Alpha & Omega Semiconductor: Computing Revenue Increases, Eyeing AI PC and Mobile Tie-ins

Alpha and Omega Semiconductor manufactures power IC semiconductors, MOSFETs, intelligent power modules, high voltage gate drivers, and other power management module products. AOSL’s primary end market is PCs and graphic cards, with around 40% or more of quarterly revenue stemming from this end market, on average. The company is low-growth and is not GAAP profitable. There are indications it will become profitable on an adjusted basis soon. In the most recent quarter, the company turned cash flow positive. Inventory corrections in the consumer and industrial markets have created headwinds to revenue, yet management expects both segments to see strong sequential growth as inventory corrections are expected to end soon.

Where AOSL could become a promising stock is that it has been shipping on Intel’s Raptor Lake and Meteor Lake, alongside AMD’s FP8 platform. AOSL is in development and sampling for AMD’s FP11 platform, which is expected to underpin its next-generation high-end Ryzen Strix Halo APUs offering 70 TOPS of AI performance, up to a 75% increase to current chips from AMD’s rivals Qualcomm and Apple currently on the market. AOSL is also sampling to Intel’s Panther Lake platform, which is expected to be released in mid-2025, rumored to bring a 5x increase in AI performance versus Meteor Lake.

Despite the promising tie-ins to Intel and AMD, we are putting AOSL in the high-risk bucket due to it being a small-cap, and because it requires speculation that there will be a shift in the fundamentals. The stock will be reserved for the Advanced tier’s momentum portfolio for now, until we see more fundamental strength. This means technical analysis plays a primary role. We will close the position quickly (as soon as one day) if the setup fails. Or, we will hold for many months and increase its allocation if we see the stock shift to meet more of our criteria.

Overview of AI PCs and AI Mobile:

Given its high contribution to revenue combined with a strong outlook in AI PCs over the next six to eight quarters, we’re watching the Computing segment closely to drive growth through the September quarter and through 2025.

Management has been quite transparent throughout the inventory corrections in the PC space in 2022 as well as the growth opportunities it sees in the computing segment, not just in PCs but also extending to graphics and AI accelerators.

In May 2022, management pointed out that they were beginning to “see early signs that the PC market is beginning to soften,” and then later in December 2022, management said that “demand dropped off rapidly in December quarter as our customers aggressively reduced inventories,” though customers were anticipating order resumption in the June 2023 quarter. Not only was management fairly open throughout the downturn, it also was a testament to AOSL’s strength in the market — despite that sharp 20% YoY decline in PC shipments in 2022, AOSL’s full year PC revenue increased 3% YoY due to share gains, increasing bill of materials (BOM) content and product mix shift towards premium products.

Overall, the PC downturn significantly impacted Computing revenue, going from a near peak $89 million to $38 million in just two quarters, from fiscal Q1 2023 (Sept 2022) to fiscal Q3 2023 (Mar 2023). Prior to this macro-induced demand slowdown and subsequent inventory correction in PCs, computing revenue approached $360 million in TTM revenue.

Management had noted in February this year that the “inventory correction in graphic cards is coming to an end,” resolving one headwind to Computing growth.

In fiscal Q3 2024, computing revenue was ~$68.7 million, and management’s guide for mid- to high-single digit QoQ growth implies AOSL exits fiscal 2024 with computing revenue in the mid-$280 million range, or just over 20% below peak. AOSL saw “an increase in demand for newer applications such as graphics cards and AI applications,” and for fiscal Q4, management is forecasting “a rebound in gaming and continued strength from tablets, graphics cards, and AI,” and anticipates PC strength through the September quarter on new product launches.

Moving through the rest of 2024 and into 2025, Computing segment’s growth is likely to be driven by two primary factors – AI PC growth aided by Intel’s Meteor Lake platforms and AMD’s FP8 and FP11 next-gen chips, as well as a rather robust server and AI accelerator point-of-load (POL) roadmap.

For example, AOSL’s power delivery content is increasing significantly on Intel’s Meteor Lake chips, compared to the Arrow Lake predecessor, which should translate into a healthy BOM increase. Intel is targeting a significant 8x increase in Core Ultra AI PC chip shipments (across its Arrow Lake, Meteor Lake and Lunar Lake platforms) — from 5 million since December 2023 to at least 40 million by year-end 2024. This is estimated to grow 50% in 2025 to 60 million Core Ultra chip shipments.

Source: Intel

For Meteor Lake specifically, Intel is rumored to be targeting 20 million unit shipments in 2024, with 300 million units for Meteor Lake’s life-cycle; if correct, this provides a large long-term runway for AOSL on a single chip generation.

