Chroma ATE Inc

TWSE:2360

Earnings Call Analysis

Chroma's Q3 2023 Mixed Results and Optimism

Chroma reported a Q3 2023 net sales of TWD 4.847 billion, a 10% quarterly increase yet a 27% annual decline. 96% of sales derived from their test equipment business. Gross margin was 57%, a drop from last quarter's 62% but within expectations of being over 55%. Operating income decreased by 30% year-over-year to TWD 1.238 billion. Q3 saw a basic earnings per share of TWD 2.91. Despite a difficult year, they observe market stabilization and are prepared for better Q4 performance, potentially outperforming the last year's Q4, driven by non-China orders and various market segments.

A Tale of Resilience Amidst Challenges

Chroma, a test equipment provider, narrated its third quarter financial journey with a blend of growth and decline. In the latest quarter, the company achieved TWD 4.847 billion in net sales, marking a 10% increase from the previous quarter, yet a significant 27% drop from the same period last year. This dichotomy was mirrored in the test equipment business, which comprises 96% of Chroma's revenue, expanding by 10% quarter-on-quarter but also suffering a year-on-year decline which was the major contributor to the overall revenue drop. Gross margins have slightly contracted to 57% from last quarter's 62%, but still exceed the company's benchmark of 55%.

Costs and Operations - A Controlled Approach

Chroma’s control over operating expenses (OpEx) demonstrated a stable financial management, with figures aligning closely to the previous quarter's level and maintaining well against last year’s numbers. Despite this stability, operating income for the quarter saw a slight 2% growth from the second quarter but a substantial 30% decrease compared to the previous year.

Profitability Peaks and Valleys

The company faced a more complex scenario at the bottom line, with nonoperating sections doubling from the second quarter but tumbling 35% from the third quarter of the previous year. Income before taxes was down by 14% compared to the previous quarter and dropped by 32% year-on-year. These fluctuations resulted in a net income of TWD 1.254 billion—up 19% from the second quarter yet down 29% from the same period last year. Earnings per share stood at TWD 2.91, showing resilience with a 20% rise from the last quarter but reflecting the ongoing challenges with a 29% decline year-over-year.

Navigating the Product Mix with Tactical Adjustments

Jennifer from Chroma provided insights into the company's product mix, emphasizing the semiconductor and photonics sectors as the leading contributors, showing a robust 70% growth from the previous quarter due to strong SLT shipment and high-performance computing (HPC) and AI market demands. Nevertheless, Turnkey Solutions lagged in the third quarter but promise improvement in the fourth. For the year-to-date, cash instrument ATS shines as the top performer with a 26% growth. Chroma acknowledged that other semiconductor demands are faltering and project an overall decline in that sector for 2023.

Sales Breakdown and Future Guidance - A Mixed Picture

Despite a quarter-on-quarter sales boost in the core test equipment business, overall consolidated sales for the year are anticipated to trail slightly behind 2022. However, Chroma benefits from an enhanced product mix and effective management. Staying on course, they maintain their original guidance, with profitability expected to align with the previous year's performance, excluding any capital gains.

Earnings Call Transcript 2023-Q3

[Operator]

Good afternoon, ladies and gentlemen. Welcome to the [indiscernible] conference call. Our chairperson today is Paul. Paul, please begin your call, and I stand by for the question-and-answer session. Thank you.

[Paul Ying, executive]

