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Morningstar | AMS’ Android Ramps and Cost Control Combine for Solid 1Q; Maintaining CHF 50; Shares 3-Star

AMS surprised us with markedly improved profitability and revenue above the high point of previous guidance. Cost improvements and headcount reductions in the firm’s Singapore operations helped lead the positive gross margin performance, while ramping Android design wins, which are expected to continue throughout the year, led to better-than-expect top-line growth. Revenue guidance for the upcoming quarter was roughly in line with our previous expectations, and management expects positive increases in the second half of the year, though it stopped short of providing a detailed outlook. After making slight adjustments to our near-term forecast for gross margin improvements and increased operating expenses, we are maintaining our fair value estimate of CHF 50. Shares have rallied more than 20% since the earnings announcement and now are in 3-star territory. Based on the volatile nature of the no-moat sensor and semiconductor name, we would advise investors wait for a pull-back.

Total revenue in the first quarter was CHF 344 million, which represented a sequential decline of roughly 20%. Foundry-related sales, which account for less than 5% of total sales, grew by 11% sequentially, while product revenue decreased by 21% sequentially and 8% year over year. Based on the firm’s dependence on Apple, this seasonal pull-back was slightly less severe than we expected and bodes well for upcoming quarters. Android ramps began in earnest in the quarter, with shipments of the firm’s previously announced world-facing product. The firm expects additional launches throughout the year across all the firm’s 3D sensing technologies. Similarly, the firm noted strong activity for its behind-OLED sensing products along with additional display management sensors. Adjusted gross margins held up far better than we expected due to the firm’s ongoing cost controls amid severe revenue declines, contracting roughly 300 basis points from the fourth quarter of 2018 to 32.3%.

Outside of the consumer market, performance from automotive, industrial, and medical markets was solid. While automotive remains a longer-term opportunity, it was encouraging to hear management detail the design activity underway for 3D sensing applications for the car--for both in-vehicle and exterior safety applications like lidar.

Amid these positive developments, the firm did announce a delayed launch for its spectral sensing consumer product after the firm’s existing customer ran into technological limitations and could not accommodate the solution in its upcoming product. While management was keen to highlight that increased Android 3D sensing wins more than offset the expected revenue loss for the year, the firm highlighted that based on current activity, a consumer spectral sensing product would likely not materialize until 2021 despite conversations underway with several OEMs. This highlights the nascent nature of the number of the firm’s growth initiatives outside of 3D-sensing for smartphones. While we remain positive on the revenue opportunities from these trends, we remind investors that AMS currently lacks a moat.

Guidance for the upcoming quarter assumes 62% revenue growth year over year due to the ongoing Android ramps along with adjusted operating margins increasing by 400 basis points sequentially to 10%. The improved profitability is expected to be a combination of normalizing research and administrative expenses along with continuing improvements in the firm’s manufacturing processes.