Alchip Technologies Ltd

TWSE:3661

Earnings Call Analysis

Alchip's Q3 Breakthrough: Record Growth and Promising Outlook

Alchip Technologies reported a record-breaking third quarter with revenue of $460 million, marking a 91.1% year-over-year increase. Net income reached $55.6 million, and EPS was $22.46. The company anticipates a slight revenue drop in Q4, projecting production revenues to decline by single digits. However, NRE revenue is expected to grow, accounting for 20-30% of total revenue. The shift to North American customers became evident, where 87% of revenue now originates. Alchip remains optimistic about 2025, especially with the 5-nanometer AI chip projected to become the top revenue contributor.

Strong Financial Performance in Q3

Alchip Technologies reported a record-breaking third quarter, with revenue reaching $460 million, a 91.1% year-on-year growth. Net income stood at $55.6 million, reflecting a 12.8% increase compared to the previous quarter, and earnings per share (EPS) was TWD 22.46. This financial performance positions the company favorably as they move into the next quarter, building on substantial growth in both revenue and net income.

Market Focus and Demand Trends

The demand for Alchip's products continues to be robust, particularly in the High-Performance Computing (HPC) and AI sectors, which accounted for about 94% of their revenue this year. During the earnings call, it was highlighted that 7-nanometer technology comprises 73% of revenue, with the combined total of advanced nodes (including 5-nanometer) accounting for 96% of their revenue. This indicates not only a strong demand for cutting-edge technology but also Alchip's leadership in this manufacturing segment.

Geographical Revenue Shifts

In terms of geographic distribution, North America accounted for an impressive 87% of the total revenue in Q3, marking a shift as major customers increasingly transition from Europe to North America. This shift suggests a strategic pivot towards regions that are at the forefront of AI-related developments, enhancing Alchip’s market positioning.

Outlook for Q4 and Beyond

Looking ahead, management anticipates a slight decrease in overall revenue for Q4, projecting a high single-digit drop compared to Q3. While production revenue may decline slightly, Non-Recurring Engineering (NRE) revenue is expected to strengthen due to seasonal demand. This could suggest a possible revenue stabilization as the company introduces several design wins across AI and networking applications. Additionally, management expects gross margins to improve from the current level of 19.5% to potentially above 20% in Q4.

Strategic Diversification and Risk Management

Alchip has proactively diversified its operations to mitigate geopolitical risks, particularly those associated with dependence on the Chinese market. Currently, only about 10% of revenue originates from China, which signifies a strategic realignment towards more stable markets. The company continues to invest in its engineering workforce outside China, primarily in Japan, Taiwan, Malaysia, and Vietnam.

Revenue Guidance for 2025

For 2025, management expressed confidence in achieving growth rates between 20% to 30%. It was noted that the 5-nanometer AI chips are expected to become the primary revenue contributors, overtaking the current 7-nanometer offerings. There is optimism about the execution of ongoing projects transitioning into mass production, particularly for 3-nanometer chips, which are projected to ramp up in early 2026.

NRE Contributions and Expectations

In terms of NRE, contributions are expected to rise significantly, potentially reaching 20% to 30% of total revenue in Q4. This reflects an ongoing demand for advanced engineering services, particularly in HPC and AI sectors. The NRE business climate appears promising, with plans to tape out multiple new designs that should contribute positively to Alchip’s financials.

Closing Remarks and Future Opportunities

Overall, Alchip Technologies is positioned for continued growth amid a dynamic industry landscape. With a focus on advanced technology and diversification of revenue sources, investors may find considerable value propositions in the company as it navigates the future market landscape with confidence.

Earnings Call Transcript 2024-Q3

[Daniel Wang, executive]

[indiscernible] usually is a safe harbor disclaimer and next page. So this meeting will be in English. So if you need Chinese presentation slides, please go to the March [indiscernible] to download the Chinese version. And [indiscernible] speaker. So if you are asking if you want to ask questions in Chinese, you are so welcome. And for the participants, please write down your questions. If you don't want to ask the question [indiscernible], you can write down your questions through the team's message function. And if you are going to ask questions during the Q&A session, please use the raise hand function team.

And this video and audio content will, for this meeting, will upload to [ Mark ] about 3 hours later after the meeting.

So we welcome our CEO, Johnny Shen to start the meeting.

[Johnny Shen, executive]

Good afternoon, ladies and gentlemen. This is Johnny Shen, President and CEO of Alchip Technologies. Yes, once again, thank you for joining the investor conference meeting. Yes, we appreciate the opportunity to share our Q3 results and provide guidance for future business outlook.

Let me briefly update our company again. The companies founded in 2003, IPO in 2014. The current market cats approximately USD 5 billion. Since we found the company we've been successfully informed more than 600 [indiscernible] amongst 600, 60 of them are [indiscernible] and [indiscernible] was related [indiscernible]. Our current employees about 600 people. Revenue last year 978, so this year, the first 3 quarters, we have achieved more than 1.1 billion already. Many [indiscernible] revenue coming from HPC and AI with our TSMC 3D fabric and the VCM member. Our current capacity [indiscernible] handle [ 22p ] annually. Our market focus is HPC networking and automotive.

Okay. Allow me to give everybody a Q3 update. For Q3, we are pleased to announce another record-breaking quarter with revenue reaching 460 million, net income 55.6 million and EPS is standing at TWD 22.46. All these numbers are historical [indiscernible] the company. The detailed breakdown and comparison will be presented by CFO, Daniel in the later session.

For future business outlook, Q4 is a big season for NRE. We plan to tape out several design this quarter. We have also secured many design wins across AI, networking or pivotal currency application mainly in North America region, leveraging the leading-edge technology at N5, N4, and N3. So in terms of mass production, demand remains strong even with some adjustments, the revenue outlooks remain reasonable. We anticipate owning a slow digit reduction in top line revenue in near-term quarters. However, thanks for high [indiscernible] forecasts, we expect earnings growth and also improvement in [indiscernible] gross margin as well.

