IQE has now released their final results for the year ended 2017.

Revenues increased when compared to last year as a flat CMOS++ revenue and a £4.8M fall in license income from joint ventures was more than offset by a £24.8M growth in photonic revenue, a £1.4M increase in IR revenue and a £337K growth in wireless revenue. Cost of inventories were up £10.2M, operating lease payments increased by £888K and other costs of sales increased by £6.2M to give a gross profit £4.5M higher. There was no gain on release of contingent consideration, which was £2.3M last year; there was a £2.7M swing to forex losses and a £4.6M increase in share based payments along with a £982K growth in amortisation. This was partially offset by a £3.3M decline in other general costs which meant the operating profit fell by £2.8M. Finance costs increased by £636K to five a profit for the year of £14.4M, a decline of £3.5M year on year.

When compared to the end point of last year, total assets increased by £58M, driven by a £9.5M growth in development costs, a £40.7M increase in cash, a £7.7M growth in plant and machinery, a £4M increase in trade receivables and a £5.2M increase in inventories, partially offset by a £5.2M decline in goodwill a £2.8M fall in prepayments and accrued income, a £1.9M decrease in leasehold improvements and a £1.6M fall in customer contracts. Total liabilities declined during the year as a £2.7M increase in tax and social security payables and a £3.2M growth in other payables was more than offset by a £44.5M decline in bank borrowings, a £5.3M fall in current tax liabilities and a £1.4M fall in onerous lease provisions. The end result was a net tangible asset level of £182.3M, a growth of £98.4M year on year.

Before movements in working capital, cash profits increased by £9.6M to £37M. There was a cash outflow from working capital, interest payments increased by £636K and tax payments were up £5M, due to the payment of unpaid US taxes, to give a net cash from operations of £21.7M, a growth of £1.6M year on year (going forward cash tax is expected to be between £1M and £2M. The group spent £14.5M on development expenditure, £2.4M on other intangible assets and £11.3M on property, plant and equipment to give a cash outflow of £6.4M before financing. The group issued £94.9M in new share capital which helped pay back loans of £47.6M and gave a cash flow of £40.9M and a cash level of £45.6M at the year-end. It is worth noting that as they were taken out as finance leases, some £6.6M of capex is hidden under repayment of borrowings.

The operating profit in the Wireless division was £13.7M, an increase of £678K year on year on sales that were broadly flat, affected by a £3M managed reduction of SMI inventories to focus capacity on the ramp in photonics. Following the launch of the iPhone in 2007 this market has enjoyed several years of double digit growth but market growth cooled since 2013 as the innovation cycle struggled to keep apace. Overall smartphone shipments were flat in 2017, which represents a core part of the group’s business.

Despite the lack of growth in smartphone sales, the increase in data traffic continues to drive the need for more sophisticated wireless chip solutions in handsets. This is driving the market towards 5G communication, which the group sees as a significant upside potential for its wireless business.

Infrastructure applications such as base stations, radar and CATV are a small but rapidly growing part of the business. In partnership with MACO Technologies the group has developed a low cost solution to accelerate the displacement of LDMOS. MACOM is in the process of qualifying this technology downstream and concluded a high volume chip fabrication partnership in late 2017 in anticipation of a production ramp on completion of the qualifications.

The fastest growing area of the wireless chip market has been for high performance filters. Although the primary materials technology for filters is made from compound semiconductor elements, the wafers have been fabricated using a less sophisticated process called sputtering, reflecting that producing a more sophisticated single crystal epitaxial solution has been a significant challenge. The group overcome these hurdles late 2017 and prototyped the key technologies. They are now engaged with multiple customers.

The operating profit in the Photonics division was £18.2M, a growth of £8.9M when compared to last year on sales that doubled. This was primarily driven by the adoption of the group’s VCSEL technology in a mass market customer application which ramped strongly in the second half of the year.

There is little doubt that sensing technologies will represent a major growth area in the near term which is reflected in the breadth of product development programmes in which the group is engaged and which now span multiple tear 1 OEMs who are targeting mass market ramps in 3D sensing applications over the next year and a half.

