Kulicke and Soffa Industries: Market Is Looking Past The Present To Future (NASDAQ:KLIC)

The market got somewhat of a wake-up call when Kulicke and Soffa Industries (NASDAQ:KLIC), a supplier of equipment and other solutions for the semiconductor and LED markets, released its latest earnings report. The report came in mixed with some good and some not so good. There were big drops in the top and the bottom line due to slumping demand, but there was also an outlook calling for a rebound in demand in the near future. The stock has retreated after the report, but it is still sitting on major gains after a big rally in recent months. Why will be covered next.

The future overshadows the present

KLIC fell short of estimates for the top line, but it did manage to surpass expectations for the bottom line. Still, Q1 revenue declined by 38.5% QoQ and 61.8% YoY to $176.2M. And if that looks bad, then earnings were even worse off. GAAP EPS declined by 77.3% QoQ and 88.2% YoY to $0.25 and non-GAAP EPS declined by 68.9% QoQ and 83.1% YoY to $0.37.

Keep in mind that EPS got a boost from KLIC buying back shares. The non-GAAP weighted-average of shares outstanding dropped to 57.7M in Q1 FY2023, down from 58.8M in Q4 FY2022 and 63.3M in Q1 FY2022. Cash, cash equivalents and short-term investments totaled $795.6M. The table below shows the numbers for Q1 FY2023.

(GAAP)	Q1 FY2023	Q4 FY2022	Q1 FY2022	QoQ	YoY
Revenue	$176.233M	$286.313M	$460.888M	(38.5%)	(61.8%)
Gross margin	50.3%	46.3%	52.2%	400bps	(190bps)
Operating margin	6.7%	23.6%	32.8%	(1690bps)	(2610bps)
Income from operations	$11.822M	$67.544M	$151.110M	(82.5%)	(92.5%)
Net income	$14.589M	$64.904M	$133.606M	(77.5%)	(89.1%)
EPS	$0.25	$1.10	$2.11	(77.3%)	(88.2%)
(Non-GAAP)
Operating margin	11.5%	25.7%	34.2%	(1420bps)	(2270bps)
Income from operations	$20.219M	$73.569M	$157.831M	(72.6%)	(87.2%)
Net income	$21.768M	$70.240M	$138.819M	(68.9%)	(84.3%)
EPS	$0.37	$1.19	$2.19	(68.9%)	(83.1%)

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Source: KLIC

Guidance calls for Q2 FY2023 revenue of $150-190M, a decline of 55.8% YoY at the midpoint. The forecast calls for GAAP EPS of $0.16, plus or minus 10%, a decline of 91.4% YoY at the midpoint and non-GAAP EPS of $0.25, plus or minus 10%, a decline of 87.2% YoY at the midpoint.

	Q2 FY2023 (guidance)	Q2 FY2022	YoY (midpoint)
Revenue	$150-190M	$384.3M	(55.8%)
GAAP EPS	$0.16, +/- 10%	$1.86	(91.4%)
Non-GAAP EPS	$0.25, +/- 10%	$1.95	(87.2%)

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KLIC had some good news to go along with the bad news

However, the decline is slowing down, in part due to comps turning favorable. On a sequential basis, revenue and non-GAAP EPS are expected to decline by 3.5% and 32.4%, respectively, at the midpoint. Furthermore, the Q1 report included the following statement:

“The near-term macro environment remains dynamic, although we continue to anticipate a period of improving demand in our second fiscal half driven by typical seasonal improvements within higher-volume markets, a larger weighting of advanced packaging and advanced display revenue and an improving book-to-bill ratio.”

The Q1 results and Q2 guidance do not inspire confidence, but KLIC managed to compensate with an outlook suggesting the worst of the decline is over and an improvement is to be expected in the near term. KLIC provided some data points suggesting this much. Book-to-bill, for instance, increased to 1.29 in Q1, the first time since mid-2021 that it exceeded 1. This suggests demand is recovering and it should not take long before the impact can be seen in the quarterly results. From the Q1 earnings call:

“our book-to-bill ratio exceeded one for the first time since June of 2021. While near-term inventory digestion and the macro improvements are necessary to support industry growth, these data points provide additional confidence to our outlook.”

A transcript of the Q1 FY2023 earnings call can be found here.

In a sign of confidence, KLIC is already preparing for a rebound in market demand by expanding production capacity.

“the revenue that will be generated from this additional capacity in advanced packaging and advanced display will probably again be more significant in ’24, right? And we are inquiring. But in order to prepare for that in ‘24 we are now expanding our production facilities”

KLIC expects a stronger second half due to strengthening demand to help end FY2023 with revenue of around $840M. Keep in mind that many semiconductor companies have made similar remarks regarding an H2 rebound, including an industry bellwether like TSMC (TSM).

“So, at this moment, we expect our second half will be better than the first half. So, overall, I think that at this moment we are comfortable at the consensus revenue of $840 million, due to China COVID situation that really have some softness in our ’23, but it could impact us in Q2, and we expect maybe extend a little bit longer into Q3.”

If Q2 revenue comes in as suggested by guidance and revenue in H1 is a combined $346M, then this implies H2 revenue of about $494M, a 42.8% sequential increase.