In terms of geopolitical risk management, being successfully diversified our business beyond China to other regions. In 2024, only around 10% of revenue originated from China region. However, our business direction in China remain unchanged. We continuously to believe in and support businesses in China as long as they are financially healthy and comprise the right rule and regulation.

To emphasize again, Alchip has not conduct any business directly or indirectly with any company on the entity i[indiscernible]. All our customers are founded by 3-way NDA among Alchip, foundry partner and customer themselves. [ DE ] and KYC due diligence and know your customer process are strictly enforced before engaging in any business. In terms workforce, we have initiated a very aggressive revenue plan, faster our engineering resource outside of China, such as Japan, Taiwan, Malaysia and Vietnam. Currently, we have 100 engineering working in Japan. Our Malaysia office already staffed more than 25 engineer. The workforce in Southeast Asia that will be approximately 60 people by the end of this year. It's a strategic expansion plan is decided to offer more flexible and cost-effective solutions to meet our customer dynamic requirement in the global market.

As for conclusion, we are confident that our business in excellent stage likely Q4 is going to be another earning breaking quarter. Overall, we anticipate a strong completion for this year. Thank you very much.

[Daniel Wang, executive]

Okay. Here is our third quarter detailed P&L numbers. We -- the total revenue you may not reach [ 59.7 ] million, which is 9.2% quarter-on-quarter growth and 91.1% year-on-year growth. As for the operating income, we record 58.4 million for the third quarter, which is 14.1% quarter-on-quarter growth and 82.5% year-on-year books. And for the net income, the net income for the third quarter is 55.6 million, which is a 12.8% quarter-on-quarter and 97.7% year-on-year growth. For the EPS translating into [ 80 ] dollar it is [ THB 22.46 ] for our third quarter earnings per share.

Next page. Here is our breakdown by application, you can see that for the third quarter, [indiscernible] dominant, our quarterly revenue breakdown accounts for 97% of our total revenue. We rest the consumer networking niche account for about 3% of our total revenue, which indicates very strong demand from the HPC or especially AI side. For this year, first quarter to third quarter, the HPC-related revenue accounted for 94% of our total revenue and the other 3 applications combined accounts for about 6%.

And for the process now, again, I'm very proudly saying that among our peers, Alchip should be the leader for the process node technology. In third quarter, for the 7-nanometer accounts for 73% of our total revenue and -- if you combine the 7-nanometer, 5-nanometer and more advanced process node combined account for 96% of our total revenue. In the -- for this year, for 7-nanometer and the more advanced process node, which accounts the revenue related to the notes accounts -- accounted for 97% of our total revenue.

Next page. This is geographic breakdown. For the third quarter, the North America revenue accounted for 87% of our total revenue. And here is a reminder that starting from the third quarter, well, our major customers are shifting from the European account to North America account. So you can see the difference is mainly from the shifting of the customers' categorization. So for this year, the North America dominates our revenue breakdown accounted for 85% of our total revenue from first quarter to third quarter, thanks to the [indiscernible] to the AI-related ASIC or chip to our customers.

For the business review, our CEO just mentioned, we had record high quarterly revenue and profits. The reason behind the strong revenue were because, first of all, the strong shipment of our 7-nanometer AI ASIC actually exceeded our previous estimation which is the major contributor to our record high revenue. Secondly, the ramping up of 5-nanometer and accelerator to our North America IDM customer is another driver for the third quarter revenue growth. And for the profit side, profit is a record high and the gross margin slightly improved from what we had in the second quarter. The third quarter gross margin was 19.5%, improved model from the second quarter. The slightly gross margin improvement attributed to, first of all, we have higher NRE revenue numbers than second quarter. And for the production mix and that in the revenue mix, I'm saying the production mix by adding the 5-nanometer accelerator business, which enjoys slightly better margin than our 7-nanometer AI ASIC business. We consider these 2 factors are the main reasons for our gross margin improvement.

And the nonoperating income came mainly from the interest income, we don't have too many complicated investments or the other FX risk exposures. So the numbers on the nonoperating income -- nonoperating income side is mainly the interest income we get from our deposit and the fixed income investments.

Next page. And for the business outlook, I will do it very quick, and I believe many people -- many of you will ask related questions regarding to the outlook. First of all, for the fourth quarter, we believe the fourth quarter revenue will head up slightly. Given first of all, the 7-nanometer AI ASIC expected to go down slightly in the fourth quarter. And the 5-nanometer AI [indiscernible] shipment keep on moving up. But by combining the decline and the ramping up, we expect the production revenue to go down slightly in fourth quarter compared to third quarter this year. And the NRE, as our CEO mentioned, the NRE is a design revenue will be pretty strong in the fourth quarter, which means the profit market in general will be higher than what we had in third quarter. And for the next year, I knew many of the investors paid a lot of attention to our 2025 outlook.

So now briefly for the first half 2025. We will consider it is stable. And for next year as a whole, we see very strong I project pipeline to come in because of, first of all, the process node technology migration is still ongoing. We expect many 3-nanometer project, in Sweden many 3-nanometer projects to kick off in late fourth quarter this year or early quarter next year. And in -- starting from the first quarter, next year 2025, the 5-nanometer AI chip to the North American AI, to the North American IDMs will become the major revenue contributor to Alchip. And which means it will replace the 7-nanometer AI ASIC as the #1 revenue contributor for Alchip. And because we expect strong revenue growth in 2025. For now, I will say the profit market, especially in the gross margin side, will reasonably improve year-on-year.

So that's the session from the company for today's meeting. So we will go into the next session Q&A. As I mentioned, if you want to ask questions, you can go through the Message Board or raise your hand, and we will meet you all the questions. Thank you.

