Earnings Call Transcript - SMCI Q4 2022

Operator, Operator

Ladies and gentlemen, thank you for standing by. And welcome to Super Micro Computer, Inc’s Fiscal Fourth Quarter 2022 Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session. Thank you. Nicole Noutsios, Investor Relations, you may begin your conference.

Nicole Noutsios, Investor Relations

Good afternoon. And thank you for attending Super Micro's call to discuss financial results for the fourth quarter, which ended June 30, 2022. With me today are Charles Liang, Founder, Chairman and Chief Executive Officer, and Dave Weigand, Chief Financial Officer. By now, you should have received a copy of the news release from the company that was distributed at the close of regular trading and is available on the company's website. As a reminder, during today's call, the company will refer to a presentation that is available to participants on the Investor Relations section of the company's website under Events & Presentations tab. We have also published management's scripted commentary on our website. Please note that some of the information you'll hear during our discussion today will consist of forward-looking statements, including without limitation those regarding revenue, gross margin, operating expenses, other income and expenses, taxes, capital allocation, and future business outlook, including guidance for the first quarter of fiscal year 2023 and the full year of 2023 and the potential impact of COVID-19 on the company’s business and results of operations. There are a number of risk factors that could cause Super Micro's future results to differ materially from our expectations. You can learn more about these risks in the press release we issued earlier this afternoon, our most recent 10-K filing for fiscal 2021 and our other SEC filings. All of these documents are available on the IR page of Super Micro’s website. We assume no obligation to update any forward-looking statements. Most of today's presentation will refer to non-GAAP financial results and business outlook. For an explanation of our non-GAAP financial measures, please refer to the accompanying presentation to our press release published earlier today. In addition, a reconciliation of GAAP to non-GAAP results is contained in today's press release and the supplemental information attached to today's presentation. At the end of today's prepared remarks, we will have a Q&A session for sell-side analysts to ask questions. I will now turn the call over to Charles.