The InP business continues to perform well. This market is being driven by the need for higher speed, higher capacity fibre optic systems to address continuing growth in data traffic. To address the evolving market, the group has developed technologies which enable higher performance with lower manufacturing costs which includes a solution for Distributed Feedback Lasers for high speed FTTX chips. They are engaged in qualifications with several customers for this technology which are expected to ramp into production over the next year or so.

The operating profit in the IR division was £3.3M, an increase of £608K when compared to 2016 with a double digit growth in sales. The group is the global leader in the supply of wagers for advanced IR technology, primarily for see in the dark defence applications. They have secured several contract wins in this area. Beyond defence, the division has broadened its customer engagements into product development for mass market consumer applications. They are involved with a major OEM in developing IR products for applications such as sensing.

The operating loss in the CMOS++ division was £1.7M, an increase of £101K year on year on sales that were flat. The group is involved in multiple programmes which are developing the core technologies from which they expect highly significant revenue streams to emerge over the next three to five years.

The profit from license income from sales to joint ventures was £1.9M, a decline of £4.8M year on year reflecting that 2016 included a significant portion of up front license fees. Although initially realising license income through joint ventures, the group see opportunities to expand their model to third party license streams over the next few years and in due course for this to represent a significant part of the business.

Mass adoption of advanced solar wafers is hampered by the end system install costs. The terrestrial market remains an opportunity but focus has shifted to the space market, where the higher efficiency has a dramatic cost benefit on satellite payload. Product qualifications are underway with leading satellite manufacturers, paving the way for commercial revenues.
In November, the group issued 67.9 million new shares, raising gross proceeds of around £95M. This fund raise was primarily to finance a capacity expansion programme to deliver the scale needed to capture multiple high growth market opportunities, and in particular the continuing demand for VCSELs. In addition the fund raising is enabling the acceleration of product development and part of the proceeds was used to repay outstanding borrowings.

At the heart of the capacity expansion is the creation of a new foundry in Newport which will house up to 100 tools. The first five are now in-situ and on track for production in the second half of 2018 and a further five tools are scheduled for delivery in Q3. This new foundry is being supported by the Cardiff City Region City Deal which is funding the construction of the infrastructure. The group is leasing the building under an eleven year lease which has a three year rent free period and an option to purchase. The lead time to get new tools into production is nearly a year, from which time a fully utilised tool making VCSELs has a payback of about a year.

During the year the group identified historical tax liabilities dating back to 2013 in a US subsidiary which have been quantified at £4.7M. It was settled in full during the year and last year’s accounts have been restated which gave rise to a £748K reduction in profit and a £4.7M decrease in net assets. In addition, in 2016 the social security costs associated with outstanding share options were unrecorded which meant the income statement has been restated by £839K.

As usual there are a load of non-underlying items. There was a deferred tax charge of £7M relating to the impact of the change in US federal tax rates and the associated reduction in the value of the group’s deferred tax asset. Share based payments of £7.5M (!) have been deemed to be non-underling. Likewise for the £1.4M relating the amortisation of acquired intangibles. There were also a couple of other, smaller items.

Going forward, the board expects continued growth in 2018 driven by expansion of existing business and qualifications of new business steams. Photonics revenue is expected to grow between 35% and 60% based on the expansion of products currently in production and the completion of ongoing qualifications. The introduction of new technologies and additional marketing opportunities provide potential for even higher growth rates. Wireless revenue is expected to grow at under 5%. SMI inventories are expected to replenish with the potential for revenue expansion as GaN products make stronger contribution. IR revenue is expected to growth by between 5% and 15% with customer engagement broadening.

There is potential for strong growth in 2019. Increasing VCSEK adoption for 3D sensing is expected to accelerate across multiple smartphone OEMs along with the introduction of world facing 3D technology, and first deployment if LIDAR and other high volume sensing applications. There is the increasing deployment of InP for high speed FTTX and datacentre applications; increasing CS content in 5G communication systems, and increasing adoption of GaN for base stations and other high power RDF applications; and increasing use of IR products in mass market consumer applications.