[Daniel Wang, executive]

And please, Haas?

[Haas Liu, analyst]

Hello can you hear me?

[Daniel Wang, executive]

I can hear you.

[Haas Liu, analyst]

Okay, okay. Yes. And then for the detailed remarks. I guess to start off, I was wondering, based on your guidance that revenue dropped by single digits quarter-on-quarter. Could you clarify it is if it is for the whole company or just for the turnkey business. And I was wondering how we should think about your NRE business when you talk about the tape-out revenue contribution in fourth quarter across 5-nanometer to 3-nanometer. And I have a follow-up question on fourth quarter.

[Daniel Wang, executive]

Okay. First of all, for the fourth quarter, as we mentioned, the NRE revenue will grow seasonal demand, so which is pretty strong, which means the production revenues actually declined more than the decline in percentage more than the total revenue decline in percentage, right? So what we guided that slightly or they say probably high single digits quarter-on-quarter decline, it means the total revenue.

[Haas Liu, analyst]

Okay. Yes. That's pretty clear. And then I think just based on the business assumptions you provided, could you share your view on the revenue mix between NRE and also production in the fourth quarter? And what we should think about gross margins, will you be back to 20% plus levels in fourth quarter? And operating margins will actually be higher quarter-on-quarter?

[Daniel Wang, executive]

This is where we cannot give you the numbers in the conference call due to the regulation. But since you can see our third quarter gross margin is 19.5%. So if we want to -- if we will have the improvement from this margin, it means above 20% right?

[Haas Liu, analyst]

Okay. Yes. But I mean that if you can provide a rough breakdown between your NRE mix versus turnkey for third quarter and also fourth quarter.

[Daniel Wang, executive]

I would say the NRE revenue likely accounts for 20% to 30% of our total revenue in fourth quarter.

[Haas Liu, analyst]

Okay. Fourth quarter. And then in the third quarter, it was around high teens [indiscernible] 20%, we could assume that?

[Daniel Wang, executive]

Around 20%.

[Haas Liu, analyst]

Okay. Yes. And then I think shifting gear to 2025 outlook, it seems that you are still pretty confident on the U.S. IDM customer contribution, which is somewhat in contradicts with your customers comment as well as the news reporting recently. So could you provide us some more update on that part of the business, especially considering that for second half of this year, the ramp seems to be weaker than expected. What gives you the confidence that it will still be the major contributor next year?

[Daniel Wang, executive]

I will answer first, and Johnny will do a more detailed answer later. So for the next year, I knew that there were a lot of rumors or sayings about the IDM customers to cut the orders. It is not 100% true. However, we do see that the customer to train their 2025 demand and some of the orders are right now putting up [indiscernible] but for the rumor in that 40%, 50%, 70% or even cut orders, it is not true. Based on the current orders [indiscernible] to TSMC and which I indicate it is the worst case scenario, we will still have [indiscernible] revenue contribution from this customer. And the last why I said for next year for the production or even for the overall revenue, these this chip, this 5-nanometer AI chip will become the #1 revenue contributor to us.

[Johnny Shen, executive]

Okay. Let me try to add more. Yes, to be honest, yes, we did receive some instruction to put a certain amount of order [indiscernible]. Yes, hopefully, the customer can recover, but maybe there's still [indiscernible] inventory level goes up. So some amounts that support our core. So -- but the current situation, we do some detailed calculation, I think that overall, the demand in hand is not that bad. But of course, before the -- from this earnings call to previous earning call, I think things changed very dynamic.

If I remember right, we have a very high confidence to further grow our company to a certain percentage, 20% to 30%. But right now, I think the situation changed a bit, I can say, we still have a chance to grow our company in terms of revenue. But overall, like I mentioned before, the NRE is quite promising next year. So we have higher confidence to further grow our company in terms of revenue, hopefully, we can now be -- hopefully, we can be flat or a little bit better than this year. Order pretty continually [indiscernible].

Please leave some opportunity to others. We will also go back to you later. And Robert, please.

[Robert Hsu, analyst]

Yes. Johnny, can you hear me? So I want to follow up on this IDM project. So I think you previously talked about if things go move, it can be as big as the 7-nanometer U.S. CSP project runs this year. So in your the bare case scenario, what would be the REM contribution now after this down forward to cut. And similarly, for this project, in 2026, how should we think about the revenue trajectory because the AI product road map from the customer appears to be very unclear and some of the customers are holding back on adopting this program.

[Johnny Shen, executive]

Our saying will be the same. I guess most people understand that we are under strict NDA. So what we can say is for the AI, I could say, the radar market, we do secure some projects. And one of the most important projects is the 3-nanometer projects. We are working up right now and for this project, the schedule is so far so good. Hopefully, hopefully. And we are confident that this 3-nanometer AI accelerator would likely to go into mass production in very early 2026. That's what we can deliver to you the most.

[Robert Hsu, analyst]

Sorry, I was asking about the U.S. IDM project.

[Johnny Shen, executive]

Okay. For U.S. IDM project I would say 5-nanometer, as I mentioned, is the major revenue contributor to us next year. And for the project beyond that, the same thing, I would say the next generation to the current 5-nanometer AI chip, supposedly 3-nanometer if the project base in TSMC we have pretty good chances to still be the ASIC partner with this customer. But if the customer assume may know that it is an IDM player. If the customer wants to bring the project back into their own fab, I would say, the chance for us to support the project will be smaller.

But for now, in our view, we see if a 3-nanometer AI chip wants to be competitive in the market. TSMC is a better choice [indiscernible].

[Robert Hsu, analyst]

And moving on to the U.S. [ CSD ] now, I think you shared some light. And could you help us understand the nature of this project? You think is still only one winner in the project were could eventually be the split between you and the other competitor. Because the reason I'm asking is about your comparison seems to be vocal about retaining the project after what they have on the finance right now. So can you help us understand what's the nature of.

