LSCC - Lattice Semiconductor: Double-Digit Revenue Growth Likely To Continue

2023-06-23 16:28:26 ET

Summary

• Lattice Semiconductor's exceptional growth in 2022 (28.1%) is attributed to advancements in the Communications and Computing segment (26.1%) and the Industrial and Automotive segment (41.2%).
• The company's growth is primarily driven by the increasing utilization of Lattice's specialized low-power FPGAs in electric vehicles (EVs).
• While we expect the company to sustain its recent double-digit revenue growth, we find the company shares fairly valued with a price target of $83.70, maintaining our Hold rating.

In our previous analysis of Lattice Semiconductor Corporation ( LSCC ), we identified the company's distinct focus on low-power and cost-effective FPGAs, setting it apart from competitors who prioritize larger, high-power, and complex FPGAs. Furthermore, we noted the intensifying competition within the FPGA market, attributed to the entry of industry giants like AMD (Xilinx) ( AMD ) and Intel ( INTC ) with new product releases, as well as Renesas ( RNECF ) venturing into the low-power FPGA segment. Additionally, despite management's emphasis on generating multi-year revenues, Lattice struggled to capitalize on the demand for FPGAs in the consumer segment, as evidenced by consistent revenue declines. Consequently, we rated the company as a Hold, projecting a downside risk of 9.3%, and setting a target price of $53.43.

Since our previous coverage, Lattice Semiconductor's stock price has maintained a relatively stable trajectory, experiencing a modest 4% increase until October 2023. However, from that point until June 2023, the stock price witnessed a remarkable surge of approximately 63%. With this in mind, we conducted a fresh analysis of the company, placing significant emphasis on its exceptional revenue growth performance in FY2022, surpassing our earlier forecast of 14.1% by doubling to 28.1% - the highest in the past five years. Additionally, in Q1 2023, the company continued to exhibit robust revenue growth, with a YoY increase of 22.5%. To understand the factors behind this outstanding performance, we delved into the segments that contributed to the growth and assessed how Lattice's FPGA market share evolved from 2021 to 2022, thereby determining whether the company's outperformance stemmed from market expansion or its competitive advantage. By analyzing the market share changes, we identify the key drivers of growth, assessing their respective contributions to both market expansion and company-specific advancements.

Growth Driven by Two Largest Segments

Source: Company Data, Khaveen Investments

Based on the table above, the company's 2022 actual revenue grew by double (28.1%) compared to our previous forecasted growth rate (14.1%). This growth was fueled by massive outperformance by the two largest segments which are Communications & Computing (41.6% of 2022 revenue) and Industrial & Automotive (48.4% of revenue).

Communications & Computing grew by 26.1%, above the 5-year average of 19.7% and our previous forecast of 15.9%. Based on its annual report, the end market applications of the segment are Wireless, Wireline, Data Backhaul, Server Computing, Client Computing and Data Storage. According to management in its annual report, the segment growth can be attributed to "content expansion in datacenter servers, new greenfield client computing opportunities, 5G infrastructure, and datacenter networking".

Besides that, Industrial & Automotive grew by 41.2%, much higher compared to its 5-year average of 25.5% and more than double our previous forecast of 17.4%. The end markets of the segment are Security and Surveillance, Machine Vision, Industrial Automation, Robotics, Automotive and Drones. According to management, the segment growth can be attributed to…

… strong customer adoption in a broad range of applications, including industrial automation and robotics. Growth in Automotive was driven by the adoption of new designs in ADAS and infotainment applications - Lattice Semiconductor Corporation 2022 Annual Report

Moreover, in its Q1 2023 earnings briefing , management highlighted its strong growth in Industrial & Automotive by 55% YoY in Q1 2023 which "reflects strong customer adoption of Lattice solutions in new design wins across a broad range of applications". Additionally, Lattice's CEO Jim Anderson highlighted that the company is "in the midst of… the largest product portfolio expansion the company has ever done in its history" when answering a question about the growth drivers behind the company's strong total revenue YoY growth of 22% in Q1 2023 as well as the over 20% growth for the past two years.

In conclusion, Lattice outperformed our previous forecasts of 14.1% growth in 2022 with a full-year actual growth rate of 28.1% as the company's growth rate accelerated to the highest in the past 5 years. This was mainly driven by the outstanding performance of its two largest segments, Communications & Computing and Industrial & Automotive. Moreover, management attributed the growth over the past year to a broadening product portfolio. We examined below the factors for its outperformance for these segments.

