IQE has now released its interim results for the year ending 2017.
Revenues increased when compared to the first half of last year which included a 10% forex tailwind as a £169K decline in CMOS++ revenue was more than offset by a £4M growth in wireless revenue, a £5.2M increase in photonic revenue and a £905K growth in IR revenue. License income declined by £2.6M and cost of sales were up £7.9M which meant that the gross profit decreased by £539K. There was no released of contingent consideration, which brought in £2.2Mlast time and share based payments were up £1M, although other general costs saw a modest decline which gave an operating profit £3.5M below last time. Finance costs increased by £223K but there was a £1M positive swing to a tax income due to the recognition of more tax losses, which meant that the profit for the period was £7.3M, a decline of £2.6M year on year.
When compared to the end point of last year, total assets increased by £2.1M driven by a £1.9M growth in intangible assets, a £1.9M increase in inventories and an £815K growth in receivables, partially offset by a £3M decrease in property, plant and equipment. Total liabilities declined during the period was a £2.8M increase in bank loans was more than offset by a £2.9M decline in payables and a £589K decrease in the onerous lease provision. Net tangible assets came in at £91.3M, a growth of £801K over the past six months.
Before movements in working capital, cash profits increased by £2.6M to £15.6M. There was a cash outflow from working capital, however, due to the mass market VCSEL ramp, and after interest payments increased by £320K and tax payments grew by £262K, the net cash from operations came in at £9.2M, a decline of £1.8M year on year. The group spent £5.8M on property, plant and equipment along with £9.6M on intangible assets to give a cash outflow of £6.2M before financing. The group took out a net £5.8M of new loans so the cash flow for the period was £672K and the cash level at the period-end was £5.5M.
The adjusted operating profit in the wireless division was £7.3M, a growth of £557K year on year. The group has an estimated 55% of the market share but the market has been more subdued over the past few years reflecting a lull in mobile phone handset innovation, and technology trends resulting in smaller die size has resulted in the materials market remaining relatively flat over the period. The advent of 5G could provide a route to the return of double digit growth, however.
At present growth in the division is being driven by high voltage applications such as radars and base stations. Although this has historically only represented a modest part of wireless sales, it is a high growth area delivering double digit increases. In these applications, compound semiconductor technology is replacing incumbent silicon technology which is unable to meet the rising performance required for high speed communications systems. The group has developed GaN-on-Si technology which delivers the high performance of compound semiconductors but at a lower cost of manufacture so offers the potential to disrupt this market and deliver strong growth in the near term.
A further dimension to the wireless business is the market for wireless filters. This is a very large market which is already more than double the size of the existing wireless PA market and growing rapidly. Currently a range of filters are made using poly-crystal aluminium nitride material but the group has developed a single-crystal aluminium nitride material which offers superior performance characteristics. Further development is required before this technology can be commercialised but initial results reflect substantial promise and the potential to commercialise over a two to three year time frame.
The adjusted operating profit in the photonics division was £6.5M, an increase of £1.9M when compared to the first half of last year. After several years of devilment, the advances in this technology and the improvement in manufacturing processes means that this technology is now hitting the performance and cost points necessary for mass market adoption. Specific uses include 3D sensing, LIDAR, gesture recognition, laser autofocus, proximity sensing, fibre optics for data centres, industrial heating, machine control and biometrics.
Over the past few years the group has enjoyed strong double digit growth in its VCSEL business, much of which has been customer funder development spanning a broad range of customers and applications. They have recently announced the start of a ramp in a mass market consumer application using VCSELs. This application, which relates to a sensing technology, helped deliver record sales in June and offers the potential for a dramatic acceleration in VCSEL sales growth over the next few years.
In overview, the board believe that their photonics business is at the start of a long term high growth curve. Their growth ambitions are underpinned by a pipeline of programmes with blue chip customers for high volume applications, and IP which provides them with competitive advantages.
The adjusted operating profit in the IR division was £1.4M, an increase of £326K when compared to the first half of 2016. The group enjoys a market share of around 80% in this still-niche area. Sales are currently concentrated in defence related applications but through their engagement in programmes in consumer, medical and industrial imaging, they expect this segment to increasingly transition into new high volume markets over the coming years. The adjusted operating loss in the CMOS++ division was £977K, an improvement of £391K year on year.
The group is developing materials solutions to address some of the key technological challenges faced in the power markets. The size of these markets are many times larger than the group’s existing markets so they represent potential transformational opportunities. At present power switching chips are made using silicon but the industry is investing in a step change in technology to overcome this inefficiency and deliver a higher performing lower cost solution. That step change is the adoption of a hybrid compound semiconductor on silicon technology called GaN on Si and the group is apparently at the forefront of the materials development.
The adoption of advanced solar technology in terrestrial markets in the short term is limited by the low oil price and over-supply within the silicon panel market, but this remains a market opportunity as these issues unwind. The primary focus for the advanced solar division is on penetrating the space market where this technology is already embedded and the group have a strategy to penetrate the market and win market share.
The profit from license sales to joint ventures was £950K, a decline of £2.6M when compared to the first half of last year with no upfront licence income during the period.