Thank you, Regina. This is Paul from Chroma and welcome, ladies and gentlemen, to the third quarter financial release of Chroma. Well, I think you have already got from the internet or financial statements. Let's start at from the 2023 year third quarter condensed consolidated income statement. From here, you can see that the third quarter net sales is approximately TWD 4.847 billion, and compared to the last quarter, it's a 10% growth. But compared to last year, I think it's a 27% drop. And if you look down to the test equipment business, you can see that for the test equipment business is a stand-alone occupied like 96% of our top line, approximately TWD 4.627 billion. Compared to the last quarter, still it's a 10% growth. But compared to last year, again, I think this is the major reason for the drop compared to the last year's third quarter. And for the gross margin, you still can see that we are approaching to TWD 2.8 billion, which is 57% of the gross margin. Compared to the last quarter, I think the absolute number is similar. But again, the percentage for the gross margin, it's a little bit drop from the 62% of last quarter to 57%. But again, I have to emphasize that this gross margin still fall into our expectations, which is over or exceeding 55%. And compared to last year, third quarter, you still can see that last year, we made approximately TWD 3.5 billion. But again, the gross margin for the last year is somewhere like 53%. It's over 50%, still good, but compared to this year, I think this is the difference. And as to the OpEx, you still can see that for the third quarter compared to the second quarter, I think it's pretty much similar to last quarter. And compared to last year, we're even maintaining pretty well and approximately the same level. So the operating income for the third quarter of this year is somewhere like TWD 1.238 billion. Compared to the second quarter, it's a 2% growth, but compared to the last year, It's a 30% drop. So for the nonoperating sections, in this quarter is somewhere close to the TWD 307 million compared to the second quarter of last quarter, although it's double the size already. And compared to the third quarter of last year, it's a 35% drop. So for the income before tax is TWD 1.545 billion compared to the second quarter of this year is a 14% drop. And compared to last year, it's a 32% drop. And for the net income for third quarter, it's TWD 1.254 billion. Compared to the second quarter, it's a 19% growth. But compared to last year, it's a 29% drop. So for the third quarter standing alone, the basic earnings per share is TWD 2.91 . Again, compared to the second quarter, it's a 20% growth compared to the last year's third quarter, it's a 29% drop. Well, if we turn to the accumulation for the first 3 quarters of this year compared to last year, you can see that for the net sales is TWD 13.652 billion compared to last year, it's a 15% drop. Mainly the difference is coming from the test equipment business, which is 11% drop alone and another 4% coming from the MAS operations. As to the gross margin, you can see that the first 3 quarter accumulation for 2023 is TWD 8.179 billion, approximately 60% compared to the last year, it's a 5% drop. But for the gross margin ratio, it's 54% for last year. I think the performance of the gross margin of this year is a bit of better. As to the OpEx, if you look at the numbers, it's pretty maintaining a stable so that the operating income for the 2023 is somewhere like TWD 3.639 billion and Op margin is approximately 27%. And compared to the last year, it's a 9% drop. As to the net income for this year, it's TWD 3.270 billion. And compared to the last year, TWD 4.987 billion [Sic] TWD 4.308 billion, it's a 24% drop, but well, there's another exceptions for the performance of the last year, which is a disposal of investment of approximately TWD 500 million in last year first quarter. So that's one of the major reasons. The second reason for that is the disposal of the termination of the contract between the new material business between Chroma and the vendors. In last year first quarter, it contributed TWD 635 million. That makes the difference of the gross margin in these sections. So this is the accumulation for the first 3 quarters of this year compared to last year. And if we go to the balance sheet highlights and the financial ratios, you can see from this page that the major difference would be the debt. You can see that the short-term debt is a bit of increasing compared to the long-term debt is paid back. And the major reason for that is the short-term debt increasing normally at the third quarter due to our payout of the dividend. So that will create a bit of a high on the short-term debt, and it will be low down to the next quarter until the first quarter of next year, and this short-term debt will be paid out as well. And for the inventory turnover, it's a bit of high, but compared to the last year, I think it's due to our current inventory status and our target is trying to slow that down to somewhere like 6 months. As to the accounts receivable turnover date, I think it's pretty much online with our expectations, which is approximately 3 months. And as to the ROE and return on equity, it's 19% and return on assets will be 12%, which is all double digit. And we go down to see the cash flow from operations as it's approaching to TWD 2 billion, somewhere like TWD 1.911 billion and the free cash flow is somewhere approximately TWD 1.2 billion. And this is the highlight for the balance sheet. And then if we go to the product mix and the sales breakdown, let me hand it over to Jennifer.