In addition, revenues are expected from both power switching and non-terrestrial solar markets and multiple qualifications are in progress with DFB laser products. The expected compound growth rates over the next three to five years based on current products are: wireless up to 10%, photonics 40-60% and IR 5-15% with a potential for higher growth with new product introductions.
The current financial year has started in line with expectations.

At the current share price the shares are trading on a PE ratio of 54.5 which falls to 27.1 on next year’s consensus forecast. At the year-end the group had a net cash position of £45.6M compared to a net debt position of £39.5M at the end of last year.

On the 16th March the group announced that it has exercised its option to acquire and own the cREO technology and IP portfolio. They will pay a consideration of $5M either in cash or shares within six months. This technology, which the group had been licensed, offers an approach to the manufacture of a wide range of disruptive compound semiconductor on silicon products for the power switching and RF technologies markets.

On the 3rd April the group announced that long serving CFO Phillip Rasmussen died following a cycling accident. This really is tragic as he was a very enthusiastic driving force in the business.

On the 4th June the group released an update where they confirmed strong wireless activity and that they are actively engaged in VCSEL qualification programmes with over ten additional key VCSEL chip manufacturers which are progressing in line with board expectations. The commissioning of the new Newport foundry is progressing to plan, with the first five reactors now all on site and in various stages of acceptance testing. The second five reactors are expected to be delivered on site starting Q3 2018, with commissioning and qualification during the rest of 2018.
Following the tragic death of the CFO, the board have appointed Dr Godfrey Ainsworth as Executive Chairman and CEO Dr Drew Nelson will have oversight of the finance team, headed by finance director Neil Rummings.

Overall then I think this company is quite hard to get my head around. Profits declined, net assets grew due to the equity raise and the operating cash flow improved but the group is not cash generative with a cash outflow before financing. Operationally, the wireless division seems steady but there is growth from both photonics and IR. This is offset by the expected decline in licencing income. There is a big programme of capex here and, although, there may be a great deal of potential (it is hard to be sure) I feel the forward PE of 27.1 is a little rich.

On the 24th July the group released an update covering trading in the first half of the year. They expect to deliver a £3M increase in revenues to £73M despite a currency headwind of 9.5%, reflecting double digit sales growth on a constant currency basis in each of their three primary markets.

The wireless market grew by 11% at constant currency as the group delivered on their intention to replenish wireless inventory channels following the capacity allocation made to VCSEL production in H2 2017. The division has been underpinned by the renewal of the supplier agreement with their largest customer which has been extended for a further 15 months in addition to expanding to cover a wider range of products and increased share of the customer’s epiwafer requirements. As a consequence of this extension along with additional qualifications recently completed with other wireless customers, the board has approved a wireless expansion plan for their plant in Taiwan with the aim of increasing wireless capacity there by 40% in 2019.

The photonics division is expected to deliver growth of 30% at constant currency. Revenues from the largest customer were broadly flat as the supply chain absorbed inventory following a steep production ramp up for VCSELs relating to a 3D sensing application in H2 last year. The IR segment delivered growth of 11% and is expected to show further growth in the second half of the year.

The capacity expansion in Newport is proceeding according to plan. The first five reactors are now installed and are at various stages of qualification. A further five reactors will be delivered in the second half. Phase one will eventually deliver 20 reactor bays which are expected to be fully operational in H1 2019. Further reactors are planned to be installed through the remainder of 2019.

The group continues to trade in line with current market expectations.

On the 25th September the group announced the payment of a $5M IP purchase fee through the issue of IQE shares to Translucent in relation to the acquisition of cREO technology. They are confirming that they will issue 4,262,256 new shares. In March the group announced that it had exercised its option to acquire and own the cREO technology and had six months to pay the consideration.

On the 15th October the group announced that it had appointed Tim Pullen as CFO. He is currently CFO of ARM ltd so seems like a good fit.