Analysts pressed management about this opportunity, though management was vague in terms of specificities stemming from Intel and cautious about how the PC rebound will unfold:

Q, Craig Ellis: “if Intel is on track to ship 40 million Meteor Lake units this year in the back half for their target. And then I think its 60 million next year. Is that where you are getting some content gain and are we seeing some of that in the guidance for fiscal 4Q? And then the broader question beyond just compute, I think three months ago when you talked about mid-year and the second-half of the year, you saw the potential for there to be a seasonal rise in the business that looks like we are starting to see that. Can you just talk about how your expectation for the back half of the year, or the fiscal first half of ‘25 has changed in the last three months. What’s gotten better and is anything tick lower?

A, CEO Stephen Chang: “Sure, regarding PCs in the first half calendar versus second half calendar year, we do think that the second half will be stronger than the first half. But it’s hard to see how strong it will be going beyond the peak season in September. We do believe that the seasonal patterns are already coming back. But we are hesitating to call a full recovery and then we will know better once we are into that second half in terms of how, whether it will persist going into this December quarter. Overall, I think – we think it will probably take a little longer to get to the full recovery for PCs. I think an Intel transition to Meteor Lake will help. We are hoping that some of these new platforms in general from the OEMs will also start to trigger more end demand for PCs. But overall, yes, we are expecting that to see PCs be stronger going into the September quarter. But we are going to be careful watching out for that.”we do think that the second half will be stronger than the first half. But it’s hard to see how strong it will be going beyond the peak season in September. We do believe that the seasonal patterns are already coming back. But we are hesitating to call a full recovery and then we will know better once we are into that second half in terms of how, whether it will persist going into this December quarter. Overall, I think – we think it will probably take a little longer to get to the full recovery for PCs. I think an Intel transition to Meteor Lake will help. We are hoping that some of these new platforms in general from the OEMs will also start to trigger more end demand for PCs. But overall, yes, we are expecting that to see PCs be stronger going into the September quarter. But we are going to be careful watching out for that.”

Bill of Materials (BOM) Increasing from $2 to $3

Management also shared a rather positive long-term outlook in terms of how it will work towards increasing BOM ($ content per product) and enter new markets:

“So, with that, we are seeing BOM content grow. It used to be in the $2 range is going into the $3 range. And depending upon the configuration can push harder than that. But that’s helping us in general because with the latest power maps being used that the CPUs are being used, we are seeing more driver mass is lowered, more phases, which basically means more content for us and going into powering the CPU. Now – and so that’s what’s going on the client side. The other thing that we are seeing in general is that we are expanding more not only from the client PC side, but also going into advanced computing. And you guys and we have been sharing about our success in general into the graphics market, we are seeing in a return into growth for the graphics side. So, we feel a little more confident that the inventory correction there is behind us and we are seeing growth is specifically for the graphics side.” which basically means more content for us and going into powering the CPU. Now – and so that’s what’s going on the client side. The other thing that we are seeing in general is that we are expanding more not only from the client PC side, but also going into advanced computing. And you guys and we have been sharing about our success in general into the graphics market, we are seeing in a return into growth for the graphics side. So, we feel a little more confident that the inventory correction there is behind us and we are seeing growth is specifically for the graphics side.”

The company is also sampling or in development for a handful of upcoming next-generation platforms from AMD and Intel.

AOSL has been shipping on Intel’s Raptor Lake and Meteor Lake, alongside AMD’s FP8 platform. AOSL is in development and sampling for AMD’s FP11 platform, which is expected to underpin its next-generation high-end Ryzen Strix Halo APUs offering 70 TOPS of AI performance, up to a 75% increase to current chips from AMD’s rivals Qualcomm and Apple currently on the market. AOSL is also sampling to Intel’s Panther Lake platform, which is expected to be released in mid-2025, rumored to bring a 5x increase in AI performance versus Meteor Lake.

AOSL’s server and HPC/AI accelerator product portfolio is expected to increase significantly, with more than half a dozen new products planned for development through 2025 and beyond. The following was stated on the call: “And the other new area that I would say that’s in the computing space is AI. And over there we are starting to get some business because of our success in graphics cards. One of our customers is basically using a similar solution in their AI accelerators. So, we are still seeing some contribution coming there, going into AI accelerators.”

Fiscal Q3 Financials Recap

AOSL reported fiscal Q3 earnings (quarter ending March 2024) in early May, reporting revenue in line with estimates and EPS above estimates. As you can see below, AOSL is coming off a deep trough. There is commentary that suggests the fundamentals are bottoming, which aligns with our understanding of PCs and mobile rebounding in H2 of this year. However, as stated in the introduction, until fundamentals are actually reported, a rebound requires speculation.

