Power Integrations, Inc. (NASDAQ:POWI) Q2 2023 Earnings Call Transcript

Power Integrations, Inc. (NASDAQ:POWI) Q2 2023 Earnings Call Transcript August 4, 2023

Operator: Thank you for standing by. My name is Maria and I will be your conference operator today. At this time, I would like to welcome everyone to the Power Integrations Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the call over to Joe Shiffler, Director of Investor Relations. Mr. Shiffler, please go ahead.

Joe Shiffler: Thank you, Maria. Good afternoon everyone. Thanks for joining us. With me on the call today are Balu Balakrishnan, Chairman, and CEO of Power Integrations; and Sandeep Nayyar, our Chief Financial Officer. During this call, we will refer to financial measures not calculated according to GAAP. Non-GAAP measures for the second quarter of 2023 exclude stock-based compensation expenses, amortization of acquisition-related intangible assets, and the tax effects of these items. A reconciliation of non-GAAP measures to our GAAP results is included in today’s press release. Our discussion today, including the Q&A session, will include forward-looking statements denoted by words like will, would, believe, should, expect, outlook, plan, forecast, anticipate, prospects, and similar expressions that look toward future events or performance.

Such statements are subject to risks and uncertainties that may cause actual results to differ materially from those projected or implied. Such risks and uncertainties are discussed in today’s press release and in our most recent Form 10-K filed with the SEC on February seven 2023. Finally this call is the property of Power Integrations and any recording or rebroadcast is expressly prohibited without the written consent of Power Integrations. Now, I’ll turn it over to Balu.

Balu Balakrishnan: Thanks Joe and good afternoon. As expected, our Q2 results marked the start of a recovery from the cyclical trough reached in the prior quarter. While the pace of the recovery reflects a soft demand environment, especially in China, we do expect meaningful revenue growth in the second half of the year compared to the first half as inventories continue to improve and new designs go into production. We also expect significant higher gross margins — significantly higher gross margins and operating margins in the second half. Most importantly, our products are winning in the market and secular trends like energy efficiency, renewable energy, and electrification are going strong regardless of the industry cycles.

Each of these trends contributes to a lower carbon future and we are participating in all of them through our presence in renewable energy and electric transportation, energy-efficient drivers for brushless DC motors and LED lights, our leading position in GaN, and our expertise in reducing standby power waste. Now, standby technology remains as relevant today as ever thanks to the ever-increasing number of electronic devices drawing power from the grid and it remains a priority for quality makers who recognize that the cleaner synergy is the energy we never used in the first place. With that in mind, EU has recently revised its ecodesign standards for standby consumption and I’ll talk more about that in a moment. Second quarter revenues were in line with our guidance at $123 million, up 16% from the prior quarter.

Industrial, the last category to enter the cyclical correction, declined slightly. All other categories showed strong sequential growth led by consumer which grew 35%, driven by appliances and air conditioning. Channel inventories associated with the consumer market fell significantly in Q2 and are approaching normal levels. The computer category was up more than 20% sequentially, driven by tablets, desktops, and aftermarket GaN charges. Revenues from the communications category were up high teens sequentially, despite continued softness in the Android market. While revenues from Android customers were essentially flat from the prior quarter, channel inventories continue to be well below normal and we have received a number of rush orders in recent months from distributors serving Chinese OEMs. Overall, distributor inventories ended the quarter at 10 weeks, down more than a week and a half from the prior quarter and down about three and a half weeks since the beginning of the year.

We expect further reductions in channel inventory in the September quarter. Lower channel inventories should enable continued sequential growth in Q3 though our expectations for September quarter do reflect a weaker near-term demand environment, especially in China. Nevertheless, we are pleased to be past the bottom of the cycle and we look forward to a reduction of year-over-year growth in the fourth quarter. We believe we are well-positioned for growth in 2024, driven not just by cyclical recovery, but also the strength of our product portfolio and an expanding pipeline of design activity. In Q2, we achieved an all-time high in terms of potential revenue value of design opportunities created during the quarter. This reflects the increased breadth of applications we are addressing and rising dollar content in charges and appliances and superior performance and ease of use of our product.

Our flagship InnoSwitch ICs now in the fourth generation continue to set the state of the art in power supply technology with the highest level of integration available, including primary and secondary site control and FluxLink isolation technology with eliminate couplers. InnoSwitch ICs offer a choice of silicon GaN or silicon carbide switches as well as an integrated USB PD interface for mobile applications removing the need for a separate protocol chip. One of our largest cellphone customers has recently taken advantage of this capability designing out the USB PD protocol chip in a high-volume charger and upgrading to the PD version of InnoSwitch driving a substantial increase in our dollar content. We won a wide range of other advanced charger designs in Q2 with GaN InnoSwitch products as well as our HiperPFS-5/GAN power factor correction ICs, including two aftermarket USB PD chargers with 140 watts of output.

