Amphenol reported a strong Q2 beat with revenue of $5.65 billion coming in far ahead of its guidance for $4.9 billion to $5.0 billion, riding a second consecutive quarter of 133% YoY growth in IT datacom. Its Communications segment also helped drive stronger operating margin expansion, which flowed through to the bottom line with an impressive 28% GAAP EPS beat versus estimates.
However, Amphenol stated that they shipped substantially more than expected in datacom in Q2, essentially pulling forward some demand into the quarter and reducing Q3’s sales. Analysts placed this pull-forward effect at ~$150 million, which management confirmed as an accurate rough estimate for the impact. This is likely the primary factor behind Q3’s guidance for a QoQ decline in revenue, which is not typical for Amphenol.
Q2 Revenue Beats Estimates by 12%, yet Q3 Guided for Sequential Decline
Amphenol reported 56.6% YoY growth in revenue to $5.65 billion, far ahead of its guidance for 36-39% YoY growth to $4.9-5.0 billion. Organic revenue growth was 41% YoY, accelerating from 33% YoY in Q1 and 20% YoY in Q4.
For Q3, Amphenol guided for $5.4 billion to $5.5 billion in revenue, up 34-36% YoY, but down (3.5%) sequentially. This goes against typical seasonality for Amphenol, with Q1 usually only quarter to see a QoQ decline. It also suggests that Q2 may shape up to be the company’s peak growth quarter with this 21 point guided deceleration.
To note, consensus estimates have continued to rise since our prior analysis in June, with Q3 revenue up $110 million since then to $5.24 billion, and Q4 up $140 million to $5.39 billion. Given the magnitude of Q2’s beat at $610 million and Q3’s guidance $210 million above consensus, it’s likely that FY25 revenue estimates will move higher by ~$1 billion, to closer to $21.5 billion. This would project FY25 revenue growth at 41.4% YoY, or 7 points faster than current estimates of 34.3%.
Amphenol has three primary reportable segments, Harsh Environment Solutions, Communications, and Interconnect and Sensor Systems, though it also breaks down growth by end market (discussed next). These three all serve many of the same end markets, such as industrial, auto, and datacom, so the end market breakdown provides a clearer view of what’s driving growth.
Communications Solutions revenue increased 101.4% YoY to $2.91 billion, accelerating from 93% YoY growth in Q1. Organic growth in the segment was 78% YoY, accelerating from 73% in Q1.
Harsh Environment Solutions revenue increased 38.2% YoY to $1.45 billion, maintaining growth in the 38% range. Organic growth accelerated to 18% YoY from 8% in Q1.
Interconnect and Sensors Systems revenue increased 15.7% YoY to $1.30 billion, accelerating from 5% in Q1; this also marked the segment’s fastest growth in more than six quarters. Organic growth accelerated eight points sequentially to 14% YoY.
The chart below shows each segment’s quarterly growth since Q3 2023, with the pace of acceleration in Communications clearly visible. As a result, Communications now accounts for more than 51% of Amphenol’s revenue, up from 40% a year ago.
End Market Breakdown
IT datacom revenue remained robust, rising 29% from Q1 to more than $2 billion in revenue.
IT Datacom grew 133% YoY and organic, accounting for 36% of revenue in Q2. Revenue rose 29% QoQ, outpacing Amphenol’s guidance for a high single-digit QoQ increase, driven mainly by AI related products as management stated that roughly 2/3 of IT datacom’s growth on a YoY and QoQ basis were driven by AI. For Q3, growth is expected to decline mid to high single-digits QoQ, as Amphenol mentioned that they “shipped substantially more than expected, including some modest portion of third quarter demand.”
Industrial grew 25% YoY and 12% organic to 19% of revenue in Q2, with growth in alternative energy, medical, factory automation, and more. Amphenol said the segment’s growth was much better than expected on a QoQ basis, while Q3 is expected to decline slightly due to seasonality.
Automotive grew 10% YoY and 8% organic to 14% of revenue. Q3 sales are expected to be slightly lower QoQ, with customers planning for typical summer shutdowns.
Communications networks grew 143% YoY and 16% organic, with the YoY print stemming primarily from Andrews acquisition. For Q3, revenue is expected to be flat QoQ.
comm nwk operators; 30% QoQ in Q2; sales to remain flat QoQ
Defense grew 25% YoY and 18% organic to 9% of revenue, with growth across most segments within the market. Amphenol also closed its $300 million acquisition of RF and microwave supplier Narda-MITEQ in the quarter, with the company having annual revenue of $120 million.
Mobile devices grew 14% YoY and organic to 6% of revenue, as strength in laptops was offset by declines in tablets. For Q3, growth is expected to increase high single digit QoQ.
Commercial aerospace grew 50% YoY but just 8% organic to 5% of revenue, benefiting from the CIT acquisition from last year. Q3 revenue is expected to be up low single-digits QoQ.
Orders and Book-to-Bill:
Orders rose approximately 4% sequentially to $5.52 billion in Q2, a new record, though growth slowed from 58% YoY to 36% YoY.
Book to bill was 0.98:1, the first time this ratio has dipped below 1:1 since Q4 2023. Management noted that book to bill was slightly stronger in defense market, and was modestly lower in IT datacom due to shipping ahead of expectations in Q2.
Margins
Driven by increasing contribution from its Communications segment, margins expanded quite substantially on a sequential basis.
Gross margin expanded more than 2 points sequentially to 36.3%.
Operating margin expanded 3.8 points sequentially to 25.1%. On a YoY basis, operating margin has expanded 5.7 points.
Adjusted operating margin expanded 2.1 points sequentially and 4.3 points YoY to 25.6%.
Net margin expanded 4 points sequentially to 19.3%.
However, adjusted net margin expanded only 1.6 points sequentially to 18.6%, as Amphenol recorded some SBC-related tax impacts.
On a segment view, Communications is the clear driver of this expansion, with operating margin surpassing 30%. However, all segments saw operating margin improve sequentially.
Communications operating margin was 30.6% in Q2, up 3.2 points sequentially and 6.3 points YoY. Should the segment maintain this operating margin or see it expand further in the low-30% range, Amphenol could continue to see operating and net margins expanding, fueling strong EPS growth.
Harsh Environment Solutions operating margin was 25.2% in Q2, up 0.7 points sequentially and 0.4 points YoY.
Interconnect and Sensor Systems operating margin was 19.5%, up 1.4 points sequentially and 1.3 points YoY.
Amphenol did not provide specific margin guidance for Q3, but management did state in the earnings Q&A while discussing operating margins that Q3 “really reflects another strong quarter of profitability, kind of essentially at the same levels on slightly lower revenue guidance.”
EPS
Amphenol reported a strong EPS beat in the quarter, as margins outperformed — adjusted EPS beat expectations by nearly 21% while GAAP EPS beat by more than 28%.
Q2 GAAP EPS of $0.86 increased 110% YoY, beating estimates for $0.67.
Q2 adjusted EPS of $0.81 increased 84.1% YoY, beating estimates for $0.67. This growth was 37 points ahead of guidance for nearly 48% growth, and a more than 26 point acceleration from Q1.
For Q3, Amphenol guided for adjusted EPS of $0.77 to $0.79, or YoY growth of 54-58%. This also was ahead of estimates for $0.71 in the quarter. Growth is expected to decelerate rather sharply into Q4.
Cash Flows and Balance Sheet
Cash flow margins strengthened significantly in the quarter, though debt remains a concern as Amphenol recently priced more than $1.3 billion in senior notes. Inventories and accounts receivable have been rising over the last two quarters, suggesting demand remains high.
Operating cash flow increased more than 113% YoY to $1.42 billion, for a 25.1% margin. This increased from a 15.9% margin in Q1 and an 18.4% margin a year ago.
Free cash flow was $1.12 billion, for a 19.8% margin. This increased from a 12.1% margin in Q1 and a 14.6% margin a year ago.
Inventories have jumped substantially over the past two quarters, rising from $2.55 billion in Q4 to $2.91 billion in Q1 and now to $3.13 billion in Q2.
Accounts receivable have followed inventories, rising from $3.29 billion in Q4 to $3.92 billion in Q1 and now to $4.27 billion in Q2. Combined with rising inventories and strong order growth, this supports strong growth heading into Q3.
Cash and equivalents totaled $3.23 billion, while debt was $8.06 billion. Amphenol also recently priced two tranches of senior notes in June, a 3.125% €600 million trance due in 2032 and a separate 4.375% $750 million trance due in 2028. Proceeds will go towards debt repayment and general corporate purposes.
Earnings Call Q&A:
Amphenol spent much of the Q&A discussion talking about their ability to execute and outperform expectations in Q2, though there were a handful of questions about the durability of AI demand, capex and margins.
Evercore’s Amit Daryanani questioned about AI infrastructure growth moving forward in light of Amphenol’s slight Q3 pull in: “I realize there was about $150 million of shipment in June versus September that you talked about. But really away from that, can you spend some time talking about how do you think about the durability of growth on the AI infrastructure side as you go out over the next few quarters?”
Amphenol gave a very vague response to this question:
“If you think about our second quarter, we originally guided the quarter to be at the high end, $5 billion in sales, and we ultimately achieved $650 million more than that. And on the IT datacom side, we outperformed very, very significantly. And you gave a side to that, and that's, I think, a good rough estimate of how much we kind of shipped of what would be Q3 demand. And if you factor that in, you certainly don't see a peakiness to the performance.”
Management followed up by saying that there is “continued momentum" in IT datacom, but every quarter cannot be expected to grow 133% YoY. Over the near and medium-term, management remains confident in growing IT datacom, hinting that they are winning content in next-gen GPU systems regardless of whether fiber optics or high-speed interconnects are used. They did not provide any insights into which next-gen systems, or what bill-of-material content could be, leaving an open question on growth come 2026.
Building on this, Amphenol highlighted that Q3 capex will likely be higher than its typical 3% to 4% of revenue range, as it works to support this IT datacom growth. Management backed this up by saying that they “have an expectation and a confidence that we are continuing to gain momentum in this space, winning programs, getting visibility from customers for their future plans, which create incremental opportunities for us,” driving this need for higher capex potentially over the next few quarters. This could potentially weigh on free cash flow if operating cash flow normalizes back to the mid to high-teens from 25% in Q1.
Additionally, Amphenol discussed long-term conversion margin targets given Q2’s outperformance on operating margin. CFO Craig Lampo said that the company has “long targeted the 25% conversion margin in the last couple of years, and really meaningfully exceeded that benchmark” in Q2 due to strong organic growth and a shift to selling higher-tech, higher-margin products, such as those for AI applications.
He added that the company is expecting some normalization of margins moving into 2026 as they scale costs in line with higher revenues, but they believe that “conversion margin will continue to remain higher, meaningfully higher than kind of that 25% conversion target that we've historically had.” Over the longer-term, Lampo raised this view, saying that “close to 30% would be our target kind of moving forward.” This opens the door for EPS growth to possibly strengthen over the next few years, with current growth in FY26 and FY27 only two to three points above revenue growth at 13% and 11% respectively.
Conclusion
Amphenol’s Q2 was quite strong, with revenue accelerating sharply on robust AI-driven datacom demand. However, Amphenol acknowledged that this outperformance pulled forward a portion of datacom demand from Q3 into Q2, and overall revenue was guided to decline slightly sequentially. Despite this, margins have strengthened, driven by Communications segment, and are expected to remain strong again in Q3 with EPS guided nearly 10% above consensus.
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Amphenol plays an important role in Nvidia’s NVL72 racks that are shipping now, as the company supplies high-speed copper cables and interconnects. Nvidia’s choice to use copper cabling over optical transceivers resulted in both lower costs and power savings for the NVL72, providing a growth opportunity for Amphenol. Specifically, Amphenol's 12VHPWR PCIe 5.0 power connector was able to eliminate the need for three power connectors with a single power connector.
Unlike other GPU-agnostic players who can realize growth and tailwinds as long as AI capex remains strong, Amphenol is more closely correlated to Nvidia’s NVL72, and its opportunity thus arises squarely from the ramp of the platform and overall shipment volumes. Signs that Nvidia is now quickly ramping NVL72 shipments far ahead of analyst expectations support more growth ahead for Amphenol in the upcoming quarters.
However, Amphenol remains quite highly exposed to slower-moving sectors such as the industrial and automotive sectors, and cash to debt is upside-down due to its focus on M&A to complement growth.
Nvidia’s Choice for Copper over Optics
Although we have discussed the industry’s transition to optical modules for AI due to the rising data requirements and ability to solve the bandwidth bottleneck, for now, Nvidia is foregoing optics for copper in the GB200 NVL72 for two main reasons: cost and power.
Should Nvidia have selected to use 1.6T twin-port optical transceivers, power consumption for the NVL72 would have been ~20kW higher at up to 140kW, as it would have needed 648 modules (72 ports times 9 NVSwitch trays) each consuming ~30W.
The GB200 NVL72 was already severely pushing the limits of data center cooling infrastructure, and overheating issues were the rumored primary cause of shipment delays. Ditching optics helped drive power consumption lower without constraining performance.
Transceiver costs are also quite expensive, and at ~$900 per module, this would equate to over half a million in added costs per rack, before Nvidia’s margin markup. These additional costs and added power consumption would throw NVL72’s TCO out the window.
Copper results in lower cost and power consumption with copper cables approximately one-sixth of the cost at ~90% lower power consumption. Additionally, Amphenol’s Paladin HD and Paladin HD2 backplane interconnect cables provide up to 224G PAM4 data transfer rates, the same as a similar 1.6T transceiver, with low insertion loss and high performance. These cost and power advantages make copper a more suitable selection for the rack scale platform for both TCO for customers as well as overall power draw.
Amphenol’s Role in Nvidia’s GB200 NVL72
Amphenol’s opportunity arises from Nvidia’s use of copper cabling combined with its Paladin backplane and connectors. A report from SemiAnalysis states that the NVL72 backplane features these components from Amphenol:
A total of 144 Paladin HD 224G connectors (72 male, 72 female) for the NVLink5 connector
5,184 SkewClear EXD Gen 2 cables
36 Paladin HD 224G connectors for the backplane
36 2 UltraPass OverPass 224G connectors terminating to a Paladin HD female connector
4 DensiLink OverPass cables
Amphenol’s Paladin HD and HD2 connectors support both 800G and 1.6T PAM4 bandwidth requirements, maximized for performance with a 50% density increase versus the first-gen Paladin, allowing for more connections in limited PCB spaces. Amphenol says the connectors have the lowest crosstalk in the market and low insertion loss, which are critical for high-speed data transmission. The connectors are versatile, supporting direct backplane traces and cable-based architectures, enabling flexible deployment options in different server rack designs.
The SkewClear EXD Gen 2 cables also support 800G and 1.6T PAM4 bandwidth requirements and were designed for maximum reach and density for OSFP, Paladin HD2, and UltraPass-based systems. The cables offer better signal integrity than traditional PCB or standard twinax and lower insertion loss, while Amphenol says it can offer customers the “lowest total applied interconnect link cost” for OverPass assemblies.
The UltraPass OverPass 224G assemblies are the highest differential pair count interconnect available on the market, offering full 1.6T support, high signal integrity performance with low loss interconnect. Amphenol says it also reduces overall system costs by eliminating the need for re-timers and PCB laminates. The interoperability with SkewClear cables and Paladin connectors provides high performance in dense, thermal-constrained racks, hence Nvidia’s selection of the products.
The DensiLink OverPass cables create a double-ended high performance cabling interconnect and remove high speed signaling from the PCB, allowing for reduced design complexity and lower PCB costs. Nvidia used the DensiLink cables in the DGX H100/H200 platform to connect the CX7 networking chip to the OSFP ports.
GB200 NVL72 Shipments Accelerating, What This Means for APH
Amphenol’s dollar content per NVL72 rack is expected to be quite high — Evercore ISI estimated last year that Amphenol’s BOM content was in the range of $100,000 to $120,000 per NVL72, or around 3-4% of the server’s value. This represents a fairly large opportunity for Amphenol, especially if Nvidia is scaling shipments to a much larger degree than currently anticipated.
As we had discussed in our post-earnings Nvidia analysis, the GB200 NVL72 has ramped from ~1K racks in all of Q1 to ~1.5K racks for April, now to ~1K racks per week as of the end of May, per Jensen Huang:
“On average, major hyperscalers are each deploying nearly 1,000 NVL72 racks or 72,000 Blackwell GPUs per week and are on track to further ramp output this quarter.”
Analysts were estimating Nvidia’s quarterly rack shipments to reach 4-6K in Q2, building on April’s ramp, before reaching 8-10K shipments in Q3; however, Huang’s comments imply that Nvidia is shipping at a much faster cadence, more along the lines of 12K racks per quarter, assuming the broader supply chain can support maintaining the 1K/week volume.
Nvidia’s statement that Blackwell revenue was nearly 70% of data center revenue in the quarter implies QoQ growth of nearly 120% to around $24 billion, as shipments begin to tick higher. Rough math implies hyperscalers are now deploying $3 billion every week of the NVL72 and ramping higher, or a $39 billion quarterly run rate.
For the full-year, NVL72 estimates still have a rather wide range, given the slow start to the year and limited visibility (until now) of the pace of the ramp. Nomura estimates that NVL72 rack shipments will reach ~20K for the year, while JPMorgan places shipments at 25K, with a stronger ramp into year-end.
Despite the strong ramp commentary and implied growth rates, analyst estimates for Nvidia have yet to be revised higher, suggesting that either there is an expectation for supply chain bottlenecks to constrain shipment growth or that there is room for shipments to meaningfully exceed estimates moving forward.
Dramatic Token Growth Supports Strong GB200 Ramp
While the ultimate pace of the GB200 ramp may boil down to Nvidia’s complex supply chain and the quarterly or weekly output volumes that it can sustain, strong token generation growth and high demand for AI services at the hyperscalers supports the accelerated ramp the platform is seeing.
Morgan Stanley says that “every hyperscaler has reported unanticipated strong token growth,” and that “everyone we talk to in the space is telling us that they have been surprised by inference demand, and there is a scramble to add GPUs.” The firm adds that “LLM cloud customers are requesting that in lieu of GB200 availability, their cloud partners add capacity of Hoppers and B200s.”
