SITIME Corp Q2 FY2022 Earnings Call

Good afternoon, and welcome to SiTime's Second Quarter 2022 Financial Results Conference Call. At this time, all participants are in a listen-only mode. At the conclusion of today's conference call, instructions will be given for the question-and-answer session. As a reminder, this conference call is being recorded today, Wednesday, August 3, 2022. I would like to turn the call over to Brett Perry of Shelton Group Investor Relations. Brett, please go ahead.

Good afternoon, and welcome to SiTime's second quarter 2022 financial results conference call. On today's call from SiTime are Rajesh Vashist, Chief Executive Officer and Art Chadwick, Chief Financial Officer. Before we begin, I would like to point out that during the course of this call, the company may make forward-looking statements regarding expected future results, including financial position, strategy, and plans, future operations, the timing market and other areas of discussion. It's not possible for the company's management to predict all risks, nor can the company assess the impact of all factors on its business or the extent to which any factor or a combination of factors may cause actual results to differ materially from those contained in any forward-looking statements. In light of these risks, uncertainties, and assumptions, the forward-looking events discussed during this call may not occur and actual results could differ materially and adversely from those anticipated or implied. Neither the company nor any person assumes responsibility for the accuracy and completeness of the forward-looking statements. The company undertakes no obligation to publicly update forward-looking statements for any reason at the date of this call to conform these statements to actual results or to changes in the company's expectations. For more detailed information on risks associated with our business, we refer you to the risk factors described in the 10-K filed on February 25, 2022, as well as the company's subsequent filings with the SEC. Also, during this call, we refer to certain non-GAAP financial measures which we consider to be an important measure of the company's performance. These non-GAAP financial measures are provided in addition to, and not as a substitute for or superior to measures of financial performance prepared in accordance with U.S. GAAP. The only difference between GAAP and non-GAAP results is stock-based compensation expense and related payroll taxes. Please refer to the company's press release issued today for detailed reconciliation between GAAP and non-GAAP financial results. With that, it’s now a pleasure to turn the call over to Rajesh. Please go ahead.