Charles Liang, CEO

Thank you, Nicole, and good afternoon, everyone. Today, I'm pleased to announce record year-end results with annual revenue surpassing the milestone of $5.2 billion, growing 46% year-over-year. We ended the year with another great quarter with fiscal Q4 2022 revenues of $1.64 billion, growing 53% year-over-year and 21% quarter-on-quarter, surpassing both top and bottom-line estimates. Our quarterly and year-end results are above our guidance given three months ago and exceed our recently obtained range provided several weeks ago. Our strong growth is fueled by a recent surge in design wins based on our rack scale total IT solutions, especially in GPU solutions and AI platforms. I believe our solutions will continue to drive numerous new design wins and accelerate our strong growth in the coming quarters and years. More customers are also recognizing and adopting the value of our green computing solutions due to the rising environmental challenges and energy costs. This total solution strategy and green computing solution has resulted in our four consecutive quarters of growth at a minimum of three times faster than competitors' growth averages. Now, let's look at some of the key highlights from the year and quarter. First, our quarter 2022 revenue totaled $5.2 billion, up 46% year-on-year, surpassing our guidance range from the prior year. Our fiscal year non-GAAP earnings per share of $5.65 grew 128% year-over-year compared to $2.48 a year ago, which exceeded the higher end of our guidance range of $4.53 to $4.71. Our fiscal fourth-quarter net revenue totaled $1.64 billion, up 53% year-on-year and up 21% quarter-on-quarter, exceeding our guidance range of $1.4 billion to $1.48 billion. Our fiscal fourth-quarter non-GAAP earnings per share tripled year-over-year at $2.62, compared to $0.81 a year ago, and was well above the high-end of our guidance range of $1.51 to $1.59. With our total IT solutions experiencing robust growth in the USA this year, we will continue to gain even greater domestic traction going forward. We will also expand our total IT solution offerings to both European and Asian markets in the coming quarters and years. We are excited about this generational opportunity to become a global leader in rack scale plug-and-play IT solutions. Our robust fiscal year results bolster our confidence in achieving the $10 billion in annual revenue target much sooner than guided last year. We are now preparing for our $20 billion mid-term mission that we discussed last quarter. Based on our current supply and capacity, we are forecasting $1.57 billion in revenue for the upcoming September quarter. I am also confident that our full fiscal 2023 revenue will exceed the previous guidance range of $6 billion to $7 billion. We now expect revenue to be in the range of $6.2 billion to $7 billion with EPS at least at $7.50. Following the macroeconomic uncertainty, we are optimistic that some order, supply chain, and logistics issues will begin to subside. From a market perspective, we continue to see increasing demand for accelerated computing and AI platforms. We are addressing this demand at both the system and rack-scale level with our total IT solutions, supported by over 20 years of seasonal billing growth development. These building growth products enable us to create highly optimized rack-scale plug-and-play solutions for our customers with lower infrastructure costs and significant total cost of ownership savings. Our total IT solution approach streamlines design, dedication, solution, and integration, resulting in much shorter lead times for our customers that optimize quality and performance. Moreover, our total IT solution simplifies integrated operations. In addition, our Super Cloud composer, orchestrator, security, and other products can help manage compute acceleration, storage, and network building products at the cloud-enabled level, including rich analytics. Data center operators can easily leverage this information to improve workload efficiency. Therefore, we are expanding our investment in our data center management software stack to enable infrastructure-as-a-service and secure monitoring-as-a-service functionality, enhancing our total IT solution capabilities and value. This one-stop shop approach aligns with emerging growth markets across AI, machine learning, software-defined storage, networking, public and hybrid cloud, and 5G IoT and telecommunications. We previously shared that we are confident our community will interface intelligent business automation with a new B2B B2C automation platform that is being used and validated by more and more of our customers. These intelligent auto configurators will leverage our system building product methodology to deliver application-optimized solutions to a broader customer base. We expect this tool will tremendously aid our go-to-market initiatives, product design, operations, and service effectiveness. Most importantly, the automation process will significantly grow our customer base and improve customer satisfaction starting from this fiscal year. Our current manufacturing scale and capacity can support between $10 billion to $12 billion in annual revenue as we continue to enhance our capabilities in our global facilities. During the June quarter, we shipped over 1,000 plug-and-play racks. In the September quarter, we expect to double our rack-scale capacity with enhanced features in our new facility. Our rack-scale capacity can now reach up to 6,000 units per quarter. Our total development activities continue to grow strongly, with a close partnership with NVIDIA to extend our GPU system product line, including H100, which is a very strong product line. Our early deployment programs with our upcoming Intel and AMD product lines are mostly ready, awaiting the availability of the new Intel and AMD processors. Switching gears, we remain committed to leading the market in green computing solutions, with our resource-saving designs aimed at reducing environmental impact while optimizing our customers' operations. As we apply our green computing solutions at a rack-scale level, we can provide even better quality and time-to-market value to our customers. Higher energy costs and restrictions on electricity usage will continue to strain many companies in the near future. We recognized this dynamic and challenge a decade ago, and we have been at the forefront with technology and solutions that help customers with higher temperature operations in the data center, fully air-cooled or liquid-cooled. The DNA of our customers has led to total cost of ownership reductions in their data centers as low as 1.05 from evidence that previously suggested figures of 1.57 or even higher. By our calculations, the adoption of our green computing solutions or similar energy-efficient solutions from other suppliers could potentially save the IT industry more than $10 billion in electricity costs annually, equating to the elimination of more than 30 fossil fuel power plants, which is equivalent to saving 8 billion trees for our planet. Personally, I’m very glad to see increased demand for energy-efficient solutions aimed at cost savings, but more importantly, we must do this for our Mother Earth. Encouragingly, we are focused on building and delivering much greener rack-scale total IT solutions. From an industry perspective, this represents the greatest opportunity Super Micro has ever seen since our founding 29 years ago. Our year-over-year top and bottom-line performance is evidence of the acceleration of our total IT solution strategy. I see our room for growth as at least another four times in the coming years as we continue to expand our applications. We will continue to address these technology intersections by enhancing our total IT solution capabilities and capacity with the latest software, which will help us gain market share and extend it to new verticals, increasing our business scale and operating efficiencies. My team and I will continue to escalate our growth strategies and accelerate the timeline to our short-term $10 billion revenue target and a $20 billion revenue goal in the future. I will now pass the call to Dave Weigand, our Chief Financial Officer, to provide additional details regarding the quarter. Thanks.