This is further supported by recent token growth statements from Microsoft and Alphabet. Microsoft stated in its Q3 earnings call at the end of April that it “processed over 100 trillion tokens this quarter, up 5x year-over-year, including a record 50 trillion tokens last month alone,” implying a sharp uptick in inference activity at the end of their fiscal quarter.
Nvidia revealed that Microsoft is expecting to ramp its GB200 capacity significantly: “Microsoft, for example, has already deployed tens of thousands of Blackwell GPUs and is expected to ramp to hundreds of thousands of GB200s with OpenAI as one of its key customers.” Quick back-of-napkin math shows that Microsoft could be ramping from 500 to 1,000 NVL72 racks to 5,000 racks to go from 36-72K GPUs to ~360K GPUs.
Alphabet also highlighted at its I/O 2025 Developer’s Conference that its monthly tokens processed were surging, up 50x YoY in April 2025 to more than 480 trillion. This is far, far above Microsoft’s volume, likely due to the prevalence of AI overviews in Search handling billions of visits. Growth in tokens price began accelerating exponentially in February, more than doubling in just two months.
Nvidia also backed this up in the earnings call at the end of May, stating that they also are “witnessing a sharp jump in inference demand [as] OpenAI, Microsoft and Google are seeing a step function leap in token generation.” Nvidia added that companies are seeing higher token generation rates with Blackwell: “inference serving startups are now serving models using B200, tripling their token generation rate and corresponding revenues for high-value reasoning models.”
The GB200 NVL72 provides significant boosts to token generation (throughput), allowing the hyperscalers and tier 2 CSPs like CoreWeave to handle increasingly large inference requests and serve these at lower costs. Nvidia claims that the NVL72 can offer up to 116 tokens per second per GPU, a 30x increase to the HGX H100’s 3.5 tokens per second per GPU on GPT-MoE-1.8T. This performance increase drives higher revenue for cloud providers such as CoreWeave and Microsoft’s Azure, and the NVL72 currently is the only platform that can sustain token growth at this exponential pace and scale.
Amphenol’s NVL72-Driven Revenue Opportunity
Blackwell’s ramp over the next few quarters could drive hundreds of millions to $1 billion-plus in revenue for Amphenol due to its rather high dollar content per NVL72 rack. Based on the $100K to $120K BOM content, each 1,000 racks shipped could correlate to $100 million to $120 million in revenue for Amphenol. Thus, the revenue potential for Amphenol stemming from the NVL72 is dependent on rack volumes, which are now accelerating.
For example, Q2’s estimated shipments could translate into a $400 million to $720 million revenue opportunity for Amphenol, while Q3’s could translate into $800 million to $1.2 billion revenue opportunity. However, if Nvidia is pushing the pace towards 12,000 racks per quarter, that could translate into $1.2 billion to $1.44 billion for Amphenol.
Assuming that the NVL72 opportunity also carries a slightly higher margin, such as at around 30%, this could provide some tailwinds to earnings as well – at $400 million in revenue, this would provide $0.10 in EPS, while the $1.2 billion opportunity could contribute at least $0.30 in EPS. Though this seems small, $0.10 to $0.30 represents 16% to 48% of Q1’s adjusted EPS.
Component sourcing timelines and revenue recognition dates likely means that Amphenol’s revenue will ramp quarter(s) in advance of Nvidia’s shipment ramp given the essential nature of Amphenol's components. Amphenol noted in its 10-K last quarter and its 10-Q this quarter that it does not have significant concentration with any single counterparty, implying that Nvidia remains a <10% customer, or below $480 million in revenue in Q1. Morningstar also estimated in January that AI-related connector shipments reached a $1 billion annual run rate, or ~$250 million per quarter. Based on estimated BOM content and Nvidia’s shipment growth, Amphenol likely still has more revenue upside available.
Upcoming GB300 Platform Shift
The upcoming shift to Blackwell Ultra (GB300), with production beginning at the end of this quarter for a second half ramp, also provides an opportunity for Amphenol even as the platform is expected to work in an upgraded CX8 networking chip and 1.6T optical modules.
Nvidia confirmed in Q1’s call that the “GB300 will leverage the same architecture, same physical footprint and the same electrical and mechanical specifications as GB200” to allow “CSPs to seamlessly transition their systems.” It is also expected that the GB300 will optimize copper cabling layouts to meet higher performance and data transfer speed requirements, resulting in 50% longer cable lengths. This design continuity should translate into stable BOM content for Amphenol as the next generation commences.
Tariff Risks for Amphenol’s AI-Related Products
China is not only a major market for Amphenol, contributing 16.5% of revenue in Q1 and 22.3% in 2024, but it is also home to a significant share of Amphenol’s manufacturing for connectors, interconnects, and fiber optic products.
Amphenol does not provide an exact breakdown for its China manufacturing exposure, though three of its four facilities listed on its high-speed backplane and cable connector data sheet are located in China, meaning that its primary growth driver at the moment may be overly exposed to China tariff risks.
In its 10-K, it was stated that the “imposition of additional tariffs or other trade barriers could increase our costs in certain markets and may cause our customers to find alternative sourcing,” or increase difficulties in selling products in some markets. This could have negative impacts on both revenue growth from lost sales and earnings from higher costs”
On the earnings call, the word tariffs came up 23 times with analysts poking around to see what the impact could be given Amphenol has 300 facilities in 40 countries. One of the more direct statements made from the questioning was the following: “Let's say that there's a slight impact on pricing as we go into the second quarter, and our team's going to work really well to moderate whatever impact could be on the bottom line. And I think implicit in our guidance, is that our margins are still very strong in the second quarter. So that must not be a tremendous impact.”
This led to questions on whether the current results were from a pull-in, with management stating there was a “slight pull-in" on mobile devices but not on IT datacom where demand outweighs supply.
Financials
Amphenol reported a significant beat in Q1, reporting revenue well ahead of consensus estimates and far above its guidance for $4.0 to $4.1 billion in the quarter. This strength was driven by 91% YoY growth in Amphenol’s Communications segment, fueled by strong demand AI data center products. Growth estimates have also been moving substantially higher throughout the rest of the fiscal year following Q1’s strong beat and a solid Q2 guide.
Revenue Growth Accelerating on Strong AI Demand
Accelerating AI demand drove Q1’s outperformance, with revenue coming in “much stronger than expected” at a blazing 47.7% YoY to $4.81 billion in revenue, accelerating 18 points sequentially. Organic revenue growth was 33%, accelerating 13 points sequentially.
Q1’s report marks a tremendous growth acceleration for Amphenol, with this being its first quarter with >40% YoY growth since 2006 and a remarkable 45 point acceleration in just 5 quarters. This is impressive considering more than two-fifths of Amphenol’s business remains in longer-cycle industrial and automotive end markets.
For Q2, Amphenol guided for revenue between $4.9 billion and $5.0 billion for YoY growth of ~37.5% at midpoint, coming in well ahead of the consensus estimate for $4.61 billion. This is likely once again driven by AI data center demand, though it points to Amphenol reaching peak growth for this ramp cycle.
Orders Surging
Amphenol’s orders have grown at 58% YoY for a second consecutive quarter, with growth accelerating sharply over the last few quarters.
Management had an important comment on order growth in Q1’s call related to the datacom segment: “We weren't able to meet our expectations. We far exceeded in the quarter our and our customers' expectations of what we could execute, but they still would have taken more, if we could deliver it.” This hints of more confirmation that Nvidia’s platform ramped much quicker than expected in the quarter, and that Amphenol could have driven higher revenue and stronger growth if it had an ability to meet said demand.
Revenue Estimates Rising Sharply
After Q1’s revenue growth came in more than 23 points ahead of guidance, estimates for the remainder of fiscal 2025 have risen rather sharply, with growth rates now nearly 10 to 20 points higher than at the start of the year.
For Q2, revenue was expected to be $4.24 billion in late January, but as of mid-May, that has been revised nearly $800 million higher to $5.01 billion as Amphenol continues capturing strong AI demand.
For Q3, revenue was expected to be $4.47 billion in late January, though that has also been revised nearly $700 million higher to $5.13 billion as of mid-May.
For Q4, revenue was expected to be $4.57 billion, though that has been revised nearly $700 million higher to $5.25 billion.
Putting this together, the nature of Q1’s beat and the strength in datacom at 134% YoY has driven estimates for the next three quarters up by more than $2 billion combined. This also came before Nvidia revealed that NVL72 shipments were ramping much faster than analysts anticipate, providing a major tailwind to datacom growth in the upcoming quarters due to Amphenol’s content on the platform.
In terms of YoY growth, here is what the revisions look like:
Q2’s growth is now expected to be 38.8%, more than 21 points higher than January’s 17.5% estimate.
Q3’s growth is expected to be 27.0%, approximately 16.5 points higher than in January.
Q4’s growth is expected to be 21.5%, nearly 10 points higher than in January.
Amphenol has three primary reportable segments, Harsh Environment Solutions, Communications, and Interconnect and Sensor Systems, though it also breaks down sales by end market (discussed next). These segments all serve many of the same end markets, such as industrial, auto, and datacom, so the end market breakdown provides a clearer view of what’s driving growth.
Harsh Environment Solutions includes ruggedized interconnect products, connectors and interconnect systems, specialty cables, PCBs and other products. Revenue for the segment rose 38.4% YoY, though growth was just 8% YoY organic, to $1.27 billion in Q1. The segment accounted for more than 26% of revenue in the quarter.
Communications Solutions includes connectors and interconnect systems, including high speed, radio frequency, power, fiber optic and other systems, as well as coaxial and high speed cables. Revenue rose 90.7% YoY and 73% organic to $2.41 billion, accounting for more than 50% of Amphenol’s revenue in the quarter.
Interconnect and Sensor Systems includes sensors, sensor-based systems and value-add interconnects. Revenue rose 5% YoY and 6% organic to $1.16 billion, or less than 24% of revenue in Q1.
End Market Breakdown
Amphenol serves a wide range of end markets, exposing it to both macro-related and tariff headwinds in core end markets like automotive, though strong AI demand in the datacom end market is turbocharging revenue at the moment.
Datacom revenue rose 133% YoY and 134% organically to 33% of revenue in Q1, with management saying that AI (predominantly GPUs) drove approximately 2/3 of that YoY growth, alongside “robust growth in our base IT datacom business.” This was a rapid acceleration from 76% YoY and organic growth in Q4 and 60% in Q3. For Q2, management expects high single-digit QoQ growth as AI data center investments continue to accelerate.
Datacom quickly emerged as the primary driver for Amphenol’s growth last year, contributing 50% of its $2.67 billion incremental revenue growth on a YoY basis. This robust growth points to datacom remaining in the driver’s seat again this year.
Industrial revenue rose 20% YoY and 6% organically to 20% of revenue in Q1, as “organic growth in the medical, instrumentation, alternative energy and rail mass transit markets more than offset moderations in heavy equipment and factory automation.” This decelerated from 26% YoY growth in Q4 though organic was flat at 6%. Management expects Q1 sales to remain roughly at Q1’s level.
Automotive revenue declined (2%) YoY and (1%) organically to 16% of revenue, as North American and Asian growth was “more than offset by a moderation of sales in Europe.” This was a slight uptick from (3%) YoY and organic growth in Q4. Management expects a slight sequential decline in Q2.
Communications networks (not to be confused with Communications Solutions segment) revenue rose 107% YoY due to the acquisition of the Andrew Business from CommScope, as organic growth was just 11%. Management expects high-teens QoQ growth in Q2 as it benefits from a full-quarter impact of the Andrew acquisition.
Defense revenue rose 21% YoY and 14% organically to 9% of revenue in Q1, driven by “broad-based growth across virtually all segments within the defense market and importantly across all geographies.” This accelerated from 16% YoY and 9% organic growth in Q4. Management expects Q2 revenue will grow in the high-single-digit range QoQ.
Mobile devices revenue rose 20% YoY and 20% organically to 7% of revenue, as soft tablet revenue only partially offset strong growth in smartphones, laptops and wearables. Management said Q1 benefited from some pull-in demand due to tariffs with growth accelerating from 15% in Q4. Amphenol expects a high-teens QoQ decline in Q2 as customers adjust production volumes for 2H 2025 product launches.
Commercial aerospace revenue rose 106% YoY but declined (3%) organically to 5% of revenue, as jetliner procurement volumes moderated. Topline growth was boosted by the addition of CIT, which was acquired in 2024. This decelerated from 137% YoY and 18% organic growth in Q4. For Q2, management expects revenue roughly equal to Q1.
AI Opportunities but Auto, Other Risks
Despite the AI opportunities, Amphenol remains fairly exposed to a handful of end markets that could face tariff-related headwinds through the remainder of the year – automotive, mobile devices, and even industrial.
As tariff fears surged in April, analysts noted that the automotive industry was likely to be hit quite hard by tariffs. A CNBC report stated that analysts and executives are “expecting to see a drop in vehicle sales in the millions, higher new and used vehicle prices, and increased costs of more than $100 billion for the industry.” While tariff policy is fluctuating quite rapidly, another pressure point for the industry has arisen: higher rates. This will weigh on vehicle affordability and could serve to dampen demand, as consumers may forgo purchases or leases due to rising costs.
The smartphone market was already on thin footing this year, with shipments rising 1.5% YoY in Q1, though IDC attributed this to a supply-side surge in shipments ahead of tariffs. IDC said this dynamic “effectively inflated Q1 shipment figures beyond levels anticipated based on underlying consumer demand trends alone,” adding that heightened geopolitical tensions between the US and China and growing tariff uncertainties were a “strong reason for concern” for 2025 growth. For the remainder of 2025, TrendForce estimated that the “best case scenario will see the smartphone market flat at best” in 2025, while the “worst case scenario is a production decline by as much as 5% YoY.”
Industrial revenue growth has been quite slow organically at 6% in Q1, while manufacturing activity has now contracted for a third straight month, according to the ISM Manufacturing Index. Tariffs such as those on steel could pressure industrial activity, while other sectors like alternative energy remain plagued by rates impacting demand.
Overall, auto, mobile devices, and industrial accounted for 43% of Amphenol’s revenue in the quarter, and lasting challenges to growth, with auto now in negative territory, could offset datacom strength in the upcoming quarters.
Communications Provides Some Margin Tailwinds
Amphenol’s margins have been relatively stable over the past four quarters, but the strong growth and increasing contribution from Communications, which is accretive to operating margin, provides some margin tailwinds.
Gross margin in Q1 was 34.2%, up less than 1 point YoY and marginally lower sequentially. Gross margin has been expanding slowly, from the high 32% in late 2023 to the low 34% range.
Operating margin in Q1 was 21.3%, up just 0.3 points YoY and down 0.8 points sequentially. Adjusted operating margin was 23.5%, up 2.5 points YoY and more than 1 point QoQ.
Net margin was 15.3%, down 1.6 points YoY and 2 points sequentially. Adjusted net margin was 16.6%, up 1.2 points YoY and half a point sequentially.
By segment, Communications is seeing the strongest margins, with operating margin expanding nearly 5 points YoY to 27.4%; coupled with its robust growth and the largest revenue mix at 50%, Communications offers some tailwinds moving forward for Amphenol.
Harsh Environment Solutions’ operating margin has begun to recover, but remains below 2H 23 and early 2024 levels above 25%. Interconnect and Sensors has both the slowest revenue growth in the single digits and the lowest margins in the 18% range, providing a bit of a drag to margins.
EPS Growth Strong in 2025, but Decelerating Sharply After
Due to the rather stable nature of margins, Amphenol does not have much of a tailwind from operating leverage, with EPS growth mirroring revenue growth rates for this year and over the next few years.
Amphenol reported a quite large 21.2% beat on adjusted EPS in Q1, posting $0.63 versus the $0.52 estimate. This represented growth of 57.5% YoY, accelerating from 34.1% growth last quarter. However, similar to revenue, growth is currently expected to peak in Q1 and decelerate after, though remaining quite strong.
For Q2, management guided for $0.64 to $0.66 in adjusted EPS for growth of 47.4% at midpoint. Growth is expected to decelerate nearly 13 and 10 sequentially in Q3 and Q4 to exit the year at 25.5%, based on current analyst estimates.
For 2025, Amphenol is expected to report 40.8% growth to $2.66 in adjusted EPS, with growth forecast to slow dramatically to the 9% range for both 2026 and 2027, in an indication that 2025 is expected to be the sole strong growth year for the company due to Blackwell’s initial ramp phase.
Cash Flows
Amphenol’s cash flow margins have contracted slightly, as it reaffirmed a commitment to spend more on capex to support elevated datacom demand. Cash to debt remains upside down due to the company’s M&A strategy.
Operating cash flow was $764.9 million for a 15.9% margin, down from an 18.4% margin in the year ago quarter. OCF margin over the past three years has hovered between the 17% to 20% range, with Q1’s cash flow slightly weaker.
Free cash flow was $580.4 million for a 12.1% margin, down from a 15.5% margin in the year ago quarter. Management expects to have elevated capex again in Q2 to support datacom growth, weighing on FCF.
Cash and equivalents totaled $1.67 billion, while debt was $7.17 billion. Debt to equity sits at 0.7x. Amphenol has taken a very M&A forward approach, having made more than 50 acquisitions over the last decade to complement and drive growth, with 4 acquisitions since 2024 – these four have cost more than $4 billion combined. Cash and equivalents have hovered around this level for more than a year, but the nearly $3 billion YoY increase in debt due to the acquisitions further stresses the balance sheet and increases the likelihood that Amphenol will tap into more debt in the future.
Valuation
Amphenol is also rather richly valued, trading at a 10% premium to its 10-year PE based on FY25 EPS estimates, while at its highest cash flow ratios. These valuation risks come front and center as Amphenol looks to have put in its peak growth quarter on the top and bottom line, barring a significant acceleration.
