more color on that.

I think that's exactly it. I think we've had -- and Gregg talked about it, we've had very good success in execution in the materials business, both on the 150-millimeter cost curves and execution there. Now we're transitioning to 200 millimeters. So we're seeing really good, I think, success in terms of the materials business in terms of the margins and the cost and those types of things. On the fab side of the device side, it's going to be that transition. We talked about the Mohawk Valley ramping first half of calendar year 2022. And that's just -- it's really not that far away when you think about it. So look, we'll kind of continue to plug away here and work really hard on the yields and the challenges we kind of see in these kind of antiquated fabs we've got in North Carolina. But as -- again, first half of '22 is not that far away from Mohawk Valley to be kind of coming online. And I think our focus has really got to be around making sure that factory comes up effectively at 200 millimeter that we're yielding there, we're driving capacity. And if we do that, as time goes on and when we see these growth rates come in, that margins will transition. We'll see that kind of understated kind of cost start to transition over to, I think, a very competitive cost up in Mohawk Valley. So as the revenue capacity transitions in '22 and '23 up to Mohawk Valley, the margin should follow.

Got it. Well, we are coming down on time. There's one more question to get through on -- from the webcast, Gregg, and that's around 200 millimeter. Is there a rough timing just from a qualification when you think on the wafer side and device side of how to think about that business as we move forward?

Yes. So we will be starting production of the 200 millimeter in 2022, as we had talked about, and that's the beginning of calendar 2022 is when we would begin producing material in the Mohawk Valley Fab. There's been a cycle of us qualifying that material, and then there's a cycle of our customers qualifying those materials. But I would anticipate that we would be through qualification of that sometime in 2022, depending on the customer. They might want to run some more cycles and so forth. But we're basically on schedule for a 2022 ramp, and we would then qualify that factory ourselves. Once we qualify it, we would do qualifications with our customers, and then we'd begin ramping that factory in production.

Excellent. Okay. Well, thanks so much, Gregg and Neill, for a great discussion today and to the investors on the webcast sending all the questions through and the interest in Cree. And so with that, have a great day, everyone.

Thanks guys. Thanks, Craig. Appreciate your time. Thanks.