[Johnny Shen, executive]

If I answer the question, which means I am indicating somebody else business, right?

[Robert Hsu, analyst]

No. Do you think it's still you winning [indiscernible] that.

[Johnny Shen, executive]

3-nanometer project, as I mentioned, but I cannot confirm with you. We are the only one or we are one of the multiple. I cannot do that.

[Robert Hsu, analyst]

Okay. Okay. Yes. I have a final one on your NRE. So I think, yes, so first, congratulations on your recent 3-nanometer project wins with the AI ASIC, I think, last week. So looking into 2025, how should we think about the NRE growth? I think you mentioned it would be strong and would it be above the trend that you guided before, like 20%, 30%? Can you be above this number?

[Johnny Shen, executive]

Yes. Let me try to cover that. So technology migration, I think, is still ongoing. Recently, I see before, majority of our [indiscernible]. Now the new [ IFC ] will receive cementing from N3. Yes, as you know, the N3 [indiscernible] in terms of everything is much, much higher than N5. So I think based on current demand and also the -- we calculate our NRE numbers the next year, the NRE growth is quite significant. Some customer, for example, the biggest customer, they even think about N3, they are talking about -- they are thinking about N2 now. In terms of NRE in terms of resource, I think that's -- the cost of cost for design will be much higher than before. Even we maintain the same capacity or [indiscernible] less [indiscernible] increase is quite significant.

And next one, Charlie, please. Charlie Chan, Morgan Stanley, I guess you're. Charlie are you their?

[Charlie Chan, analyst]

Okay. Yes, since your taking my question and also congrats on for a very, very good fourth quarter outlook? Yes. So my first question is a little bit mid to long-term outlook. First of all, to engage with the future 3-nanometer or 2-nanometer project, do you think you need to consider to add some from and design engineers or there's a kind of CTO level of people? And would you consider to do some spacing type of partnership with your customers?

[Johnny Shen, executive]

Okay. Yes. Let me try to answer this. So for [indiscernible] categorized into many fields. Using our #1 customer, for example, they don't need any [indiscernible] at all. For other CSP, yes, potentially like [ Gogo metal ], they may need some front end from their side, meaning on the subsystem side, for example, using the [ UI, D2D ] interface, they need some help on the subsystem to writing out the IP to the verification and do the -- even do the system level bring in.

Yes. For that area, we do some investments, working with a growth partner. And also, we have working with the front-end partner. Internally, we don't have too much intention to build a front-end team because the front end, as I mentioned before, that involved architecture, RTL that will infringe the neutral position. I don't want to touch customers' architecture. I don't want to get involved for their aspect design. That's why I can take many projects. If we involve too deep, later on, I think that our usual position, I think, have some challenge in that portion.

So to answer you, again, most of the customer does need down front-end support on the sub-season. We have a partner, we work with a partner closely, try to take this kind of project.

[Charlie Chan, analyst]

Got you. And I know you kind of have some front-end design partners in China, right, for example, for China auto projects better for the U.S. project, do you consider to work with other sensors company like -- just remind me. I didn't hear anything like [indiscernible]. It seems like also one of the TSMC growing important partner. Do you see that kind of collaboration with some U.S. coming for front-end size is possible?

[Johnny Shen, executive]

Yes. We don't guess. In China, we have a partner, in Singapore, we have a partner, in U.S., I think [ Synopsis ] is our front-end partners as well and also they're doing a lot of subsystems with us already. The company you mentioned about, yes, we don't guess. Actually, personally, I also have a time relationship we said if a business is making sense, I don't mind to work with them as well.

[Charlie Chan, analyst]

I see. And my second question is about the a little bit details about your 3-nanometer project wins. So of course, you have one major focus, right? But can you give us more detail about the numbers of 3-nanometer project wins? Who are those companies? And I guess, investors are very, very clear whether or when you can win another CSP customer. Can you comment on those fronts?

[Daniel Wang, executive]

Okay. For the most important project, we are having right now, and I would say the earliest one for into -- for getting into the best production and in large scale is the 3-nanometer accelerator to the CSPs in North America. In addition to that, we have multiple 3-nanometer project win from [indiscernible] customers such as networking customers, who is also listed quite a careful company in North America and the major networking equipment chip players in North America and Europe. So there are multiple opportunities. To be honest with, for the pipeline, we -- it is quite fruitful for now from the North America [indiscernible] AI or networking or the networking used in AI data center.

And for the other CSPs, we are currently engaging with discussion or let's say compete for a couple of projects with the industry peers. Of course, the strongest competitor is [indiscernible]. So we do have winning [indiscernible]. But right now, I would like to be conservative by say, if we want some projects, we will talk to the investors. But now we are competing.

[Johnny Shen, executive]

Yes. As you know, most of the CSP project in North America is dominated by Broadcom. Yes, Broadcom -- Broadcom is a very respectable competitor, but somehow most of our customers does have some concern to only use the Broadcom. So they are open a lot of opportunity before, it's very difficult for a company like us receiving RFQ from the CSP. But right now, I think whatever they have a project ready, yes, we have a chance to compete.

[Charlie Chan, analyst]

I see. So I will be back to the queue, if I can ask some second one question. I will do it later.

[Daniel Wang, executive]

Next one is [ Chao Ren-Chen ]. Please unmute. [indiscernible] are you there? Can you hear us?

[Unknown Analyst]

Yes. So I had a couple of questions, some of which you kind of already answered, but just to go through those. So first, you said for the U.S. IDM customer, if their 3-nanometer project is still done at TSMC, there is a good chance that you will participate in that, correct? And to be competitive, most likely, they would do that at TSMC rather than insourcing that again? That is correct. My understanding is right, right? And that's scheduled for late 2025?