There was a big increase in capex during the period and a further capacity expansion plan was initiated to meet higher levels of demand which are expected in the second half of 2018. Five new tools are on order and a lease has been signed on new premises in South Wales with a view to add up to 100 new tools, doubling the current tool count.
Going forward, the board believe that the outlook has never looked better. The broad range of customer engagements across multiple technologies and end markets provides a clear path to increase revenue diversity and accelerate growth over the coming months and years. In light of the benefit of a strong pipeline and increasing revenue diversification the board remains confident that the group is on track to deliver full year earnings in line with the recently upgraded expectations.
At the current share price the shares are trading on a PE ratio of 60.6 which falls to 44.2 on the full year consensus forecast. Clearly a huge amount of future growth is being priced in here. At the period-end the group had a net debt position of £41.9M compared to £39.5M at the end of last year. No dividends have been recommended.
Overall then this has been a bit of a mixed period but the underlying performance seems to be decent. Profits declined but this was due to the lack of any up-front license revenue which was flagged up previously. Net assets increased and although the operating cash flow declined, this was due to working capital movements and the cash profits increased. There was no free cash flow, however. All divisions seem to be improving but the best performer seems to be photonics. This growth is leading to an increase in capex so I am not sure where the cash is going to come from for that. With a forward PE of 44.2 and a decent amount of net debt, these shares are really expensive. It is just a case of whether the expected growth is going to come through. I am grudgingly holding on here but not sure if that is the intelligent thing to do!
On the 20th October the group announced that they had recently engaged the services of an international tax firm to assist with a routine US tax filing for 2016. This exercise has identified taxes due in the US relating to the profits of an overseas subsidiary for 2013 to 2016, which follow the acquisition of Kopin in 2013. The tax due is estimated at £4.2M. As a result of a group re-organisation started in September 2016, it is believed that no similar tax liabilities arose in 2017.
The group are pursuing full recompense from the previous advisors. The tax paid was previously unaccrued and will result in a prior year adjustment to the figures in the next report but there is not impact on the expected trading results for 2017. Whilst there are no indications of any further potential omissions, the board has approved the use of an international tax firm to undertake a complete group review.
They have had a strong Q3 with continuing growth driven largely by the ongoing strong VCSEL ramp in support of a significant mass market consumer application, and the new Foundry applications remains on course to open in the first half of 2018. As a result the board are confident that the group is on track to deliver on full year expectations.
On the 8th November the group announced a placing of up to 67,941,581 new shares at a price of 140p per share, representing around 10% of the current share capital. The placing will allow them to expand their capex programme in their new foundry with the purchase of 40-60 new MOCVD machines over the next three to five years. This additional capacity should enable them to address multiple mass market opportunities including the production of VCSEL wafers for use in 3D sensing consumer electronics applications. The placing should also enable them to accelerate the development of new products and technology and to enhance their financial strength and ability to supply global Tier 1 OEMs.
The board is confident that at current trading levels, the group is on track to achieve market expectations. Should the VCSEL ramp continue along its current growth curve, however, then there is potential for 2017 earnings to exceed current expectations.
On the 20th December the group released a trading update covering the year. They expect full year revenues to be ahead of market expectations and to be not less than £150M. Wafer sales are on track to deliver strong double-digit growth and to continue to diversify.
The photonics business has enjoyed strong double digit growth over the past few years largely driven by new product development and pilot production for a wide range of applications. This growth continued to accelerate sharply in the second half of 2017 as a VCSEL product development programme moved to mass market production in June. As a result, the division is on track to double in 2017 and there are several multi-year supply contracts over the next few years.
The IR business is on track to deliver growth of 10% this year and is now engaged with major OEM and device companies in product development programmes targeting mass market consumer applications. Wireless sales are expected to be broadly flat year on year with a forex tailwind mitigated by a reduction of inventories downstream. These inventory levels will normalise in 2018 as the group replenish normal Supplier Managed Inventory levels.
The license income from joint ventures will reduce this year as last year included some up front amounts. License income is expected to be around £2M.
The increase in wafer sales will continue to drive an expansion of wafer margins this year. As a result, pre-tax profit is expected to be ahead of current market expectations. Progress on the new foundry is on track, with the first five new tools ordered and scheduled for installation in early 2018, generating revenues by mid-year. In addition the group has agreed terms for a further ten production tools and is in the process of agreeing the specification for the first five of these additional tools.
As reported in October, a prior year tax liability of £4.2M was settled in full. The group’s tax advisors have now completed their review and while there were no indications of any further potential omissions, the board commissioned an independent tax firm to complete a comprehensive review of the group’s tax compliance in the UK, US and Asia. This is ongoing but has not identified any further unrecorded liabilities with the review scheduled for completion in Q1 2018.
Additionally, the US Government’s plan to reduce the corporation tax rate from 35% to 21% would have a positive long term impact for the group but this change, if enacted, will give rise to an upfront non-cash deferred tax charge relating to a reduction in the associated deferred tax asset. Overall this seems pretty good, but this good news is arguably already in the price.
Om the 5th February the group responded to the report published by Shadow Fall. They stated that the allegations contained within are without merit and provide a misleading analysis of the group’s financial position.