Good afternoon, and thank you for joining us on today's SiTime call. While the focus of today's discussion is on Q2 results and Q3 forecast, I want to begin with the transformation of SiTime as a result of the acceleration in electronic macro trends, such as high bandwidth communications, cloud, electric vehicles, and the Internet of Things. Here, precision timing products are defined as high-performance, small-sized, and power-efficient under demanding environmental conditions, such as vibration, shock, and temperature, and are becoming the solution of choice. While precision timing is used significantly in communications enterprise, their use is growing in automotive and certain mobile IoT consumer applications. As a creator of the category of precision timing, SiTime plays a central role in this transformation. As we transition from legacy non-precision timing products and design wins into this transformation, SiTime will achieve significantly higher average selling prices (ASPs), more design win stickiness, and enriched architecture discussions with our customers. In Q2, SiTime had a banner Q2. We delivered record revenues of $79.4 million, non-GAAP gross margins of 66.7% and non-GAAP EPS of $1.11, all exceeding our previous guidance. This was our 11th consecutive quarter to do so. In Q2, we achieved the highest ASPs in the history of the company, 30% higher year-on-year and 10% higher quarter-on-quarter. This came from the increased role of greater precision timing products in revenue. While multiple segments contributed to this growth, our comms enterprise business was a standout. It grew 60% over Q1, and was the segment with the highest growth rate. Multiple customers in this application, such as network interface cards (NICs), data center servers, and 5G wireless, contributed to this growth, and we believe that the trend will continue in the second half. A common theme amongst these customers and applications was the use of our precision timing products to achieve better system performance. For example, one of these products, Elite, doubled in unit shipment from Q1 to Q2. Additionally, our precision timing opportunities have now grown to be 70% of our funnel. Automotive was the segment with the second largest growth, despite some customer pushouts due to industry-wide supply chain issues. SiTime's previous success in advanced driver-assistance systems (ADAS), computers, domain controllers, and cameras continued, and we have begun to see volume ramping from newer applications as well, such as driver monitoring systems and LiDAR. As we know, the automobile is being transformed and new functionalities in sensing, computing, and communications are continuously being added. Achieving functionality in the presence of vibration, shock, and temperature extremes is a challenging task, but one that can and is being solved by precision timing products from SiTime. This is a natural opportunity for SiTime to deliver value and grow, and we remain on track to deliver $100 million in annual automotive revenue in the next few years. In May, when we increased our guidance from 35% to 50% annual growth, we did not anticipate the subsequent conditions: financial downturn, supply chain disruptions, and political turmoil, all of which made it difficult for our customers to gauge the magnitude and the speed of decline in their own business. This is particularly evident in our mobile IoT consumer segment, where, excluding our largest customer, the mobile IoT consumer segment is expected to be down by more than 30% in the second half of 2022. Considering our end customers' visibility, we are now comfortable with our earlier guidance of 35% annual growth for 2022. In line with that, we will manage our expenses prudently in the latter half of this year. But our original thesis remains intact. We firmly believe that our longer-term top-line growth will be 30% or more, driven by the serviceable available market (SAM) expansion to $4 billion, the greater need for precision timing, and the fulfillment of those needs uniquely by SiTime. We also continue to see a long-term financial model of 65% gross margin and 30% net income as intact. We continue to invest significantly in the development of new precision timing products. In 2022 alone, we will sample six of these oscillators and clocks. These address the macro trends that are transforming electronics, such as high bandwidth communications, cloud, electric vehicles, and the Internet of Things. With these, we're confident in our ability to transform the electronics industry driven by greater adoption of these products. We expect that stronger comms enterprise performance will continue into the second half, with a volume ramping up of applications like 400G, 800G optical modules and data center switches. In the last call, we mentioned a clock family with 200 customers by the end of 2022, and that strength continues. Sixty percent of the cascade clock family revenue in 2022 and 2023 will now come from NIC cards, 5G, remote radio units (RRU), and backhaul. Our investment in this segment is working. In 2022, our comms enterprise revenue is expected to grow to over 25% of our revenue compared to 16% last year in 2021. For example, again, our Elite product is expected to triple in revenue compared to 2021. The value and uniqueness of SiTime products is also clearly on display at our largest customer, which is in the mobile IoT consumer segment. Our revenue here continues to grow strongly in the second half of 2022, and the design win funnel continues to grow robustly as well. In a previous call, we have spoken about the strength of our aerospace and defense business. We are now engaged with the top defense contractors worldwide, and our funnel continues to grow as they discover the strength of our unique precision timing products. The uniqueness of these SiTime products comes from the distinctiveness of SiTime technology. We've always maintained that MEMS analog circuits and the systems putting them together to deliver a single solution are challenging to achieve. In the past decade, we have not encountered any credible competitors using similar technologies, and we don't foresee one on the horizon currently. A significant advantage for SiTime during the turmoil of the past few years has been the flexibility and solidity of our supply chain. We've made great inroads with customers because our supply chain has proven to be superior to that of existing suppliers in the market today. That strength continues due to the support of TSMC, Bosch, and our OSAT partners. Given that a majority of our customers are single-sourced, our supply chain strength continues to be a competitive advantage for SiTime. In conclusion, as a category creator of precision timing, SiTime is uniquely positioned to transform this industry. We believe that our long-term growth and market share gains will continue unabated in the future. With that, I'll now turn it over to Art Chadwick, our CFO.