[Daniel Wang, executive]

That's our view. That's not [indiscernible] view, that's not the view of our customer. That's ours.

[Unknown Analyst]

Understood, understood. I mistook. So there should be a continuation here. Okay. Understood. My second question, which Charlie was touching upon is the new 3-nanometer or even, I don't know, 2-nanometer customers, you mentioned you're competing with other designers for the CSPs, you mentioned the networking customers. Is that going to be a switch chip when you talk about networking customers. Are you working with them on their networking switch chips? Or would that be specifically? It's not an AI accelerator, correct?

[Daniel Wang, executive]

Okay. Let me first clarify that, first of all, what we are saying, we are competing with projects from CSP, which means the not existing customer. And for the existing customer, we will do the project generation by generation. And for the networking projects, I would like Johnny to elaborate it a little bit. But to be honest, because all the big customers, especially in the big U.S. customers, the confidentiality requirements.

[Unknown Analyst]

I understand.

[Johnny Shen, executive]

Yes. So there are many opportunities, I think, for -- from CSPs, our team is very busy to prepare the proposal and working with them. Yes, some of -- one of them are networking switch, yes, you are right.

[Unknown Analyst]

Okay. Got it. So if I look at 2026, 2027, who is likely to be the 3rd -- or, I don't know, could be second largest customer. Would it be like a second CSP? Would it be the networking partner? Or could it be, I don't know, some auto guy, right? Because I don't want to name names here, but could it be like Chinese auto company? Could it be a U.S. auto company, who's likely to be the next big customer after our U.S. CSP, existing CSP and existing IDM. It sounds like it's going to be a networking customer.

[Daniel Wang, executive]

If we are talking about 2026. I would say if we win, the networking project, the contribution from the chip would be quite significant. They have chance to be top 2, I'd say.

[Unknown Analyst]

Okay. Okay. Got it.

[Daniel Wang, executive]

For next year, I think IDN will be number one customer, number two, pretty much will be original number one. Then number three, I think many -- many customers has a chance.

[Unknown Analyst]

Okay. Understood. And my last question, if you don't mind. So regarding the old number one, next year's number two, for their 2026, when will we know with higher certainty. So when can we know that they've made the decision on their next generation? When do we get more visibility on their next-gen AI ASIC on 2026, whether it will be done with us or with another competitor.

[Daniel Wang, executive]

So the next generation, you are naming 2-nanometer?

[Unknown Analyst]

Yes.

[Daniel Wang, executive]

I would say very soon, very soon. Yes, the defect will be kicked off, yes, for sure, will be in 2025.

[Unknown Analyst]

Okay. Okay. Okay. So 3-nanometers, just to be clear, I may have some confusion. The 3-nanometer -- they're a 3-nanometer went to another competitor right? And then we're trying to win back the 2-nanometer? Sorry, yes.

[Daniel Wang, executive]

No, we are seeing the 3-nanometer right now, and we are expecting the chip to be in mass production in early 2026.

[Unknown Analyst]

Okay, okay, okay. Got it, got it, got it, got it. So they're 5-nanometer -- okay, okay. So last year it was 7-nanometer, 5 went to other , okay. Okay, so how would it be too early to ask your view on 2026? Now that you know that 3-nanometer is kicking off in 2026?

[Daniel Wang, executive]

Bit too early but I can ensure you that it is a very positive for Alchip.

[Unknown Analyst]

Understood. On the back of all those we just discussed, right? The IDM customer, your view is they -- if they want to be competitive, they should do TSMC/partnering with us. So on top of that, on top of us starting the 3-nanometer with big CSP customer and future -- not future but potentially more networking projects potentially to add one or two more CSPs and other stuff, right? [indiscernible] promising.

[Daniel Wang, executive]

Yes. I would say everything looks good in 2026. Even without new winning the 2026 will be very promising, but we will continuously try to win more customers.

[Unknown Analyst]

I see, I see. Understood, understood. Okay. So we should really look past 2025? Understood. Thank you.

[Daniel Wang, executive]

And next one is [indiscernible] please unmute.

[Unknown Analyst]

[indiscernible].

[Daniel Wang, executive]

Yes?

[Unknown Analyst]

Okay. I have one question it is on your kind of [indiscernible] discount liabilities started from [indiscernible] in second quarter to look at.

[Daniel Wang, executive]

[indiscernible] your voice is breaking up. I can -- we cannot understand you.

[Unknown Analyst]

[indiscernible].

[Daniel Wang, executive]

Yes, much better, much better.

[Unknown Analyst]

Okay. So my first question, I have noticed that your contract liabilities have surged around 7 billion in this year. And could you clarify how much of this increase is attributed to the production revenue commitment for the U.S. IDM customers and 5 AI accelerator projects for next year?

[Daniel Wang, executive]

Can you repeat your question again? In terms of revenue breakdown?

[Unknown Analyst]

Is about the control liabilities because the company has recognized a huge amount of contract liabilities this year.

[Daniel Wang, executive]

Okay. The control liabilities is mainly for the project the shipment for the 5-nanometer AI chip to the IDM customer. So starting from now or this is as the shipments ramping up, the control liability will gradually decrease when we should ship to a customer.

[Unknown Analyst]

Got it. So is this commitment or provision as we may refer to it, noncancelable?

[Daniel Wang, executive]

Yes, it is noncancelable.

[Unknown Analyst]

Got it. Okay. So if the demand of the N5 AI accelerator were to fall maybe below customers' expectation and production will reduce if would the revenue recognition be based on the proportion of the production? Or it is still a noncancelable -- all the country liabilities we recognized earlier can be transferred to our revenue?

[Daniel Wang, executive]

Okay. The basics of our business model is doing the service business. So actually, the chip is only for the customer, and it can be used by the customer only. So the almost every contract, the customer is mandated to take the chips.