[Jennifer Chieng, executive]

Okay. Good afternoon, everyone. This is Jennifer. And I will brief our product mix in third quarter and then move on to Q&A. And you may refer to Slide 9 for third quarter and our first 3 quarters for mix and consolidated sales. Let's start with the product mix. For third quarter alone, semiconductor and photonics sectors was the biggest driver, present about 70% growth compared to last quarter, which is second quarter. This is mainly contributed from SLT shipments and demand from HPC and AI markets. And since most of the battery cell deliveries are scheduled in fourth quarter. So Turnkey Solutions was weak in third quarter. However, based on current schedules, the Turnkey Solutions in fourth quarter will be better than third quarter. And year-to-date, first 3 quarters, cash instrument ATS still is the biggest driver for this year, representing a growth of 26%. And within the testing instruments will present a consecutive growth of over 20% this year. And this year, except for HPC and AI applications, other semiconductor demands remain weak. So we expect overall semiconductor for 20 sectors will be lower than last year's. However, based on our current semiconductor products, the shipping schedules within the fourth quarter for semiconductor sectors were now lower than third quarter. And for consolidated sales breakdown, for third quarter, the classic equipment business was better than second quarter, which has increased by 10%. And we think the tax improvement business this year will present a linear up quarter-by-quarter. But the consolidated entity overall, if you consolidate all the entities together, this year, the total consolidated sales will be slightly lower than 2022. And despite of the lower sales for this year, I think we enjoyed a better product mix structures and well managed in all parts. We remain our guidance no change. The probability wise will be similar to last year's without the capital gains. And I think we could open it up for Q&A.

[Operator]

Thank you, Jennifer. Ladies and gentlemen, we will now poll for questions. [Operator Instructions] Our first question comes from Wern Juan Chng with HSBC.

[Wern Juan Chng, analyst]

Hey, Jennifer, I just got a couple of questions on your SLT side before moving over to ED. The first question is, has your rates for your existing AI customers, have they stabilized moving forward? That's my first question. SLT.

[Jennifer Chieng, executive]

Sorry, what do you meant by stabilize?

[Wern Juan Chng, analyst]

So this year, are your losses still increasing? Have they declined? Have they stabilized from the first half of this year?

[Jennifer Chieng, executive]

I don't quite understand the definition of stabilized but because the customers continue to place orders and we have a different delivery time.

[Wern Juan Chng, analyst]

Sure. Okay. Let me rephrase the question a different way. Are they still getting higher throughput from the existing lines? Or it's maxed out at the moment for your largest AI customer? Just in terms of -- I mean, because in the past, you mentioned that the AISRT demand is essentially driven by higher power density and…

[Jennifer Chieng, executive]

Okay. So I think this valuation does not apply for equipment companies. But this year, most of our deliver both SLT this year is mostly dealing with customers their new product next year. And we actually see more customers coming on next year. Yes, pretty much scheduled some of the quarters in 2024. And I'm not so sure if this is a meaning of stabilized for you.

[Wern Juan Chng, analyst]

Okay. That's fine. Moving on to my second question. Just regarding our ASIC customers. Could you share some color just in terms of the ramp? Do you expect the mix to be equal to your existing 2 customers that you half on-hand for 2024?

[Jennifer Chieng, executive]

Sorry, can you repeat the question?

[Wern Juan Chng, analyst]

For your ASIC customers location-specific integrated circuits for 2024, we expect the customer mix to be somewhat equal to your existing 2 customers that you have in 2023?

[Jennifer Chieng, executive]

I think these 2 years 2022 to '23, most is -- if you talk about production effects, mostly come from only one customer. And I guess, market is pretty much proceeded that particular poster. And rest of the customers, I think, is mostly dealing with R&D or tire runs. But however, I think if you really want to know the ASIC customers, I would say, yes, they do schedule the production phase next year, but being mainly in second half.