Great. Thanks Rajesh, and good afternoon, everyone. Today, I'll discuss second quarter results and provide some comments on Q3 and the year. I'll focus my discussion on non-GAAP financial results and refer you to today's press release for a detailed description of our GAAP results, as well as the reconciliation of GAAP to non-GAAP results. As Rajesh mentioned, Q2 was a record revenue quarter for us. Revenue was $79.4 million, up 13% sequentially and up 78% over the same quarter last year. With exceptional strength in our higher-end, higher-performance products. Sales into our mobile IoT and consumer segment, which consists of sales into mobile phones, wearable devices, and consumer products were $27.0 million or 34% of sales, down 10% sequentially, but up 24% over the same quarter last year. Sales to our largest end customer, which are included in the segment accounted for 14% of total sales. Sales into our industrial, automotive, and aerospace segment, which includes sales into automotive, industrial, medical, aerospace, military, and broad-based sales, were $32.2 million or 41% of sales, up 17% sequentially, and up 137% year-over-year. Sales into our communications and enterprise segment, which consists of wireless infrastructure, 5G, data center, and networking were $20.2 million or 25% of sales, up 60% sequentially, and up 120% over last year. Non-GAAP gross margins were strong at 66.7%, up 140 basis points from Q1 and up more than five points over the same quarter last year. Non-GAAP operating expenses were $28.3 million, a 15% sequential increase over Q1 as we expanded our workforce and increased investment in new product development. Expenses were $16.7 million in R&D, and $11.5 million in SG&A. Non-GAAP operating margins were 31.1%. Non-GAAP net income was $25.3 million, or $1.11 per share. This is up from $21.3 million or $0.94 per share in Q1, and up from $9.6 million, or just $0.46 per share in the same quarter last year. Stock-based compensation expense decreased from $15.2 million in Q1 to $12.5 million in Q2, as we adjusted stock compensation expenses related to some internally granted performance RSUs. Receivables were $38.7 million, with DSOs of 44 days, and inventory was $34.4 million, up from last quarter as we continue to increase wafer buffer stock. In regard to cash flow, we generated $15.3 million in positive cash flow from operations, invested $9.6 million in equipment and assets, and ended the quarter with $580 million in cash and no bank debt. I'd now like to provide some comments on Q3 and the year. First of all, we believe our long-term strategy of developing and selling higher performance products into markets that require ever more precision timing is strongly intact. However, the current macroeconomic environment is impacting sales of some of our products, especially our lower-end products. At the beginning of this year, we anticipated that 2022 revenue would increase by at least 35%, which we discussed on our conference call in early February. Three months later, we were more optimistic, and in early May, we voiced our opinion that 2022 revenue could increase by at least 50%. That view was based on then-current order rates and was supported by our internal forecast. However, the current economic environment now appears somewhat less certain, and order rates this summer have slowed, especially for our lower-end products. Therefore, we have modified our revenue expectations for the year, and now believe 2022 revenue growth will be closer to our previous 35% estimate. Consequently, sales in the second half of this year will be essentially flat compared to sales in the first half. However, product mix will improve significantly. We now expect sales in the second half of the year into consumer and IoT will be down 30% or more from the first half, excluding sales to our largest customer. Sales in a broad-based industrial will also decline, but to a lesser extent. We expect those declines to be offset by increased sales to our largest customer and a 30% or more increase in sales in the comms and enterprise sector. For Q3, we expect sales to decline between 6% and 10% sequentially, primarily due to lower consumer sales. At the midpoint, this would be approximately $73 million or 16% higher than the same quarter last year. We expect Q3 gross margins will remain strong at about 65%, plus or minus one percentage point. Q3 operating expenses would have increased due to workforce additions in Q2. Nonetheless, we are aggressively managing discretionary costs to maintain Q3 operating expenses at Q2 levels, or approximately $28.3 million, plus or minus. The fully diluted share count will be approximately 23 million shares in Q3. This guidance should align with a non-GAAP EPS of between $0.80 and $0.90 per share in the third quarter. On that note, I'd like to turn the call back to the operator so we can begin our Q&A.

Thank you. At this time, we'll conduct our question-and-answer session. Okay. We have a Tore Svanberg.

Thank you. My first question is regarding your comments about the slowing order rate. It's not surprising that consumer and IoT are slowing down, but I was a bit surprised to hear that the industrial and defense categories are also experiencing lower orders. Could you provide some insight into what's happening there? Was there possibly some inventory buildup in the first half of the year? Any additional details you can share would be appreciated.