Amphenol currently trades at ~34.5x forward EPS, nearly 10% above its 10-year average of 31.2x. The stock trades at a slight discount to the 40x multiple it held through late 2024, although Amphenol’s quarterly EPS growth is currently forecast to decelerate rather sharply from >40% in 2025 to <10% in 2026, which does not necessarily support more multiple expansion given the breadth of this projected deceleration.
On the top line, Amphenol is reapproaching peak multiples, trading at 5.5x forward revenue, versus its peak at 6x and its 4.5x 10-year average. Similar to EPS, Amphenol’s revenue deceleration does not easily pave a path for more multiple expansion, unless these Nvidia-driven growth tailwinds drive revenue growth much faster than anticipated for multiple quarters into fiscal 2026.
On a cash flow basis, Amphenol is trading at record high multiples over the past twenty years, and at significant premiums to historical averages. Amphenol currently is valued at 39x operating cash flow and 52x free cash flow on a TTM basis, a 50% premium to its 26x 10-year average for OCF and a 60% premium to its 33x average for FCF.
Conclusion
Amphenol is benefiting significantly from its high content on Nvidia’s GB200 NVL72 platform, offering a rather large opportunity ahead for Amphenol as shipments are projected to ramp faster than anticipated over the next few quarters. However, based off current estimates, Amphenol is already passing its peak growth quarter, and this combined with a richer valuation and potential tariffs in major end markets such as auto present some risks to this growth story. As with a few stocks right now, the risk/reward favors investors who attempt to get a lower price.
The lower margins point toward more commoditized products than others in the AI space. However, we continue to watch the company closely as NVL72 systems have only begun to ship and will ramp from here.
The I/O Fund owns AI networking stocks that are linked to Nvidia and custom silicon projects such as Amazon’s $100B capex including Trainium. We share our portfolio with Pro and Advanced Members. Advanced Members also receive real-time trade alerts, entries, exits and trade plans in our weekly webinars. Take advantage of a limited-time offer for $75 off Pro or $100 off Advanced. Email us to upgradeNvidia and custom silicon projects such as Amazon’s $100B capex including Trainium. We share our portfolio with Pro and AdvancedMembers. Advanced Members also receive real-time trade alerts, entries, exits and tradeplans in our weeklywebinars. Take advantage of a limited-time offer for $75offPro or $100offAdvanced. Email us to upgrade
Damien Robbins, Equity Analyst for the I/O Fund, contributed to this analysis.
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
Amphenol’s interconnects and networking solutions power AI/ML applications with Nvidia as a lead partner. The company’s 12VHPWR PCIe 5.0 power connector was able to eliminate the need for three power connectors with a single power connector.
Although Amphenol has benefited from its partnership with Nvidia, this partnership is in flux as Nvidia seeks to lower power requirements and sidestep thermal management issues with the GB200s and B200s.
This past quarter, information technology and data center (IT datacom) revenues surged 76% YoY in Q4 2024, accounting for 27% of total revenue.
Amphenol stands out from AI-related hardware peers for its strong GAAP margin of 22.1% and adjusted operating margin of 22.4%. The company generated free cash flow of $2.2 billion in FY24 yet has net debt of $3.6 billion.
Amphenol has completed nearly 50 acquisitions in the past 11 years, accounting for a third of growth, with most being accretive to EPS and dilutive to conversion margins initially.
Amphenol generates 20% of its revenues from China yet management stated they can mitigate tariffs around the world by manufacturing products in the same region in over 300 facilities in 40 countries and buoyed by decentralized management. Given the high China exposure as it stands, this point needs to be monitored.
Amphenol (NYSE: APH) offers high-performance interconnect systems and networking solutions for data centers, EVs, telco, military, electronics and industrial customers. Their various power connectors are used in every smartphone, tablet and laptop. They have diversified end market exposure with no single customer generating over 10% of their revenues.
AI Interconnect solutions are a key growth driver bolstering its IT datacom segment growth of 76% YoY and comprising 27% of total revenues in Q4 2024. Their high-speed and power interconnect products are critical components for AI networking, available for both copper and fiber-optics. By offering interconnects and cables with the highest speed, and lowest latency, expensive GPU clusters can perform optimally.
Here is how management describes their early success in being a chosen networking partner: “I mean, look, when our customers choose Amphenol, they're doing this for a variety of reasons. They're doing it because we have the proverbial better mousetrap that our product has the capabilities and the abilities to satisfy the needs that they have and whether that's high-speed low-latency or more efficient power or the like. But they're also doing it because they have a — that they have a kind of a confidence in the execution machine that our entrepreneurial organization has created.”
Amphenol’s has a strong track record in supplying mobile devices and many other high-volume industries, and they maintain this puts them in a better position globally to supply the next large trend of AI. The global reach is visible in Amphenol’s large revenue base of an estimated $18 billion this year whereas most Nvidia suppliers have a fraction of this revenue.
However, there have been reports that Nvidia is testing out other suppliers. Barron’s reported that a BofA analyst stated: “Our checks suggest that certain issues with [Nvidia’s] GB200-based systems could result in a design change that could lower the addressable market for Amphenol.”
We look at this and more below.
The Rail Joints of the AI Gold Rush
Amphenol makes board level connectors like the 16-pin 12VHPWR used for connecting GPUs to computer power supplies for up to 600W of power delivery. Amphenol’s connectors enable chips to communicate, perform complex calculations and enable high-speed power and fiber optics to flow seamlessly, making them vital components for the AI ecosystem, especially in the data center market.
Amphenol’s IT datacom revenues surged 76% YoY in Q4 2024, accounting for 27% of total sales in Q4. It now accounts for 24% of total revenue. Full year 2024 IT datacom sales surged 57% YoY and 56% organically. IT datacom accounted for 27% of total sales in Q4 and 24% for the full year.
Amphenol's mission-critical power connectors are durable and designed for extra protection from the environment, including rain, snow, humidity, extreme temperatures and electromagnetic interference (EMI). Their zinc die-cast shell ruggedized connectors are IP67 and IP68 sealed to be waterproof and can stand up to shock and vibration, making them very resilient and resistant to mechanical damage.
Protecting Signal Integrity and Power Integrity
As data speeds increase, electromagnetic interference (EMI) can affect signal integrity. As a supplier of mobile devices, Amphenol has experience solving signal integrity related to EMI. Due to AI being particularly data hungry, printed circuit boards (PCBs) are experiencing high levels of data loss. Direct attach cables (DACs) is one way to transmit data by circumventing the need for printed circuit boards.
Note: we’ve covered active electrical cables recently in a deep dive here.deep dive here.
The other issue that data centers face that Amphenol alleviates is to minimize voltage fluctuations while offering higher speeds. The PCIe 5.0 connectors offer high-speed data transfer of 32GT/s per PCIe lane and 24GBs for SAS lanes. Amphenol’s I/O Connectors are customizable for signaling speed and heat management, which is attractive for custom silicon or in-house networking needs, like Nvidia’s. The mezzanine connectors help to increase density in data centers and increases the speeds of real-time processing and system performance. Finally, edge connectors help to integrate AI components with PCIe4 and PCIe5 that is backward compatible.
Note: we’ve discussed how data speeds are increasing, causing data centers to update their networking components here. We’ve discussed the importance of backward compatible here.networking components here. We’ve discussed the importance of backward compatible here.
Growth Enhanced by Acquisitions and Buoyed by Organic Revenues
Amphenol has executed a growth-by-acquisition strategy, but these companies have been accretive to their earnings, complementary to their offerings and offer enhanced diversification of end markets. Amphenol has completed over 50 acquisitions in the last decade, ranging from tens of millions of dollars up to $2.025 billion for Carlisle. A key advantage of acquisitions is that Amphenol effectively acquires new products, talent, technology and territories without bearing the time and costs of development.
In 2024, Amphenol completed two acquisitions and signed to complete a third one, the Andrew businesses from CommScope, by 1Q 2025:
Amphenol completed its $2.025 billion all-cash acquisition of Carlisle Interconnect Technologies (CIT) from the Carlisle Companies (NYSE: CSL). This acquisition adds 6,000 employees and brings with it high-performance wire and cable offerings, especially in harsh environments, complementing its existing connector offerings and enabling more comprehensive interconnect solutions. It also brings expertise in optical fiber technology to enhance capabilities in high-speed data transmission further, which is crucial for data centers and telcos. This business is reported in the Harsh Environment Solutions segment.
Amphenol completed the acquisition of the Lutze Group (US and Europe) by Q3 2024. It strengthens its position in the harsh environment and industrial interconnect market, including cable assemblies for automation, robotics and power cables for industrial machinery. It also increases its footprint in Europe. The Lutz US had annual sales of $75 million, and Lutz Europe had annual sales of $100 million. These businesses are reported in the Harsh Environment Solutions segment.
Amphenol looks to complete its acquisition of CommScope’s Outdoor Wireless Networks (OWN) and Distributed Antennae Systems for $2.1 billion in cash during the first half of 2025. This adds advanced antenna and interconnect products for wireless networks.
Amphenol has been strategic and purposeful with its acquisitions focused on high-quality management teams with complementary technology. Target acquisitions are to account for a third of growth. Integration lends itself to decentralized management comprised of nearly 140 general managers, who have full authority and accountability to tailor their businesses to meet customer demands, spread across 300 facilities in over 40 countries. They embrace the “Think Globally, act locally” mantra. Amphenol is not relying solely on acquisitions to fuel growth, as evidenced by the 20% YoY organic growth in Q4 2024, up from 15% YoY organic growth in Q3 2024.
Diversified and Balanced End Market Exposure
While IT datacom is a leading growth driver, Amphenol has balanced end-market exposure that shields it from drastic volatility. Its longer cycle end markets, including automotive (23%), industrial (25%), commercial aerospace (4%) and defense (11%), provide stable revenues. Its shorter cycle end markets include mobile devices (10%), broadband (4%), mobile networks 4% and IT datacom (19%), at the end of 2023, are the growth drivers. The datacom end market grew to 24% in 2024.
Potential Issues with NVIDIA Blackwell GPUs Could Impact GB200 GB300 Launch
On Jan 25, 2025, Loop Capital analysts Ananda Baruah and John Donovan commented on potential problems with Amphenol still having connector yield issues for Nvidia’s GB200 and GB300 offerings, which could impact the launch. They commented, “We’ve heard that Nvidia has asked other controller suppliers to increase supply, although the interplay is that they don’t want to put on material capacity only to see share shift back to APH once yields improve.”
In September 2024, Bank of America analyst Wamsi Mohan warned of the possibility of design issues for Amphenol, “Our checks suggest that certain issues with [Nvidia’s] GB200-based systems could result in a design change that could lower the addressable market for Amphenol.” Mohan’s model estimates Amphenol could lose out on nearly $1 billion in 2025 revenues and 21 cents in earnings per share (EPS). Consensus analyst estimates call for 2025 full year revenues to grow 18.11% YoY to $17.98 billion and EPS of $2.28, up 20.64% YoY. This prompted Mohan to downgrade APH from Buy to a Hold, lowering his target price from $80 to $71 per share.
Amphenol’s Three Key Revenue Segments
The Company’s three key revenue segments:
Harsh Environment Solutions are interconnect products that are designed to be durable and able to withstand exposure to all weather conditions, extreme heat, cold (-319 degrees Fahrenheit), vibration, and wet and dry conditions. These products are built to withstand harsh weather and rugged environments. End markets include automotive, aerospace, defense, industrial, information technology and data communications (IT datacom) and mobile networks. Products include harsh environment data, power, fiber optic, coaxial cable, flexible and rigid circuit boards, backplane interconnect systems, and radio frequency (RF) interconnect products.
Communications Solutions end markets include automotive, broadband communications, aerospace, defense, industrial, IT datacom, network infrastructure and consumer antennas, coaxial, power and specialty cables, mobile devices and mobile networks. Key products include fiber optics, antennas, cables, and high-speed and RF interconnect products.
Interconnect and Sensor Systems end markets include automotive, aerospace, defense, industrial, IT datacom and mobile networks. Key products include busbars, power interconnect and power distribution systems, and sensor and sensor-based products.
Financials: A Record-Breaking Fourth Quarter of 2024
Amphenol reported a record-breaking Q4 2024, beating top and bottom consensus analyst estimates. The Company delivered strong results with organic sales accelerating to 20%, up from 15% sequentially. Orders rose for the sixth consecutive quarter, up 58% YoY to $5.14 billion. Its book-to-bill ratio grew to 1.16:1. Its operating cash flow rose for the fourth consecutive quarter to a record $847.1 million or 114% of net income, while free cash flow rose to $687 million or 87% of net income. Adjusted operating margin grew 120 bps YoY to a record 22.4%.
Q4 Revenue Growth Reports Beat and Raise
Amphenol reported 29.8% YoY revenue growth to a record $4.32 billion, beating consensus estimates by $240.13 million or 5.89%. Citi estimates AI sales represented $450 million to $500 million in Q4 as order momentum accelerated.
Amphenol issued upside Q1 2025 revenue guidance of $4.0 billion to $4.1 billion vs $3.93 billion consensus estimates. The mid-point revenue guidance of $4.05 billion equates to 24.4% YoY growth.
Full-year 2024 revenue grew by 21.3% YoY to $15.2 billion, beating $14.99 billion consensus estimates. Organic sales rose 13% YoY, driven by strength in IT datacom, commercial air, mobile device and defense markets.
EPS Beat and Raise, GAAP Profitable but EPS Growth Normalizing
Amphenol reported Q4 2023 adjusted diluted EPS of $0.55 per share, beating consensus EPS estimates by $0.05. Q4 Adjusted EPS grew by 34.1% YoY to $0.55 and beat estimates by $0.05. GAAP EPS grew by 40.5% to $0.59.
Full-year 2024 adjusted EPS was $1.89, up 25% YoY and GAAP EPS was $1.92, up 24% YoY.
Amphenol issued upside-adjusted EPS guidance of $0.49 to $0.51 vs. $0.48 consensus estimates. Adjusted EPS mid-point of $0.50 equated to 25% YoY growth.
Revenue Growth and Operating Margin by Segment:
A closer look at the three segments for Q4 2024 reveals the sequential improvements.
Harsh Environment Solutions’ revenues rose 40.2% YoY and 5.7% QoQ to $1.262 billion, compared to 34.5% YoY and 14.1% QoQ growth of $1.194 billion in the previous quarter. This segment generated $305.4 million in operating income, which was 24.2% of revenue, compared to $283.7 million in operating income or 23.8% of revenue in the previous quarter. Organic sales rose 8% YoY.
Communications Solutions’ revenues rose 43.3% YoY and 14.4% QoQ to $1.928 billion, compared to 31.8% YoY and 16.7% QoQ growth of $1.686 billion in the previous quarter. Organic sales rose 42% YoY. Operating income was $501.9 million or 26% of revenue, compared to $431 million and $25.6% of revenue in the previous quarter. Organic sales rose 42% YoY.
Interconnect and Sensor Systems’ revenue rose 4.3% YoY and fell 2.7% QoQ to $1.128 billion, compared to 31.8% YoY and 16.7% QoQ growth to $1.16 billion in the previous quarter. Operating income was $209.6 million or 18.6% of revenue, compared to $217.6 million and 18.8% of revenue in the previous quarter. Organic sales rose 3% YoY.
Orders and Book-to-Bill Growth Rising for Four Consecutive Quarters
Orders rose for five consecutive quarters to a record $5.14 billion in Q4 as Book-to-Bill reached its highest level in six quarters at 1.16:1.
Cash Flow Rises for the Fourth Straight Quarter, But So Does Debt
Q4 cash flow continued to grow, marking the fourth consecutive quarter of operating cash flow growth. In October, the Company priced $1.5 billion in senior notes and plans to use the cash for the pending acquisition of Mobile Business Networks (MBN) from CommScope for $2.1 billion. This explains the doubling of cash and marketable securities and the 58.76% YoY and 25.73% QoQ rise of debt to $6.89 billion. Net debt was $3.6 billion, and a net leverage ratio of 0.9X.
CFO Craig Lamp noted that operating cash flow hit a record $847 million in the quarter despite elevated levels of capex to support the growth in IT datacom and defense markets. Capital spending in Q1 2025 will remain at elevated levels. Full-year operating cash flow was a record $2.815 billion and 116% of net income, while full-year free cash flow was $2.157 billion and 89% of net income.
Q4 2024 Earnings Conference Call Highlights
Nvidia Partnership
Evercore analyst Amit Daryanani noted that a “shoutout” from Nvidia implies they are working together with Amphenol.
In its Q3 2024 earnings conference call, Nvidia CEO Jensen Huang commented, “And in terms of how much Blackwell total systems will ship this quarter, which is measured in billions, the ramp is incredible. And so almost every company in the world seems to be involved in our supply chain. And we've got great partners, everybody from, of course, TSMC and Amphenol, the connector company, incredible company…”
CEO Norwitt pretty much confirmed this without getting too specific, “Yeah. Well, thanks very much, Amit and look, we are very pleased with the company's position on these next-generation systems and I've talked about the fact that we're working with really players up and down the stack from folks who are actually making the investments themselves in these data centers, all the way down to folks who are designing the chips and the systems around those chips and everything in between and we're really proud of our position and the breadth of our position.”
Dilutive Impact of Acquisitions
CEO Norwitt stated that despite the dilutive impact of acquisitions, notably for Carlisle Interconnect Technologies (CIT), Amphenol still saw strong conversion margins of mid-20% on a YoY basis and 30% sequential conversion. While margins for CIT are still below the company’s average, they are still happy with the progress as it’s accretive to EPS, with margins improving over time. With time, CIT margins should reach the Company's average.
Industrial automation is a more Europe-centric demand. While it was down YoY, there was a “smidgen” of growth in factory automation. Outside of defense and commercial aviation, Europe is somewhat concerning for CEO Norwitt.
Defense growth is being driven by increased investments in spending toward next-gen electronics, particularly in Europe. Amphenol is well positions in this space, participating more heavily in advanced electronics than in tradition military spending.
Automotive markets have been strong performers driven by the long-term trend of expanding electronics in vehicles, which creates significant content opportunities. They’ve consistently outperformed benchmarks, capturing a larger share of content in areas like next-gen drive trains, electronics, safety and communications.
