1 May 2018

Cree’s quarterly revenue driven by Wolfspeed’s SiC materials and Power & GaN RF devices

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For fiscal third-quarter 2018 (ended 25 March), Cree Inc of Durham, NC, USA has reported revenue of $356m, down 3% on $367.8m last quarter but up 4% on $341.5m a year ago. However, this includes just under a month’s activities from the Infineon RF Power business (acquired on 6 March). Excluding this, revenue was $352m, up 3% year-on-year, and towards the upper end of the expected range of $335-355m.

Fiscal	Q3/2017	Q4/2017	Q1/2018	Q2/2018	Q3/2018
Revenue	$341.5m	$358.9m	$360.4m	$367.8m	$356m

“From a strategic perspective, our Wolfspeed silicon carbide (SiC) materials, power and GaN RF businesses are the primary growth drivers of the company,” notes CEO Gregg Lowe.

Revenue for the Wolfspeed business (Power & RF devices and SiC materials) was $81.9m (23% of total revenue), up 16% on $70.6m last quarter and 46% on $56.1m (16% of total revenue) a year ago. Excluding revenue from the Infineon RF Power business, Wolfspeed’s organic growth was still 10% sequentially (above the targeted 5%) and 38% year-on-year, due to better-than-anticipated factory execution.

Revenue for LED Products (chips and components) was $143.3m (40% of total revenue), down 6% on $152.7m last quarter (better than the expected 10%) but up 9% on $131.3m a year ago, due to strong demand in high-power general lighting, video screen and specialty lighting applications.

Revenue for Lighting Products (mainly LED lighting systems and lamps) was $130.8m (37% of total revenue), down 10% on $144.6m last quarter and 15% on $154m (45% of total revenue) a year ago.

“Wolfspeed’s performance in Q3 illustrates the tremendous potential of the business, with organic revenues increasing nearly 40% year-on-year and gross margins increasing almost 100 basis points,” notes Lowe.
Although down slightly from 48.4% last quarter, Wolfspeed gross margin was an above-target 48%, up from 47% a year ago.

LED Products gross margin has risen further, from 24.7% a year ago and 25.3% last quarter to 26.4%, due to strong demand and a more favorable product mix.

Lighting Products gross margin was 19.1%, down from 23% a year ago but up from 15.9% last quarter due to lower warranty-related costs and incremental factory improvements.

Overall company gross margin has risen from 25.2% last quarter to 27.8%. On a non-GAAP basis, gross margin was 28.3%, up from 25.7% and above the forecasted 28%.

Operating expenditure (OpEx) was $97m, below the targeted $98m due mainly to R&D expenses being lower (related to timing).

Compared with a net loss of $0.66m ($0.01 per diluted share) last quarter, Cree made a net profit of $3.8m ($0.04 per diluted share) - exceeding the $3m ($0.03 per diluted share) upper end of the targeted range - and up from net profit of $0.75m ($0.01 per diluted share) a year ago.

During the quarter, Cree received $16m from the exercise of employee stock options. Cash flow from operations was hence $19.6m (down from $51.7m last quarter). Spending on property, plant & equipment (PP&E) was $43.2m (down from $48.8m), while patent spending was $3m. So, total capital expenditure (CapEx) was $46m (down from $51.3m). Free cash flow was hence -$26.5m (compared with +$461,000 last quarter).

On 6 March Cree spent $427m to acquire assets of the Infineon RF Power business (which is reported as part of the Wolfspeed segment). This was after Cree borrowed $316m on its line of credit. So overall (net of line-of-credit borrowings), cash and investments fell from $526m to $401m.

Inventory days on hand rose to 109 days as inventory rose by $37m to $310m. Of this increase, $26m relates to the acquired RF Power inventories (inclusive of a $5m preliminary purchase accounting basis step up). The remainder is primarily Wolfspeed work in process (WiP) to support business growth as well as finished goods in Lighting Products. Cree aims to exit fiscal Q4/2018 with inventory days on hand below 100 days (within the target range of 90-100 days).

During fiscal Q3, Cree completed a strategic review process, leading to the announcement on 26 February of a new long-term business strategy. “We adjusted the outlook of our Lighting Products segment to be focused on fixing the business and providing modest growth,” says chief financial officer Mike McDevitt. So, during fiscal Q4/2018 Cree is implementing a restructuring plan to right size its Lighting Products resources (involving a $7m GAAP restructuring charge), to be fully implemented by the end of the September quarter, after which it targets fully realizing $15m in annual OpEx reductions. “We’ve made significant changes to our design and product release methodologies, resulting in great initial revenue traction on new products and lower warranty claims,” says Lowe. “We’ve also improved relationships with our channel and distribution partners, giving us a larger footprint and a better customer-facing presence,” he adds. “We target higher revenue and additional margin improvement in Q4, driven by a combination of factors: continued improvements in quality, better channel engagements, and increasing demand for our new products.”

For LED Products the strategic review concluded that the business could drive value through greater focus. “We have an incredible brand, a great channel, and a tremendous amount of IP positioning us as a leader in high-power technology,” says Lowe. “We’re going to take those capabilities and focus them in areas like automotive lighting and application optimize solutions that are stickier and have an opportunity for us to create more value, enabling us to deliver modest revenue growth and gross margin expansion and resulting in great free cash flow generation.”

