Fiber laser manufacturer IPG Photonics (NASDAQ:IPGP) announced better-than-expected results in Q4 FY2023, with revenue down 10.4% year on year to $298.9 million. On the other hand, next quarter's revenue guidance of $250 million was less impressive, coming in 16.4% below analysts' estimates. It made a GAAP profit of $0.89 per share, improving from its loss of $1.72 per share in the same quarter last year.
IPG Photonics (IPGP) Q4 FY2023 Highlights:
- Revenue: $298.9 million vs analyst estimates of $286.6 million (4.3% beat)
- EPS: $0.89 vs analyst expectations of $0.95 (6.3% miss)
- Revenue Guidance for Q1 2024 is $250 million at the midpoint, below analyst estimates of $299 million
- Free Cash Flow of $80.84 million, up 37% from the previous quarter
- Inventory Days Outstanding: 224, down from 259 in the previous quarter
- Gross Margin (GAAP): 38.2%, up from 18.2% in the same quarter last year
- Market Capitalization: $4.86 billion
Both a designer and manufacturer of its products, IPG Photonics (NASDAQ:IPGP) is a provider of high-performance fiber lasers used for cutting, welding, and processing raw materials.
IPG Photonics was founded in 1990 by Valentin Gapontsev, a Russian physicist. Gapontsev pioneered a proprietary all-fiber technology platform for fiber lasers and amplifiers. IPG went public in 2007 and was included in the S&P 500 in 2018.
A laser converts electrical energy to optical energy that can be focused and shaped, creating a concentrated beam that causes materials to melt, vaporize or otherwise change their character. In materials processing, lasers are gaining market share from traditional machine tools (e.g. saws, presses) because of the greater precision, processing speeds, and flexibility.
Semiconductor manufacturers employ lasers for key steps such as lithography (3D relief images on the substrate) and annealing (heating wafers to change electrical properties). With regards to annealing, for example, IPG Photonics’ lasers can create extremely localized heating with fine depth penetration control and precise positioning; this allows target structures to be heated without affecting other surrounding heat-sensitive materials. The company also offers complementary products used with IPG’s lasers such as optical cables and beam switches to deliver and apply the lasers. Other than semiconductor applications, the most common uses for IPG’s products are industrial cutting/welding, 3D printing, and marking/engraving.
Competitors offering laser products for materials processing include Coherent (NASDAQ:COHR), Laserline, Lumentum (NASDAQ:LITE), and Maxphotonics.Sales Growth
IPG Photonics's revenue growth over the last three years has been unimpressive, averaging 3.6% annually. This quarter, its revenue declined from $333.5 million in the same quarter last year to $298.9 million. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions (which can sometimes offer opportune times to buy).
Even though IPG Photonics surpassed analysts' revenue estimates, this was a slow quarter for the company as its revenue dropped 10.4% year on year. This could mean that the current downcycle is deepening.
IPG Photonics may be headed for an upturn. Although the company is guiding for a year-on-year revenue decline of 28% next quarter, analysts are expecting revenue to grow 5% over the next 12 months.
Product Demand & Outstanding Inventory
Days Inventory Outstanding (DIO) is an important metric for chipmakers, as it reflects a business' capital intensity and the cyclical nature of semiconductor supply and demand. In a tight supply environment, inventories tend to be stable, allowing chipmakers to exert pricing power. Steadily increasing DIO can be a warning sign that demand is weak, and if inventories continue to rise, the company may have to downsize production.
This quarter, IPG Photonics's DIO came in at 224, which is 9 days above its five-year average. These numbers suggest that despite the recent decrease, the company's inventory levels are higher than what we've seen in the past.
Pricing Power
In the semiconductor industry, a company's gross profit margin is a critical metric to track because it sheds light on its pricing power, complexity of products, and ability to procure raw materials, equipment, and labor. IPG Photonics's gross profit margin, which shows how much money the company gets to keep after paying key materials, input, and manufacturing costs, came in at 38.2% in Q4, up 20 percentage points year on year.
IPG Photonics's gross margins have been trending up over the last 12 months, averaging 42%. This is a welcome development, as IPG Photonics's margins are below the industry average, and rising margins could suggest improved demand and pricing power.
Profitability
IPG Photonics reported an operating margin of 15.3% in Q4, up 38.5 percentage points year on year. Operating margins are one of the best measures of profitability because they tell us how much money a company takes home after manufacturing its products, marketing and selling them, and, importantly, keeping them relevant through research and development.
IPG Photonics's operating margins have been trending up over the last year, averaging 21.7%. This is a welcome development for IPG Photonics, whose cost structure isn't as efficient as it could be, as indicated by its slightly below-average margins.
Earnings, Cash & Competitive Moat
Analysts covering IPG Photonics expect earnings per share to be relatively flat over the next 12 months, although estimates will likely change after earnings.
Although earnings are important, we believe cash is king because you can't use accounting profits to pay the bills. IPG Photonics's free cash flow came in at $80.84 million in Q4, up 174% year on year.
As you can see above, IPG Photonics produced free cash flow of $185.5 million in the last year, a decent 15% of revenue. This FCF margin puts IPG Photonics in a position to reinvest, but we wouldn't mind seeing its cash flow conversion improve a little.
Return on Invested Capital (ROIC)
EPS and free cash flow tell us whether a company was profitable while growing revenue. But was it capital-efficient? Enter ROIC, a metric showing how much operating profit a company generates relative to how much money the business raised (debt and equity).
IPG Photonics's five-year average ROIC was 14.3%, somewhat low compared to the best semiconductor companies that consistently pump out 35%+. Its returns suggest it historically did a subpar job investing in profitable business initiatives.
The trend in its ROIC, however, is often what surprises the market and drives the stock price. Unfortunately, IPG Photonics's ROIC over the last two years averaged a 3.1 percentage point decrease each year. In conjunction with its already low returns, these declines suggest the company's profitable business opportunities are few and far between.
Key Takeaways from IPG Photonics's Q4 Results
We were impressed by IPG Photonics's strong improvement in inventory levels. We were also glad its gross margin improved. On the other hand, its revenue guidance for next quarter missed analysts' expectations. Overall, the quarter was fine but the outlook is weighing on shares. The stock is down 4.3% after reporting, trading at $99.22 per share.
Is Now The Time?
IPG Photonics may have had a favorable quarter, but investors should also consider its valuation and business qualities when assessing the investment opportunity.
We cheer for everyone who's making the lives of others easier through technology, but in the case of IPG Photonics, we'll be cheering from the sidelines. Its revenue growth has been weak over the last three years, and analysts expect growth to deteriorate from here. On top of that, its mediocre ROIC suggests it has grown profits at a slow pace historically, and its gross margins are weaker than its semiconductor peers we look at.
IPG Photonics's price-to-earnings ratio based on the next 12 months is 20.1x. While we have no doubt one can find things to like about the company, we think there might be better opportunities in the market and at the moment don't see many reasons to get involved.
Wall Street analysts covering the company had a one-year price target of $124.34 per share right before these results (compared to the current share price of $99.22).
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