Last week, AEHR had a strong report with a 16% beat on revenue and 88% beat on EPS. Despite semiconductors being cyclical, AEHR is doing quite well as it’s centered in the high-demand trend of silicon carbide. The CEO called this a “hot wave” when funds are appropriated from a weak market to a strong market. When speaking about AEHR’s customer base, he said the following: “As they contract, what they'll do is they'll figure out where the hot markets are and they redirect their energy, okay? I've always referred to [this] as waves. It came back to my HP days … We're in a hot wave right now. Customers are pouring their energy towards silicon carbide right now, even though, obviously, there's other business units that aren't doing very well.”
Below, we discuss the financials, AEHR’s ability to meet demand – which looks strong in the near-term and long-term — and also some new markets that AEHR may be able to participate in.
AEHR Financials:
AEHR was expected to report revenue growth of 33% and instead reported growth of 54% for revenue of $14.8 million. Notably, this is a deceleration from last quarter’s 89% growth.
The company reported adjusted EPS of $0.16 compared to $0.09 expected. GAAP EPS was $0.13. This is up from $0.05 adjusted EPS last year. Prior to calendar year November 2021, AEHR either had flat or negative adjusted EPS. Gaining and then maintaining ground on adjusted profitability is important in the new macro and most stocks are being aptly rewarded when this is reported.
Although management doesn’t provide specific guidance, they have reiterated a few times “its previously provided guidance for total revenue to be $60 million to $70 million [in fiscal year 2023 ending in May], with strong profit margins similar to last fiscal year.” The company has reported $25.4 million in revenue in the first two quarters, implying a slightly stronger second half of $34.6 million to $44.6 million.
Stating in the guide “strong profit margins” was an understatement as AEHR reported very strong margin expansion:
· Gross Margin of 53.4% up from 47% in the year ago quarter
· GAAP operating margin of 23.5% up from 7.5% in the year ago quarter
· GAAP profit margin of 25.3% up from 7.5% in the year ago quarter
· Non-GAAP profit margin of 30.80% is up from 14.9% in the year ago quarter
The gross margin improvement is partly due to ocean freight becoming cheaper again as AEHR has been using air shipping. SG&A saw a slight increase due to higher headcount.
AEHR’s cash slightly increased from $36.15 million to $36.6 million, suggesting $437,000 in free cash flow. We won’t know until we get the SEC filing the exact number on FCF but will be in the $400K zip code. This is lower than last quarter’s $5.3 million in free cash flow. The company stated this regarding the lower FCF: “Also, we are now investing excess cash in short-term investments to take advantage of the recent increases in interest rates.”
The company has stated that bookings will exceed revenue. Q2 bookings are at $29.9 million, which does exceed the $25.4 million in revenue. Backlog is at $15.5 million which is lower than last year at $36.1 million. The Effective backlog through January 15th was at $23.5 million. This can change anytime if more orders come in.
Earnings Call:
Near-Term Orders and Inventory
In addition to the current earnings beat, it’s important to point out the runway the company discussed on the call. The call was strong especially in regards to the management team feeling confident these customers will result in more orders prior to May:
“In addition to the customers that have now placed initial orders with Aehr for silicon carbide wafer level test and burn-in systems, our ongoing benchmarks and evaluations with multiple prospects made great progress during the quarter. These include significant market leaders in silicon carbide, as well as several smaller existing and up and coming suppliers. We expect several of these companies to place their initial orders with us before the end of this fiscal year ending May 31, 2023” and later this was stated: “In conclusion, we continue to believe that we will receive production orders from additional silicon carbide companies beyond our current customers and begin shipping systems to meet their production capacity by the end of our current fiscal year that ends May 31, 2023.”
You could argue this is implied by the guide yet it’s important AEHR stay strong in the first few calendar months of 2023 because it’s a leading position in the portfolio. In addition, we’ve been getting some signals across the semiconductor market that calendar H2 2023 should be strong.
There were many mentions from TSM about second half of 2023 resolving cyclicality issues for their business. To summarize, here is an example of what TSM said: “For the longer term, we continue to work closely with our customers. And actually, let me also say that this is a cyclical issue. So, it will pick up anyway. And we believe we will pick up in the second half of 2023.”
Here is what AEHR has said in the past and the company mentioned “momentum into 2024” in this call:
“And as we had — if you look at the amount of capacity that everybody’s talking about to hit in 2025 calendar-wise, most people are just really focused on second half 2023 and into 2024 is where just a lot of capacity is coming online and so it may be less to do with the timing of us as the timing of that silicon carbide ramp. And our goal is to get qualified before that ramp happens and have a ton of capacity and material on hand to be able to address it.”
This quarter, AEHR discussed ramping inventory by an additional $5 million (so far) year-over-year in Q2: “We are increasing inventory to support our expected growth in the second half of fiscal 2023, and we continue to purchase inventory to ensure adequate supply to meet current customer and future customer market demand.”
The company also forecast the ability to 2X their monthly capacity by summer and then increase another 2X “in a year.” This is important because we investors want to know AEHR can meet a surge in demand as this could potentially be an issue due to AEHR being a smaller company:
“Right now, we're probably shipping somewhere in the 50 blades or wafers of capacity a month […] We have the material and pipeline to be able to ship upwards of maybe five systems or 100 wafers of capacity a month by this summer and could actually ship another perhaps even 2x that or 10 systems a month in a year.”