Mobile device market success has been due to their extensive product range, including antennae, interconnects and mechanical components. Strong customer relationships and the ability to execute when needed have allowed them to take more than their fair share out of the business.
AI-Related Growth Prospects for 2025
Amphenol is well-positioned for AI buildouts, with a comprehensive product portfolio that encompasses high-speed interconnects, power solutions and thermal management. The Company already has significant investment already underway, but capex can be lumpy due to timing factors. The strong book-to-bill ratio in IT datacom as it relates to AI and the wide range of design wins gives them confidence for the long-term.
Q1 2025 is expected to be unusually strong as CEO Norwitt detailed, I think we've already given guidance about the first quarter that is unseasonably strong. I mean, typically, our first quarter in IT datacom would be down, I don't know, kind of low- to mid-single-digit decline from the fourth quarter, which is typical seasonality in IT datacom. And here we are guiding that up mid-single-digits, which is quite a differential for a market of that scale.”
Tariff concerns with China and the World:
Amphenol is no stranger to tariffs as they experienced China import tariffs during Trump’s first Presidency in 2017, which enabled them to create a template to help mitigate them through a number of measures.
Amphenol generates nearly 20% of its revenues from China. Amphenol tends to manufacture products closer to its customers, reducing transportation costs and lead times and improving supply chain resilience. Another major benefit of manufacturing products in the same region they are sold is the potential mitigation of import tariffs. Amphenol has new factories in Southeast Asia and new capabilities in North America, the U.S., Mexico, Eastern Europe and North Africa.
Norwitt stated, “… And we have around the world today nearly 300 facilities across more than 40 countries and we continue to expand so that we preserve that flexibility in the event that there are policies that come out that do impact us and our customers. And when those policies come out, we're first going to get together with our customers, we're going to see what's going on with them, what they want us to do, and then we're going to react accordingly in real-time and faster than any other organization can do because of that unique entrepreneurial structure that we have.”
Conclusion: Amphenol is a balanced AI infrastructure play with short-cycle end markets like IT datacom driving growth (76% YoY Q4 2024 revenue growth) while its long-cycle industrial, commercial aviation and automotive end markets provide stability. The company has successfully executed 50 acquisitions over the past 11 years and maintains a favorable net leverage ratio of 0.9X, along with sustained goodwill. Although its debt stands at $6.89 billion, the company’s strong and record-breaking adjusted operating cash flow makes this debt level manageable.
The Company has proven its seasoned pedigree with acquisitions, which are accretive to EPS but dilutive to conversion margins, which are expected to improve over time, as evidenced by the CIT acquisition.
Amphenol is will need to mitigate additional tariffs on Chinese imports and geopolitical tensions. Its "Thing globally, act locally" philosophy underscores its decentralized management, empowering its agility and flexibility in taking actions and making decisions to adapt to changing conditions, including tariffs. The Company raised its top and bottom-line guidance, noting how unusually robust IT datacom is expected to grow mid-single digits instead of the typical seasonal decline.
This is a sample of what you can expect in our upcoming Discovery tier, where we will cover a new stock idea every week. We are excited to bring you more coverage from the I/O Fund team that is geared toward new idea generation only. Our ETA for launching this new tier is February 2025.
I/O Fund Equity Analyst, Jea Yu, contributed to this analysis
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
Semtech is emerging as a data center networking component company that offers competitive solutions for the next leg up in AI systems. The company is going through a pivot due to a new approach for short haul networking that would rely on copper wiring and components instead of optical networking.
Over the past decade, Semtech became known for its long-range (LoRa) networking solutions, which are long range, lower power wireless platforms. Internet of Things (IoT) devices and satellites use Semtech’s low power wide area network and radio frequency transmitters for up to 10X the range and 3X less power.
Relying on this experience in providing connectivity modules, the company provides data center components for the high speed, and high bandwidth needs that AI data centers require. Nvidia is testing the upper limits of what AI servers can do, which means how these systems are built are in a constant state of flux. Semtech may have a unique opportunity to supply Nvidia with copper redrivers, DSP components, and linear pluggable optics. By the end of 2025, it’s expected that Meta and other cloud service providers will be building out Nvidia GB200 systems with Semtech’s copper networking components.
Brief Background on Data Center Networking & Components
Electro-optics help to increase data rates and has replaced NRZ data transmission due to doubling the bit rate. Hyperscalers require high bandwidth and port density. PAM4 connects networking ASICs with AI machines and servers. Digital-based PAM4 uses analog-to-digital converters to clean up the signal in the digital domain before converting it back to analog to transmit.
Data center interconnects have transitioned to 200-gig, 400-gig and 800-gig PAM-based electro-optics – which are 100GBx2, 100GBx4, and 100GBx8. Of these, the 800-gig is the primary interconnect for AI deployments. Artificial intelligence and machine learning drive demand for the 800-gig PAM to increase the speed of input-output and to process the data flows. This doubles the throughput (bandwidth) due to an 8x100Gpbs optical transceiver for inside and between AI clusters.
There is a 1.6T solution with 200-gig per lane that Marvell was first to launch for both the 5nm and 3nm. The 200-gig per lane carries outsized importance in the next leg up for PAM4-based networking. Marvell’s Ara 1.6T PAM4 DSPs on the 3nm process are designed for GenAI and the Nova 1.6T PAM4 DSPs on the 5nm process are for broader AI/ML applications. We discussed this here and most recently here.
1.6T PAM4 DSPs are retimer devices that allow for 200-gig per lane on both the frontend and backend to support the increased need for connectivity and higher bandwidth that AI infrastructure requires.
Marvell’s solutions are built for optical networking. You’ve likely heard the word “fiber,” such as Google’s Fiber internet service, which refers to fiber optic cables that transmit data as light pulses. Optic fiber networking are thin strands made of pure glass whereas the other option is copper cables. Optic has a commanding 70% market share in data centers due to significantly faster speeds than traditional copper wiring. Optic networking also allows higher bandwidth, preventing packet loss and jitter, which as you can imagine, can become a problem when training data-hungry AI models and deploying them.
Data centers have maintained a mix of optic networking and copper networking around that 70/30 split because optic networking is costly and harder to maintain. Optical components are also known for running hot and failing. Currently, the sought-after mix for AI systems is to use optical networking for long haul for large clusters of 1,000, 10,000 or 100,000 devices and to use copper for short haul.
Blackwell is Testing the Upper Limits of Power Wattage
Originally, the Blackwell B200s were designed to be 120 kilowatts of power. In order to achieve a lower power wattage of 100 kilowatts of power, Nvidia changed the interconnects from optic fiber to copper. According to the Next Platform, these systems will use up to 5,184 copper cables with up to 200GB per SerDes lane with NVLink switches. The article has a link to a picture of the copper cables, which helps to visualize what thousands of cables going into a NVL72 server looks like.
The new Blackwell systems are being designed with copper cables for the short haul of connecting up to 72 GPUs. Copper networking previously had a reach of 1.5 meters, yet this has evolved to where there is now a reach of 3 meters to assist in connecting these large systems. This leads to Semtech, which is reporting early, promising signs by offering copper networking components for the AI data center.
CopperEdge 200G Redrivers:
A notable area of difference is that optical networking requires retimers whereas copper networking relies on redrivers. The lower power requirements from the 120 kilowatts to the 100 kilowatts on Nvidia’s NVL rack scale systems partly comes from removing the retimer and the optical transceivers.
Passive copper cables can only enable reach of 1.5 meters, limiting the use of passive copper cables in data centers. The need for increased data rates has created strong demand for active copper cables (ACC) that help to extend reach for copper cables up to three meters. In Q3, Semtech initially shipped the CopperEdge 200-gig linear redrivers used in 1.6T Active Copper Cabling (ACC). The management stated there will be a “nominal ramp” next quarter and then “progressively” ramp from Q1 to Q4 of next calendar year (fiscal 2026).
According to management’s opening remarks: “At 200-gig and at a cable length up to three meters, CopperEdge will meet signal integrity requirements not readily achievable with direct attached copper, or DAC, cables. And at a lower latency, lower cost and much smaller power consumption required compared to DSP-based retime solutions.”
Semtech’s management team is essentially communicating that previous debates to where copper was not a suitable replacement for optical networking was relying on passive copper cables instead of active copper cables (ACC).
Last month, Meta presented a dual rack NVL36 system called Catalina using Semtech’s CopperEdge-enabled active copper cables (ACCs). According to management, “Semtech's low-power, low-latency CopperEdge solutions have gained positive attention in the data center ecosystem. And our technical collaboration with a number of CSPs and cable manufacturers has accelerated since last quarter.”
According to the Q&A, the qualifications with the additional CSPs are expected to contribute to revenue by mid-2025: “So, the applications on the board and in the cable and even in the connectors by the multiple CSPs are in the qualification phase, in the demonstration phase. So, the typically good thing about the copper-based solutions is the qualification cycle is relatively short compared to the optical-related products. So, I will say probably from the mid of 2025 calendar year, the other opportunities on the linear equalizer will start contributing to the revenue.”
Tri-Edge PAM4 and FiberEdge TIA, Laser Drivers:
Semtech shipped 400-gig active optic cable (AOC) PAM4 electro-optics this quarter, which includes SKUs for both long-reach and short-reach optical links. Management stated that in addition to CopperEdge, “our Tri-Edge PAM4 products continue to contribute meaningful sequential and year-over-year growth.”
FiberEdge transimpedance amplifier (TIA) and laser drivers enable high-speed, short reach interconnects with new SKUs announced a year ago. It was stated on the call that management believes they have captured incremental market share for these short reach TIA and laser components: “Data center deployment at 100-gig has been ramping up strongly and we believe we have captured incremental market shares, thanks to our closer engagement with our customers and our operations excellence.”
There is evidence that Semtech is a supplier for the TIA and laser drivers for the new Nvidia-based DSP that was announced recently. The initial reaction from analysts is that Nvidia’s DSPs could claim 10% to 20% of the market by 2026.
Semtech has a newer product within Linear Pluggable Optics (LPOs) showcased last March. According to the initial press release, these newer-gen LPOs help to deliver the high speed that AI and ML applications require while reducing power consumption by 50% versus DSP-based solutions. Note: You can read more about DSPs in our Marvell write-up here. here. According to the earnings call,
Semtech has received initial orders for test and qualification on its 800-gig and 1.6T LPO transceivers. As far as timing goes, it was stated: “Our confidence in LPO adoption has increased since last quarter with meaningful net sales contribution from TIAs and redrivers expected by the latter portion of FY '26.” LPOs can reduce the number of DSPs required, thus resulting in reduced power consumption.
$100M Opportunity for CopperEdge:
In the June earnings call, it was stated that the copper ACC opportunity was a $100 million market opportunity with Semtech seeing about 50-50 of this: “So, the number of cables that could be used is heavily dependent on both the rack configuration and NVL72 versus NVL36, and the number of horizontal connections, and obviously, the number of NVLs that we'll ship next year. So, it's heavy dependence on shipment configuration, but to just cut to the chase, we kind of size it at $100 million opportunity, not as base case, I definitely don't want to put a high side case number out there. I think on that base case, it's reasonable to expect that we're going to share production between us and one other component supplier. And if you want to just put a slug in there for the share that we would see, you could call it 50-50.”
CopperEdge had net sales this quarter that were “in the high-single-digit million dollars.” According to discussions on the call, Meta’s Catalina is going to be the main platform: “We know one major CSP is going to be used at the baseline for deployment in 2025 and beyond as long as they use GB200 GPU processors.” From there, it’s expected the capabilities will draw in more cloud service providers (CSPs) due to improved signal integrity and lower power consumption.
This quarter, for the CopperEdge 200GB redrivers, the CEO stated demand should be measured by the number of ports for the 200GB rather than the number of Nvidia NVL systems. Specifically, it was called out that Broadcom’s Tomahawk 6 will have ports for 200GB, which is likely to increase the opportunity beyond the $100 million (at 50-50 share) that was called out a few quarters back.
Here was an important exchange in the Q&A:
Craig Ellis:
Yeah. Hong, Mark, congrats on the execution, especially around growth and margins. Hong, I wanted to go back to data center a bit, maybe approach it in a more longer-term way. So, I think it was at least three quarters ago that we started talking about what seemed to be a single company, more single-product opportunity as having $100 million base opportunity to it that would be in the '25, '26 timeframe. The question is this, as the business looks like it's gotten significantly broader customer and application level exposure and design-in potential, how do we think about the size of this business two to three years down the road?
Hong Hou:
Craig, that's a great question. I think the opportunity started with as a single company, single platform and that is a great trailblazer for this new product that accelerated our time-to-market, but right now, as you mentioned, as we observed, this capability is broadly recognized and beyond that single company beyond that single platform. So, that's why we have been thinking about and to qualify the opportunity by counting the number of 200-gigabit per second ports.
The reason for that is everywhere you have 200-gigabit per second transport, you have the same challenge. You need the same solution for signal integrity. And with the Tomahawk 6 rolling out right around the corner, well, maybe six months to 12 months and all the ports is going to be 200-gig, and it's only increasing our opportunities. So, so far, the application has been for scale-up, but with the scale-out added into the opportunity pool, we got a tremendous opportunity in there.”
-End Quote
It was mentioned again that the $100 million baseline for the ACC opportunity is a floor — and not a ceiling: “We have invested time with our customer and end-users of the racks over the past few months. We reaffirmed our expectation of exceeding the floor case provided a couple of quarters ago based on the first-hand information from the ecosystem.”
Linear Pluggable Optics (LPOs) to Ramp in H2 2025:
As stated in the Product paragraph above, Linear Pluggable Optics (LPOs) will see “meaningful net sales contribution” by the “latter portion of FY26.” According to the Q&A, the NVL36 and NVL72 systems from Nvidia will drive this demand specifically for the front-end ports:
“And I have heard some others using NVL72 and — where we don't have the contribution for backplane, but at the front-end, they either need to connect 1.6T ports or 800-gigabit ports to top-of-the-rack or end-of-the row switches. I think that's where LPO can really have a good — provide a very differentiating solution because of the low power consumption. So, I think that is probably why the industry is pushing very hard on the LPO solutions.”
Semtech’s management also made it clear that they also have the best linear receive optics (LRO) and will benefit regardless of a current debate on if LPO is interchangeable with current ethernet switching chips: “To us, we have the arguably the best driver — best TIA on the receiving side. So, we'll benefit from either LPO or LRO. And whereas the industry progress in getting better understanding on the compatibility of different type of host with LPO and LRO capabilities, I do believe this type of transceivers can chip away a sizable total addressable market currently served by the DSP retimed solutions.”
According to the opening remarks, Semtech believes they have an advantage with LPOs and the issues the market has seen from other suppliers: “CSP [cloud service provider] engagement has proven insightful. It appears that LPO adoptability is meaningfully correlated with a 30 signal-to-noise ratio at the host. Fortunately, both current and future generation switches supply significantly improve the performance, and this enables easier LPO adoption in many specific use cases.”
About a year ago, there were reports that Nvidia had plans of using LPOs by the end of 2023. You can read Semtech’s LPO announcement here.
Revenue:
Semtech’s revenue returned to positive growth after two quarters of negative revenue growth. This was helped by record AI data center revenue which increased 78% YoY and 58% QoQ. The infrastructure end market is expected to provide the strongest near-term tailwinds.
Q3 revenue grew by 17.9% YoY and up 10% sequentially to $236.8 million. Data center revenue was the main highlight of the report, increasing by 78% YoY and 58% QoQ to a record $43.1 million.
Management has forecast a strong Q4 guide of $250 million, representing 29.6% YoY growth at the midpoint. The Q4 guide beat estimates by 3.3%. Per the call, this will be primarily driven by data center infrastructure revenue: “We expect net sales from the infrastructure end market to increase sequentially with data center applications leading to growth. Infrastructure is expected to provide the strongest near-term tailwind.”
Analysts expect growth to sustain with Q1 revenue of 23.9% YoY to $255.27 million and 25.3% YoY to $269.9 million in FQ2.
Looking further out, analysts expect FY2026 revenue to grow 22.3% YoY to $1.11 billion and 16.1% YoY to $1.29 billion in FY2027.
End Markets
Infrastructure:
Q3 Infrastructure End Market revenue grew by 52% YoY and 24% QoQ to $65.8 million. This segment accelerated from last quarter with 25% YoY growth and down (-5%) QoQ. The large sequential rebound was primarily led by record data center revenue of $43.1 million, up 58% QoQ and 78% YoY.
The company began shipments of the CopperEdge 200-gig linear redrivers that are used in 1.6T Active Copper Cable (ACC) applications. CopperEdge sales in FQ3 were high-single-digit million dollars, and management expects a higher contribution in Q4, followed by a ramp into FY2026. As stated, Meta is generally understood to be the lead customer with the Catalina system, yet additional CSPs (cloud service providers) are in the qualification stage with expectations there will be more customers by H2 CY2025.
While proving the outlook for Q4, CFO Mark Lin said, “We expect net sales from the infrastructure end market to increase sequentially with data center applications leading to growth. Infrastructure is expected to provide the strongest near-term tailwind.” It was later stated to an analyst: “Harsh, we said this in Q3, it was high-single-digit millions in Q3. It's a nominal ramp in Q4, and then it progressively ramps through FY '26, Q1, Q3 — Q1, Q2, Q3 and Q4. So, we've been pretty consistent with that messaging and we don't really see a change in that timing.”
Our firm will be looking to Q1 onward for Semtech to show an important acceleration in their leading segment, Infrastructure.
High-End Consumer:
High-end consumer revenue grew by 7% YoY and 8% QoQ to $40 million, helped by market share gains and seasonally strong Q3. Revenue decelerated slightly from 9% YoY and 7% QoQ growth in Q2. Due to seasonality, management expects high-end consumer revenue to decrease sequentially in Q4.
Revenue in high-end consumer TVS (Transient Voltage Suppressor) grew by 9% QoQ and 7% YoY to $28.3 million and management highlighted that Consumer TVS revenue reported sequential growth in each quarter in FY2025.