[Wern Juan Chng, analyst]

Got it. And my last question is just on battery cell formation project. Any update on the ramp in Southeast Asia and also if you could share some color on if you are considering projects in Europe or the U.S., that would be helpful.

[Jennifer Chieng, executive]

Okay, battery sales. Yes, I think battery cell business is pretty much is more like a global conversions. Every country has a different policy regarding to EV -- convert to EV models. We started well, after several years, the biggest driver comes from China market. Honestly, if you want to use that only -- [Technical Difficulty]But what we have seen for next year, I think the biggest driver will be come from other countries because I think as you could see from current economic status, people would like to lower down the stores on China. So we do start to see the picking up on the particular first one Japan market. As you could see year-to-date, I think Japan government already subsidized over TWD 100 billion for this EV development. And we also see another side, maybe today, I couldn't disclose this project, but we probably will start to comment on this project for next year, but we do start to see EU markets will gradually shift back their capacity. When I say shift back is not saying, they want to move everything out with China. It is start building out the local source in EU markets. And right now, we are working hard on these kind of projects. So I think moving forward for the next few years, I think most of the driver, particularly for EV market becoming from other China markets instead of China.

[Operator]

Thank you. And our next question comes from Kevin with Citi.

[Kevin Chen, analyst]

My first question is also regarding the SLT. I'm just wondering what the SLT order momentum. It seems like it's picking up quite fast in the third quarter. I'm just wondering how is our order momentum outlook going forward, especially for next year? And is there any changes versus how we see it since the last time we talked, I think, back in August? Because recently, there is, I think October, U.S. announced some new regulation regarding export control. So such a certain products, like H800, those China-specific products were also restricted. Do you see any impact from this new regulation?

[Jennifer Chieng, executive]

I guess that's not really apply for equipment companies. Probably first one, we actually noticed customers have multiple applications under mainframe. For example, under A structures, they probably have multiple products. And under edge, they also have multiple products. So in this day, the reason why we can create such a very close or strong customer stickiness is because when we design those tasks to customers, we even attach some change [ keys ] to increase this kind of flexibility for customers to cover different sections.So if one certain product is not big selling, but it doesn't impact for every equipment first is not impactful. Every equipment we have shipped. And second, this is already bundled whatever we deliver to customers before. And as an improvement company, we are forward-looking. So this year, most of our deliveries in dealing with the customers' new products next year. And if you ask, I think, right now, HPC and AI is actually one of the only factors that we do see have long-term visibility even on rolling out for the first and even extend up to second half of next year. So not only comes from this particularly HPC customers, when we are start to see ASIC makers or other new competitor of our customers moving to this market. However, [indiscernible] that as a overall semiconductor or products, I think our drivers not come from SLT. As you could see, if the demand for HPC and AI content increase. It also benefits for these so-called optical fiber competition. So we also start to see picking up the order for optical fiber communication from fourth quarter and moving forward. Because every day [indiscernible] in these states will go through optical fiber communication.

[Kevin Chen, analyst]

Okay. I see. Yes, I guess the second question is also regarding the optical communication part. Do you have any sense of what kind of growth we'll be looking at getting into the end of this year and next year?

[Jennifer Chieng, executive]

If you just look at these certain SLT, we normally market used to refer so-called [ EBIT ] ratio, you only could see this order is continuing to increase. It is so far we could comment on particular products. But we haven't finished our budget. So maybe we just need some time to how our picture budget before we actually make announcements regarding to our view for next year. But however, just like I said, HPC and AI markets currently have longer visibility compared to other states.

[Kevin Chen, analyst]

Okay. Thank you. Just one quick check. When you previously mentioned that the when we look into the fourth quarter for the semi and photonics, do you say that the revenue is not going to be lower or going to be lower compared to…

[Jennifer Chieng, executive]

I think our lease were not lower than third quarter according to current schedule.

[Operator]

Thank you. And our next question comes from Jerry with JPMorgan.