GaN interswitch devices also won designs in a number of non-mobile applications in Q2 including air conditioners, industrial controls, medical equipment, USB, walled receptocls and search protectors. Overall, we expect about half of our GaN’s revenue this year to come from non-cellphone applications. In automotive, we are seeing strong interest in our new 900-volt GaN InnoSwitch products for power supplies in 400-volt passenger cars. In 800-volt vehicles we are racking up with wins with our silicon carbide InnoSwitch products which are far and away the best solution for 12-volt battery replacement and emergency power supplies in drivetrain inverters. A recent Tier-1 design win for emergency power supplies is now ramping with a major European car brand and we have significant follow-on design activity at the same Tier-1 customer.

Two Chinese customers are beginning production with us in Q3 and we expect to be in production with a total of four Chinese car models by the end of this year. In all, our design opportunity pipeline exceeds $100 million. And as we have noted in prior calls, we are converting opportunities into design wins at a much higher rate in automotive than any other end market. The transition to brushless DC motors in appliances and high back equipment is creating a broad set of opportunities for our bidswitch motor dry products. And our strong incumbent position in appliance power supplies gives us the leg up as sockets become available. In Q2, we grew our opportunity pipeline to more than $60 million and secured our first design in as a major supplier of circulation pumps for radiant heating systems scheduled to begin production in early 2024.

Bridge Switch ICs not only drive motors more efficiently than computing solutions, but also minimize power consumption of the motor when an appliance is not in use. This capability takes on greater importance in light of Europe’s updated EcoDesign standards which mandate a reduction in the allowable standby power for a wide range of electronic products beginning in 2025. This is the first major update to standby regulations since 2013 and should provide a tailwind across a broad range of applications as OEMs redesign products to meet the stricter limits. Power Integrations has been the leader in reducing standby waste since we’ve introduced our EcoSmart technology 25 years ago. EcoSmart technology all but eliminated standby consumption in power supplies saving more than two million homes worth of electivity usage every year by our estimates.

It produces these savings without any loss of functionality for the end user and without added cost or design effort on the part of our customers. In addition to savings standby power with EcoSmart technology and driving higher active mode efficiency with GaN, we also contribute to de-carbonization with our scale gate drivers which drive IGPT and silicon carbide modules in high-power applications. We are on track for another year of growth in this business driven mainly by renewables where our gate drivers are key components of inverters for wind turbines and utility-scale solar installations. Just as important as generating renewable energy is delivering it efficiently to the grid and we have recently won a design for a high-voltage DC transmission link connecting a North Sea wind farm to the Mainland.

This multiyear project worth millions of dollars in revenues is scheduled to begin production in the second half of 2024. And while electric passenger cars get most of their attention we are equally well positioned to benefit from electrification in heavy vehicles and locomotives. We won a high-volume gatedriver design in Q2 for a traction inverter at Europe’s largest locomotive manufacturer and we are seeing strong interest from customers in our scale EV driver boards for heavy vehicles such as trucks, buses, and construction equipment. In all our high-power business is poised to benefit tremendously in the years ahead as the world drives towards a lower carbon future. With that, I will turn it over to Sandeep for a review of the financials.

Sandeep Nayyar: Thanks, Balu, and good afternoon. We delivered Q2 results in line with our guidance. And while the demand environment is challenging we expect the second half of 2023 to be much better than the first in all key respects with significant improvements in revenues, profitability, cash flow and inventories. Revenues for the second quarter were $123 million in the middle of our guidance range and up 16% from the prior quarter. Revenues fell 33% compared to Q2 of last year, which was the peak quarter of the cycle. The consumer and industrial categories drove the year-over-year decline with each down by roughly half compared to a year ago. However, the communication and computer categories have resumed growing on a year-over-year basis with each of them up mid-single digits in Q2.

Revenue mix for the quarter was 29% Industrial, 29% Consumer, 28% communication and 14% computer. Sell-through exceeded sell-in for the third consecutive quarter, resulting in a further reduction in distribution inventory. We ended the quarter at 10.1 weeks of channel inventory compared to 11.8 weeks last quarter and 13.5 weeks at the end of December. Non-GAAP gross margin was 51.8%, up modestly from the prior quarter as expected driven mainly by a slight benefit from the more favorable dollar-yen exchange rates that began in the second half of last year and is now beginning to affect our P&L. I expect a bigger benefit from then in the second half as well as a more favorable end market mix and a benefit from higher back-end production volumes as we convert more wafers into finished kids.

As indicated in our press release, this should drive our non-GAAP gross margins to around 54% in the September quarter, with a further increase to come in the fourth quarter. Non-GAAP operating expenses for the quarter were $43.9 million, up sequentially as expected due mainly to annual salary increases which took effect around the start of the quarter. However, we came in below our guidance on OpEx as we slowed the pace of headcount additions and deferred some discretionary spending. Non-GAAP operating margin for the quarter was 16.1% and non-GAAP earnings were $0.36 per diluted share. Cash flow from operations for the quarter was $6.2 million reflecting unfavorable working capital flows which should reverse over the next several quarters.