In the earnings call, the CEO said “We communicated market share growth in consumer TVS grew last quarter, augmenting our prior commentary. Our expectation is for continued market share expansion as the world's largest consumer electronics company and at other key North American and Korean companies. Based not only on our design-in activities for future generations of product, but also for Semtech's ability to deliver on time and to meet demand upside.”
Industrial:
The industrial end market grew by 9% YoY and 5% QoQ to $131 million. With the increase in LoRa and the cellular IoT portfolio, the industrial end-market revenue is expected to increase sequentially in Q4.
LoRa-enabled solutions grew by 1% QoQ and 104% YoY to $29 million. The CEO highlighted, “Encouragingly, consumption for our recent generation LoRa product has been increasing, which signals market adoption of this enhanced capability.
LoRa Gen 2 offers a smaller footprint and reduce the power consumption, while LoRa Gen 3 delivered improved radio performance and a further simplification of customer development through onboard LoRaWAN provisioning capability. Supporting LoRaWAN remains a key company strategy.”
IoT systems revenue grew by 11% sequentially to $57.9 million with solid bookings and backlog.
IoT Connected Services revenue was $24.6 million, benefiting from our AirVantage connectivity platform.
Industrial TVS revenue was $10.2 million, up 7% QoQ. The CEO noted, “We have noticed the current market sentiment in the industrial market, but we remain confident in Semtech growth with our product offerings.”
The Sierra Wireless acquisition has negatively impacted the industrial end market revenues. The company had acquired Sierra Wireless in January 2023. However, the company experienced reduced business levels in the business acquired from Sierra Wireless due to the challenging macro environment and high-interest rate environment. This could be the portion of the business that will be divested (see below).
Margins Expanding:
The company has undertaken organizational restructuring and reduced workforce to reduce overhead spending. The company’s margins have improved, helped by operating leverage and a higher-margin product mix like CopperEdge. The incremental margin gain from the product mix was also further answered during the Q&A.
Tore Svanberg (Analyst)
“Yeah, thanks. I just had a quick follow-up for Mark. Mark, so 40 bps — basis point improve gross margin for January. How should we think about gross margin for fiscal year '26? Is it mainly mix at this point that will drive the gross margin, or is there — are there other things maybe scale or anything like that that could potentially also lift it as well?
Mark Lin (CFO)
Yeah. Scale definitely helps, but definitely, it's the primary driver in our guide is mix, right? So, it's a 40-bp improvement, but we did get a little bit of a tailwind from the CopperEdge shipments this quarter, right? So that was definitely a tailwind. But as other portions of our business inflect upward, there's a little bit lower margin in IoT, our systems hardware business, so that's a little bit lower. We'll definitely take the gross profit, right, but definitely that business doesn't contribute quite the percentages, let's say, our infrastructure business.”
Q3 gross margin was 51.1% compared to 46.3% in the same period last year.
Adjusted gross margin improved 110 bps YoY and 200 bps QoQ to 52.4%. Management has guided for a sequential improvement of 40 bps to 52.8% in Q4, helped by a better product mix.
Q3 adjusted operating margin improved to 18.3% from 10.2% in the same period last year helped by operating leverage and better product mix. Management has guided for 140 bps QoQ improvement to 19.7% in Q4.
It is also important to note that last year, the company reported non-cash goodwill and intangible impairment charges of $513.4 million in Q4 due to the lower contribution than expected from the acquired Sierra Wireless business. The company may also record the impairment charges in Q4 this year that impact the GAAP operating margins.
Q3 net loss was (-$7.6 million) or (-3.2%) of revenue compared to (-$38.3 million) or (-19%) of revenue in the same period last year. Adjusted net income was $20.3 million or 8.6% of revenue compared to $1.5 million or 0.7% of revenue in the same period last year. Management Q4 adjusted net margin guide is 10.3%.
Adjusted EBITDA was $51.1 million or 21.6% of revenue compared to $28.1 million or 14% of revenue in the same period last year. Management Q4 adjusted EBITDA margin guide is 22.8%.
EPS Growth in Triple Digits
The company beat Q3 adjusted EPS estimates by 11.7%, which was helped by operating leverage and a better product mix. Q3 adjusted EPS grew more than 100% sequentially to $0.26. Management Q4 adjusted EPS guide is $0.32, representing sequential growth of 23.1% and beat adjusted EPS consensus by an impressive 18.5%.
Adjusted EPS is expected to have strong growth in the coming quarters.
Analysts expect Q1 FY2026 adjusted EPS to grow 445% YoY to $0.33 and FQ2 adjusted EPS to grow 252.7% YoY to $0.39.
Looking further out, analysts expect FY2026 adjusted EPS to grow 120.5% YoY to $1.69 and 33.7% YoY to $2.26 in FY2027.
Cash Flow Inflected
The cash flows have been lumpy in the past. The company reported strong cash flows in the recent Q3 helped by improving bottom line and is expected to continue to generate positive cash flows in the coming quarters.
The CFO replied to an analyst question on free cash flow generation in the next few quarters, suggesting that the company will generate positive cash flows despite the inventory buildup to support the data center growth. “Yeah. Just, I’m quite pleased, Tristan, Q3 operating cash flow was $29.6 million. Free cash flow was $29.1 million. So, cash flow definitely we’ve inflected consistent with the business. And I’m pleased that cash flow is really – generation is broad-based across our businesses. We may have to build a little bit more inventory supporting demand, but we continue to generate cash.”
Q3 operating cash flow was $29.6 million or 12.5% of revenue compared to (-$5.8 million) or (-2.9%) of revenue in the same period last year.
Free cash flow was $29.1 million or 12.3% of revenue compared to (-$12.4 million) or (-6.2%) of revenue in the same period last year.
The company had cash of $136.5 million and debt of $1.19 billion at the end of Q3 FY2025. The company made a principal repayment of $5 million of the credit facility in FQ3 and a further repayment of $10 million subsequent to the end of the quarter.
The company accumulated the high debt of about 9X its cash due to the Sierra Wireless acquisition in January 2023. Management is working on reducing its high debt.
The company also recently announced the closing of the public offering for a total gross proceeds of about $661 million and it plans to use the proceeds to repay debt. With the proceeds from the recent offering, it will help to reduce the debt to about 2X its cash. However, it will also lead to dilution of about 12% to the existing shareholders.
Potential Divesture of Non-Core Segments
Out the gate, the CEO stated the primary goal is for portfolio rationalization and balance sheet improvement. He stated: “I'm fully aware of the financial and the non-financial benefits of portfolio rationalization, and we are particularly focused on opportunities that accelerate our debt repayment and decrease our leverage ratio.”
When asked during the Q&A if Semtech is still interested in selling parts of the business, the CFO affirmed this is a top priority: “At this point, I think all of our businesses have inflected the growth. So, as Hong mentioned in his prepared remarks, we believe that should help valuation, but that in no way will delay or maybe impede our desire to potentially divest these non-core businesses.”
We view any potential divesture of non-infrastructure segments as bullish as removing those segments to allow for a more concentrated AI-stock valuation. The more that Semtech can become an AI pureplay, I think the better it’ll be for its stock performance. Psychologically, it will help investors to see more clearly the material progress in the important pivot underway.
The company’s Sierra Wireless acquisition in January 2023 did not meet the company’s expectations. The company experienced reduced growth levels in the business acquired from Sierra Wireless due to the challenging macro environment, and the high interest rates environment increased the interest expenses. So, in our view, the company might divest this business.
The company appointed Dr. Hong Q. Hou as the President and CEO in June 2024. He has been a member of the Board of Directors since July 2023. He replaced the previous CEO, Paul H. Pickle, due to his differences with the board. Dr. Hou has previously held senior leadership positions in Intel and Fabrinet.
China Exposure:
There is exposure to China in the PON product, which stands for passive optical network and is used for telecom use cases. It’s helpful this is not AI-related, per the information from the call. Per the earnings call: “So, the PON business up to this point has been primarily in China and we expect another tender offer over the next quarter or two.”
Conclusion:
As stated in the Q4 webinar, 2025 belongs to Nvidia (again), yet we plan to expand how we participate in a more unique, strategic way by looking more deeply at suppliers-of-choice in what is decidedly AI hardware’s moment to shine. Semtech’s suite of products within signal integrity are off to a great start with a noticeable rebound this past quarter, yet the opportunity is in front of this key Blackwell supplier, and the lull in Q4 should allow a reasonable entry.
The current beat was driven by the fiber products, while the ACC (copper) products are slated to meaningfully contribute come Q1. By carefully threading a needle from what’s been stated on the earnings calls and what’s been announced around the Blackwell GB200 systems, ACC could be a 5X opportunity with Meta alone — with more CSPs likely to follow suit by this time next year.
A note of caution is that Semtech has a high debt leverage ratio. The company is working on bringing the debt leverage down. Although managemet was not clear on timing, I’d like to see Semtech being more of an AI pureplay by the time we exit next year. The portfolio adjustments will help it stand out for its growth potential in the oversubscribed space of AI infrastructure.
Advanced Members should keep an eye out for trade alerts as we closely track this little-known company.
This article was originally published on Forbes on Jul 13, 2023,07:05pm EDTForbes Forbes on Jul 13, 2023,07:05pm EDT
Semiconductors are the common denominator across the burgeoning technology trends of the next decade. Artificial Intelligence, 5G, high-performance computing, Internet-of-Things, gaming, electric vehicles, and robotics, among others, all require semiconductors to power them. These trends make semiconductor stocks an ideal investment and perhaps the most important space for tech investors to monitor.
For years now, we have published on semiconductors as leaders in tech– even when cloud, e-commerce, connected TV and others were more favored. In fact, we have been pointing out quite clearly that semiconductors are the sector that has provided the most returns in the past decade.
Source: Beth Kindig
Below, we update our semiconductor sector analysis to look at which companies have performed well in the most recent quarter, and also which companies stand out on a forward-basis with revenue growth estimates, profits, cash flows, earnings surprises, and we also look into management insights.
Top Semiconductor Stocks with the highest revenue growth rates in Q1
Source: YCHARTS
Navitas Semiconductor had the highest revenue growth among semiconductor stocks in the recent quarter. The company’s revenue grew by 98% YoY to $13.4 million. Management’s revenue guidance for next quarter is $16 million to $17 million, representing YoY growth of 92% at the mid-point.
Ron Shelton, CFO of the company, said in the earnings call, “Our guidance is based on robust strength in EV, solar, appliance/industrial, and the beginnings of a recovery in the mobile and consumer market, all further evidenced by a more than 50% increase in backlog during the quarter.”
The company acquired GeneSiC Semiconductor in August last year and helped to diversify into the fast-growing Silicon Carbide market. Navitas has a strong pipeline of $760 million with $432 million of this recognized by fiscal year 2026.
Analysts expect revenue in the next quarter to grow 92% YoY to $16.51 million and robust revenue growth close to or over 100% on a YoY basis for the next several quarters. The risk to consider is that the bottom line is weak. Analysts don’t expect Navitas to be profitable on an adjusted basis until Q1 2025 and GAAP profitable roughly around 2027.
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Semi Stocks Q1 Revenue Surprise
Source: YCHARTS
Nvidia crushed analysts’ revenue estimates by 10.4%. The company’s revenue declined by (13%) YoY and is up 19% QoQ to $7.19 billion.
The strong sequential growth was led by record data center revenue, primarily helped by accelerated computing. The company’s CFO, Colette Kress, said in the earnings call, “Generative AI drove significant upside in demand for our products, creating opportunities and broad-based global growth across our markets.” Gaming and professional visualization segments also witnessed improvement from the inventory correction.
If Nvidia is adding roughly $4 billion in revenue, primarily driven by the data center, then Q2’s data center growth will accelerate to an incredible 100% growth rate, up from $3.8 billion in the year ago quarter. It also means the data center will roughly double from the first quarter (sequentially) as the segment was $4.28B in the current quarter.
Put another way, this means Nvidia’s data center segment in the upcoming quarter will be as large as the company’s entire revenue this quarter – if we assume $7.75B in the data center compared to $7.2B total revenue this quarter.
We have highlighted in the past that AI will add $15 trillion to GDP compared to mobile’s $4.4 trillion. Mobile brought us three FAANGs: Apple, Google, and Facebook. It has been my stance for years that AI will bring us a new set of FAANGs, one of which will be Nvidia.
The company’s revenue guidance for the next quarter is $11 billion, representing YoY growth of 64% at the midpoint. The Q2 guidance was 53% higher than consensus. The historic beat in estimates is driven by data center revenue doubling from $4.28 billion in revenue in Q1 to $8 billion in revenue in Q2.
Semiconductor Stocks Q2 Revenue Growth Estimates
Source: YCHARTS
Indie Semiconductor has the highest expected revenue growth rate for Q2. The company’s recent quarter revenue grew by 84% YoY to $40.5 million. The company has guided for 102% YoY revenue growth in the next quarter.
Analysts expect revenue to grow 102% YoY to $51.97 million. The company is benefiting from growth trends in advanced-driver assistance systems (ADAS) and electric vehicles. indie has a large Serviceable Addressable Market (SAM) of $56 billion by 2028. The company is on track to be profitable on an adjusted basis this year.
Donald McClymont, indie’s co-founder and CEO, said, “Our growth trajectory reflects continued design win momentum spanning ADAS, vehicle electrification and user experience applications. At the same time, our deeper R&D investments and targeted acquisitions are beginning to contribute, enabling us to sharply outpace our peer group. Accordingly, today we are even better positioned to capitalize on the 2025 Autotech market opportunity of $42 billion.”
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Revenue Growth Estimates for Current Fiscal Year: Navitas and indie Semiconductor
Source: YCHARTS
For the current fiscal year, analysts expect indie Semiconductor to have the highest revenue growth estimate among the semiconductor stocks. It is followed by Navitas Semiconductor, which analysts expect to grow 100%. Among more established players, Nvidia leads and is expected to grow by 59%.
Semiconductor equipment provider ACM Research ranks fourth and is expected to grow 40% in the current fiscal year. The company’s revenue in the recent quarter grew by 76% YoY to $74.3 million. The management’s FY23 revenue guidance is in the range of $515 million to $585 million, representing YoY growth of 41% at the midpoint.
Needham Analyst Quinn Bolton mentioned in his note, “As the fastest growing SemiCap stock in our coverage with ~$400MM in cash and very little debt, we believe a 12.5x multiple is more than fair. The stock is currently receiving little attention from investors due to its high-exposure to China. However, we believe this ACMR sentiment will change over time as its growth proves too difficult to ignore.”
Semiconductor Top Line Valuations
Source: YCHARTS
Nvidia has the highest forward P/S ratio of 24.4 among the semiconductor stocks. The company has commanded a premium valuation due to its unrivaled position on GPUs. It is followed by Navitas, which has a forward P/S ratio of 22.4.
Per our analysis, Navitas is expected to have strong revenue growth in the next several quarters.
Free Cash Flow Margin
Source: YCHARTS
The majority of semiconductor stocks have positive free cash flow margins. Among the semiconductor stocks we track, 16 companies have more than 20% free cash flow margin. During times of macro uncertainty, stocks with strong free cash flows are considered a safer bet.
Broadcom leads the semiconductor sector with a free cash flow margin of 50%, followed by 47% for Synopsys and 47% for Monolithic Power Systems. Broadcom’s free cash flow in the recent quarter grew by 5% YoY to $4.4 billion. The management also expects cash flows to be strong in the next quarter.
Operating Margin
Source: YCHARTS
Broadcom leads the semiconductor stocks with an operating margin of 46%, followed by 45.5% for Taiwan Semiconductor Manufacturing and 44.2% for Texas Instruments.
TSM’s operating margin of 45.5% was higher than management’s guidance of 41.5% to 43.5%. The company’s cost control efforts led to a reduction in operating expenses.
Wendell Huang, CFO of the company, said in the earnings call, “Total operating expenses accounted for 10.8% of net revenue, which is lower than the 12% implied in our first quarter guidance mainly due to stringent expense control and lower employee profit sharing”. Management guidance for Q2 is 39.5% to 41.5%.
Due to its leadership position in manufacturing advanced chips, TSM is able to negotiate better prices with its customers. Cost improvements also help the company to maintain strong margins.
Conclusion:
Nvidia is a well-known semiconductor stock at the moment, yet there are others in the semiconductor space that are outperforming, as well. Broadcom and Taiwan Semiconductor continue to be defensive stocks with strong bottom lines. Navitas and indie Semiconductor are high beta stocks that are putting up nearly triple digit growth (notably, their margins are in the red until they reach scale).
This article was originally published on Forbes on Aug 12, 2022,01:21 pm EDTForbes on Aug 12, 2022,01:21 pm EDT
Semiconductor stocks have gained prominence due to growth drivers such as artificial intelligence, high-performance computing, 5G, robotics, machine learning, and electric vehicles. Despite semiconductor companies underperforming YTD, there is evidence that more supply will come online by the end of the year that will be met with equal or greater demand. Here is what AMD stated in their most recent earnings call:
“Certainly, on the Embedded side, we were supply constrained in the second quarter. And even on the Server side, we were tight in the second quarter. We have additional supply that’s coming online, especially as we get towards the end of the year. That will help us really meet more of the demand from customers. So, we feel pretty good about all of those puts and takes.”
Below, we review the stocks in the sector to find out which companies stand out in terms of revenue growth, profits, cash flows, and earnings surprise.
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Top Semiconductor stocks with the highest revenue growth rates for the current fiscal year
Revenue Growth Estimate for Current Fiscal Year – SOURCE: YCHARTS AND SEEKING ALPHA
Indie Semiconductor is leading with the expected year-over-year growth of 131% in the current fiscal year. The company is benefitting from the growth trend in advanced-driver assistance systems and electric vehicles. The company expects to be profitable by the end of 2023. The company has a Serviceable Addressable Market (SAM) of $40 billion by 2026. The company supplies chips and software to the automobile sector. Its chips power sensor capabilities like LiDAR and Radar, and vehicle electrification.