Revenue and EPS:

Revenue in the quarter was $150.1 million, an increase of 13.2% YoY but a decrease of (9.2%) QoQ. This was in-line with analyst estimates. Management expanded on seasonality, saying that while the “March quarter is historically our seasonally lowest revenue quarter due to the technicality of consumer spending, the year-over-year growth indicated the strength of our recovery from the inventory corrections.”
Days sales outstanding was 15 days for Q1 compared to 18 days for the prior quarter, and 30 days for the year ago quarter.
Adjusted EPS was ($0.04), beating the consensus estimate for ($0.14). GAAP EPS was ($0.39), beating estimates for ($0.48). The goal is to see this company become profitable on an adjusted basis next quarter.
Fiscal Q4 revenue was guided to be $160 million, +/- $10 million, for a (1%) YoY decline and a 6.6% QoQ increase at midpoint. Management said that “starting from the June quarter, we forecast a rebound in gaming and continued strength from tablets, graphics cards and AI. Looking beyond, we anticipate the second half of this year will be stronger than the first half as customers gear up for new product launches in smartphones as well as PCs.” Management also added that “inventory corrections across the majority of our end markets are now approaching their conclusion, positioning us for a gradual rebound as we move forward into the rest of calendar year 2024.”
Based on management’s guidance for margins and operating expenses, adjusted EPS is expected to be approximately $0.04 in Q4. GAAP EPS is expected to be approximately ($0.30), as GAAP operating expenses are expected to be around 20% higher than non-GAAP. Moving forward, adjusted EPS is expected to increase sequentially in fiscal Q1 and remain flat QoQ in Q2; however, there are only three analyst estimates for revenue and EPS, which opens the door to large EPS beats or misses.

Margins:

GAAP gross margin was 23.7% in Q3, a 50 bp YoY improvement but a sequential decline of 290 bp. Adjusted gross margin was 25.2%, a 10 bp YoY improvement but a sequential decline of 280 bp. Management explained that the sequential decline in margins were “mainly driven by lower utilization and ASP erosion, partially offset by better mix.”
GAAP operating margin was (7.0%) in Q3, a 390 bp YoY improvement from (10.9%) in the year ago quarter, but a 630 bp sequential decline from (0.7%) last quarter. Adjusted operating margin was (0.7%), a 480 bp YoY improvement from (5.5%) in the year ago quarter but a 290 bp sequential decline from 2.2% last quarter.
GAAP net margin was (7.5%) in Q3, a 680 bp YoY improvement. Adjusted net margin was (0.8%), a 360 bp YoY improvement.

Over the longer term, management remains optimistic about a return to 30% margins as it works towards hitting its $1 billion revenue goal:

Q, Analyst Craig Ellis: “What are some of the bigger gives and takes that we should be aware of for gross margin and really the pace of expansion and what do you need to see to be confident that gross margins can move back to that 30% level and then at some point higher? Thank you.

A, CFO Yifan Lang: At this point and I mean we still think on our mid-term target model and when we reach the $1 billion in revenue, we expect to get to 30% gross margin on the non-GAAP basis level.”

Cash and Debt:

Operating cash flow was $28.2 million in Q3, including $9.9 million in repayments of customer deposits. Operating cash flow margin was 18.8%, compared to 8.8% in the year ago quarter.
Free cash flow was $20.2 million, for a margin of 13.7%, compared to (-8.3%) in the year ago quarter. Given that we’re in a high rate environment that is not ideal for companies undergoing capital raises, having positive operating and free cash flow with margins in the double digits is a positive for AOSL, suggesting that it should be able to fund operations organically.
Cash and equivalents totaled $174.4 million.
Debt totaled $41.2 million.

Key Segments:

Computing:

The Computing segment accounted for 45.8% of AOSL’s revenue in Q3, increasing 80.4% YoY on a weak comp due to a sharp inventory correction and downturn in the PC market in the same quarter last year. Sequentially, computing revenue declined 4.3%, as March is typically AOSL’s seasonally weakest quarter.

Management said Computing’s revenue was “in line with our original expectation for a mid-single digit decline sequentially due to seasonality and the impact of Chinese New Year,” and that “sequential growth in graphics cards, tablets and A.I. accelerators helped partially offset the seasonal decline that was mostly from notebooks.”

Consumer:

The Consumer segment accounted for 15.7% of revenue, declining (47.1%) YoY but increasing 0.3% QoQ. Management said the “inventory correction in gaming continued in the March quarter,” but they see “opportunities to increase BOM [bill of materials] content within the current console platform as part of a product refresh coming very soon.” Consumer segment revenue exceeded management’s expectations for a single-digit sequential decline due to strength in LCD TVs and home appliances.

Communications:

The Communications segment accounted for 17.9% of revenue, increasing 39.2% YoY but declining (7.4%) QoQ. Management noted that segment growth was below expectations as “continued strength in March quarter shipments to the Korea and China-based smartphone OEMs were offset by a seasonal decline in shipments to the Tier 1 U.S. smartphone customer, as well as a slowdown in networking.”