[Jerry Tsai, analyst]

Hi, Paul and Jennifer here. Thank you for taking my call. My first question will be on the ATS thing we noticed that in the third quarter, it's down 16% Q-on-Q. I think maybe you can share like -- do you see any kind of change in the geographical mix in the third quarter versus first half and also maybe product mix? And also, another related question will be, what kind of visibility do you have beyond the end of this year? Because I think you mentioned something about ATS will not be growing less than 20%. So that probably means the fourth quarter will be probably roughly same as third quarter or even better. But I would wonder what do you [indiscernible] do you have for the first half next year for ATS? That's my first question.

[Jennifer Chieng, executive]

Yes, I actually double check the major growth driver for definition test instruments this year. I think first half is because including China, they have this high expectations or will be maybe confidence level -- was really high at that time, able to wrapping up the economy status. And so we do see the strong growth in the first half, mostly come from China markets, particularly highlight to energy storage and EV business. And moving to second half, as you can see, the China e-comm sector doesn't turn up to shape market expected. So honestly, we start to see more shipments. I think in this day, when we talk about relocate outside of China is no longer talking about like or remove equipment out of China. Instead, that actually build more capacity outside China. So you could say, second half this year, if you look at ATS factors, I think most of the gross momentum has actually come from [indiscernible] and also other non-China markets. And particularly some of the Southeast Asia because it's gradually become a supplied factory for several industry like consumer electronic goods and also including EV business. Because as you can see, Thailand is halfway. So several European customers, they will build out some capacity in Thailand. And mostly, we'll be focused on EV-related several energy storage. Of course, we do see some picking up orders from these kind of AI servers or power devices. But I think the biggest contribution is supposed to be '24 instead of '23. Yes. I think last year, our ATS increased by 26%, I think, 20-something percent. And I think this year, we're still able to maintain about over 20% growth.

[Jerry Tsai, analyst]

Okay. That's very clear. My second question is I think you mentioned about the turnkey could be up in the fourth quarter. Can you ask if it's driven by battery? And if not, when can we see turnkey in a more meaningful contribution from battery information?

[Jennifer Chieng, executive]

Okay. For EV battery cell approaches, let me give some colors regarding to this. I think that's we up to China market and China markets. Yes, for non China markets, several orders from Japan and other regions, and most of the deliveries are scheduled in fourth quarter. But the owners, their total capacity were not as big as China. China still is the biggest contribution for this year. But due to some of the schedules, customers change their departments or reorganize their structures, however, I think most of their EV battery cell projects from China will start booking from October. And obviously, first 6 months this year, we only booked about TWD 100 million and about TWD 100 million for third quarter only. So you could say year-to-date, we're only roughly TWD 200 million.

[Jerry Tsai, analyst]

Jennifer, to confirm you say 200 million in this U.S. dollar, right?

[Jennifer Chieng, executive]

Taiwan. No, this is NT dollars.

[Jerry Tsai, analyst]

Okay. So from China. Do you mean that for next year, there's still going to be some contribution coming from Chinese customer?

[Jennifer Chieng, executive]

I think we do have order on hand, but I don't think the dollars will be bigger than these 2 years.

[Jerry Tsai, analyst]

On my last question…

[Jennifer Chieng, executive]

However, I think if you want to look at EV markets I think from next year, most of the drivers will come from non-China regions.

[Jerry Tsai, analyst]

Okay. That's very helpful. My last question is on SLT. Because so far, a majority of the discussion about SLT seems to be related to AI applications. Do you see non-AI applications, those competitive chips also be adopting this SLT? And is that going to help you in the coming years?

[Jennifer Chieng, executive]

How do you decide for non-AI chips?

[Jerry Tsai, analyst]

[indiscernible] if for the same GPU, you could be using for AI purpose and then that's obviously been a very big driver for you, but let's say, for gaming GPU or consumer-related applications or consumer CPU, would that be a driver for you for the SLP?