David Weigand, CFO

Thank you, Charles. I'm pleased to report fiscal fourth quarter revenues of $1.64 billion, representing a 53% year-on-year increase and a 21% quarter-on-quarter increase. Our revenues exceeded our initial guidance range of $1.4 billion to $1.48 billion and our recently updated range of $1.58 billion to $1.63 billion. For fiscal year 2022, we reported revenues of $5.2 billion, reflecting a 46% growth over fiscal year 2021 revenues of $3.56 billion. Our growth initiatives are gaining momentum with total IT solutions targeting fast-growing markets and customers with accelerated GPU and AI workloads, software-defined storage and networking, public and hybrid cloud, and 5G Edge IoT platforms. These new growth drivers complement our traditional strengths with enterprise channels and OEM customers, leading to accelerated revenue growth, expanding margins, and operating leverage. In the fourth fiscal quarter, Super Micro recorded balanced revenues across all three of our market verticals, demonstrating the resilient nature of our diversified end markets. We achieved $835 million in organic enterprise, channel, and AI revenues, representing 51% of Q4 revenues versus 62% last quarter. This was up 24% year-over-year and flat quarter-on-quarter. The year-over-year growth in this segment was driven by our growing list of large enterprise customers and new product offerings. Our OEM appliance and large data center segments achieved $717 million in revenues, representing 44% of Q4 revenues versus 32% last year, up 95% year-over-year and up 67% quarter-on-quarter, driven by strong growth from large new and existing data center customers and OEM appliance customers. Our 5G telco edge IoT segment achieved $83 million in revenues, representing 5% of Q4 revenue versus 6% last quarter, and was up 172% year-over-year, although it declined slightly by 4% quarter-on-quarter. For the full fiscal year 2022, our organic enterprise and channel AI revenues grew 40%, representing 61% of fiscal year 2022 revenues. Our OEM appliance and large data center segment grew 44%, representing 32% of revenues. Our emerging 5G, telco edge, and IoT segment grew 163%, representing 7% of total revenues. The mix of complete systems and rack-scale total IT solutions has been steadily increasing. Systems comprised 91% of total revenue, while subsystem accessories represented 9% of Q4 revenue. On both a year-over-year and quarter-over-quarter basis, the volume of systems and nodes shipped, as well as system node average selling prices, increased due to product and customer mix. We had a balanced distribution of Q4 revenue across geographies, with the U.S. representing 66% of revenues, Asia 17%, Europe 14%, and the rest of the world 20%. On a year-on-year basis, U.S. revenues increased 65% as we gained market share with our advanced rack-scale total IT solutions for emerging high-growth server workloads. Asia increased 38%, Europe increased 21%, and the rest of the world increased 8%. On a quarter-over-quarter basis, U.S. revenues increased 41%, Asia decreased 9%, Europe increased 9%, and the rest of the world increased 30%. In Q4, our non-GAAP gross margin was 17.6%, up 200 basis points quarter-over-quarter from Q3 and up 390 basis points year-on-year due to price discipline, lower freight costs, higher factory utilization, operating efficiencies, and our continuously improving product customer mix. While the supply chain disruptions achieved some success in controlling freight and other logistics costs through disciplined execution. Our Q4 gross margin was above the high-end of our long-term target model range of 14% to 17%, demonstrating the success of our new high-value total IT solutions. Turning to operating expenses, Q4 operating expenses on a GAAP basis increased slightly by 1% quarter-on-quarter and 15% year-on-year to $122 million. On a non-GAAP basis, operating expenses increased 4% quarter-on-quarter and 15% year-on-year from $113.5 million. Our non-GAAP operating margin increased significantly to 10.7% for the quarter, compared to 7.5% last quarter and 4.4% a year ago. This demonstrates improvements in gross margin driven by new product and customer mix, as well as operating leverage associated with higher revenue along with disciplined expense control. Our non-GAAP operating margin of 10.7% for Q4 was also above our target model range of 5% to 8%. Other income and expenses resulted in approximately $1 billion in income, consisting of $4 million in foreign exchange gains, offset by interest expenses of $2.9 million. This compares to $4.7 million in foreign exchange gains and $1.5 million in interest expenses from the previous quarter. Our interest expenses increased sequentially as we utilized our short-term credit line to finance inventory and accounts receivable. We also experienced higher short-term interest rates on borrowings due to recent Fed actions. This