AXT, Inc. 10-Q Summary
Business Context and Reporting Period
AXT develops and manufactures compound and single-element semiconductor substrates, including indium phosphide, gallium arsenide and germanium wafers, and sells related raw materials such as purified gallium and pBN crucibles. Manufacturing is conducted through subsidiaries and joint ventures in China. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2022, filed August 12, 2022.
Financial Performance and Position
| Metric | Q2 2022 | Q2 2021 | Six Months 2022 | Six Months 2021 |
|---|---|---|---|---|
| Revenue | $39.5 million | $33.7 million | $79.1 million | $65.1 million |
| Gross profit | $15.4 million | $12.2 million | $28.7 million | $23.8 million |
| Gross margin | 39.1% | 36.3% | 36.3% | 36.5% |
| Income from operations | $5.3 million | $3.9 million | $9.0 million | $7.5 million |
| Net income | $6.5 million | $4.6 million | $10.5 million | $8.4 million |
| Net income attributable to AXT | $5.5 million | $4.4 million | $8.7 million | $7.8 million |
| Diluted EPS | $0.13 | $0.10 | $0.20 | $0.18 |
- Q2 revenue increased 17.1%; six-month revenue increased 21.6%. Substrate revenue grew 27.3% in Q2 and 31.4% year to date, led by InP demand associated with 5G, data-center connectivity and related applications. Raw-material revenue declined 11.7% in Q2 and 6.6% year to date, primarily because of lower refined-gallium sales.
- Q2 operating margin was approximately 13.4%, versus 11.6% in the prior-year quarter. Six-month operating margin was approximately 11.4%, versus 11.5% in the prior-year period.
- Q2 net margin was approximately 16.6%; net income included $2.2 million of equity income from unconsolidated joint ventures. Six-month equity income was $3.3 million.
- SG&A increased 15.5% in Q2 and 15.6% year to date. Research and development increased 36.1% in Q2 and 33.8% year to date, reflecting personnel and development spending for larger-diameter GaAs and InP products.
- Net cash provided by operating activities was $5.5 million in the first six months, compared with $10.6 million of operating cash used in the prior-year period. Working capital absorbed cash, particularly inventories, which increased to $77.3 million from $65.9 million at December 31, 2021.
- Capital expenditures were $20.9 million, primarily for new facilities, manufacturing equipment and construction in progress. Construction in progress was $41.1 million at June 30, 2022.
- Cash, restricted cash and cash equivalents totaled $44.9 million, and investments totaled $12.2 million, for total reported liquidity of approximately $57.2 million. Management stated that available cash and investments should meet operating and capital needs for the next 12 months.
- Bank loans totaled $33.0 million, all classified as current. Approximately $3.0 million was due in September 2022, and several other borrowings matured between December 2022 and June 2023. A $3.9 million restricted time deposit collateralized a $3.4 million loan.
Material Changes Versus the Prior Comparable Period
- Growth was concentrated in substrates, while raw-material sales declined. Taiwan and North America showed particularly strong revenue growth in Q2; Europe and other Asia-Pacific markets declined.
- Q2 gross margin improved 280 basis points due to better crystal-growth yields, recycling of InP processing remnants, improved margins at raw-material subsidiaries and a favorable product mix. The six-month gross margin was slightly lower year over year.
- Net income attributable to noncontrolling and redeemable noncontrolling interests increased to $1.0 million in Q2 and $1.8 million year to date, reducing the portion of consolidated earnings attributable to AXT.
- Liquidity increased from year-end, but primarily through $23.4 million of new bank-loan proceeds and $1.3 million of capital contributions from noncontrolling interests. Investing cash use also increased because of higher capital spending.
- Inventory reserves increased to $22.1 million for excess and obsolete inventory, plus $135,000 for lower of cost or net realizable value, compared with $19.6 million and $66,000, respectively, at December 31, 2021.
- Accumulated other comprehensive income declined to $637,000 from $6.3 million, primarily due to foreign-currency translation losses.
Guidance, Outlook, Risks and Unusual Items
- Management expects Tongmei’s proposed IPO on the Shanghai Stock Exchange STAR Market to proceed in the second half of 2022, probably in the fourth quarter, subject to CSRC and other regulatory approvals. The Shanghai Stock Exchange approved the application on July 12, 2022, after the reporting date.
- Private-equity investors in Tongmei have redemption rights of approximately $49 million if the IPO fails required reviews, is not approved, or is canceled. Any redemption could require AXT to obtain additional capital and materially affect liquidity.
- Management identified COVID-19 restrictions, potential factory shutdowns, transportation disruptions, China-U.S. geopolitical tensions, tariffs, environmental regulation, foreign-exchange movements, customer qualification requirements, manufacturing yields and semiconductor-industry cyclicality as significant risks.
- AXT paid approximately $1.6 million in tariffs during the first six months of 2022. Approximately 10% of revenue is generated from wafers imported into the United States.
- One customer represented 12% of Q2 revenue and 11% of six-month revenue; the top five customers represented 35% and 32%, respectively. One customer represented 11% of accounts receivable at June 30, 2022.
- The company’s products are manufactured in China, creating exposure to PRC regulatory intervention, environmental and hazardous-material requirements, currency controls, supply-chain disruption and restrictions on repatriating cash.
- A Chinese provincial relocation grant contributed $0.2 million to other income during the first six months. A $1.5 million dividend from an equity investment was received in July 2022, after quarter-end.
- Management reported effective disclosure controls and no material changes in internal control over financial reporting during the quarter. No material litigation was disclosed.
Most Important Facts to Verify
- Whether Tongmei receives final CSRC and other approvals and completes its STAR Market IPO, avoiding the approximately $49 million redemption exposure.
- Whether operating cash flow can fund the substantial capital-expansion program without continued borrowing.
- Repayment timing and refinancing capacity for the $33.0 million of current bank loans.
- Inventory turnover, excess-and-obsolete reserves and the sustainability of improved Q2 yields and gross margin.
- Customer concentration, product qualification progress and demand durability for InP, GaAs and Ge substrates.
- Impact of China lockdowns, environmental restrictions, tariffs, trade controls and foreign-exchange movements on production, shipments and margins.
- Availability and transferability of cash held by Chinese subsidiaries and joint ventures, including applicable SAFE approvals and currency restrictions.