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Photronics (NASDAQ:PLAB) Reports Strong Q2, Next Quarter Sales Guidance Is Optimistic


Full Report / May 24, 2023
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Semiconductor photomask manufacturer Photronics (NASDAQ:PLAB) reported results ahead of analyst expectations in the Q2 FY2023 quarter, with revenue up 12.1% year on year to $229.3 million. On top of that, guidance for next quarter's revenue was surprisingly good, being $229 million at the midpoint, 4.09% above what analysts were expecting. Photronics made a GAAP profit of $59.3 million, improving on its profit of $43 million, in the same quarter last year.

Photronics (PLAB) Q2 FY2023 Highlights:

  • Revenue: $229.3 million vs analyst estimates of $211 million (8.68% beat)
  • EPS: $0.65 vs analyst estimates of $0.45 (46.1% beat)
  • Revenue guidance for Q3 2023 is $229 million at the midpoint, above analyst estimates of $220 million
  • Free cash flow of $55.4 million, up from negative free cash flow of $3.42 million in previous quarter
  • Inventory Days Outstanding: 35, down from 36 previous quarter
  • Gross Margin (GAAP): 38.6%, up from 34.3% same quarter last year

Sporting a global footprint of facilities, Photronics (NASDAQ:PLAB) is a manufacturer of photomasks, templates used to transfer patterns onto semiconductor wafers.

Photronics was founded in 1969 by Constantine S. MacRicostas, who was previously an engineering manager for semiconductor company Qualitron Corporation. Photronics went public in 1987 with a NASDAQ listing.

Semiconductor manufacturing begins with a silicon wafer upon which precise circuit patterns are transferred. This manipulation of thin layers of film results in conductor, semiconductor, or insulator properties on the wafer. It is a complex process requiring precision tools, specific temperatures at various stages, and ideal environments. Photomasks, which are quartz or glass plates containing microscopic images of electronic circuits, are a key precision tool for this transfer of circuit patterns onto silicon wafers.

Photronics’ customers are largely semiconductor foundries (manufacturers) as well as fabless semiconductor companies (designers who outsource manufacturing). The company manufactures photomasks that reflect circuit designs provided by these customers. The typical manufacturing process for a photomask first involves receiving circuit design data from the customer and converting these to manufacturing pattern data. Photronics’ lithography systems, which use electron beams and lasers, then etch the circuit patterns onto photomask blanks. Once the final products pass rigorous testing and assessments, they are shipped to the customer.

Photomask manufacturers that compete with Photonics include Compugraphics, Dai Nippon Printing (TSE:7912), Hoya Corporation (TSE:7741), LG Innotek (KOSE:A011070), and Shenzhen Newway Photomask (SHSE:688401).

Sales Growth

Photronics's revenue growth over the last three years has been mediocre, averaging 14% annually. But as you can see below, last year has been stronger for the company, growing from quarterly revenue of $204.5 million to $229.3 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).

Photronics Total Revenue

This was an OK quarter for Photronics with revenues growing 12.1%, ahead of analyst estimates by 8.68%. This marks 9 straight quarters of revenue growth, which means the current upcycle has had a good run, as a typical upcycle tends to be 8-10 quarters.

However, Photronics believes the growth is set to continue, and is guiding for revenue to grow 4.12% YoY next quarter, and Wall St analysts are estimating growth 1.18% over the next twelve months.

Product Demand & Outstanding Inventory

Days Inventory Outstanding (DIO) are an important metric for chipmakers, as it reflects the capital intensity of the business 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.

Photronics Inventory Days Outstanding

This quarter, Photronics’s inventory days came in at 35, 1 days below the five year average, showing no indication of an excessive inventory buildup at the moment.

Pricing Power

Photronics's gross profit margin, how much the company gets to keep after paying the costs of manufacturing its products, came in at 38.6% in Q2, up 4.2 percentage points year on year.

Photronics Gross Margin (GAAP)

Photronics' gross margins have been trending up over the past year, averaging 37.7%. This is a welcome development, as Photronics's margins are below the group average, potentially pointing to improved demand and pricing.

Profitability

Photronics reported an operating margin of 47.1% in Q2, up 22.2 percentage points year on year. Operating margins are one of the best measures of profitability, telling us how much the company gets to keep after paying the costs of manufacturing the product, selling and marketing it and most importantly, keeping products relevant through research and development spending.

Photronics Adjusted Operating Margin

Operating margins have been trending up over the last year, averaging 33.4%. Photronics's margins remain above average, driven by its operating model's well managed cost structure.

Earnings, Cash & Competitive Moat

Analysts covering the company are expecting earnings per share to grow 5.07% over the next twelve months, although estimates are likely to change post earnings.

Earnings are important, but we believe cash is king as you cannot pay bills with accounting profits. Photronics's free cash flow came in at $55.4 million in Q2, up 94.1% year on year.

Photronics Free Cash Flow

Photronics produced free cash flow of $146.3 million in the last year, which is 16.8% of revenue. It's good to see positive free cash flow, and that puts the company in a position to reinvest, but we wouldn't mind seeing cashflow yield improve a little.

Over the last 5 years Photronics has reported an average return on invested capital (ROIC) of just 14.7%. This suggests it may struggle to find compelling reinvestment opportunities within the business.

Key Takeaways from Photronics's Q2 Results

With a market capitalization of $1.08 billion Photronics is among smaller companies, but its more than $412.9 million in cash and positive free cash flow over the last twelve months put it in a very strong position to invest in growth.

We were very impressed by the strong improvements in Photronics’s gross margin this quarter. And we were also glad to see the improvement in operating margin. Zooming out, we think this was a strong quarter. The company is up 4.76% on the results and currently trades at $18.04 per share.

Is Now The Time?

When considering Photronics, investors should take into account its valuation and business qualities, as well as what happened in the latest quarter. Although Photronics is not a bad business, it probably wouldn't be one of our picks. Its revenue growth has been a little slower, and analysts expect growth rates to deteriorate from there. And while its sturdy operating margins suggest disciplined operating expense controls, the downside is that its gross margin indicate some combination of pricing pressures or rising production costs and its its return on capital isn't as high as we'd like to see.

Photronics's price to earnings ratio based on the next twelve months is 9.0x. In the end, beauty is in the eye of the beholder. While Photronics wouldn't be our first pick, if you like the business, the shares are trading at a pretty interesting price point right now.

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