quarter, the tax provision was $25.8 million on a GAAP basis and $29.9 million on a non-GAAP basis. Our GAAP tax rate for Q4 was 15.5%, while our non-GAAP tax rate was 17.1%. Our GAAP and non-GAAP tax expenses reflected higher levels of pre-tax profit, although the rates were lower sequentially. Lastly, we reported a share of income from our joint venture of $0.3 million this quarter. We delivered strong Q4 non-GAAP diluted EPS of $2.62, which exceeded the high end of the original guidance range of $1.51 to $1.69, as well as our recently updated range of $2.30 to $2.40. The increases in EPS resulted from a combination of higher revenues, improvements in gross margins due to manufacturing efficiency, price discipline, product and customer mix, and operating leverage. For the full fiscal year 2022, we reported non-GAAP diluted EPS of $5.65, which was up 128% year-over-year from fiscal 2021 non-GAAP diluted EPS of $2.48. This was also higher than our initial guidance of $4.71. Cash flow used in operations for Q4 was $25 million, compared to cash flow used in operations of $28 million for Q3, which reflects our improved profitability and better management of our inventory and working capital. Despite the 21% quarter-over-quarter increase in revenues, we trimmed our inventory by 3% quarter-over-quarter. Accounts receivable increased sequentially due to higher revenues, while accounts payable decreased sequentially due to the timing of payments to our vendors. Our capital expenditure was $11 million for Q4, resulting in negative free cash flow of $36 million versus negative free cash flow of $239 million in the prior quarter. Our closing balance sheet cash position was $267 million, while bank debt was $597 million, as we utilized our bank lines of credit to support higher revenues. As we look ahead to fiscal 2023, we expect our continued growth in revenue and profitability, combined with improved working capital management, to lead to better operating and free cash flow. We're optimistic that some supply chain and logistic costs will begin to stabilize. We remain confident in our long-term outlook for robust revenue growth and profitability driven by our leading-edge new platforms, design wins, market share gains, and engagement with significant new global customers. We are also announcing a $200 million stock buyback program today. Turning to our balance sheet and working capital metrics compared to the last quarter, our Q4 cash conversion cycle was 100 days, up from 98 days in Q3 and above our target range of 85 to 90 days. Days of inventory was 106, representing a decrease of 11 days compared to the prior quarter of 117, as we managed our inventory more efficiently. Days sales outstanding increased by three days quarter-on-quarter to 42 days, while days payable outstanding decreased by 10 days to 48 days. Turning to the outlook for our business, we remain enthusiastic about design wins and ramping plug-and-play rack-scale total IT solutions in multiple markets. We're carefully monitoring the global macroeconomic situation and continuing supply chain disruptions for the first fiscal quarter of 2023 ending September 30, 2022. We expect net sales in the range of $1.52 billion to $1.62 billion. GAAP diluted net income per share is expected to be between $2.01 and $2.27, while non-GAAP diluted net income per share is projected to be between $2.07 and $2.32. We anticipate gross margins to be similar to Q4 levels. GAAP operating expenses are expected to be approximately $126 million, which includes $8.6 million in stock-based compensation and $1.5 million in other expenses not included in non-GAAP operating expenses. GAAP and non-GAAP operating expenses are projected to increase due to ongoing investments in R&D and higher personnel costs. We expect other income and expenses, including interest expenses, to be a net expense of approximately $3.6 million and anticipate a nominal contribution from our joint venture. The company's projections for GAAP and non-GAAP diluted net income per share assume a GAAP tax rate of 19.4% and a non-GAAP tax rate of 20.3%, with a fully diluted share count of 54.8 million for GAAP and 56.2 million shares for non-GAAP. For the fiscal year 2023, we are providing guidance for revenues in the range of $6.2 billion to $7 billion, with GAAP diluted net income per share of at least $7.27 and non-GAAP diluted net income per share of $7.50. This includes projections for annual net income, assuming a GAAP tax rate of 20.3% and a non-GAAP tax rate of 21.1%. For fiscal year 2023, we are assuming a fully diluted share count of 55.6 million for GAAP and 57 million shares for non-GAAP. The outlook for fiscal 2023 fully diluted GAAP earnings per share includes approximately $35.4 million in expected stock-based compensation and other net expenses excluded from non-GAAP net income per share. Now, Nicole, I will turn it back to you.