Growth Due to Competitive Advantage

In the chart above, we derived the market share for the FPGA market including Lattice and its competitors AMD, Intel, Microchip ( MCHP ) and Others. For the total market size, we referred to Verified Market Research 's valuation of the FPGA market in 2021 ($7.06 bln) as well as a forecast CAGR of 15.12% to estimate FPGA market revenue in 2022 ($8.13 bln). The way we derived market share is as listed below:

• Intel: For the company's 2021 FPGA revenue, we based it on the PSG segment revenue and since there was a reclassification of segments in 2022, we used the growth rate of the other DCAI segment (new FPGA classification) which was 14% to derive its 2022 FPGA revenue.
• AMD : We used Xilinx revenue for 2021 FPGA revenue and since AMD acquired Xilinx in February 2022, we took the embedded segment revenue (AMD's Xilinx classification) in 2022 and subtracted it from the embedded segment revenue in 2021 to derive a reflective estimate of its FPGA revenue for 2022.
• Microchip : According to Yahoo Finance , FPGA made up 7.3% of total revenue in Q3 2021. Therefore, we derived its FPGA revenues assuming a 7.3% share of its total revenue in 2021 and 2022.
• Lattice : Revenue is derived directly from total revenue for the respective years.

Based on the chart, Intel and AMD (Xilinx) had relatively stable market shares, with Intel changing from 26.9% to 26.7% share and AMD increasing from 52.1% to 53%. Lattice had the third highest market share in the FPGA market with an 8.1% share in 2022, which is an increase from 7.3% in 2021. Although Lattice had a market share growth of 0.8% which is lower than AMD's gain of 0.9%, Lattice had a much greater gain as a percentage of 2021 market share (11%) compared to AMD (1.73%).

When looking at the impact of Lattice's FPGA share gain on revenue growth, the FPGA market was valued at $8.13 bln in 2022. Taking Lattice's share gain of 0.8% in 2022 and multiplying that by the market size of $8.13 bln, we obtain a figure of $65 mln. That is equivalent to 44.8% of revenue growth in 2022 which was $145 mln. This implies that a significant portion of its 2022 growth was due to share gains.

In conclusion, we believe that Lattice's growth in 2022 (28.1%) is due to its competitive advantage as opposed to the overall market growth since it grew faster than the market growth rate of 15.12% and it also had the largest gain in market share as a percentage of 2021 market share at 11% compared to competitors.

Growth Supported By Low-Power Automotive FPGAs

In this section, we identify the reasons behind the growth in FPGA market share from 7.3% in 2021 to 8.1% in 2022, which we believe is due to the company's competitive advantage.

Source: Company Data, Khaveen Investments

Looking at segment revenue growth over the past five years, the Communications and Computing segment has had positive and steady growth throughout. From 2018, management attributed their growth within the segment to server and data center products. On the other hand, the automotive segment has not had steady growth, with 45.1% growth in 2018 followed by -4.0% in 2019 and from then onwards consistent positive growth ending with 41.2% growth in 2022. The following is how management attributed the growth to the Industrial & Automotive segment over the years.

• 2018 : Management attributed their growth to products within the industrial segment such as "industrial video applications and factory automation robotics applications".
• 2020 : Management attributed the growth to industrial as well as automotive products.
• 2021 and 2022: Management attributed the growth to industrial and automotive, with an emphasis on ADAS and infotainment applications. Moreover, the revenue growth in Industrial and Automotive in 2022 was $93 mln, which was 64.1% of total growth in 2022.

Therefore, with the 64.1% growth contribution from Industrial and Automotive and the emphasis on ADAS and infotainment applications in the past two years, we decided to investigate how Lattice has benefitted from the automotive FPGA market. Usually, according to Semi Engineering , "Field-programmable gate arrays (FPGAs) thrive in rapidly evolving new markets before being replaced by hard-wired ASICs". This is because circuitry can be reconfigured even after manufacturing for FPGAs whereas that is not the case for an ASIC, but once a manufacturer figures out the right configurations they move to an ASIC as it has higher performance and lower per unit costs compared to FPGAs.

According to Semi Engineering, generally "FPGAs have held temporary positions until volumes increased enough to cost-reduce the FPGAs out". However, now with the advent of autonomous vehicles, FPGAs have come back into the picture. The most advanced cars can have 10-12 FPGAs inside them and their abilities include infotainment systems and ADAS. Moreover, Embedded states that FPGAs are "suitable in electric/hybrid vehicle models because of their low power consumption". From our previous coverage , we identified that the bigger FPGA players like Intel and AMD focus on high-power FPGAs whereas Lattice focuses on low-power FPGAs. Therefore, we believe the EV market growth is beneficial to Lattice as it focuses on lower-power FPGAs rather than high-power FPGAs.