[Unknown Analyst]

Sure. Got it. And so I only have one follow-up question is for the 3-nanometer ASIC from the U.S. CSP customers that we have won. Are there still 2 packaging versions that utilize the same top die or -- and maybe another way to ask, have we secured both the training and inference projects?

[Daniel Wang, executive]

Sorry, I cannot answer you this question. It's related to the is, is -- as I said, we are under strict NDA, we cannot disclose the details about our chip.

[Unknown Analyst]

Okay. Got it. That's all my questions. And I'll be back to the queue.

[Daniel Wang, executive]

[indiscernible] please unmute your speaker.

[Unknown Analyst]

First question is your current large CSP customer, your mass production volume was very high for, I would say, over 2 years. Do you think the 3-nanometer project when that ramps up will also be that long? Or is that -- do you think the projects will get shorter [indiscernible] life cycles in the future?

[Daniel Wang, executive]

Yes. So in terms of revenue number N3, definitely will be much higher than N7. But in terms of production cycle I do some operation at [indiscernible], like 1.5 year, I think average may be 2 years.

[Unknown Analyst]

Okay. And second question, any update on your ADAS, major ADAS customer for next year in terms of ramp-up and how that's going?

[Daniel Wang, executive]

Yes, everything goes smoothly, will be on schedule. We will start the shipment in the third quarter or last year.

[Unknown Analyst]

Okay. And my last question, your IDM customer assuming their next-generation wraps up roughly what you think, how much mass traction in the time frame you think the 5-nanometer will be. If it's just ramping up from third quarter this year. Do you think that will actually have revenues in 2026 on mass production or close end of life?

[Daniel Wang, executive]

Yes. Like I mentioned before, there's a certain [indiscernible]. But before we expect to see the production for the whole year. But -- I don't know, they still have a chance to restrain [indiscernible] before we're thinking about this production well less than 2 years because their next-generation is candle. So we expect without the big issue, the lifetime for this particular project will be longer.

Okay. I guess it goes back to Haas. Haas can you unmute?

[Haas Liu, analyst]

Yes. Can you hear me now?

[Daniel Wang, executive]

Yes.

[Haas Liu, analyst]

Yes. Okay. I think just 2 quick follow-ups for the NRE versus turnkey mix next year. Since this year, it's pretty much like 20% from NRE and not until like fourth quarter this year, it is going to be back to 20, 30% of your total sales. What should we think about the NRE mix as a percentage of your total sales, looking into 2025? And what is your initial view or take for the NRE contribution as a percentage of your sales in 2016. If you can share -- if you could share based on your current forecast?

[Daniel Wang, executive]

Okay. I'm ready, I haven't done the budgeting. But based on the current picture, I will say the next year, NRE will account for about 20% to 30% about the revenue.

So based on my calculation, I didn't do very detailed as well. But the next year, in terms of NRE weight, will be higher this year, but we don't know about 2026. As you know, 2026 production revenue ramping up very quick even though NRE also ramping up quick, but I'm still thinking about the production improvement will be faster than NRE. That's for sure.

[Haas Liu, analyst]

Sure, sure. And then regarding your IDM customers business contribution next year, you discussed about the contract liability will go down quarter-on-quarter throughout 2025, the [indiscernible] pre-shipment. But I was just wondering if the customer can actually delay the [indiscernible] and that will actually push out your revenue and contribution schedule as well.

[Daniel Wang, executive]

If we are talking about the part [indiscernible], I would say anything is possible. But to us, to the supplier as a supplier and for TSMC as a function [indiscernible] I would say, every one of the shipment to be on scheduled or even to accelerate the shipment for the current project because TSMC is running a very high schedule for its wafer capacity, especially for the 5-nanometer and the [indiscernible] capacity. We want it to be on schedule.

[Johnny Shen, executive]

Let me also add some input for this. So whatever the order we are receiving from this customer, the wafer process already happened. So this is a separate way to put a hole. In usual case, people do some functional changes to put it on the contact level and waiting for the matter of change. and most of the people just process all the way. So everything is in wafer process now. If they put anything on hold, there will be a consequence put on hold contact will be storage fees. For beyond metal is the users because most major cost is on the device. So if the wafer already in the metal process, most of the customers will have decided to take the inventory part because not much money they can get it back, even the cancel the order.

So everything is in the wafer process. I think the chance for them to cancel in [indiscernible] order, I think, will not be too high. And given the fact they are working very hard to get the cohorts as capacity from TSMC last year, both our chip and that end customers are working very hard to get this capacity. I think this is a very pressures. I believe and hope everything will be proceed accordingly.

[Haas Liu, analyst]

Okay. Yes. And I think lastly for my follow-up question is, I think just regarding the [ Colas ] capacity that you have been securing for 2025. How should we think about the scale compared with 2024? And for the next 3-nanometer hyperscaler project, you are going to about to ramp from late 2025 or early 2026. What should we think about the technology of [ cohorts ] that the Alchip will be adopting and whether you are actually already negotiating with the foundry supply chain regarding that project ramp?

[Daniel Wang, executive]

Actually, we already have projects in production, that is [ tech chip ]. So if you are asking me about the [ tech chipset ] technology, sure, we will keep our supporting customers who is the need for that. And looking forward, the -- I would say most of the advanced AI easier will be in chipset technology.

[Haas Liu, analyst]

Yes. I was just wondering, compared to 2024 for the [ coat ] supply you secured from your foundry partners. A little bit about the year-on-year trend for 2025, even with your IDM customer is putting some of the orders on hold.

[Daniel Wang, executive]

Okay. For the North American service customer, I would say it's really special and TSMC gives their best support to the customers. So for the future capacity, although the scale of the production will be huge in 2026. We are confident and the customers are confident to get very good support on TSMC's colors capacity, right?

