Semiconductor company Semtech (NASDAQ:SMTC) reported results in line with analysts' expectations in Q2 FY2024, with revenue up 13.9% year on year to $238.4 million. However, next quarter's revenue guidance of $200 million was less impressive, coming in 19.2% below analysts' estimates. Turning to EPS, Semtech made a non-GAAP profit of $0.11 per share, down from its profit of $0.81 per share in the same quarter last year.
Semtech (SMTC) Q2 FY2024 Highlights:
- Revenue: $238.4 million vs analyst estimates of $237.4 million (small beat)
- EPS (non-GAAP): $0.11 vs analyst estimates of $0.02 ($0.09 beat)
- Revenue Guidance for Q3 2024 is $200 million at the midpoint, below analyst estimates of $247.7 million
- Free Cash Flow was -$18.9 million compared to -$104 million in the previous quarter
- Inventory Days Outstanding: 129, down from 159 in the previous quarter
- Gross Margin (GAAP): 46.7%, down from 64.9% in the same quarter last year
Operating for more than 60 years, Semtech (NASDAQ:SMTC) is a provider of analog and mixed-signal semiconductors used for Internet of Things systems and Cloud connectivity.
Semtech was founded in 1960 by Gustav H.D. Franzen and Harvey Stump, Jr. The two initially started Semtech to provide components for companies with aerospace and military contracts. The company went public in 1967.
Semtech is a pioneer and leader in LoRa (long range) technology for radio communication, which has become the de facto wireless platform of Internet of Things. LoRa encodes information on radio waves using chirp pulses, making its transmission robust against disturbances over longer distances and superior over WiFi and Bluetooth. LoRa is also well-suited for applications that transmit small chunks of data with low bit rate, making it ideal for the sensors that operate in low power mode found in IoT applications.
In addition, Semtech offers a portfolio of signal integrity products for optical data communications and video transport. The company’s signal integrity chips can be found in wireless base stations that enable cellular communications and high-definition broadcasts that enable television technologies.
Semtech’s customers include major OEMs and their subcontractors in the infrastructure, consumer, and industrial end markets. Semtech outsources the majority of manufacturing functions to third-party foundries and assembly contractors.
Competitors offering analog and mixed-signal semiconductors for infrastructure and communications include Cisco (NASDAQ:CSCO), KORE Group (NYSE:KORE), and NXP Semiconductors (NASDAQ:NXPI).
Sales Growth
Semtech's revenue growth over the last three years has been mediocre, averaging 14.1% annually. As you can see below, this was a weaker quarter for the company, with revenue growing from $209.3 million in the same quarter last year to $238.4 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).
Semtech had an average quarter as its revenue grew 13.9% year on year, in line with analysts' estimates. We believe the company is still in the early days of an upcycle, as this was just the second consecutive quarter of growth and a typical upcycle tends to last 8-10 quarters.
Semtech's management team believes its revenue growth will continue, guiding to 12.6% year-on-year growth next quarter. Analysts expect the company to grow its revenue by 30.7% 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, Semtech's DIO came in at 129, which is 8 days below its five-year average. At the moment, these numbers show no indication of an excessive inventory buildup.
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. Semtech'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 46.7% in Q2, down 18.2 percentage points year on year.
Despite declining over the last 12 months, Semtech still retains reasonably high gross margins, averaging 55.3%. These margins point to its solid competitive offering, disciplined cost controls, and lack of significant pricing pressure.
Profitability
Semtech reported an operating margin of -114% in Q2, down 145.1 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.
Semtech's operating margins have been trending down over the last year, averaging -31.7%. This is a bad sign for Semtech, whose margins are already among the lowest for semiconductors. The company will have to improve its relatively inefficient operating model.
Earnings, Cash & Competitive Moat
Analysts covering Semtech expect earnings per share to grow 330% 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. Semtech's free cash flow came in at -$18.9 million in Q2, down 127% year on year.
As you can see above, Semtech failed to produce positive free cash flow over the last 12 months and shareholders will likely want to see an improvement in the coming quarters.
Over the last five years, Semtech has reported an average return on invested capital (ROIC) of just 8.56%. This suggests it struggled to find compelling reinvestment opportunities within the business.
Key Takeaways from Semtech's Q2 Results
Although Semtech has a market capitalization of $1.45 billion and has been burning cash over the last 12 months, its more than $147.9 million in cash gives it the flexibility to prioritize growth over profitability.
We were impressed by Semtech's strong improvement in inventory levels and adjusted EPS result that outperformed Wall Street's estimates. On the other hand, its revenue guidance for next quarter significantly underwhelmed and its operating margin shrunk. Overall, this was a bad quarter for Semtech. The company is down 7.52% on the results and currently trades at $21.14 per share.
Is Now The Time?
When considering an investment in Semtech, investors should take into account its valuation and business qualities as well as what's happened in the latest quarter. We cheer for everyone who's making the lives of others easier through technology but in the case of Semtech, we'll be cheering from the sidelines. Its revenue growth has been a little slower, but at least that growth rate is expected to increase in the short term. And while its gross margins are suggestive of good pricing power, the downside is that its operating margins reveal subpar cost controls compared to other semiconductor businesses and its growth is coming at a cost of significant cash burn.
Semtech's price-to-earnings ratio based on the next 12 months is 23.4x. While we have no doubt one can find things to like about the company, and the price is not completely unreasonable, we think that at the moment there might be better opportunities in the market.
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