Published on August 25th, 2020 📆 | 8111 Views ⚑0
Why Silicon Motion Technology Could Be A Long Despite Near-Term Headwinds (NASDAQ:SIMO)
Silicon Motion Technology Corporation (SIMO) cruised by Q2 earnings estimates. But despite growing revenue and EPS by double digits, the stock has added to its losses for the year and is now down by over 25% YTD. The stock fell after the company reported in its outlook that revenue is expected to decline in Q3. But there is reason to think SIMO is still worth going long despite the recent fall. Why will be covered in greater detail next.
Q2 2020 quarterly earnings
Q2 revenue grew by 45% YoY to $136.8M. Non-GAAP operating income and EPS jumped by 75.7% and 55.8% to $30.4M and $0.81 respectively. Note that in the second quarter of 2019, SIMO posted a $12.9M gain on the disposal of long-term investments, which affects the YoY comparisons for EPS in terms of GAAP.
(GAAP) Q2 2020 Q1 2020 Q2 2019 QoQ YoY Revenue $136.8M $132.8M $98.8M 3.0% 38.4% Gross margin 50.0% 48.1% 46.7% – – Operating income $30.1M $24.1M $12.3M 24.9% 144.7% EPS $0.80 $0.74 $0.75 8.1% 6.7% (Non-GAAP) Revenue $136.8M $132.8M $94.3M 3.0% 45.1% Gross margin 50.0% 48.2% 51.5% – – Operating income $30.4M $26.6M $17.3M 14.3% 75.7% EPS $0.81 $0.80 $0.52 1.0% 55.8%
Source: Silicon Motion Technology Form 6-K
(GAAP) Q3 2019 Q3 2020 (guidance) YoY Revenue $110.5M $112-120M 4.98% Gross margin 49.6% 47.9-49.9% – CY2019 CY2020 Revenue $457.3M $508-521M 12.51% Gross margin 48.6% 47.5-49.5% – (Non-GAAP) Q3 2019 Q3 2020 (guidance) Revenue $113.2M $112-120M 2.47% Gross margin 39.8% 48.0-50.0% – CY2019 CY2020 Revenue $449.4M $508-521M 14.49% Gross margin 50.1% 47.5-49.5% –
Q3 2020 (guidance)
Q3 2020 (guidance)
The outlook was somewhat of a mixed bag. The forecast calls for Q3 revenue of $112-120M, an increase of 2.47% YoY at the midpoint. Not only is growth much lower than the previous quarter, but it’s also a decline of 15.2% in absolute terms compared to Q2 revenue of $136.8M. Nevertheless, CY2020 revenue is still expected to grow by 14.5% to $508-521M. In contrast, CY2019 revenue declined by 10% in comparison to CY2018.
Q2 2020 earnings call
Q2 was a good quarter, but there are some headwinds ahead if guidance is any indication. The fast growth in prior quarters is expected to slow down in Q3. Management explained in the earnings call why it expects a sequential decline in revenue. From the Q2 earnings call:
“We are benefiting from strong demand for SSD by PC OEMs and this is reflected in our very strong year-over-year SSD controller sale growth. But our quarter-after-quarter sequential trends have recently been uneven due to our NAND size customer’s short-term internal flash allocation decision.”
A transcript of the Q2 2020 earnings call can be found here.
It appears revenue in recent quarters was higher than they would have been because of NAND allocation towards hyperscale procurement. Hyperscale procurement is now tapering off and NAND prices have begun to decline. The elevated revenue seen recently is expected to normalize.
“That now has changed. The hyperscaler surge procurement has begun tapering off. NAND prices have started to fall, and our NAND customers are now allocating NAND back to client SSDs.”
In addition, SIMO is seeing weakness in the smartphone market, although a recovery may not be far away.
“Recently we are seeing elevated levels of inventory as many leading smartphone OEMs, which is affecting NAND flash makers production of UFS. And this in turn is delaying our sales of controllers. As a result, we are expecting our user controller sales to temporarily decline in the third quarter before rebounding in the fourth quarter, as the inventory level in the supply chain are consumed with expected sequential quarterly smartphone shipment growth.”
SIMO would also like to remind everyone that COVID-19 may affect results depending on how the pandemic plays out.
“There are also COVID-19 downside risks and these risks include expected contraction in smartphone shipments, uncertainty relating to timing and strength of global economy recovery and the slowdown in China data center CapEx spending.”
However, SIMO expects Q3 to be aberration.
“our third quarter outlook calls for the temporary revenue decline, but all indications are that growth will resume in the fourth quarter.”
In a nutshell, SIMO sees a slowdown ahead. But a recovery will not take long and growth is expected to resume in Q4 with SSD controller sales in the driver seat.