[Johnny Shen, executive]

Yes. For 2025, so far, I think we have a much, much less constraint from cohorts than '24, '26 will be another challenge year for us because of our increased alignment, many customers ready for production.

[Daniel Wang, executive]

Okay, Robert.

[Robert Hsu, analyst]

Hi Daniel, thanks. So I just have a follow on the [indiscernible] customer. So how much percentage does the customer have to prepay? And if I look at your country liability, I think it's around 300 million. And then if we assume probably 70% of that or you ask for 70% of prepayment, should we assume that these targets should contribute around 500 million or so next year?

[Daniel Wang, executive]

Robert, we cannot talk about numbers because it's related to our customer.

[Robert Hsu, analyst]

I just want to know how much is actually in the back end? How much is upping here?

[Daniel Wang, executive]

How much is in our pocket? You can see the [indiscernible]. And based on that amount, you still have to put some more because that's for wafer and some others [indiscernible], they will still need some money to do the testing something like as [indiscernible].

[Johnny Shen, executive]

Yes, let me try to answer this way for -- we already started production for this particular customer for a while. So far, everything they are paying the credit so good. They are paying everything on time. I don't -- yes, I don't think that's -- [indiscernible] I also do a lot of channel on their funding situation, I think so far, I get a positive feedback. The total amount of number compared to the whole company, I think, is not as significant.

[Robert Hsu, analyst]

Got it. Got it. And secondly, on the -- I think it sounds pretty promising on the networking [indiscernible] especially for the switch. So I just want to know the customers thought process. So one is prompt them to suddenly move towards this [indiscernible] model for the switch [indiscernible] is that to get it by the cost performance? And how should we think about the [indiscernible] support? Because I think the incumbents on the [indiscernible] is the service.

[Daniel Wang, executive]

No, it is a complicated question for the consideration why the customer choosing us as the silicon supplier. There are multiple considerations.

[Robert Hsu, analyst]

Sorry, Daniel I was asking about the network in ASIC. So what are the.

[Daniel Wang, executive]

Yes. The same thing for the networking ASICs I would say the large is pretty much the same with the CSPs. Let's assume this way. If the networking chip is used in the AI data center. And the so-called turnkey solution providers needs to charge a lot of the margin with very high price, probably, the customer will consider to do for other suppliers with more flexible pricing and more flexible engineering support given the potential shipment [indiscernible] be huge, 1%, 2% difference in cost is a significant absolute amount of money.

[Johnny Shen, executive]

Yes. Talking about specific IP [indiscernible] of course, Broadcom has a good reputation on that area. I think, again, it's a very respectful company. Yes. But right now, many other companies has to service a solution and some of them, for example, [ Synopsys ] has improved for different generation from our #1 customer and also many other IT provider as this kind of solution. We're working with all of them try to provide the most competitive solution to minimize their ground dependency.

[Daniel Wang, executive]

Charlie, yes, please.

[Charlie Chan, analyst]

My follow-up question. So we talked about there's kind of the worst case scenario for the U.S. IDN customer. But what is the base case? Meaning if a based occurrence TSMC's wafer orders, what would be the implied 2025 revenue growth?

[Daniel Wang, executive]

I would say the revenue from this customer will hopefully account for still over 1/3 out of the revenue next year.

[Charlie Chan, analyst]

It's a base case, right?

[Daniel Wang, executive]

That's the base case.

[Charlie Chan, analyst]

Okay. Okay. Yes, that's yes, because I took with you that it is not ideal to for their customers who can sell wafer order at TSMC, if they want to pursue sort of a long-term power ownership, right? And there are not many kind of valuable assets for that group. So yes, I think it's good to manage investor stations, but is also to do the what is the base case. So this a very, very helpful.

And another follow-up is the 3-nanometer NRE. Do you think 2025, we are going to see any second of turnkey revenue from fund 3-nanometer projects other than a major CSP?

[Johnny Shen, executive]

3-nanometer chip. Let me see. Yes, because our production number is very high. It's is dictated by owning fewer comp. But even though some projects go to the total hyping stage or I think they start to produce some NPE revenue, but compared to overall number still insignificant. Yes, I believe, because some of the project will be taped out whatever the project take out before the first half we expect to see some total typing revenue, production revenue on Q4. There will be fueled on the pipeline. Yes, but it's not as significant as other major project.

[Charlie Chan, analyst]

Okay. So I would assume those 3-nanometer projects outside of the major CSP should be more 2026 revenue contribution.

[Johnny Shen, executive]

Will be 2026. Yes.

[Charlie Chan, analyst]

Okay. Okay. Would those also need cost capacity?

[Johnny Shen, executive]

Yes. If it's AI-related, definitely, they need a cost capacity. We do have a few many start-up AI accelerator for customer, they need to call out capacity.

[Charlie Chan, analyst]

Okay. How about the so-called switch networking ASIC? Would that need the cohorts as well?

[Daniel Wang, executive]

No. They don't need [indiscernible].

[Charlie Chan, analyst]

I see -- and the last one is the geopolitical risk. I know you kind of handled this very carefully. But recently, you see the news, right, about your foundry partner in China, something it's kind of escalated. So I'm wondering if your products with customers incidentally used by companies in the end of day, would that still impact your business or operation in China?

[Daniel Wang, executive]

I would say no. First of all, our China exposure is currently really low. You can imagine this way. Let's take the recent new [indiscernible] example in order to cover our way, not too many companies who can be the -- so agent to do that. Secondly, we do know -- because we were -- we have been in China for many years, actually, we knew the customers in the market. So this is -- I would say it doesn't make sense for us to take the risk to react so called the agent as the entity list customer. It isn't worth it.

[Johnny Shen, executive]

Right. Overall revenue from [indiscernible] is insignificant. I think looking forward in the future, our emphasis point is I think automotive right now is I think they are political and sensitive at this moment.