This doesn’t mean they will get those orders necessarily but that they can fill the demand if it comes in – which is half the equation.
My takeaway: If we read between the lines, it signals that AEHR feels confident in their ability to attract more orders in the near-term and next fiscal year. Most importantly, the size of the customers AEHR is attracting continues to be quite strong with now 2 of the 4 leading silicon carbide companies as customers.
The CEO stated “we believe this new customer can be as large as our lead customer” which is a substantial statement as On Semi is their current lead customer. On Semi has led to $75 million in orders since 2021 with plans to expand. Plus, the WaferPaks will monetize at 4X the systems due to the WaferPaks and DiePaks, which are the higher margin business. This is like the razor-razor blade model.
Why is AEHR Doing So Well?
We’ve primarily focused on the strength of the electric vehicle market and its strong demand for silicon carbide. Not only does AEHR help produce a zero failure rate by helping companies to screen out early defects (which can be costly), but it does so at a greatly reduced cost compared to competitors. This is because there are 18 wafers for $4.5 million in the FOX-XP system, or about $250,000 compared to 1 wafer for $1 million.
Per the CEO: “We are significantly lower than the other folks. There are people that have $1 million per wafer cost, and we might be $200,000 in kind of one of the — in some of the silicon carbide cases, for example. And people usually go, well, why are you giving them away? Well, we don't feel we're giving them away. We're pretty open with our margins with our customers. They know what we're doing. I think we have a good relationship with them that allows us to continue to invest […] And if you look at our cost to test, the cost of test of us at wafer level is the same as at package level, which people in our industry are shocked to see. And if you go up to 2,000 die per wafer like you would with an onboard charger, it's half the cost. And so they not only get the yield advantage, which is more than the cost of test, they also get it cheaper than they would any other way.”
Optionality:
Silicon Photonics:
Please reference this forum post from Member AlphaDoc on AEHR’s optionality.
The silicon photonics segment for AEHR is at $5 million for H1 fiscal 2023, up 300% from last year’s H1 silicon photonics revenue. As stated in previous analysis, we believe the customer driving these sales is Marvell/Inphi for the use of data center interconnects. In this case, silicon photonics are being used to increase communication speeds, which is critical for edge computing as it links 30-megawatt data centers within a 120 km distance to function like a 120-megawatt data center. This enables 100G Ethernet services for cloud operators and enterprises. Microsoft and telecom operators are both customers of Inphi’s silicon photonics.
Although this market is attractive, what was discussed on the earnings call is a new potential market for silicon photonics driven by chipsets in servers and processing unit design companies, such as TSMC, GlobalFoundries, Nvidia, AMD and Intel. Should this market materialize, which it sounds probable it will, the silicon photonics segment for AEHR will rival the silicon carbide market.
This is a new development and was not discussed in our previous analysis. However, we are excited about the prospect and what this could mean for AEHR long-term. Here’s a dense write-up from NextPlatform on how the use of silicon photonics could benefit the NVSwitch fabric used in the H100 GPU Super Pod Systems.
Main points from the article written by Timothy Prickett Morgan are:
· Currently, there are limitations on bandwidth and power between GPUs, switches, printed circuit boards and cabinets. This is primarily due to electrical cabling.
· The shift from electrons to photons is “inevitable” and from copper to fiber optic glass as the increases in bandwidth create too much noise on the existing electrical signaling.
· Optical signaling is preferable for energy efficiency purposes. In this use case: “The electrical signaling used on the embedded NVSwitch fabric on the current DGX-A100 systems has a range of about 300 centimeters and moves data at 8 picojoules per bit. The goal is silicon photonics to do it at half the energy and boost the range to as far as 100 meters between devices.”
· Another benefit is less density in racks and optimized cooling.
· Cost right now is a bit prohibitive so this needs to come down. Per the author: “We suspect that the costs still have to come down to make co-packaged optics acceptable for compute engines, but a lot of work is being done here and everyone is extremely motivated.”
There are other use cases that may move sooner, such as chipsets within servers. Here is what the CEO said:
“Yes. So we've been kind of holding our cards to our chest for several years on this thing and just recently have started to talk about it. So with the announcements by some major suppliers, the two largest microprocessor suppliers in the world, the main graphics processors companies in the world, even some of the large fabs like TSMC and GlobalFoundries have created these consortiums to talk about heterogeneous integration, which is a fancy word for multiple chips in one package that include a fiber optic transceiver port on it.
And what they're saying is servers first are going to start having chipsets that are in communication with processors and disk drives and data storage through fiber optic ports directly. That is a huge deal, okay? Because the fiber optic transceiver itself will still require the stabilization in the burn-in that we have now been doing for years. It's really what all the hub up has been about and why there are so many companies and so much investment that's been in there.”
Gallium Nitride (GaN) is another market that AEHR can take advantage of as their wafer test and burn-in systems will also serve this ascent market. We will cover this in future quarters but it’s something to note for now.
Conclusion:
We took gains in AEHR recently because we felt it was the responsible thing to do. The small cap had grown to be the top leading position in our portfolio. However, we’d like to build back at key times as the company is doing all the right things.