Inventory dollars on the balance sheet peaked in the June quarter and should begin declining in Q3. March was the peak in terms of inventory days and we ended Q2 at 226 days down 22 days from the prior quarter. Uses of cash during the quarter included $3 million for CapEx $11 million for dividends and $4 million for share repurchases. We bought back 57,000 shares during the quarter at an average price of about $75 per share. Turning to the outlook. We expect revenues for the third quarter to be $130 million plus or minus $5 million. Sell-through should once again be higher than reported revenues as channel inventories continue to fall. As noted earlier, I expect non-GAAP gross margin to be around 54%. Non-GAAP operating expenses for the third quarter should be about $43.5 million down slightly from Q2 as we continue to manage headcount growth and discretionary spending in light of the soft demand environment.

Finally, I expect non-GAAP effective tax rate for the third quarter and the year to be between 7% and 8%. And now, operator, let’s begin the Q&A.

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Q&A Session

Operator: Thank you. [Operator Instructions] Your first question comes from Mr. Christopher Rolland with Susquehanna. Please go ahead.

Christopher Jackson: I guess looking forward in terms of your segments here perhaps you can give us some clues as to the better and worse performers. It sounds like industrial is dragging a little bit here maybe even force shrank those if you could for us.

Sandeep Nayyar: So basically, if you look at it – if you look at the beginning of the year, what we had talked about was the communication and computer are going to do well, and the biggest track this year would be in the consumer and industrial segment, and specially the consumer segment, if you remember we had talked about during COVID, there was a significant amount of pull-in of demand. And that is getting normalized and that was reflected in the channel inventories. Now, the channel inventories have normalized in the consumer segment and are actually below in the communication while as industrial is still higher, but that’s where I think it’s a timing issue. As we move in the second half we do expect industrial to come back.

And we are seeing that even in appliances because in the third quarter it’s typically the — where the air conditioning comes down. And there were some demand which we were expecting like from our Korean customer, which has got pushed into Q4. But I think as the year goes by the mix is going to get more favorable, which is reflected in our margins along with the yen benefit and the higher volume benefit coming from the revenue growth in the second half.

Christopher Jackson: Great. Thank you, Sandeep. And you talked about higher gross margins in the second half. You just alluded to the yen. But, I think, you called out yen rising production volumes and a more favorable end mix. Maybe talk about gross margin progression through the year how we might end the year and then what we would attribute to each of those kind of three factors? Thanks.

Sandeep Nayyar: Yes. So if you look at it we had talked about it that the first half as you know in Q1 we were around 51.5%. We inched up a bit to 51.8% in Q2. And if you remember we talked about how the yen had moved in the second half of last year. And it takes typically about six months, but to move into our P&L. But now with the inventory levels it’s taking a little longer about nine months. So in Q3, we will see our gross margin non-GAAP at around 54% and then it will inch up from there. As I have talked about in the past, we are going to be in our model, but more towards the higher end of our model. And I think as the revenue starts coming back in the second half it is more reflective of what I have discussed. But I think the benefit in both those quarters come from mix, volumes and the yen benefit.

Christopher Jackson: Thanks so much, guys.

Operator: The next question comes from Mr. Ross Seymore from Deutsche Bank. Please go ahead.

Ross Seymore: Hi, guys. Thanks for asking question. Just wondering, you guys have done a great job on the channel inventory and being very clear on that. It seems like coming at the other side they see rub to the situation is that true end demand is just weaker than you might have otherwise hoped. You still express the confidence in the second half being bigger in the fourth quarter being up year-over-year. Any sort of even just directional color on the magnitude of the fourth quarter because the third quarter is up you set the bottom but it’s not up quite as much as you might have hoped earlier this year?

Balu Balakrishnan: Well, hi, Ross. This is Balu. If you look at the last 10 years or 12 years, the seasonality for the Q4 is slightly down about 2% down. And this year because of the inventory depletion and hopefully some of the areas coming back, we think that the best we can estimate it will be an incrementally higher revenue quarter compared to Q3. What we don’t know is exactly how much higher it’s going to be because it will really depend upon whether the demand comes back on a number of these end markets by the end of this year whether some of it will come into Q4. So we feel comfortable that it’s going to be how much.

Ross Seymore: Got you. That seems fair. And while I know visibility is limited. To the extent you guys have that over $100 billion pipeline million — excuse me, dollar pipeline. You know the kind of different design wins diversifying with again a number of different end markets in general. If you talk just about the stuff you can control for the company-specific design wins that you think generally speaking will layer in next year how would you look at the puts and takes macro might be a negative or an uncertainty, but for the stuff you can control Walk us through what those incremental drivers could be for 2024?