Monolithic Power Systems (MPWR) is expected to grow 50% in the current fiscal year. The company’s recent Q2 2022 results were strong. Revenue grew by 57% YoY to $461 million, beat the analysts' estimates by $30.41 million. The adjusted EPS came at $3.25 and beat estimates by $0.31. The Storage & Computing revenue grew by 112% YoY to $122 million; enterprise data revenue grew by 118% YoY to $65 million, and automotive grew by 25% YoY to $61 million. The management expects Q3 revenue of $490 million, representing a 51% YoY growth at the mid-point of the guidance. It was also significantly higher than the analysts' initial estimate of $400 million.
Top Semiconductor stocks with the highest revenue growth rates for the next fiscal year
Revenue growth estimate for the next fiscal year – SOURCE: YCHARTS AND SEEKING ALPHA
Aehr Test Systems has developed a unique technology that provides tangible benefits for testing emerging semiconductor components, such as silicon carbide and silicon photonics. Silicon carbide (SiC) is increasingly being used in EVs, while silicon photonics is being integrated into edge computing data centers. Tesla was the first to start using SiC in its vehicles with its Model 3. More EV manufacturers could follow suit due to SiC’s ability to withstand hostile conditions, improve efficiencies, and lower failure rates.
The company’s recent fiscal year ending May 2022 results were strong as revenue grew by 206% YoY to $50.8 million. The adjusted net income was $11.7 million or $0.42 per share compared to an adjusted net loss of $3.2 million or $(0.13) per share in the previous year. The management has guided revenue of $65 million for the FY ending May 2023, representing a YoY growth of 28% at the mid-point. The analyst expects revenue to grow 22% in FY ending May 2023 and 60% in the next fiscal year ending May 2024.
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Semiconductor Stocks with Top Forward P/S multiples
PS Ratio (Forward) – SOURCE: YCHARTS
The companies that outperform the market deserve a premium valuation. Nvidia is leading the sector. Nvidia has a solid long-term growth prospect in AI data centers and from the automotive chips. Similarly, Wolfspeed, which is a leading company in Silicon Carbide Technology, has a premium valuation.
Ambarella is another notable company trading at a fwd P/S ratio of 10. The company’s chips which were previously popular for using in drones and cameras have recently found a niche in the automobile sector. The company’s AI computer vision chips benefit from the Internet of Things, ADAS, and autonomous driving.
Quarterly Revenue Surprise
Quarterly Revenue Surprise – SOURCE: YCHARTS
Semiconductor Equipment Company ACM Research crushed the analyst’s consensus revenue estimates by 44%. The company’s Q2 revenue grew by 94% YoY to $104.4 million. The revenue also included $12.9 million that could not be shipped in Q1 due to the Covid-related restrictions in China. The company also maintained the revenue guidance for the year 2022 in the range of $365 million to $405 million, representing a YoY growth of 48% at the mid-point of the guidance.
Texas Instruments beat analysts' revenue estimates by 12%. The company’s Q2 revenue grew by 14% YoY to $5.2 billion. Susquehanna analyst Christopher Rolland in a note to the clients said, "[Texas Instruments] reported better results and guidance, in part as management overestimated China shutdown impacts of ~10% of [second-quarter] sales (~$500mln), and in part on the back of solid Automotive and Industrial demand,"
Top ranked semiconductor stocks based on Free Cash Flow Margin
Top ranked semiconductor stocks based on Free Cash Flow Margin – SOURCE: YCHARTS
Companies with a high cash flow margin also have a premium valuation. ASML Holding is leading the sector with the highest free cash flow margin. This is an important financial metric in the current environment, and we have noticed in the last few earnings seasons that shares were sold off when companies fell short on this metric.
Top ranked semiconductor stocks based on Net Profit Margin
Top ranked semiconductor stocks based on Net Profit Margin – SOURCE: YCHARTS
Texas Instruments leads the sector in this metric with a 44% net profit margin in the company’s recent quarterly results. Leading foundry, Taiwan Semiconductor, ranks second with a 41% net profit margin. TSMC’s revenue growth was strong, with good profits and cash flows also helped by the hike in chip production prices for its clients.
Royston Roche, Equity Analyst at the I/O Fund, contributed to this article.
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
This article was originally published on Forbes on May 28, 2022,11:54pm EDTForbes on May 28, 2022,11:54pm EDT
Semiconductor stocks have gained prominence due to growth drivers such as artificial intelligence, high-performance computing, 5G, robotics, machine learning, and electric vehicles. Despite supply constraints and the challenging macro environment, semiconductor stocks have withstood the tech sell-off better than other sectors. This is due to many semiconductor companies being profitable with strong free cash flows.
We reviewed the stocks in the sector to find out which companies stand out in terms of revenue growth, profits, cash flows, and earnings surprise.
Top 20 semiconductor stocks with highest growth rates for the current fiscal year.
Source: YCharts
In the above chart, Indie Semiconductor leads with the expected growth of 130% year-over-year in the current fiscal year. The company is riding the growth trend in advanced-driver assistance systems (ADAS) and electric vehicles. It has a Serviceable Addressable Market (SAM) of $40 billion by 2026. The company supplies chips and software to the automobile sector. It’s chips power sensor capabilities like LiDAR and Radar, and vehicle electrification.
The company’s revenues accelerated by 171% YoY to $22 million in the recent quarter. The management expects revenue to grow 178% at the mid-point in the next quarter. While the company is not profitable at the moment. The management expects it to be profitable in the second half of next year.
AMD is expected to grow 60% this year due to the Xilinx acquisition. The company had initially guided for organic growth of 31% during Q4 results. The Xilinx acquisition was completed in February this year, and partly by better demand from end markets. In the recent quarter, the company’s revenue grew by 71% YoY to $5.9 billion, with organic revenue growth of 55%. Even if we exclude Xilinx, the company is a leading growth stock among the semis due to data center growth and gaming.
Top 20 semiconductor stocks with highest growth rates for the next fiscal year.
Source: YCharts
Navitas Semiconductor has the highest growth rate in the above chart. The company is a leading player in the Gallium Nitride (GaN) chips. The benefits of GaN include fast charging and better power efficiency. Currently used in mobile phones & laptops, EVs are the future opportunity. Ambarella is another interesting company to watch. The company’s chips which were previously popular for using in drones and cameras have recently found a niche in the automobile sector. The company’s AI computer vision chips benefit from the Internet of Things, ADAS, and autonomous driving. The company’s revenue in the 4Q FY2022 grew by 45% YoY to $62.1 million. The computer vision revenue accounted for more than 25% of the FY2022 revenue and is expected to be 45% of FY2023 revenues.
Semiconductors with Top Forward P/S Sales multiples
Source: YCharts
In the above chart, SiTime Corporation has the highest forward P/S ratio. The company is a leading provider of Silicon Timing Solutions. In the recent quarter results, the company’s revenue grew by 98% YoY to $70.3 million. The revenue is expected to grow 50% this year and 23% in the next year. The strong growth rates are reflected in the company’s share price, which has doubled in the past year.
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Wolfspeed is another leading company that has a premium valuation due to the company’s expertise in Silicon Carbide chips. The company’s revenue is expected to grow 38% this year and 44% in the next year. According to MarketsandMarkets, the Silicon Carbide market is expected to grow at a compound annual growth rate of 19% from 2021 to 2026. Hybrid and electric cars are the future growth drivers for Silicon Carbide.
The company recently entered a deal with Lucid Motors to supply Silicon Carbide devices from the newly opened Mohawk Valley Fab. According to Gregg Lowe, CEO of Wolfspeed, “As the world advances towards an all-electric future for transportation, Silicon Carbide technology is at the forefront of the industry’s transition to EVs, enabling superior performance, range and charge time. Our investment in the Mohawk Valley Fab ensures our customers, including Lucid, have access to the advanced products they need to deliver innovative solutions to the market.”
Nvidia has seen some weakness recently due to the broader tech sell-off. However, the company deserves a premium valuation due to the company’s growth prospects in the AI data center and solid long-term prospects in the automotive chip industry.
Quarterly Revenue Surprise
Source: YCharts
Cirrus Logic crushed analysts’ consensus revenue estimates by 17%. The company’s Q4 FY2022 revenue grew by 67% YoY to $490 million. The company’s guidance for the next quarter is between $350 million to $390 million, representing a YoY growth of 26% at the mid-point of the guidance. It was higher than the analysts’ consensus estimates of $295 million. John Forsyth, CEO of the company, said, “We delivered strong financial results in FY22 as revenue increased 30 percent year over year driven by high-performance mixed-signal content gains.”
Top 5 ranked semiconductor stocks based on Free Cash Flow Margin
Source: YCharts
Cirrus Logic not only beat analysts’ revenue estimates it also ranked the highest among the semiconductor companies with the highest free cash flow margins. This is an important financial metric in the current environment as we have noticed in the current earnings season that many companies that fell short in this metric the shares got sold off.
Top 5 ranked semiconductor stocks based on Net Profit Margin
Source: YCharts
In the above chart, Indie Semiconductor, which we discussed earlier in our article, also ranked the highest among the companies with the highest net profit margins. Intel ranks third in the category. However, the company faces significant competition from AMD, which can be seen in the lower valuation the company is trading.
Micron reported Q2 results that beat estimates and guided for Q3 sales and earnings growth above expectations. However, Micron’s share are off 9% post-earnings, which may be due to commentary around soft demand in China, slowing PC sales and concerns that Micron may be nearing the top of the cycle. We believe that these concerns are temporary, and that Micron is structurally becoming a less cyclical company, which deserves a premium multiple. I discuss the company’s latest results and why we believe the recent sell-off is overdone in more detail below.
Micron’s Q2 FY2022 Beat Expectations and Guidance Was Above Consensus
Micron reported Q2 FY2022 results on March 30th, and sales increased 1% QoQ to $7.8 billion driven by a 4% sequential rise in NAND sales, which accounted for ~25% of total revenues. NAND sales also increased 19% YoY and management expects NAND sales to increase by ~30% YoY for the year. Demand for NAND is being driven by Micron’s new 176-layer NAND technology, which represented the majority of Micron’s NAND shipments. We explained the importance of 176-layer NAND here, stating that Micron has significantly increased memory capacity and is a leader in this technology, allowing the company to capture more market share.
Importantly, the strength in NAND should also be a tailwind for Lam Research, which sells the etching equipment necessary to build the layers for 176-layer NAND. In our latest update on Lam Research, we explained that “the key reason we think Lam could fare better than its peers is because as 3D layers increase, capital intensity also increases. The process does not scale linearly, instead it’s non-linear because it takes longer than 2X to etch a stack that is 2X high and requires more complex etch and deposition equipment”. With Micron guiding for $12 billion in Capex this year and plans for $150 billion in capacity expansions over time, we should expect Lam Research to see strong demand for etching equipment going forward.
Micron’s NAND prices also benefitted from the contamination of ~8% of the global supply of NAND. In February, memory peer Western Digital disclosed that there was a contamination event at two of its Japanese JV facilities, which resulted in 6.5 exabytes of NAND memory being contaminated. Likely benefitting from this event, Micron’s Q2 NAND prices rose ~4% QoQ, driving much of the topline growth as volumes were flat. As shown below, Micron has outperformed relative to Western Digital YTD, however, both companies have underperformed the broader market in 2022. I outline a few reasons for this in more detail below, which we believe are only temporary.
Similar to NAND, DRAM sales increased 2% QoQ and were up 29% YoY to $6 billion, or 73% of total sales. DRAM volumes increased but were offset with a decline in ASPs. Strong demand in datacenter drove the increase in DRAM sales. For example, Micron’s largest segment, Compute and Networking, grew sales 31% YoY to $4 billion, driven by a 60% YoY rise in data center sales which were “supported by robust demand across our DRAM and SSD portfolio” (Q2 call, 03/30/22). DRAM sales benefitted from Micron’s leading 1-alpha technology which is increasingly being adopted in the memory-intensive cloud environment. During the Q2 call, CEO Sanjay Mehrotra stated that DRAM sales will continue to ramp into 2023 when he said that “We have broadened the qualifications for our 1-alpha DRAM products and are well positioned to support the data center DDR5 transition driven by new CPU platforms, which are targeted to begin ramping later this calendar year and gain momentum in 2023”.
Following the strength in cloud sales, Storage sales increased 38% YoY to $1 billion as SSDs continue to replace HDDs, while Embedded sales increased 37% YoY driven by strength in automotive. A blemish was weakness in Mobile sales, which increased just 4% YoY to $1.9 billion. While the rollout of 5G phones will lead to a ramp in memory content per phone, there may be demand headwinds on the horizon. For instance, Apple cut its forecast of 5G iPhone shipments by ~20%. I discuss this in more detail below.
Continuing down the income statement, gross margin increased by 2,100 bps YoY and 100 bps QoQ to 47%, benefitting from higher NAND margins and the ramp in 1-alpha DRAM and 176-layer NAND technologies, which reduces costs as it scales. Management noted on the Q2 call that most of the efficiency benefits have been realized, and that margin expansion from the ramp is largely behind the firm. Furthermore, YoY gross margin comps were impacted by a one-time $300 million charge taken last year when Micron switched to FIFO accounting.
The strength in gross margin flowed down to operating profit, which increased 118% YoY to $2.7 billion. The dramatic rise in profitability was driven by higher selling prices and cost reductions from the ramp in new technologies outlined above. However, Micron has historically been a cyclical industry, and there may be concerns that Micron is nearing the top of the cycle. This may explain the recent sell-off in Micron’s sales, yet we believe that Micron is becoming structurally less cyclical and that its multiple will rebound once this is clearly evident in future results (discussed in more detail below).
Finally, GAAP earnings per share were $2.00 while non-GAAP EPS was $2.14, which beat estimates by $0.16. Non-GAAP EPS increased 118% YoY and the strength in EPS growth should continue going forward. For instance, Micron will benefit from a lower tax as Idaho’s governor signed a new tax law on March 16th, 2022 that will reduce Micron’s taxable income (Micron is HQ in Idaho). The CHIPS act may also be a tailwind to earnings as the US government looks to incentivize reshoring of manufacturing capacity.
As of the end of the quarter, Micron had $12 billion in cash and equivalents and free cash flow was over $1 billion during the quarter. Management stated that they expect free cash flow generation will be “substantially higher” over the next two quarters relative to H1 2022. Micron intends to use ~50% of its free cash flow to buy back its stock and pay dividends to shareholders. Since 2019, Micron has reduced its share count by an aggregate 113 million, or by 9%. With Micron guiding for record sales and profits in FY2022, cashflow generation should be significant, which will support more buybacks in the future.
Looking forward, management expects Q3 sales to grow 18% YoY to $8.7 billion, which beat initial topline estimates by 6%. Management stated that they are “tracking ahead” of their initial guide set in Q1 for FY2022 and that demand remains strong, but noted during the Q2 call that “there are some pockets where semiconductor shortages have not improved as fast as we had expected, and these shortages are likely to continue into calendar year 2023”. Nonetheless, Q3 adjusted EPS is expected to grow 14% QoQ to $2.46, which beat initial estimates by 9%.
Potential Risks are only temporary
As discussed above, Micron reported strong top and bottom-line results, guided above consensus and expects to be report record sales and earnings in FY2022. However, despite this, Micron has underperformed in 2022 and is off ~9% since announcing FQ2 results. This may be due to a couple developments: 1) softness in mobile and PC sales and in China, 2) and concerns that Micron may be nearing the top of the cycle.
In regards to the first point, during the Q2 call management stated that “We see some weakness in the China market as the local economy slows, smartphone market share shifts and some customers take a more prudent approach to inventory management.” CEO Mehrotra added that he expects PC unit growth will be “flattish”. These comments may have contributed to a post-ER sell-off, and it is notable that AMD is also off following the Micron Q2 print, likely due to its exposure to PC sales. However, management added further color that enterprise PC sales are expected to be strong in the near term, which are more content rich in terms of DRAM and NAND content, which should offset this pressure.
Moreover, 5G phone sales are just now starting to ramp, but the timing of this ramp remains unknown. As mentioned above, Apple has reportedly cut its production forecasts for its first 5G phone by ~20%. While this may be a near-term headwind, it is inconsequential in the long term. This is because 5G phones will inevitably take share from 4G going forward, and 5G phone DRAM content is 50% higher than 4G, while NAND content is >100%.We expect mobile will be a tailwind going forward, despite the near term uncertainty in the pace of the ramp.
Finally, a trend that is typical with highly cyclical companies is that investors tend to reduce exposure when earnings are high due to concerns that the company may be nearing the top of the cycle. Historically, Micron has been a highly cyclical company with periods of oversupply and rapidly declining prices. However, with more demand drivers coming from data centers/cloud and automotive, memory demand is no longer dependent on the short-cycle PC market.
During the Q2 call, CEO Mehrotra explained that over 75% of its quarterly volume are under long-term agreements (LTA) that go out beyond four quarters or more, up from less than 25% in prior years. CEO Mehrotra added that all of the company’s large customers are now under LTAs, which helps improve demand visibility and reduces uncertainty. An increase in LTAs significantly reduces the cyclicality of Micron’s business.
Moreover, new trends on the horizon further smooth demand for memory, reducing Micron’s dependence on the short-cycle PC market. For example, CEO Mehrotra stated that “new EVs are becoming like data center on wheels, and we expect over 100 new EV models to launch worldwide in this calendar year alone”. The memory content in higher end EVs is 15x higher than the average car, which further reduces the cyclical nature of Micron’s business.
As shown below, Micron trades at a 9x PE multiple, which is below where it was trading in 2017 and well below its multiple in 2020 and 2021. We believe that the market remains in a “wait and see” mode until Micron can prove that it is less cyclical. If Micron can prove that it is less cyclical going forward, we should expect a re-rating of its multiple going forward. A trend that supports this is the reduction in finished goods, which declined QoQ despite the softness in China, PC and mobile. A build in finished goods inventory would signal that demand may be weakening, a trend we have yet to observe in the memory market.
Marvell reported strong Q4 results and is on theprecipice of ramping demand from 5G and cloud infrastructure spending heading into FY2023. We have discussed throughout our coverage of Marvell and Inphi that the combined company is well positioned to benefit from these two trends.