Nicole Noutsios, Investor Relations

Operator, you can open the line up for questions.

Operator, Operator

Your first question comes from Nehal Chokshi with Northland Capital Markets. Your line is open.

Nehal Chokshi, Analyst

Congratulations on amazing results. Amazing guidance clearly shows a sustainable share gain story here. Let's talk about the gross margin. I think this is the first time I've heard Super Micro talk about better prices as a driver of gross margin expansion, which is great. Can you delve into why do you believe your existing prices are now better than in the past?

David Weigand, CFO

Okay. So I missed just a little bit of what you said, Nehal. You said, what was the question?

Nehal Chokshi, Analyst

I believe this is the first time I've heard you guys talk about price discipline being a driver of gross margin expansion. I'd like to understand why that's happening now?

David Weigand, CFO

Okay. Got you. It took us some time to adjust to the rising freight costs and other component costs, and we managed to adjust those properly. Additionally, we benefited from freight costs finally coming down 20% in Q4. So those two elements combined allowed us to achieve a higher gross margin.

Charles Liang, CEO

Essentially, our scale continues to grow, and we maintain a very good product line, which allows us to achieve a higher gross margin and net margin.

Nehal Chokshi, Analyst

Got it. Great. Can you give a little bit more detail on the drivers of the strength in the quarter, particularly regarding your leading-edge vertical solutions and OEM appliance in large data center segments?

Charles Liang, CEO

Yes. Recently, we have indeed handled several important product wins, many of which are high-end AI platforms. Our AI platform continues to gain market share, especially the rack-scale plug-and-play solutions. We offer a complete rack that customers can easily install by simply connecting power and cables, making it much easier for them to deploy.

Nehal Chokshi, Analyst

What about within the OEM side? What was the driver there for the OEM segment?

Charles Liang, CEO

Indeed, it's primarily our standard product offerings that cater to some of the top 10 highest value companies globally.

Nehal Chokshi, Analyst

Okay, great. Finally, what are your expectations for the cash conversion cycle as the semiconductor cycle appears to be entering a down cycle?

David Weigand, CFO

Well, we expect our cash conversion cycle to decrease for a couple of reasons. Number one, our profitability has been increasing, and secondly, we've been managing our inventories better. We were building inventory in Q3 while preparing for the launch of some new design wins, which gained traction and allowed us to level out our inventory.

Nehal Chokshi, Analyst

Great, congratulations.

Operator, Operator

Your next question comes from the line of Ananda Baruah with Loop Capital. Your line is open.

Ananda Baruah, Analyst

Hey, good afternoon, guys. Yes, thanks for taking my question. And congrats on strong results and very solid execution. I guess a few if I could. Piggybacking on Nehal's question, are there any other key aspects you’re seeing which contribute to the ongoing acceleration in revenue generation? Is it all share gain? Or are there other factors leading to this accelerated growth in recent quarters?

Charles Liang, CEO

Thank you. Indeed, we have focused on rack-scale total solutions and plug-and-play options for the last three years, which has allowed us to optimize our offerings. We've been able to win more deals, especially with companies ranked in the top 10 or top 30 globally. As a result, we are now more confident in winning new AI high-end platform contracts and total solutions, which include storage and switching.

Ananda Baruah, Analyst

It seems that the total solutions are resonating in the marketplace, making them easier to use and stronger products. Are you noticing any acceleration in demand across your key areas compared to the last 90 days?

Charles Liang, CEO

Yes, AI and deep learning are growing rapidly. Many companies are continuing to invest heavily in those areas. Our AI platform is gaining traction regardless of whether it's high-end or volume-based, enabled by rack-scale or cloud solutions. Our investments in these areas are attracting new customers as we save them significant time—typically, in the industry, shipping a rack-scale cluster might take two to three months. However, our optimized solutions allow us to ship to customers with much shorter lead times, which they truly appreciate.

Ananda Baruah, Analyst

Thanks, appreciate it.

Operator, Operator

Your next question comes from Jon Tanwanteng with CJS Securities. Your line is open.