For fiscal fourth-quarter 2018 (ending 24 June), Cree targets revenue of $390-410m. This includes Wolfspeed revenue rising 27%, based on strong organic growth and a full-quarter contribution from the Infineon RF Power acquisition. LED Products revenue should rise by 7% due to solid growth in high-power LED components, with modest growth in mid-power joint venture (JV) components. Lighting Products revenue should rebound by 9% (back to Q2 levels) as the firm come out of a seasonally slow fiscal Q3.

The Infineon RF Power business will “expand our leadership in RF to increase scale, a broader product offering and additional domain expertise,” says Lowe. “We are still in the early stages of the integration process,” he adds.

Despite the impact of the recent US export ban on China’s ZTE (which comprised about 20% of Infineon Power business revenue), Cree still targets Wolfspeed revenue and gross profit to grow sequentially, with earnings of the acquired business now targeted to be dilutive by $0.01 per share over the next several quarters. “Additionally, we have inventory that is custom made for ZTE which could become unsellable at some point,” notes McDevitt. “In the future if we determine the inventory has become impaired, we would need to record a one-time charge equal to about $0.01 per share,” he adds. “While the sales restriction with ZTE is creating some short-term headwinds in this business, it doesn’t change the long-term strategic benefit of this acquisition.”

Since (1) the acquired RF Power business (component packaging) has lower margin than rest of the Wolfspeed portfolio and (2) near-term RF Power factory loading is reduced by the ZTE export ban, Wolfspeed margins are expected to be sequentially lower. However, due mainly to higher-margin Wolfspeed being a higher portion of the total revenue mix, Cree expects company gross margin to rise to 29.7%, aided by Lighting Products margin improving (by a few hundred basis points) and LED Product margin remaining level.

In fiscal Q4, Cree is targeting OpEx of 27.5% of revenue (similar to fiscal Q3), despite including the full-quarter spend of its acquired RF Power business (related to Wolfspeed R&D, IP illegal cost, semiconductor sales team additions, trade show cost and the higher bearable cost related to higher sales) partially offset by slightly lower Lighting Products OpEx as its begins to implement its right-sizing initiatives.

Cree targets operating income of $7-11m and net income of $5-9m ($0.05-0.09 per diluted share).

“The demand signals for Wolfspeed remain strong with the adoption rate of electric vehicles, the increasing use of SiC and GaN technologies in communications, solar and industrial markets received substantial opportunity for the coming decade,” says Lowe.

“Carrying capital allocation priorities remained focused on expanding capacity in our Wolfspeed business as demand for these products exceed our current ability to supply,” says McDevitt. “In fiscal 2018 we target capital spending of $190m, driven primarily by expanding Wolfspeed’s production capacity to support forecasted customer demand,” he adds.

“The team is working hard ramping new production to meet growing demand and engineering and production teams are working together to quickly resolve challenges associated with rapid production expansion,” says Lowe. “While our efforts to increase capacity are in line with plan, the current cash outflow forecast is lower than previously announced due solely to timing. Overall we target fiscal 2018 free cash flow being -$15m.”

The negative free cash flow is due to accelerating the Wolfspeed capacity investments to support the substantial growth opportunity forecasted over the next several years. “We are on target with our plan to double wafer capacity for external [SiC] materials customers by the end of calendar 2018. We are also on target with our additional Power & RF device capacities starting to come online in fiscal Q4,” McDevitt says. “This plan is intended to double our power device capacity by the end of calendar 2018 from where we exited fiscal 2017. As we ramp this new capacity we anticipate we could have some variability in our initial production yields and factory utilization that may reduce our near-term Wolfspeed gross margins,” he adds.

“Our smallest and most profitable business today [Wolfspeed] will become our largest and most profitable business over the timeframe of the long-range plan, roughly quadrupling in revenue by 2022,” expects Lowe. “Our LED business will see modest growth by focusing on stickier segments and our Lighting business will also see modest growth from where we’re at today, with a focus on improving quality and margins,” he adds. “This company-wide mix shift, combined with some efficiency improvements, will enable us to drive significant growth in gross margins - about 1500 basis points of improvement to around 40% (with Wolfspeed in the 50% range and the Lighting and LED businesses both in the low 30s) - establishing a 40/20/20 business model (40% gross margin, 20% OpEx, and 20% operating margin).”

To help facilitate this model, Cree has made some organizational changes. Semiconductor manufacturing assets (split between the Wolfspeed operation and LED Products) have been combined under Rick McFarland (who has been with Cree for seven years and has experience from Freescale). “Putting them under one leader will give us an enormous opportunity for efficiency improvements, yield improvements and - equally important - will allow us to capitalize on the fungibility of those assets as we shift towards our higher-margin-type opportunities,” says Lowe.

Cree has also combined its sales team in the Wolfspeed and LED semiconductor organizations under the leadership of Thomas Wessel (who has experience from Texas Instruments and, more recently, as global sales & marketing lead for Analog Devices). “He brings to Cree a significant amount of experience in automotive, communications, industrial and distribution,” comments Lowe.

See related items:

Cree acquires Infineon RF Power business for €345m

Cree signs $100m long-term deal to supply 150mm SiC wafers to Infineon

Cree’s growth in Wolfspeed Power & RF products and LED products offsets drop in Lighting revenue

Cree quarterly revenue rises despite Lighting Product sales falling and Wolfspeed capacity constraints

Cree’s quarterly revenue down 8% year-on-year

Cree’s quarterly revenue drop 15% as US commercial lighting sales fall 12% short of expectation

Cree and San’an forming Hong Kong-based JV to produce mid-power lighting-class packaged LEDs

Cree terminates sale of Wolfspeed to Infineon following CFIUS' national security concerns

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