Beth had outlined that “the growth opportunity for Marvell (and the reason I am investing) is for the lead Marvell currently has in 5G”, adding that datacenter will also be a strong tailwind for the company. With 5G ramping and datacenter growth expected to surge in the upcoming quarter, Marvell is well-positioned to benefit from these two secular trends. Importantly, Marvell has the inventory on hand to meet the rising demand, a trend that deserves a premium in today’s supply-constrained economy.
We expect that our thesis around 5G and datacenter growth will be realized in the first half of 2022, leading to outsized growth. Marvell’s financials have also been improving and the company will likely resume share repurchases later this year. While the outlook for Marvell is strong, we will be monitoring the back half of the year for a potential slowdown in growth as the 5G ramp peaks. However, this should be offset by strong demand from datacenters and edge computing tailwinds. I discuss Marvell’s latest results and drivers of demand in more detail below.
Marvell: Q4 Earnings Review and Outlook
In the latest quarter, sales increased 68% YoY to $1.3 billion, an acceleration from the 61% YoY growth rate in Q3 and beating estimates by 1%. During the year, Marvell merged with Inphi in a $10 billion transaction in Q1, and then also purchased Innovium for $1 billion in October. The recent M&A activity has skewed results, but on a Pro-forma basis, 2021 sales growth accelerated to 26% YoY, up from the prior year Pro-forma growth rate of 22%.
Sales were driven by strong growth in Datacenter and Carrier infrastructure (5G). Datacenter growth increased 113% YoY (15% QoQ) to $574 million or 43% of Q4 sales. On the Q4 call management explained that “the majority of the growth was from cloud, driven by robust demand from hyperscale customers.”
Carrier infrastructure increased 45% YoY to $241 million (18% of sales), and also accelerated on a sequential basis, growing 12% QoQ, up from 9% QoQ in the prior quarter. The strong growth was driven by Marvell’s 5G business, which grew sequentially by over 30% and exceeded management’s initial guide. On the call, management explained that it benefitted from the broader roll out of 5G technologies, and expects growth to continue into Q1 FY2023. I outline expectations for 5G spending in more detail below.
A rising trend for Marvell is its Enterprise Networking, which grew sales 64% YoY to $263 million. Management explained on the Q4 call that this end market was “going through an inflection” as hybrid work environments are driving demand for an “extended period of refreshing [enterprise] infrastructure”. This includes increasing bandwidth and improving security. To be complete, automotive increased 134% YoY to $79 million and Consumer increased 11% YoY to $185 million.
Gross margin declined YoY from 53% to 50%, which was driven by a step-up valuation in inventory and other non-cash charges following the M&A activity during the year. Non-GAAP gross margin increased 160 bps YoY to 65%, which is high relative to peers. Following the rise in non-cash expenses, operating margin fell YoY from 5% to 3% while non-GAAP operating margin expanded 860 bps YoY to 36%. GAAP earnings were $0.01/share, which missed estimates by a penny while non-GAAP EPS of $0.50 beat estimates by $0.02 and grew 72% YoY.
Cashflows from operations were $346 million and net leverage was reduced to 2.3x. Management explained on the call that they are on track to reach their targeted leverage ratio of 2x by the end of Q2, at which time they expect to restart share repurchases. This is a favorable trend and could support a higher share price, all else equal. Prior to the Inphi merger, nearly 100% of free cash flow was directed towards share buybacks. Utilizing Management’s long-term guide for 32% FCF margins, Marvell has capacity to lower its share count by about 4% per year, which will accelerate EPS growth.
Looking forward, sales are expected to accelerate and grow 71% YoY (6% QoQ) to $1.425 billion. Datacenter sales are expected to grow over 100% YoY in Q1 and in the mid single digits on a sequential basis, while Carrier infrastructure sales are expected to grow over 40% YoY and in the low-single digits on a QoQ basis. Enterprise networking sales are expected to accelerate and grow in the mid-teens on a QoQ basis while Automotive is also expected to remain strong and grow QoQ in the high-single digits. Finally, Consumer is expected to be flat QoQ. Non-GAAP EPS growth is expected to accelerate and rise 76% YoY to $0.51. I discuss the core drivers of Marvell’s demand in more detail next.
Update on 5G infrastructure
As outlined in our initial analysis, Marvell has a leading position as a 5G supplier and supplies the components for 5G base stations to customers such as Nokia and Samsung. We expected that Marvell would take a commanding lead in 5G infrastructure in 2021, a trend that we can see has finally arrived, as Marvell’s 5G sales increased 30% QoQ in the latest quarter.
Marvell’s 5G customers include Nokia and Samsung, which partner with carriers such as T-mobile, Verizon and AT&T to build out their 5G infrastructure. As a result, looking at capex plans from these telecoms can provide insight into the expected ramp in 5G spending going forward. As I’ll highlight below, the big three American carriers expect to ramp spending on 5G deployments by about $10 billion in 2022, which will drive demand for Marvell’s products.
Verizon explained on their Q4 call that they expect incremental capex related to the 5G upgrade cycle to peak this year and then start to normalize. Specifically, Verizon CFO Matt Ellis explained that Verizon had guided for “incremental [5G CapEx of] $10 billion over five years. We're going to see the biggest part of that come through this year”. In the chart below, Verizon highlights that its C-Band overlay spending will ramp in 2022. C-band is the wavelength that Verizon is using in its 5G deployments. Importantly, the accelerated $10 billion in 5G spending is expected to conclude in 2023, so the 5G ramp will be a quick, but significant trend for Marvell.
AT&T also guided that its capital expenditures are expected to ramp in 2022 and 2023. AT&T’s CEO stated during the company’s 2022 investor (03/11/2022) day that “it's a race to the home and to deploy 5G across the country. Our capital investment will be elevated over the next few years as we aggressively build a next-generation network with fiber and 5G”. AT&T’s guide for CapEx is expected to rise to $5 billion in both 2022 and 2023, driven by 5G deployments (shown below).
Finally, T-mobile recently increased its capex guide for 2022 to maintain the company’s position in 5G. T-Mobile’s capex has grown from $6 billion in 2019 to over $12 billion in 2021. Looking forward, T-mobile expects its capex to continue to rise to another $2 billion and reach around $14 billion in 2022 as it pulls forward 5G spending.
In aggregate, Verizon, AT&T and T-mobile are guiding for a ~$10 billion (~16%) rise in capital expenditures in 2022, mostly driven by the deployment of 5G infrastructure. Nokia, which is a significant customer of Marvell’s, explained during its Q4 earnings call that spending plans from American telecoms is a favorable trend. Specifically, management stated that “listening to the CapEx plans of the key [telecom] customers in America that is of course a reason for optimization”.
We expect that 2022 will be a peak year for 5G spending, directly benefitting Marvell. However, trends in datacenter are long-term secular trends that should sustain topline growth beyond 2022. I discuss this in more detail next.
Update on datacenter
With 5G ramping and likely peaking this year, Marvell will also be benefitting from another trend that is just now beginning to ramp: COLORZ II. We had outlined COLORZ in our Inphi analysis, explaining that “Inphi’s COLORZ silicon photonics technology allows data centers in the same metropolitan region to function like a mega data center. This facilitates faster edge computing within an 80/120 km distance for 30-megawatt data centers as they will be linked together and function like a 120-megawatt data center … When the COLORZ ZR 400G launches, it has the ability to become a critical supplier for data center interconnects and the converged edge of telecom and cloud connections.”
The time has arrived for the ramp in COLORZ 400G ZR. Management explained on the Q4 call that it expects datacenter revenue (its largest segment) to increase more than 100% YoY driven by the “strong ramp” in its 400-gig ZR datacenter interconnect products, which is termed COLORZ II.
CEO Matt Murphy added that the first iteration of COLORZ peaked at a $100 million run rate, which was driven primarily by one customer (Microsoft). In the upcoming iteration of COLORZ II, revenues will surpass the prior peak of $100 million in Q1 and will continue to grow from there. This is because the 400ZR is being adopted by multiple hyperscale customers, so revenues will be more substantial.
To get a sense of the cadence of topline growth we can expect from COLORZ II, we can use Inphi’s prior financials to provide a guide. COLORZ first shipped in volume in 2017 and Inphi recorded $59 million in sales from COLORZ in 2017, which then grew into $89 million in sales by 2020 and eventually peaked at a $100 million run rate, or nearly doubling overtime. CEO Murphy is saying that COLORZ II will start at the $100 million run rate and continue to grow thereafter. Considering COLORZ II has multiple customers, the ramp should be even more robust than the first iteration and COLORZ II sales could more than double overtime.
Since Marvell is directly tied to datacenter infrastructure spending, a decent proxy for demand is trends in CapEx from leading cloud providers such amazon AWS, Google Cloud and Microsoft Azure. As shown below, AWS, Azure and Google Cloud have ramped spending, and this spending is expected to continue to grow.
Specifically, Amazon stated during its Q4 call that “Just under 40% of that CapEx is going into infrastructure, most of it’s feeding AWS … If I look to the future, we’re still working through some of our plans 2022, but it’s coming into focus a bit. We see the CapEx for infrastructure [AWS] going up. We still have a very fast-growing business thats growing globally, and we’re adding regions and capacity to handle usage that still exceeds revenue growth in that business”
Google stated during its Q4 call that “In 2022, we expect a meaningful increase in CapEx.” And Microsoft added that it expects capex will be up YoY in the upcoming quarter. The increased capital expenditures from cloud providers is a favorable trend that will benefit Marvell’s topline going forward.
Marvell has the inventory to meet demand but there are risks
Given the expected ramp in Datacenter and Carrier infrastructure sales, which collectively accounted for over 60% of Q4 sales, it is important that Marvell has the necessary inventory to supply this demand. Marvell’s inventory levels have increased sharply recently, and rose 169% YoY to $720 million, outpacing the 68% YoY rise in quarterly sales. Moreover, since Marvell has the inventory on hand, it backs up management’s statements that they expect a significant ramp in revenue in the near term.
However, having excess inventory is typically an unfavorable trend, since the technology can quickly become obsolete which leads to lower prices, impacting earnings. This concern is somewhat offset by the scenario outlined above about ramping demand from both 5G and datacenters, suggesting that the build-up of inventory is appropriate. Furthermore, Marvell’s inventory composition is relatively healthy and is not loaded with idle finished goods inventory, which is at a higher risk of being written off. As shown below, finished goods were just 20% of total inventory, well below the five-year average of 31%.
A key risk that should be noted is the way Marvell sells its inventory. Marvell does not have agreements in place that guarantee sale to its customers. Marvell explained in its 10K that it must maintain large inventory balances because the “semiconductor industry is characterized by short lead time orders and quick delivery schedules”. If demand for its products declines, Marvell will be left with a very large inventory balance that will likely need to be discounted to turnover.
Another risk is that Marvell has now had to enter into manufacturing supply capacity reservation agreements with foundries to secure supply. This means that Marvell now has to prepay for inventory (unfavorable) and also must pay a fee to cancel its reserved capacity. Marvell has $2 billion of supply commitments signed through 2032 and prepaying for future supply increases Marvell’s risk of taking on too much inventory, which could pressure margins in the future. This is a relatively new development and is a direct result of the current supply chain shortage. However, this is broader trend in the semiconductor industry and is not isolated to just Marvell. Furthermore, securing supply in a tight market should be awarded a premium.
The key takeaway is that elevated inventory can be a concerning trend, but we think it is actually a favorable trend given the expectations for surging demand in the near term and supply-constrained environment. Furthermore, inventory composition is healthy with low levels of idle finished goods. We should expect to see Marvell’s inventory balance normalize going forward as the 5G and COLOR II ramp get underway.
Trends on the horizon: DPUs and customization
With datacenter and 5G taking center stage in 2022, there is a new trend gaining momentum that promises to be a significant driver of growth going forward that should offset the eventual decline in 5G spending. The rising trend is ‘customization’, which is being driven by hyperscale customers that are increasingly developing their own custom, optimized silicon for the cloud environment.
Marvell’s recent acquisition of Innovium was driven to improve the company’s reach in the cloud-optimized market. Innovium developed a leading cloud-optimized switching technology that is used in cloud data centers. Innovium is expected to report $150 million in sales in FY2023 after being selected as a supplier for a Tier 1 cloud customer. Marvell also disclosed that it has a strong pipeline of cloud-optimized silicon, with $400 million of contract wins in the pipeline that will turn into revenue in FY2024 which is expected to double to $800 million by FY2025.
Since the cloud environment is inherently different than the legacy on-prem environment, prior architectures developed long before the cloud was around are outdated and are not optimized for the cloud. It makes sense that new silicon solutions will be optimized specifically for the cloud, and Marvell is positioning itself to benefit from this rising trend.
For instance, Marvell disclosed in its 10K that it is transitioning its product offering “from standard server processors to the broad server market to focus only on customized server processors for a few targeted customers”, adding that “the demand for optimized solutions has been increasing as our customers seek greater customization and differentiation for their products and services”.
Customized silicon for the cloud will be a material contributor to Marvell’s topline in a few years, and will help offset the expected decline in 5G spending after the ramp in 2022. During the year, Marvell won “over a dozen cloud optimized programs across multiple Tier 1 cloud customers. A significant number of these designs are for custom DPU implementations, reflecting the increase in the attach rate of DPUs inside cloud data centers”. We had mentioned that DPUs would be a tailwind for Marvell, stating that Marvell will be a major player here and this trend will be a future bull thesis for Marvell.
Marvell is well-positioned to benefit from the rise in edge computing driven by 5G and datacenter growth, and new trends such as custom, cloud-optimized silicon. We expect to hold onto Marvell through the concurrent ramp in 5G and datacenter spending but will monitor the company closely heading into H2 2022 for a possible lull in growth as spending peaks. however, we expect datacenter, edge computing and AI tailwinds to drive topline growth for the foreseeable future.
Valuation and conclusion
Marvell trades at a 10x forward P/S multiple, down from its peak multiple of 17x in December 2021, but a premium to peers such as Broadcom (8x), AMD (7x), Qualcomm (4x) and Cisco (4x). Marvell also trades at a 30x forward PE multiple, down from its peak of 57x in December 2021 but also above the peer median of 17x. Importantly, Marvell’s Q4 earnings grew 72% YoY and are expected to accelerate to 76% YoY growth in the upcoming quarter. The company’s long-term guide for 40% operating margins going forward, coupled with its LT guide for ~25% topline growth, highlights that earnings growth will be significant going forward, a trend that supports a premium PE multiple. While Marvell trades at a premium relative to semiconductor peers, the company is well-positioned to benefit from strong secular tailwinds such as 5G, datacenter, AI and customized silicon, which warrants a premium multiple.
We believe that the upcoming year will be a breakout year for Marvell’s top and bottom-line as both 5G and COLORZ II are ramping this year. Marvell also has the inventory on hand to meet this demand and is positioning itself to benefit from new trends such as customized silicon. While we believe that Marvell will be strong, we will be monitoring growth expectations closely heading into H2 2022 as sales growth may slow as 5G spending peaks. however, we expect this to be a temporary trend that will be offset from the secular tailwinds from datacenter and edge computing infrastructure spending.
Disclosure: Bradley Cipriano and the I/O Fund own shares in Marvell and have no plans to change their respective positions within the next 72 hours. You can access the I/O Fund’s positions here. The above article expresses the opinions of the author, and the author did not receive compensation from any of the discussed companies.Disclosure: Bradley Cipriano and the I/O Fund own shares in Marvell and have no plans to change their respective positions within the next 72 hours. You can access the I/O Fund’s positions herehere. The above article expresses the opinions of the author, and the author did not receive compensation from any of the discussed companies.
Below, the team looks at Micron – a semiconductor company the I/O Fund has owned in the past. Micron is in third place behind Samsung and SK Hynix. We analyze both product and financials to determine if Micron has what it takes to capture more market share across data centers, automotive/industrial, and 5G smartphones and edge devices. Earnings are on December 20th.December 20th.
Micron is one that we are watching closely but do not own at time of writing. Please reference Trade Notifications archived on the dashboard and the forum for updates. on the dashboard and the forum for updates.
Overview of Micron’s Products:
By Beth Kindig
When we first covered Micron, the company’s revenue was two-thirds DRAM and one-third NAND. The company’s most recent earnings report shows a heavier weight on DRAM at three-quarters revenue compared to one-quarter revenue from NAND.
NAND memory saves data even when the power is removed, such as when a cell phone is turned off. Beyond mobile devices, NAND is found in traffic lights, digital advertising panels/displays, and anything with artificial intelligence that needs to store data.
Dynamic RAM, or DRAM, stores memory when a device is on, such as PC processors and graphics cards. DRAM is also used in gaming devices and video game consoles. DRAM is 100X faster than NAND, lasts longer, and is smaller in size. However, DRAM is known as volatile memory which means when power is turned off, it does not store data. The benefit of loading the data into the RAM is that reading the data is much faster than reading it from the hard drive.
According to the CEO of Micron, AI servers will require six times more DRAM and twice the SSDs compared with standard servers. In the most recent earnings report, it was also pointed out that “DRAM and NAND stem share of the semiconductor industry has steadily grown over the last two decades, from around 10% to approximately 30% today.” Today, data centers are the largest market for memory and storage due to the growth driven by cloud.
Hyperscale data centers are growing faster than DRAM supply can keep up with. Due to higher capacities and low latencies, DRAM is being used across health care, the military, automotive, networking systems, and data centers. DRAM is being used in the Internet of Things (IoT) due to low latency with automotive using up to 80GB compared to 5.5GB in PCs and 2.5GB in handsets.
NAND is used to store pictures or music on a mobile device and is also particularly well suited for edge devices because it’s ideal for high data storage density. Although DRAM drives the majority of Micron’s revenue right now, NAND is the growth segment to watch as AI workloads move to the edge and will require NAND for the increased energy requirements, portability, and ability to store massive amounts of data.
According to FiorMarkets, Global 3D NAND Flash is expected to grow at a 32.3% CAGR from 2019 to 2025. 360 Research Reports put the CAGR at 20.6% between 2021-2026. Overall, NAND is expected to grow at 11.05% between 2021-2026. DRAM has a CAGR of 7% between 2020 and 2026.