Jon Tanwanteng, Analyst

Hi, guys. Thanks for taking my questions. Can you hear me?

Charles Liang, CEO

Yes, Jon.

Jon Tanwanteng, Analyst

Okay, great. The gross margin is about 17%, at the high end of your range. Is that sustainable for this year? Do you think that you should adjust your long-term target range?

David Weigand, CFO

The answer is yes, it is sustainable. We will be reviewing our new target levels. As Charles mentioned, we've had a lot of customers come to us, and we've designed very special solutions for them that hold significant value for both the industry and our customers. When I say price discipline, it reflects our recognition of the increasing value of our solutions—a fortunate advantage due to securing enough supply to ramp up these solutions.

Jon Tanwanteng, Analyst

That's great news. Do you see any indications of your customers being impacted by recessionary pressures? What assumptions are reflected in your guidance regarding macroeconomic or geopolitical risk?

Charles Liang, CEO

It varies. We have seen some customers slow down, but others are still increasing their demand, particularly for high-end AI platforms. There are always new technologies emerging quarterly or monthly, so while we believe the macro economy may slow down, our demand should continue to grow.

Jon Tanwanteng, Analyst

Understood. The guidance you provided for the next quarter indicates a sequential decline at the midpoint. Is this more due to seasonality, supply issues, or perhaps the macro slowdown?

Charles Liang, CEO

This is due to two reasons: first, supply chain constraints. Some parts have become more accessible than last year, which is an improvement. Second, historically, the September quarter has been our slowest season. Both factors have led us to adopt a more conservative approach.

Jon Tanwanteng, Analyst

Understood. Regarding new capacity investments, considering your current capacity of $10 billion to $12 billion, when do you plan to start investing to meet growth demands?

Charles Liang, CEO

In addition, because we are not yet fully covering the global market, we are very strong in some countries and territories, but in others, we are still developing. Our solutions can grow at a much higher scale with more warehouses and production capabilities, which will allow us to better serve our customers.

Jon Tanwanteng, Analyst

Thank you, and again, congrats on a fantastic quarter.

Operator, Operator

Your next question comes from Ananda Baruah with Loop Capital. Your line is open.

Ananda Baruah, Analyst

Thanks, guys. I just want to get a bit more context on the mix dynamic that you mentioned. It sounds like a significant aspect of the mix is your total solution. Are there any other components influencing that dynamic, or is it primarily the total solutions resonating more strongly?

Charles Liang, CEO

That's a great question. Indeed, we've been preparing our rack-scale plug-and-play offerings for about three years. This extended preparation has allowed us to optimize our employees and facilities, particularly with regards to communications and networking devices. We've finally begun to gain more customers and design wins, and I am optimistic about continued growth in these areas.

Ananda Baruah, Analyst

Are there specific verticals that are more receptive to those rack-scale solutions, or do you think it's a broad range across all verticals?

Charles Liang, CEO

AI, deep learning, metaverse, omniverse, high-end gaming, automation, and scientific applications are some of the key areas showing strong demand. Even companies in forecasting and analytics are expressing high interest.

Ananda Baruah, Analyst

That's super helpful. It appears the backlog likely grew over the last 90 days due to the constraints you've mentioned. Is that correct?

Charles Liang, CEO

Yes, our inventory levels are strong, and we are keeping it at healthy levels to support ongoing demand. I have no concerns about our inventory levels at present.

Ananda Baruah, Analyst

Lastly, could you provide an update on Taiwan's operations? How would you characterize the current utilization levels there?

Charles Liang, CEO

Utilization is growing faster, yet we are still experiencing supply chain shortages. I hope these shortages will continue to improve. Currently, I estimate our utilization rate in Taiwan to be around 45%.

Ananda Baruah, Analyst

Does this 45% utilization mean that, as the situation normalizes, we could expect an increase of 100 to 200 basis points to the overall P&L?

David Weigand, CFO

Yes, that's correct. We anticipate 100 to 200 basis points from Taiwan based on their shipments.

Ananda Baruah, Analyst

Awesome. Thank you, guys. I appreciate it.

Operator, Operator

There are no further questions at this time. This does conclude today's conference call. Thank you for joining. You may now disconnect.