Hi. Tore, thanks. Yes. I think, as you said, it's not a surprise that mobile IoT consumer is down. But in industrial, I don't think the automotive or aerospace sectors have changed much. Aerospace and automotive continue strong. There have been some pushouts in automotive, but they were more than offset by growth from other customers. The industrial category is our sort of catch-all phrase. It's our largest group of customers. The distinction I want to make is that it has less to do with the end customer and more to do with those using precision timing products for their intended purposes or not. For example, in the consumer space, our largest customer is using precision timing products for their very high-end products, and those high-end products continue unabated, as opposed to some of their competitors where we also sell and have seen significant downturns. A similar scenario happened for some industrial customers where they probably encountered either a pushout or higher inventories due to the adjustments in their supply chain. We likely have not lost many design wins, but they have been pushed out, and their smaller scale impacts are due to sourcing issues with other components. This tends to be the case with industrial clients, as they are typically smaller customers, not larger ones, and wouldn't be prioritized for component sourcing.

Fair enough. And I know you've been working on your sales strategy, and certainly, getting a wider reach with customers. I know you announced the SiTime direct online store recently. Could you elaborate a little bit on that? And when should we start to expect a real contribution from that particular business model?

Yes. We should be able to start expecting that beginning this year. I think you'll see greater traction for that in 2023 and onwards. We've just really begun this e-commerce strategy, and it’s currently in its nascent stages. We believe that part of our mission at SiTime is to grow from 14,000 to around 30,000, 40,000, or even 50,000 customers in the coming years. The e-commerce strategy significantly contributes to that growth. One thing we've discovered, Tore, is that the more we dig, the more we find that some customers have an extreme need for these precision timing products. Typically, those are smaller customers who lack resources for design assistance. Our products simplify the process for them. As you know, we sell at a premium, but they are willing to pay that premium. So I fully expect that this strategy will lead to higher than corporate gross margins, and increased stickiness, as we effectively solve significant customer problems. So stay tuned for more on that as we move forward.

Great. Just one last question for Art. Gross margin, 65%. Why wouldn't it be higher given the favorable mix for the second half of the year, especially with the mobile consumer being a much lower percentage of the business?

Yes, excellent question. There is potential upside to that. However, remember that with the lower top-line revenue, our manufacturing overhead becomes a larger percentage of sales, which counteracts that to an extent. Additionally, sales to our largest customer will increase in the second half over the first half, including Q3. I won’t delve into specific margins, but that could also have an impact on our gross margins.

Great. Thank you so much.

Great. Thanks, Tore.

Next, we have Alessandra Vecchi from William Blair.

Hi, guys. Just a follow-up on Tore's question, maybe taking it from a slightly different angle. Again, I think we all understand the weakness in mobile consumer. But can you clarify at what point you really start to see that nose dive off? Was it later in the month of June that it really started to deteriorate? And then similarly, if my math is correct, it looks like the Q3 consumer number is the lowest number since the first half of 2020. How much of that is not precision timing, kind of a code word for some of the supply chain wins, you might have encountered during the COVID timeframe, and how we should think about the levels recovering in 2023 from here?

Yes. In terms of the timeframe, we have really seen order rates drop over the summer, with the decline becoming substantial towards the end of Q2, particularly in July. This surprised many parties, including ourselves. However, this particularly affects our lower-end consumer products and does not impact our largest customer within that segment. We anticipate that our largest customer will see a nice increase from the first half to the second half of the year.

To add to that, what's been surprising is that while we maintain close communication with our top customers worldwide, many have had difficulty understanding the magnitude of this buildup affecting not just the consumer space but also other markets. I think it's important to note that we were caught off guard by customers’ inability to anticipate these shifts.

Okay. And as an extension of that, regarding the inventory dollar increase, again, it makes sense given some maneuvers you've made to secure capacity. However, considering the slowdown in revenue growth in the second half, how should we view inventory levels from here? Will you work them down? Or are they still below target levels?