Looking forward, the segment is expected to see flat QoQ growth in the June quarter, as increasing BOM and increased shipments from its US smartphone customer in preparation for a fall launch will be offset by a sequential decline in Korea and China OEMs. Management said that “even with a sequential decline, our China OEM business remains strong and up significantly year-over-year. Overall, we estimate the Communication segment will be flat sequentially in the June quarter, which is notably higher year-over-year, because of our BOM content and market share increases.”

Power Supply & Industrial:

The Power Supply and Industrial segment accounted for 16.5% of total revenue, decreasing (6.5%) YoY and (29.0%) QoQ on continued inventory corrections in quick chargers in addition to sequential declines in AC-DC power supplies, power tools and solar. Looking ahead to the June quarter, management expects sequential growth in the mid- to high-single digits as the quick charger inventory correction ends alongside strength in e-mobility.

Valuation

In terms of valuation, AOSL trades just slightly above 1x sales and below book, making it one of the cheapest stocks in the semiconductor industry on these two metrics.

At the moment, AOSL is trading about in line with its 5-year average PS ratio of 1.1x, falling from a peak multiple of 2.5x in early 2022 when revenue was approaching its peak above $200 million and EPS was surpassing $1.00 per quarter. AOSL’s forward PS ratio is nearly identical at nearly 1.2x, given that revenue growth is expected to be approximately (1%) this year before accelerating to 5.4% in fiscal 2025, based on current analyst estimates.

Because AOSL is not a hypergrowth stock at the moment, with revenue expected to accelerate to the double digits in late fiscal 2025 (calendar Q1 2025), the focus shifts to the bottom line, which has been weakening as margins slip on lower utilization rates and some ASP declines. Currently, gross margins are hovering in the 25% range, lower than AOSL’s long-term target of 30% and below peak margins in the 35% range in fiscal 2022; at that range, AOSL was delivering $1.00+ in EPS, or annualized earnings power above $4/ per share.

At the moment, AOSL trades at an ~47x forward PE ratio, weighed down by weaker margins. This is more expensive than the 36x forward multiple from November 2023 and significantly more expensive than the 15x ratio from a year ago, when gross margins were closer to the 30% level and the bottom line was a bit stronger.

Essentially, AOSL would need to drive net margin towards the high-single digit, low-double digit range to realize this earnings power, but that is likely entirely reliant on gross margin expanding beyond the 30% range. Finding ways to increase content per chip in the PC space should aid in higher margins, unless that is driven by increasingly expensive components. Notably, the margin recovery is likely to be more gradual due to weakness in other end markets, such as solar and consumer segments.

Technicals Appear Bullish

By Knox Ridley

The developing, larger trend in AOSL appears to be quite bullish. So far, there are two patterns within this larger trend: first, is a near vertical move higher; second, a corrective retrace that is making higher lows.

This first pattern starts off the COVID low in 2020, and is a clear 5 waves that stretches into the March 2022 high. Five wave moves are nearly vertical with minor pullbacks along the way. They tend to signal the start of a trend. There is simply no other interpretation of this pattern in AOSL, which suggests higher prices on the horizon.

The 2nd pattern in the larger trend, which further confirms this thesis higher, is how we have corrected since the March 2022 high. The correction since the March 2022 top has been an overlapping, corrective pullback, which is commonly called a “bull flag.” This pattern tends to be a correction within a larger uptrend.

The internals and volume patterns during this pullback further support the developing uptrend. Look at the MACD, which is a way to measure momentum within trends. Note how the MACD bottomed in July of 2022 and has since made a series of higher highs while price made a series of lower lows. This implies that the selling momentum has been fading, which is common to see close to bottoms.

Furthermore, note the large green volume patterns that have been developing since June of 2023. This is indicating accumulation, which is also a common pattern to see close to bottoms.

Our game plan is to wait for a breakout above $30.50. Once we get this signal, ideally on expanding buying volume, we would enter this position with a stop in the $24 range. If this larger pattern is playing out, we would then buy the dips of AOSL along the way.

Conclusion

We believe AI PCs may emerge as one of the stronger growth trends in consumer AI devices over the next few years, with AI PC shipments projected to surge at a 44% CAGR through 2028 to take over 70% share of PC shipments. AOSL’s tie-ins to Intel’s Meteor Lake CPU and possible launch on its upcoming Panther Lake platform, as well as its position in development stages for AMD’s FP11 platform, position it for strong growth in this space.

Computing revenue growth for AOSL has been strong and is a primary driver of overall growth, accounting for more than 45% share of total revenue. While AOSL’s top line valuation is much cheaper than many leading AI stocks, the bottom line is weak currently as margins remain depressed; however, the technicals are leaning bullish, and as we know, AI small caps can move quickly (in both directions!), so we believe it’s worth keeping AOSL on our radar with a buy plan (and a sell plan!) in place.

Damien Robbins, Equity Analyst for the I/O Fund, contributed to this analysis

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