[Charlie Chan, analyst]

Got it. And next, are you comfortable to talk about your potential exceeding the Japan consumer opportunity or projects?

[Daniel Wang, executive]

We do have a good win in Japan and the production will be in 2025. But to be honest, it is not within the HPC area. So the contribution -- for the revenue scale as we have currently, the revenue contribution is -- I won't say not good. I would say -- how to describe it. It's good contribution from a consumer project, but cannot compare to the scale of the AI accelerators. Yes, yes, #1 customer is Japan.

[Charlie Chan, analyst]

Yes. I know your company is very, very successful in AI, U.S., maybe China auto, but why you are winning a Japan consumer project? And since like it was handled by and other design service. So can you give us some big on why you're winning this kind of project?

[Daniel Wang, executive]

I think this customer used to be our [indiscernible] possible. Yes, we've been continuously working with them. Finally, they granted project to us and we do the similar application 10 years ago. Yes, we have some experience. And during the last time, that was our #1 customer. So we have a place in that area by any way, right now, the revenue contribution is reasonable about , but it's not good enough to grow -- further grow our company in terms of a significant percentage. A.

Very good customer, very good customer.

[Charlie Chan, analyst]

Congrats on day 1.

[Daniel Wang, executive]

Okay. Thank you. And we have -- it's about to answer, we want to finish the question through the message box. So from the [ Miyako ] Bank of America. The question one is can you update us about the data or schedule of the 3-nanometer budget you mentioned? And the second question is if the biggest U.S. IDM customer does not pull the inventory from you, what will be the minimum revenue that you can bring then you can recognize in 2025? Should we refer to the counter liability number?

So I guess I just cover, I can now cover these 2 questions. For scheduling, we cannot talk to much. So you can I guess, you know a whole scheduling of a typical HPC or AI chip in the leading-edge process now. As we said that the 3-nanometer project will be in [indiscernible] early 2006, early 2026, which means the tape-out will be in the first half at least the first half of 2025 maturely.

And if the -- for the U.S. IDM customer, the [indiscernible] liability number is a reference, but it is not exactly the same. As I mentioned, you have to still pay on others for the completed chip. And for the inventory, I want to emphasize, we are providing services. So we don't bear the inventory risk. The customer has to pick up the inventory.

And from [ Brian ], he asked about can you share more about the margins and the profitability of NRE pipeline and the competitive landscape, especially with the CSPs, i.e., timing is it more second half '25 based and how much comes from the total design platform versus direct [ RFP ]? To your question I would say, I have to -- thank you. For your question, I would say it is really big questions. The competition landscape with the North American CSP, I would say, the -- currently, mainly we are competing with our breakout -- and Broadcom is a very respectful competitor, and we will try -- actually we will try our best to win through better engineering, better support, more stability for a pricing. We sincerely believe we have chance to win some projects from other cloud service providers other than our existing customers.

And for the margins and the profitability for the NRE, usually, the NRE is relatively the same, we can get about 40% gross margin from the NRE revenue but it really depends on the [indiscernible] and what is the application and what is the process now. And the numbers come from the [indiscernible] total [ DSA ] platform, I'm not to familiar with -- I'm not understand -- understanding your meaning, but I will assume saying customer asks us to do designed by using the IP, I would say for now, no. And I want to emphasize that is providing the biggest architecture IP provider in the world but for [indiscernible] architecture IP has more related more relations with the front-end design, we are providing back-end design service. So for quite a long time, we don't have too many direct business relationship with you can keep on hearing that we are working with [ Synergies ] [indiscernible]. That's the reason.

And for [ Brian Young ], [ EFGAM ], this question is as the industry advance towards [ 224 giga ] service all of your peers have emphasized service IP as a key competitive advantage, considering that primarily relied on third-party licensed IP, how does management think about LG's ability to sustain its competitive edge in winning key AI HPC projects. Additionally, what implications might this have for you for the module provider?

Okay. Let me [indiscernible] to answer this question. [ 224 30s ]. It is a very important IP to win to sustain the HPC AI-related applications using our #1 competitor [indiscernible] for example, the reason everybody considers to use their IP because the IP is approved. They've already proven on their own product. Yes, the [ CSP OCS ] customers are very conservative. We are not willing to use any unproven IP. The IP need to be silicon-ready, silicon-proven, and production proven, and also volume improvement in order for them to use. So many of our smaller competitors can they have IP. But to be honest, I don't think they can win. Yes, even the company like [ Synopsys ], we can consider is the #1 basic [ aero Minisignal ] IP in the world not too many people is there to use without proven.

So our strategy, I think, is like this, we are working with a smaller IT vendor like [ Synopsys ], [ Credo ] or others. Proven their IP from the startup company. We have so many start up company in the pipeline. In usual case, the start-up company go even faster than CSP, that's how they supply, it's how they [indiscernible] a company. Once we prove on the startup company and then or smaller company, then we can bring this solution back to the CSP. Yes. So we already have several wins working with partner using [ 224 kids ] service of 5-nanometer and also 3-nanometer. So the solution after they can come back, we can propose to the CSP, so that's our strategy.

The companies like us, even we spent a lot of effort to spend a lot of time to make the IP solution by ourselves. After 2 years, when they decide start, I don't think we have a chance to win CSP directly. Yes, it takes a lot of effort. And I don't think that's a good investment. Working with the partner is the right approach. Now that is obviously very complicated that everybody should focus the area which you are more capable of. Yes, I don't want to -- and also I don't want to compete with our IT partner. But so far our relationship, I think, is good.

[Johnny Shen, executive]

Okay. Thank you. I guess it's about time and we already answered the questions from the message board. And thank you for your participation in our third quarter earnings call. Thank you.

[Daniel Wang, executive]

All right. Thank you very much. Thank you, thank you for your support. Thank you.