[Jennifer Chieng, executive]

We don't cover CPU. And customers using our test ride from the gaming chips. So if they really want to build out more gaming chips, I think they will also adopt pasture. But the issue is we do see the customers building up capacity for gaming chips.

[Operator]

Our next question comes from Derrick with Morgan Stanley.

[Hong Ji Yang, analyst]

Hi, Paul and Jennifer. Thanks for taking my questions. I just have one small question. When Jerry was asking about your turnkey business, you say that year-to-date, you only booked TWD 200 million to revenue. I just want to make sure when you say that you were referring to just turnkey or also the battery formation business, included into overseas and other segment?

[Jennifer Chieng, executive]

The TWD 200 million is only for China project, which is under overseas operations. And in China market, I think you may have these numbers from the turnkey itself.

[Operator]

Thank you. [Operator Instructions] Our next question comes from Jeff with Macquarie.

[Jeffrey Ohlweiler, analyst]

Yes. Thank you Paul and Jennifer. A quick question on semiconductor photonics in general. I know in the past, you talked about very strong growth long term, maybe 20%-plus. Obviously, this year, you said down a tough year for non-AI especially. Are you still confident beyond this year that we get back to very strong growth in the semi photonics area?

[Jennifer Chieng, executive]

Based on current order visibility, we do have this kind of confidence level. Because we already start to see the general type of legacy parts of the business, I think getting stabilized. It's no further declined and stop some of the makers already prepared to pull in equipment. So actually, if you look at ATS Systems, fourth quarter even better than third quarter or previous quarters.

[Jeffrey Ohlweiler, analyst]

Okay. Great. And you said overall semi photonics down year-on-year this year. But if you just look at SLT, is that actually down year-on-year this year versus last year?

[Jennifer Chieng, executive]

We have one more quarter. I probably don't comment on individual products.

[Jeffrey Ohlweiler, analyst]

Okay. But maybe [indiscernible].

[Jennifer Chieng, executive]

But we do I think this year, fourth quarter will be a bit different compared to last year's fourth quarter. I think last year fourth quarter, the sales mostly comes from the China EV battery cell projects. And other rest of the factors, it's not the biggest contribution. But this year, fourth quarter, I think if you look at only parent loans without China market, it will be better than last year fourth quarter. So due to this kind of product mix, I think it's highly possible. We still were able to maintain our guidance [indiscernible] quarter.

[Jeffrey Ohlweiler, analyst]

Okay. Great. And then last question. You talked about photonics and fiber. Can you talk a little more about your customers in the photonic side that are the non-iPhone-related fiber customers, whether you can talk about names or at least geographies?

[Jennifer Chieng, executive]

I can't comment on customers name.

[Jeffrey Ohlweiler, analyst]

Geographies?

[Jennifer Chieng, executive]

I think it's very hard to comment on geography because these customers have multisite, they have both in Southeast Asia and in China. So this is the best I could answer.

[Jeffrey Ohlweiler, analyst]

Well, I'd say hypothetically, Cisco would be U.S. like the Fujito would be Japan, anything?

[Jennifer Chieng, executive]

Okay. Optical fiber communications made by a wafer called EDL, AG meter laser, and this is optical options. This is not under restrictions. It transmits the fibers. So [indiscernible] it's a commoditized product. But we do see the picking up demand due to the demand contribute from the HPC and AI products.

[Operator]

Thank you. [Operator Instructions] Once again, ladies and gentlemen, there is now one for questions. Jennifer, there seems to be no further question at this point in time. Thank you.

[Jennifer Chieng, executive]

Okay. Thank you.

[Paul Ying, executive]

Yes. Thank you. Well, ladies and gentlemen, thank you for your participating in this financial release for the third quarter of 2023 of Chroma. And this is Halloween, but I hope we can give you a very good and well, the performance for the third quarter and expecting for another fourth quarter coming in. And it's not a trick or treat, but happy Halloween. Thank you, and bye-bye.

[Jennifer Chieng, executive]

Thank you.

[Operator]

Thank you for your participation. This concludes our conference. Goodbye.