AEM Holdings: Snagging a chip bargain before it flies
- 1H24 revenue and earnings below ours and consensus expectations
- 2H24 revenue guidance marks an 18% y/y decline as new capacity demand from key customer declines
- Cut FY24/25F earnings estimates by 75%/43% on lower operating leverage and one-off costs
- Maintain HOLD with lower TP at SGD1.34
We are upgrading AEM to BUY with a higher TP of SGD1.67. We believe that AEM is at an inflexion point with new customers, and potential for the new fabless AI customer to grow into a key customer account, while Intel revenue should stabilise from 2H24 onwards.
At the cusp of a multi-year rollout in contributions from new customers. Over the course of the past few years, AEM had announced several customer wins in the areas of memory, XPU, and systems & hyperscalers. As at 1H24, AEM is still mainly in the lab verification tool phase but will shift into production in 2H24. We believe that AEM is near an inflexion point and foresee its customer diversification strategy yielding more significant returns starting from 4Q24 and into FY25 and beyond. AEM expects new business revenue to double in FY24, and double again in FY25, reaching triple-digit millions.
Spotlight on new fabless AI customer… Amongst AEM’s new customers, we are of the view that the fabless AI customer holds the most promise of growing to be a key customer account for AEM. For one, AI is a high growth segment within the semiconductor industry, and we believe that there is scope for other AI contenders besides Nvidia to thrive in a growing market. Beyond the initial pre-production verification phase, we understand that large fabless customers typically also dictate test tools installed at their OSAT partner during mass production, reinforcing the case that the opportunity from new customers is not just one-off but a multi-year prospect.
… with potential to mirror the success story with Intel. Additionally, the new fabless customer is operating in similar end markets of client computing and data centres, areas where the success of AEM’s offerings has been tried and tested with key customer Intel. This gives us optimism that the success could be mirrored with the new fabless AI customer although we acknowledge that it is somewhat premature to say with certainty that AEM can achieve the same magnitude in contributions from the new fabless customer.
Key milestones to watch: the pace of customer contributions and new program acquisitions. While still nascent, we believe that AEM’s intent is to acquire more programme wins across test insertions which are steps towards developing the new fabless AI customer into a key customer account in the future. Key milestones to monitor include significant contract wins or new program acquisitions. Currently, AEM has announced that its advanced SLT insertions will be used for next generation AI devices, and they will also be supplying automated burn in test solutions to the major fabless provider of AI chips.
Addressing the big elephant in the room – lackluster contributions from Intel could bottom in 2H24. We estimate contribution from Intel at c.SGD150mn per year in FY25-FY26 and our assumptions are as follows:
- SGD100mn in base revenue (excluding incremental revenue from non-cancellable POs) from Intel per year. We estimate that Intel’s contribution will be around SGD50mn in 2H24 (vs SGD 90mn in 1H24), based on management’s comments that Intel’s share of test cell solutions reach parity or cross over to nearly 50:50 as we approach the end of the year. Despite a recovering semiconductor market and consensus expecting Intel’s volumes to grow by low-mid single digits, we believe that an annualized base revenue of SGD100mn in FY25-26 (-c.40% y/y compared to our FY24 estimates) is fair given Intel’s intention to save USD500m+ annually on test spend. We are projecting a flattish base revenue from 2H24 onwards as wallet spend from Intel has already been reduced substantially and we think that the bulk of savings from reducing non-standard tests should have already been incorporated.
- Incremental SGD50mn from drawdown of purchase orders annually between FY25-FY27. Given the take or pay arrangement, Intel would have to start drawing down on its SGD280mn non-cancellable purchase order (first mentioned during 3Q22 results release). Our channel checks indicate that this will be over the span of 1Q25 to 2H27 and we have conservatively projected an annual incremental boost of c.SGD50mn to revenue from Intel between FY25 and FY27 (totaling c.50% of the contract value). This estimate considers partial fulfillment of the contract, with the remainder forming part of the base revenue.
Despite the cut in new customer contributions, AEM’s revenue/earnings are still expected to grow by 24.7%/194.8% y/y (pre exceptionals) in FY25 after the slump in FY23-24. Thereafter, we project revenue/earnings to recover 13.1%/39.0% in FY26 on the back of new customer contributions.
Key risks are momentum of new customer contributions and magnitude of decline from key customer. Changes to the macroeconomy or customers’ operating environment may affect product rollouts which could delay new customers’ uptake of AEM’s solutions. In addition, while we have projected a c.40% decline in base revenue from Intel, more aggressive than expected cost cutting measures at Intel pose a risk to AEM. Further, Intel's 5N4Y strategy, which involves transitioning to smaller process nodes, could benefit AEM by extending test times. However, this advantage could be counterbalanced by Intel simplifying its product roadmap and reducing the number of product variants in its portfolio.
Valuations fairly reasonable with negatives likely priced in. On a PE basis, AEM currently trades at 13.8x FY25 earnings, below -0.5SD of the historical mean. Valuations are also depressed on a PB basis, with AEM trading below book value at 0.8x. We believe that pessimism surrounding the key customer has been priced in and market sentiment appears to be stable with the share price mainly rangebound. While the upcoming 3Q24 results is still expected to remain weak given that an initial order of >SGD20mn will only ship in 4Q24, we are calling for a BUY as we look ahead to FY25 and beyond where AEM is at the cusp of a multi-year rollout for new customers. Any dips or weaknesses going forward could be good opportunities to accumulate as we remain convicted by the longer-term story of AEM.
Upgrade to BUY with TP SGD1.67. Our TP is based on 18x FY25F earnings, which is close to -0.5SD of the historical mean and c.50% discount to peers. We reduce our FY25F earnings estimates by 24% due to more conservative projections on new customer contributions, industrial weakness affecting CEI, and lower gross margin assumptions. Despite the earnings revision and consensus having a negative view on the stock, we take a contrarian stance, believing that most of the negatives should be in the rear-view mirror. Hence, we expect the discount between AEM and its peers to revert to the historical mean at c.50%. We are upgrading the stock to a BUY with AEM’s earnings turnaround underway as it emerges from testing times
FY Dec | 1H2023 | 2H2023 | 1H2024 | % chg y/y | % chg h/h |
Revenue | 275 | 206 | 174 | (36.9) | (15.8) |
Cost of Goods Sold | (192) | (160) | (130) | (32.3) | (18.5) |
Gross Profit | 83 | 46 | 43 | (47.8) | (6.2) |
Other Oper. (Exp)/Inc | (57) | (31) | (40) | (30.5) | 27.3 |
Operating Profit | 26 | 15 | 3 | (86.4) | (76.7) |
Other Non Opg (Exp)/Inc | 0 | 0 | 0 | - | - |
Associates & JV Inc | 1 | (2) | 0 | - | - |
Net Interest (Exp)/Inc | (3) | (3) | (2) | 25.2 | 21.9 |
Exceptional Gain/(Loss) | 0 | (27) | 0 | - | - |
Pre-tax Profit | 24 | (16) | 1 | (95.7) | - |
Tax | (4) | (5) | 0 | (95.0) | (95.6) |
Minority Interest | 0 | 0 | 0 | - | - |
Net Profit | 20 | (21) | 1 | (95.8) | (103.9) |
Net profit bef Except. | 20 | 6 | 1 | (95.8) | (85.9) |
EBITDA | 40 | 27 | 18 | (54.0) | (32.9) |
Margins (%) |
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Gross Margins | 30.2 | 22.4 | 25.0 |
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Opg Profit Margins | 9.3 | 7.2 | 2.0 |
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Net Profit Margins | 7.2 | (10.1) | 0.5 |
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