Although Lattice Semiconductor has several automotive products, we believe that the growth within the Industrial and Automotive segment is also attributed to the Lattice Certus-NX FPGA. The Lattice Certus-NX FPGA was first introduced in 2020 , however, it was only optimized for automotive applications ("infotainment, advanced driver assistance systems (ADAS), and safety-focused applications") in August 2021. According to Lattice, it has 4x lower power use, 3x smaller form factor, and 70% higher performance compared to competing FPGAs. Moreover, in August 2022 , the company introduced the Lattice CertusPro-NX optimized for automotive applications that have a smaller form factor than the previous chip.

In terms of numbers, 30% of Lattice's revenue is derived from Weikeng Group based on its annual report, which is their supply channel partner that supplies a wide range of components including semiconductors to China, Taiwan and Hong Kong-based manufacturers. As mentioned in our analysis of Renesas, according to CounterPoint Research , "China accounts for nearly 59% of global EV sales", and its EV market had an 87% growth in 2022, just behind Japan which grew at 119%. Moreover, according to Grand View Research , the market for infotainment systems within EVs had a market forecast CAGR of 38.1% in 2022.

In conclusion, we believe Lattice's growth in 2022 of 28.1% was attributed to specifically automotive within the Industrial and Automotive segment (41.2% segment growth). This is mainly due to the increased use of low-power FPGAs, which Lattice specializes in, within electric vehicles. Moreover, 30% of their revenue is derived from a supply chain partner that supplies semiconductors to Chinese manufacturers, and China has the largest market share (59%) in terms of global EV sales as well as YoY growth of 87% in 2022.

Risk: Decreasing Patent Publications

According to GlobalData , the number of patent publications by Lattice has been on a downward trend with 267 publications in 2016 to only 32 in 2022. According to NumatoLab , the barriers to entry to the FPGA market are low as "one can get started with FPGA development for as low as USD $30". Moreover, FPGAs are constantly being replaced by ASICs once the circuitry for a particular chip has been configured. Thus, we believe lower patent publications are a risk to Lattice as it seems to be tough to remain competitive in the FPGA market without constant innovation.

Verdict

Source: Company Data, Khaveen Investments

We updated our revenue projections for each segment based on its past 5-year average growth rate. For Communications and Computing, we tapered down the 5-year average growth of 19.7% by one percent right from 2023 as a conservative estimate as the segment has had steady growth over the past five years. For Industrial and Automotive, we tapered down the 5-year average growth of 25.5% by 1%, as we believed the rise of low-powered FPGAs in automotive would attract greater competition from larger FPGA producers (AMD and Intel) and we considered the competing products such as ASICs. For the Consumer segment, we maintained our previous forecasts and for Licensing and Services, we used the 5-year average growth rate. In total, we derived a 5-year forward average growth rate of 17.7% which is higher than 12.9% in our previous analysis as we are more optimistic on its Communications and Computing as well as Industrial and Automotive segments growth. Also, our 2022 growth rate forecast of 19.4% is in line with the prorated company's actual Q1 2023 revenues ($184.3 mln) and Q2 (midpoint guidance of $188 mln from earnings briefing) YoY growth which is 19.5% YoY.

In summary, Lattice Semiconductor's exceptional growth in 2022 (28.1%) can be attributed to significant advancements in the Communications and Computing segment (26.1%) as well as the Industrial and Automotive segment (41.2%). The company's CEO attributed this impressive growth to the expansion of Lattice's product portfolio. Furthermore, our analysis revealed that the company's remarkable performance stemmed from its competitive advantage rather than overall market growth in the FPGA industry. Lattice experienced the largest gain in market share as a percentage of 2021 market share (11%) compared to its competitors, indicating its strong position. We believe this growth is primarily driven by the increasing utilization of Lattice's specialized low-power FPGAs in EVs. Additionally, we believe Lattice also benefits as it derives 30% of its revenue from a supply channel partner in China, the world's largest electric vehicle market with a 59% market share.

We valued the company with a DCF valuation. For the terminal value, we considered the average EV/EBITDA ratio of US chipmakers, excluding Nvidia (as we viewed it as anomalous at 177.37x), which stood at 20.13x. This average ratio is slightly lower than our previous coverage's figure of 24.15x. Ultimately, we arrived at a price target of $83.70 , suggesting that the company's shares are fairly valued, with a slight downside of -1.8%. Therefore, we maintained our Hold rating. Despite the new price target being 57% higher than our previous target of $53.43, we deemed the stock price to have already incorporated this increase, as it has risen by 62% since our last analysis.

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