The stock has priced in a recovery, which could become a problem if it doesn’t arrive

Estimates expect the numbers to get better. Consensus estimates expect non-GAAP EPS of $1.40-2.02 on revenue of $736-842M in FY2023. This is expected to increase to $1.69-4.10 on revenue of $800-1,200M in FY2024. In comparison, KLIC earned $6.14 on revenue of $1,517.6M in FY2021 and $7.45 on revenue of $1,503.6M in FY2022. While estimates differ with some more or less optimistic, the general consensus is that although the numbers have taken a beating, they will get better from here on out.

	KLIC
Market cap	$3.11B
Enterprise value	$2.37B
Revenue (“ttm”)	$1,218.0M
EBITDA	$352.7M
Trailing non-GAAP P/E	9.78
Forward non-GAAP P/E	30.75
Trailing GAAP P/E	10.40
Forward GAAP P/E	39.81
PEG ratio	N/A
P/S	2.64
P/B	2.64
EV/sales	1.94
Trailing EV/EBITDA	6.71
Forward EV/EBITDA	19.84

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Source: Seeking Alpha

However, if estimates prove to be too optimistic and the recovery does not play out as expected, then that could be a problem with multiples where they are. The table above shows some of the multiples KLIC trades at. Note how the forward multiples are much higher than the trailing ones. For instance, KLIC trades at 39.8 times forward GAAP earnings with a trailing P/E of 10.4.

The difference between the two shows how much earnings are expected to decline in the next 12 months compared to the previous 12 months. The market expects the forward multiple to come down as KLIC recovers from the current downturn, but if this does not happen, a substitute will have to be found for the shortfall in earnings, which in all likelihood will come in the form of a decline in the price of the stock.

It’s thus worth mentioning that there quite a few out there who are betting on this. Short interest stands at 7.9M shares, which translates to a short float of 14.3%. While management may be optimistic that the quarterly numbers will get better in the coming quarters, not everyone is convinced that will be the case.

The market has given KLIC the benefit of the doubt

While there may be doubters out there, the stock has nonetheless benefited from buyers positioning themselves in anticipation of a rebound in quarterly earnings. The stock has rallied in the new year, continuing the run that started late last year. The chart below shows how the stock has gained 23.7% YTD.

It’s worth mentioning that KLIC is not the only semiconductor stock to have rallied in recent months. Almost all semis have. For instance, the iShares PHLX Semiconductor ETF (SOXX) has gained 24% YTD, which is almost the same as KLIC. It’s not just KLIC that has rallied, it’s the entire sector.

Two major factors have supported the rally. The first is that the semiconductor industry is predicted to rebound in the second half of the year, in line with KLIC’s own forecast. KLIC is by no means the only one who believes that, while the semiconductor market is admittedly in a slump right now, things will soon get better.

The second is the role of the Fed. The Fed has become less hawkish compared to much of last year. Rate hikes, for instance, have gone from 75 basis points to just 25. Recent statements from Fed governors suggest that while the Fed will continue to hike, the worst of the rate hike cycle is over. All this has led to expectations of a Fed pivot, or, at the very least, a Fed that is less of a headwind that it was in 2022.

Semis have benefited from two tailwinds, a less restrictive Fed policy and a rebound in the semiconductor market, which will presumably lead to better quarterly results than what many semiconductor companies have reported recently. As long as these two factors are present, the rally is likely to continue.

Investor takeaways

There is definitely an argument to be made for long KLIC. It’s true recent earnings have looked horrible, but there is reason to believe the bottom is in. Whether it’s KLIC’s own outlook or that of other companies in the semiconductor space, the consensus is that the bottom is either in or close to it. This is why the market has ignored the big earnings declines as shown in the latest report and multiples that some would argue imply that KLIC is overvalued at current valuations.

However, while it’s tempting to be a part of an ongoing rally, I am neutral on KLIC. The Fed and an expected recovery have supported the stock rally, but either could turn around to derail the rally. The forecast from management is calling for a bottom in H1, but it would not be the first time the forecast gets revised.

Recall that management once called for FY2023 revenue to remain flat compared to FY2022 at around $1.5B, but the latest outlook thinks it will be more like $840M, a big difference. Furthermore, even if H1 turns out to be the bottom and earnings start to improve, there is no telling how long it will take before earnings get back to where they were in FY2021-2022.

KLIC will only earn $0.41 in terms of GAAP and $0.62 in terms of non-GAAP in H1 according to guidance. This translates to a P/E ratio of 68 and 44, respectively, if earnings in H2 do not improve from where they currently are. The market expects earnings to rise in the coming quarters to bring down multiples, but if it doesn’t, the stock is overvalued at current levels. The improvement in book-to-bill is a positive sign earnings are set to rise, but it remains to be seen whether book-to-bill will stay above 1 or if Q1 turns out to be a fluke. Some caution is warranted.

The Fed could also become a spoiler. Fed policy or the perception of what the Fed will do has been a tailwind for stocks like KLIC in recent months, but that could quickly change. There is after all a reason why short interest is so elevated. Take away the Fed and if earnings growth disappoints, the market is left with a stock that is expensive by most metrics.

Bottom line, long KLIC is worth considering, but it’s not without substantial risk. If the Fed maintains its current course and earning improve as predicted, the stock has a chance to continue the rally. In the end, it comes down to whether one is willing to accept the risk of looking past the present and assume the future will play out as predicted for KLIC. Because if it doesn’t, the shorts may just have the last laugh.