SIMO has been going sideways
SIMO has been growing by double digits, but that hasn’t always been the case. In fact, SIMO has been growing in fits and starts. SIMO seems to be meandering between periods of expansion and contraction as seen in the table below. Double-digit growth can be followed by double-digit contraction.
YoY revenue growth Q2 2020 38.38% Q1 2020 40.00% Q4 2019 24.39% Q3 2019 (20.14%) Q2 2019 (28.26%) Q1 2019 (26.92%) Q4 2018 (9.56%) Q3 2018 9.45% Q2 2018 3.76% Q1 2018 2.36% Q4 2017 (5.56%) Q3 2017 (20.13%) Q2 2017 (5.67%) Q1 2017 12.39% Q4 2016 46.49% Q3 2016 67.37% Q2 2016 62.07% Q1 2016 39.51%
YoY revenue growth
SIMO’s trailing twelve months revenue is currently at $534M and guidance calls for CY2020 revenue to end up at $508-521M. In comparison, revenue and EBITDA peaked in 2016 at $556M and $149M respectively after several years of solid growth as shown in the table below. SIMO has been stuck in a range ever since.
Revenue EBITDA 2020 (guidance) $508-521M N/A 2019 $457M $65M 2018 $530M $120M 2017 $523M $108M 2016 $556M $149M 2015 $361M $85M 2014 $289M $66M 2013 $225M $42M
SIMO seems to be stuck in a range and so too has the stock. SIMO’s stock has been essentially range-bound since 2016, which coincidentally also happens to be the year when SIMO peaked in terms of revenue and earnings as mentioned above. The stock is currently priced at the same level it was in early 2016.
The stock’s price action in 2020 could be an indication that there is concern about where SIMO may be heading. As stated earlier, SIMO calls for growth to slow down in its forecast. In the past, a slowdown led to several quarters of contraction. The worry is that SIMO may be heading for another one of these contractions. SIMO has to go on a sustained growth phase if it is to set new revenue and earnings highs, which could propel the stock out of its current range.
Falling NAND prices can be a good thing for SIMO
One way this could happen is if NAND becomes much more affordable in the future and there is more widespread adoption among the average consumers. As mentioned previously, SIMO sees NAND prices heading down. There are others that agree with this assessment.
For instance, NAND manufacturers like Western Digital (WDC) concur with the notion that prices are under pressure. While falling prices for NAND have occurred many times before, there is reason to think that the downward trend in NAND prices could last longer this time around as elaborated in another article.
While lower prices are bad for NAND manufacturers, the same may not necessarily be true for SIMO. SIMO is in a different position because it could actually benefit from cheaper NAND as low prices encourages NAND adoption among consumers. Cheaper NAND chips make SSDs more affordable. More affordable SSDs lead to increased sales, which in turn increases demand for SSD controllers and related products like the ones provided by SIMO.
Source: Wikimedia Commons
SIMO has been going sideways for several years now. Revenue and earnings peaked in 2016 and growth has leveled out since then despite sizable ups and downs along the way. The stock itself has also stalled and has been moving within a range. It’s unlikely the stock will break out if revenue and earnings stay where they are and don’t also break out.
There have been times when SIMO grew by double digits, only to be followed by periods when the company contracted by roughly the same amount. The stock therefore did not respond well to the news that SIMO was anticipating near-term headwinds in its outlook. SIMO may have grown by double digits in recent quarters, but the worry is that SIMO is due for another contraction. Weak smartphone sales throughout 2020 have not helped.
The stock has fallen 25% YTD despite forecasts that call for double-digit growth in 2020 and a resumption of growth as soon as Q4. The fact that NAND prices are falling is seen as a sign that NAND demand is insufficient, which in turn has a spillover effect on relevant companies in the industry, SIMO included. On the other hand, SIMO could actually benefit from cheaper NAND if it encourages consumer uptake.
There are some indications that NAND prices may stay lower for longer this time around, which should encourage SSD uptake and hence demand for controllers from SIMO. Furthermore, while COVID-19 may cause short-term uncertainty, it’s likely to benefit SIMO in the long run by accelerating the work-from-home trend.
So despite the YTD depreciation in the stock and the forecast for near-term headwinds, I am bullish on SIMO. SIMO is approaching the bottom end of the trading range it has been stuck in for the better part of five years. SIMO could be worth going long from this standpoint alone. The stock may fall further in the short term, so dollar averaging is appropriate.
SIMO is still in growth mode. Most of the fears are mostly unrealized at this point. In addition, there is a chance that SIMO may not be heading for a period of contraction as feared. SIMO itself does not expect the Q3 decline to last very long. The stock’s recent fall could very well turn out to be just a buying opportunity.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in SIMO over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.