Yes. My earlier mention about our inventory increasing about $4 million from Q1 to Q2 was indeed a conscious decision. As you know, the semiconductor industry is experiencing tight supply, and we've made a strategic choice to build some buffer stock, particularly concerning wafers, due to potential disruptions in the supply chain. Given various eventualities, we want to ensure we have sufficient stock to handle any intermittent disruptions. Therefore, I expect our inventory will continue to rise incrementally, but it will not be substantial. Building this additional buffer stock is a prudent move because we have strong cash reserves.

That goes back to our single-source nature, given that a significant portion of our business is single-sourced. It's prudent for us to secure particularly wafers and build wafer inventory since our product is programmable, thereby providing us significant flexibility in our supply chain.

Understood. With that, I'll go back in the queue. Thank you so much.

Thanks, Aless.

Our next question comes from Suji Desilva from Roth Capital.

So it's harder to tell. There's everything in there. There's some medical in there, which is clearly precision timing. There are some high-end industrial applications, which are also precision timing. Aerospace, automotive, so all of those. The various factors may be based more on smaller customers that perhaps have more impact. Again, we haven't lost anything due to design wins or ASP losses, even when competitive solutions are more readily available now than just a few months ago. Yet still, we haven't seen any significant loss in that regard. Instead, we're observing more pushouts, particularly in automotive and high-end industrial where many customers still struggle to obtain other necessary components. Many of those customers are generally smaller entities and aren't the large multi-billion-dollar companies. They tend to be at the back of the line for components.

I guess that was going to be my next question, Rajesh. As you've seen customers at the lower end slowing orders to adjust inventories, can you give us a sense of how many of those sockets are truly sole-sourced by SiTime? And how confident are you that when that inventory purge is complete, you'll see the orders rebound? Conversely, how many sockets might be dual-sourced, potentially posing a risk of overall demand being lower post-inventory purge, given increased supply from competitors where the mix might shift back to more of a dual-sourcing strategy? Can you quantify any of that?

Yes. Let me try to address some of that. Even when a customer has a second source, we sometimes find that it's more of a theoretical situation. It usually takes a customer three to six months to do qualifications when attempting to add another source. That incentive is typically minimal. In one case, we had a design win with a customer on an older project, and they chose to end-of-life it due to the prevailing slowdown. Thus, they redirected customers to a different product. When the supply chain is tight like it has been, but begins to open up, customers tend to look at all their options and evaluate their strategies. Regarding the sockets themselves, I generally believe our single-source sockets are solid. I don't anticipate customers seeking alternatives simply for a minimal cost reduction. So far, we have not encountered that negative trend; rather, I've observed more pushouts. In automotive and very high-end industrial segments, there have been challenges in obtaining other products for manufacturers. As every situation seems to be evolving, customers are exercising caution and waiting for resolution. I hope that clarifies things.

No, that's very helpful. And maybe to summarize, it sounds like at least 60% of your precision timing sockets are currently solid – maybe as high as that. Demand has generally been well. For the lower end, though, you're seeing what you think is mostly inventory adjustments leading to lower order rates, but you haven't experienced significant movement on the design end. You anticipate they'll rebound once the inventory clears, whereas the precision timing demand seems to be growing steadily.

Yes. Also, there’s a beneficial acceleration for our precision timing products since they’re now emerging as a more significant share of our revenue and certainly a more considerable portion of our sales pipeline, which aligns perfectly with the direction we envision for the future.

Great. Thanks, Quinn. Tore, did you have another question? Operator, are there any other questions?

No, there are no additional questions at this time.

Okay. At this time, I’m going to turn it over to the speakers for any closing remarks. All right. We want to thank everybody for joining us today. We apologize for the interruption in the call. We're not sure exactly what happened, but we'll go figure that out. I hope everybody had a great day. Thank you so much.

Thanks for your participation in today's conference. This does conclude the program. You may disconnect now.