Micron’s revenue segments
By business unit, Micron saw the most revenue growth from Embedded (EBU) at 108% year-over-year and 23% QoQ growth. This was also the largest growth in the prior year. EBU refers to memory and storage products used in automotive, consumer markets, and industrial applications. In 2019, Micron had expanded its wafer fab facility in Virginia with a $3 billion investment to manufacture 20nm/1xnm DRAM and 3D NAND for automotive infotainment, advanced driver-assistance systems (ADAS), and also industrial automation and surveillance applications. Two years later, the investment and engineering expansion appears to be paying off.
This is a key segment to watch as industry CAGR for automotive processors is expected to be 65% through 2023, according to IDC. This is driven by automation and the memory content per car will increase up to 16GB of DRAM and 1TB of NAND to run AI, supercomputer, and high-def mapping. Micron holds 48% of automotive memory market share and is the primary supplier to Nvidia and Intel.
Compute and Networking (CNBU) grew at 26% growth year-over-year and 15% quarter-over-quarter. This is the segment that serves cloud servers and PCs, plus graphics and networking markets, and this segment is the largest source of revenue and operating income for Micron. Bradley expands more on this in his write-up below.
Mobile Business Unit (MBU) focuses on mobile and smartphones and mobile saw its highest-ever mobile revenue in fiscal year 2021. This is partly driven by the uMCP5 multichip package which allows smartphones to handle data-intensive 5G workloads. Micron has also released low-power DRAM for edge devices in a promotion with MediaTek. Micron offers a combined chip for both NAND flash storage and DRAM for 5G smartphones to extend battery life and increase performance without taking up circuit board space. This segment is also one to watch as the memory in smartphones will increase exponentially with 5G due to large data volumes.
Micron has exposure to PCs. This has been a boon during the past few years yet could also weigh on Micron if consumer spending slows.
3D NAND product update
Last year, Micron released a 176-layer 3D NAND product that has a layer count 40% higher than the nearest competitor, which is Samsung. The new NAND device is 10 times denser than previous 3D NAND devices which allows smartphones and edge devices with capacity limitations removed and increased power efficiency. Cloud storage also benefits due to being data intensive.
According to Micron, this device has the “industry’s highest data transfer rate” of 1,600 megatransfers per second (MT/s). The device is the same height as the 64-layer design with a fabrication technique that removes stack height limitations to provide higher storage capacities. The company uses CMOS-under-array (CuA) to build a multi-layered cell stack for more memory to be leveraged in a smaller space while also decreasing die size.
The replacement-gate (RG) flash technology replaces the traditional floating-gate design, and according to Micron’s whitepaper, helps the device remain competitive in terms of time it takes to program and/or to limit the reduction in performance. Micron points out in the paper that extending the number of tiered stacks creates cell-to-cell capacitive coupling, which leads to lower program times. Therefore, the more tiers or layers that competitors release will not necessarily result in better performance due to design limitations. This performance becomes critical as program algorithms can add to time delays when writing the data.
In this iteration, Micron changed the design to mitigate issues of the “cell-to-cell capacitance structure,” or a reduction of electric field duration and increase in voltage threshold (VT), which results in higher endurance life span, increased power efficiency, increased storage capacity, and doubled speed of write performance. The company also changed the material from polysilicon to metal. These two improvements result in Micron’s RG 3D NAND to perform up to 2X faster than other current 3D NAND devices.
Memory and storage can be very competitive in terms of price, so we want to track incremental product improvements. According to Micron, “current 3D NAND design has begun to reach the limits of its monolithic die-level maximum capacity. It will continue to fall short of the immense system-level storage capacities demanded by future data-driven applications. Cell-to-cell capacitive coupling complications and smaller etch requirements account for many of these limitations.” If Micron is correct, then this could be an opportunity for the company to see more market share on 3D NAND.
NAND is expected to see a 30.8% increase in total bit demand and an oversupply in the second half of next year. Competition is expected to drive a decrease in average sales price (ASP). In the earnings presentation, Micron forecast calendar year 2022 growth of 30% in NAND.
DRAM product update
Moore’s Law states that the number of transistors or processing power on an integrated circuit doubles every two years while the cost is halved. This has led to shrinking the circuits to fit more transistors or memory cells in the limited space. At one point, you could see a transistor and now they are measured in nanometers, which is not visible by the human eye. This helps chips switch faster and use less energy and are cheaper to make, as well. As size decreased, memory chips moved to the Roman and Greek alphabet to name nodes which is why Micron calls their DRAM “1-alpha.’ This provides a 40% improvement over bit density compared to the 1z node and power consumption has improved by up to “20 percent.”
These chips are manufactured without EUV, or Extreme Ultraviolet Lithography. This manufacturing method uses smaller 13.5nm wavelengths of ultraviolet light to etch wafers as opposed to lasers from Deep Ultraviolet Lithography (DUV). You could argue that EUV is a point of weakness for Micron as Samsung is using this manufacturing method while Micron is delayed until 2024.
DDR5 is the company’s increased bandwidth product that will increase core count resulting in up to 85% increase in bandwidth. The double date rate (DDR) product has been primarily focused on more bandwidth while previous generations focused on reducing power consumption to serve the needs of mobile applications and data centers. The performance increase is between 1.36X and 1.87X. This has not been released yet but is expected to be released soon.
DRAM is expected to see a decrease in average sales price (ASP) next year while DRAM bit demand will increase by 17%. This will lead to an oversupply in the second half of the year. Micron is forecasting DRAM revenue to be in the mid-to-high teens.
Being U.S. based, plus MU, lowered exposure to China
It’s very helpful that Micron is the only U.S. based manufacturer of memory during a time when suppliers are relocating to the United States. Micron announced that it intends to invest $150 billion globally over the next decade in “leading-edge memory manufacturing and research and development (R&D) including potential U.S. fab expansion.” The U.S. Senate passed the U.S. Innovation and Competition Act (USICA) which includes $52 billion in federal investments for the domestic semiconductor research, design and manufacturing provisions in the CHIPS Act. Congress is also considering legislation called the FABS Act that would establish a semiconductor investment tax credit. Policy could strategically help Micron compete with Samsung.
The next hurdle for semis long-term is relying on China sales. Micron changed how they report geographic information from ship-to location to customers headquarters. Micron also lost Huawei revenue during the same time period which Keybanc estimates was 7-9% of Micron’s revenue.
Here's a snapshot from fiscal Q4 2018 where “ship-to location” was heavily weighted to China.
If we go on customer headquarters then we see that Micron has about 18% exposure in FY2021 if we include China and Hong Kong.
Competitors
Micron was the first to build and ship a 176-layer NAND last year and SK Hynix was close behind. In early 2020, Kioxia and Western Digital released a 112-layer device and are expected to move to 160-layer soon based on split-gate architecture by stacking two 80-layer structures. By splitting the gates, the cell size is reduced in half and this increase the capacity. YMTC was a new competitor from China that released a 128-layer very quickly by skipping the 96-layer generation. The company uses an expensive copper hybrid bonding technique that enables higher bit density. YMTC is likely to take market share in China across all memory and storage competitors.
According to TrendForce, SK Hynix saw the largest increase QoQ on NAND flash sales with a 25% QoQ increase and Kioxia reported 3D NAND sales of 20.8% QoQ compared to Micron’s 8% increase QoQ. In terms of DRAM, TrendForce reported that Samsung grew it’s lead with 11% growth QoQ while Micron also grew it’s lead with 12% growth QoQ compared to SK Hynix at 8% QoQ.
Micron is Becoming Less Cyclical
By Bradley Cipriano
Micron has reported strong results over the last few years and this continued into 2021. Micron is a key player in the memory market, which is going through a structural change. Demand is no longer dependent on PCs, rather memory demand is now being driven by much stronger tailwinds such as datacenter server growth and the rollout of 5G. This structural change is making Micron less cyclical.
Looking forward, Micron expects these structural tailwinds to continue to drive growth at the company. CEO Sanjay Mehrotra explained it well during the Q4 FY2021 Conference Call when he said that “Industry trends like the broad integration of artificial intelligence into all computing, proliferation of the intelligent edge, continued data center growth, and deployments of 5G networks create new and expanding opportunities for Micron.”
The rise of cloud data centers has led to a structural increase in demand for semiconductor components such as DRAM and NAND memory, which helps smooth out the boom and busts cycles that Micron was historically exposed to. Micron explained the new market dynamic in its 10K when it stated that “data is today’s new business currency, and memory and storage are a critical foundation for the data economy”.
The IDC estimates data creation will explode going forward (pictured below), driven by the rise of cloud computing. Furthermore, the IDC estimates that less than 2% of data is saved today, and that data creation is far outpacing data storage capacities.
Furthermore, the ramp of the metaverse also requires massive scaling. During Marvel’s (MRVL) Q3 Conference Call, the company stated that the metaverse “will significantly accelerate a number of key trends, which are already occurring in the cloud today, including the need to store huge amounts of data”. With Meta (aka Facebook) guiding for $34 billion in capex in 2022 to develop the metaverse, the demand for data storage will likely be strong for the foreseeable future.
We can see the structural change underway by looking at results over the last four years. For instance, aggregate gross margin over the last four years was 44%, well above historical (cyclical) periods, and aggregate operating cashflow margin was ~50% over the same time period. In response to the structural change underway in the memory market, management recently initiated a quarterly dividend ($0.10 per share), which highlights management’s contention that the memory market is becoming less cyclical. I discuss Micron’s recent financial results in more detail below.
New memory technologies keep pace with cloud innovation
To address the issue of exploding data creation, Micron has innovated on some key new technologies that will enable datacenters to capture and retain much more data. Two of these key new technologies are 176-layer NAND and 1-alpha DRAM, which Micron began shipping in volume this year.
Micron stated that the introduction of “176-layer NAND and 1α (1-alpha) DRAM represent major technology breakthroughs for our company and the first time in our history that we have achieved industry leadership across these two flagship technologies”. 176-layer NAND is an extension of 3D NAND, and as the name implies, has 176 layers of cells that dramatically increase memory capacity. Previously, NAND was on a 2D plane with just one layer, and Micron has significantly increased capacity by expanding beyond a single layer of memory. Furthermore, the 1α DRAM memory node was introduced in 2021 and materially improves the performance of DRAM memory (20% to 30% higher yields), which is critical for cloud servers that rely on low latency and high performance.
With the continued development of AI, cloud servers require significantly higher quantities of DRAM, as the number and capabilities of these intelligent edge devices increases, more data is stored, processed and accessed in the cloud. The demand for storage in the cloud environment is growing exponentially and Micron’s industry leading 1α DRAM nodes should be able to capture market share in this fast growing segment in FY2022. We can see the strength in cloud computing by looking at Micron’s Compute and Networking segment (CNBU) sales, which increased 34% YoY to $12.3 billion during FY2021 and rebounded from an 8% YoY decline in the prior year.
CNBU is Micron’s largest segment (44% of sales) and continued strength here will be rewarded by the market. With that said, there was a deceleration in this segment between fiscal Q3 and fiscal Q4 both YoY and QoQ from 49% down to 26% YoY growth and down from 25% to 15% on QoQ growth.
In Q2 FY2021, Micron also began shipping 1α DRAM nodes for mobile, which improved power efficiency in mobile phones, and allows for memory intense use cases like smart photography. Management explained on the Q4 call that 5G phones have 50% more DRAM than 4G phones, meaning that the continued adoption of 5G phones should be a significant tailwind for Micron going forward.
Micron also began volume shipments of 176-layer NAND for mobile in 2021. On the Q4 call, CEO Mehrotra explained that “176-layer NAND-based mobile product went from just introduction to 1-million-unit shipments in a record time. Fastest RAM in the history of the Company”. The ramp in 176-layer NAND helps put into perspective how much demand there is for Micron’s new technologies. Following this strong demand, Mobile (MBU) segment sales increased 26% YoY to $7.2 billion in FY2021, a record high. The continued roll-out of 5G phones will likely be a tailwind for Micron going forward.
The roll out of these new technologies is just now beginning to ramp. To accelerate the roll out of these new technologies, Micron expects to increase its annual capex by 20% YoY to $12 billion, which follows a 22% YoY rise in capex in FY2021. Micron explained that capex will be driven by its continued transition to 176-NAND, as well as infrastructure support for the introduction of new technologies such as EUV lithography. While increased capex spend does not guarantee increased sales, there are also signs in Micron’s balance sheet that point to heightened demand in the near term, which I discuss in more detail next.
Micron’s financials
Following the roll out of new technologies during the year, Micron reported strong results to end its fiscal year. Specifically, Micron’s Q4 FY2021 sales increased 37% YoY to $8 billion, an acceleration from the 36%, 30%, and 12% YoY increase in Q3, Q2, Q1 respectively. Gross margin increased 1,300 bps YoY to 47%, the highest level since Q3 FY2019. On a rolling four-year basis, gross margin was 44%, highlighting the strong success Micron has experienced in recent years. As shown below, the sustained improvement in four-year rolling gross margin suggests that Micron’s business is becoming less cyclical.
The strong gross margin flowed down into operating margin, which increased 1,600 bps YoY to 36%. On an annual basis, operating margin improved from 14% in FY2020 to 23% in FY2021, while non-GAAP operating margin was 28%, up 1,200 bps YoY. The strong margin performance was driven by pricing increases across DRAM and NAND products and ongoing product transformation. Looking forward, management guided that gross margin would remain strong at 47% +/- 100 bps in Q1 FY2022, as the company continues to benefit from the new product releases (discussed in more detail above).
Continuing down the income statement, GAAP EPS increased 175% YoY to $2.39 and on an annual basis GAAP EPS increased 117% YoY to $5.14. In the last five years, Micron has reported an aggregate $28.94 in GAAP EPS, or nearly five times as much as it had earned in aggregate earnings over the prior 33 years (dating back to 1984). As discussed above, Micron had historically been a cyclical company dependent on PC demand for memory, but tailwinds from datacenter and mobile have structurally changed the demand environment for memory and have made Micron’s business less cyclical and more profitable. Below, we look at the 4-year rolling gross margin to discuss the continued strength in the company.
We can also see this outperformance in cashflows. Micron’s annual cashflow margin was robust at 45%, and FCF margin was also strong at 9%. Annual FCF margin has been positive in all but one year since 2012 and has been positive for five consecutive years. As a result of the strong cashflow performance over the last few years, management initiated a quarterly $0.10 dividend.
CFO Dave Zinsner stated on the Q4 call that “the initiation of a dividend is an important milestone that reflects the structural transformation Micron has undergone over the last several years, and it shows our confidence in the sustainability of our cash flow generation”. He added that Micron expects to return more than 50% of FCF to shareholders through dividends and buybacks going forward. If the memory business is becoming less cyclical, then shareholder returns could be substantial going forward given Micron’s robust profitability and cashflow generation.
Finally, inventory trends also highlight the strong demand for Micron’s products. Inventory declined 17% YoY despite the 37% YoY growth in sales, as Micron has struggled to replenish lean inventory levels in response to strong customer demand. Typically, in cyclical industries, elevated inventory levels can be a sign of concern, so the drawdown in inventory highlights the strong demand for memory in the current environment.
Inventory composition is also bullish, as raw material inventory increased to 11% of total inventory, a three-year seasonal high, while finished goods inventory declined from 19% of inventory to 11% in Q4, a five-year low. The drawdown in finished goods highlights that Micron is shipping its product faster than it can be replaced, highlighting the strong demand it is experiencing. A rise in raw materials and decline in finished goods means that management is quickly selling its product and anticipates that this demand will continue.
Outlook and valuation
However, a risk with the low inventory levels is that Micron will not be able to fulfill the strong demand in the near term. There are also supply chain issues outside of Micron’s control that may impact demand in the near term. CEO Mehrotra explained on the Q4 call that some PC customers are adjusting memory purchases in the near term due to non-memory component shortages. He added that supply chain constraints for IC components will limit some large shipments in the near term.
This commentary helps explain Micron’s Q1 FY2022 forward guide miss. Micron guided Q1 sales to be $7.65 billion at the mid-point, 10% below the Street’s initial estimate at $8.5 billion. Micron also guided Q1 EPS to be $2.10 at the midpoint, or 15% below initial expectations of $2.48. CEO Mehrotra explained that while there are near term supply chain issues, “shipping growth will resume in the second half of the fiscal year, and we're planning to deliver record revenue with solid profitability in fiscal 2022”. While Micron only quantified its Q1 guide, CEO Mehrotra’s statements suggest that growth will rebound in the second half of the year as supply chain issues and low inventory levels normalize.
Looking forward, Micron is expected to report Q1 earnings on December 20th. Q1 sales are expected to increase 33% YoY to $7.65 billion and non-GAAP EPS is expected to rise 169% YoY to $2.10. For the year, Micron is expected to grow sales 16% YoY to $2 billion and to report $9.01 in non-GAAP EPS, which gives it a 9.2x fwd EPS multiple. This is slightly below Intel’s fwd P/E multiple of 9.7 but above Western Digital’s fwd P/E of 6.7x. Furthermore, Micron’s fwd P/E of 9.2x is below the 15.8x level it reached earlier in the year, which highlights that there is room for multiple expansion going forward.
Micron also trades at a slight premium based on trailing earnings. Its TTM P/E multiple of 16x is 45% higher than the peer median of 11x (peers include Samsung, SK Hynix, Intel, and Western Digital). Micron is likely being awarded a premium over its peers due to its current technological lead in key technologies discussed above.
Conclusion
Micron’s sales grew 29% YoY in FY2021 and management expects this growth to continue into FY2022 as demand for memory remains robust. The memory market is becoming less cyclical due to numerous tailwinds that have expanded demand for memory beyond PCs and into more memory intensive markets such as data centers and mobile. Micron is ramping capex to keep pace with outsized demand and has innovated new technologies to keep pace with the cloud environment.
Management also issued a quarterly $0.10 dividend, which further highlights management’s contention that its market is becoming less cyclical. Micron currently trades at 9x fwd P/E, which is near Intel’s and above Western Digital’s multiple. If the company can prove to the market that its business is less cyclical and that its 40% gross margin and 50% cashflow margins are sustainable, then its multiple will likely expand going forward.
