2023-04-19 01:40:58 ET
Summary
- PDF Solutions, Inc. is a $1.56-billion market cap firm offering products and services for the semiconductor ecosystem to collect, manage, and analyze data to improve product yield and quality.
- In 2022, the company finally began to reap the rewards of its years of investment in research and development.
- Amid recent talk of the AI revolution, PDFS stock is now experiencing tremendous growth, having risen 46.34% YTD and 73.84% over the past year.
- I think that the already high EV/EBITDA multiples still don't price in the potential gains that may come from the speed at which PDFS turns around.
- That's why I recommend you keep an eye on the PDFS stock, despite the company's fairly high valuation at the current price level.
The Company And Its Markets
PDF Solutions, Inc. ( PDFS ) is a $1.56-billion market cap firm that offers products and services designed to help organizations within the semiconductor ecosystem to collect, manage, and analyze data about design, equipment, manufacturing, and testing to improve the yield and quality of their products. According to the most recent 10-K filing , the offerings of PDF Solutions, Inc. include proprietary software, professional services, third-party cloud-hosting platforms for SaaS, electrical measurement hardware tools, and physical IP for IC designs. The company primarily monetizes its offerings through license fees and contract fees for professional services and SaaS. PDF Solutions, Inc. has provided its products, services, and solutions to a range of customers, including IDMs, fabless semiconductor companies, foundries, OSATs, capital equipment manufacturers, and system houses.
The company derives its revenue from two sources, namely Analytics [88% of total] and Integrated Yield Ramp [12%].
The analytics revenue comes from licenses and services for standalone software, SaaS, and DFI/CV systems, while the Integrated Yield Ramp segment generates revenue from yield ramp engagements that include Gainshare or other performance incentives based on customers' yield achievement.
Over the past 5-7 years , the company has increased its R&D spending - since 2018, this expense item has consistently exceeded 30% of revenue and has managed to increase to 37.78% by FY2022. Management believes this has finally borne fruit this year, as PDFS is currently one of the few commercial data and analytics providers with the breadth and scale that customers demand.
By focusing on Analytics solutions - a business area that has long been the company's core business - PDFS has been able to significantly expand its overall addressable market since 2016:
Amid recent talk of the AI revolution, PDFS stock is now experiencing tremendous growth, having risen 46.34% YTD and 73.84% over the past year. But perhaps those hopes are justified for the company. According to Maximize Market Research study , the global manufacturing analytics market is expected to grow at a CAGR of 19.58% over the next few years. At the same time, the global predictive analytics market is set to expand at a CAGR of 18.5% between 2023 and 2030, driven by the widespread implementation of advanced analytics and Big Data technologies in key industries such as healthcare, finance, manufacturing, and retail [ Reports Insights data ].
Data analytics provides manufacturers with insights by identifying patterns, measuring impacts, and predicting outcomes - the ability to analyze equipment failures, production bottlenecks, supply chain deficiencies, etc., enables better decision-making. And if the PDFS's IR presentation is to be believed, only 1/2 of the companies place high importance on data analytics today, but 83% expect it to be a core competency in 5 years - for those who will be on the verge of this general adaptation of data analytics in manufacturing, huge opportunities are opening up right now, in my view. And PDFS looks well positioned to capture these new market opportunities - take a look at its coverage:
The company has grown its customer base significantly in recent years, and the services it provides seem sticky enough to me to trade PDFS for something else - I expect the existing customer base will continue to grow without losing old partners.
Financials & Valuation
PDF Solutions had a strong performance in 2022, with record revenues of $148.5 million, a 34% increase from 2021. This growth was entirely organic, and the Analytics business grew at a rate of 40% YoY. The company had strong bookings and a healthy backlog at the end of the year, exceeding $0.25 billion, which gives a solid foundation for the predictability and longevity of the business. For the fourth quarter of 2022, the company's total revenue was $40.5 million, up 36% versus Q4 of 2021, and its gross margin was 74% [way higher than the past-years average]. PDF Solutions also had positive operating cash flow generation, and it bought back 22.5 million of PDFS stock at an average price of just over $24 per share - the decrease in float most likely became one of the determining factors for the growth of the stock.
Despite a relatively high gross profit margin, PDFS was unable to close FY2022 with a GAAP net profit due to high operating costs [mainly R&D]. However, the positive trend and a very fast-approaching GAAP-breakeven make me optimistic - as PDFS continues to expand, it should catch up quickly.
Author's work, Seeking Alpha data
PDFS ended FY2022 with $139.2 million in cash and no debt, which is essentially the same as the previous year's ending balance. Despite spending $8.4 million on CAPEX and $22.5 million on stock buybacks, the company's cash remained flat year-over-year, thanks to strong operating cash flow generation.
Management remains quite positive for FY2023 and expects total revenue growth in the mid-teens:
For the full year 2023, we expect to grow total revenues at rates approaching mid-teens percent on a year-over-year basis. Over the longer term, we continued to remain committed to our 20% or better growth rate target for the analytics business.
Source: CFO on the recent Earnings Call [Q4 FY2022], emphasis added
The market generally agrees with this guidance for this year:
Seeking Alpha, PDFS's earnings consensus data
I expect PDFS to slightly beat analysts' revenue forecasts, as it has for 7 of the last 8 years - say the top-line growth will be 15.5% instead of the expected 14.88%, which is not a big difference. If the marginality trends continue - and Q4 data showed a strong divergence from full-year data, indirectly confirming this - then the company's EBITDA margin should improve significantly year-on-year, if R&D and SG&A expenses are not inflated to FY2022 levels.
If EBITDA rebounds to 15% on strong gross margins and lower operating costs - slightly lower than in FY2016 - then the company may approach an operating profit of $19.3 million on an EBIT/EBITDA ratio of 80% - which is fine since the company has no debt [in FY 2016, PDFS had 86.9% in EBIT as of EBITDA].
As a result, the "broken even" net income should significantly exceed the current EPS forecast, which is based on adjusted figures and predicts a year-on-year growth rate of only 14.58% for FY2023:
Seeking Alpha, PDFS's earnings consensus data
Unfortunately, this potential earnings jump will not do much good for investors looking for a clear value play here - the implied EV/EBITDA for FY2023 is likely to approach 55x, well above the sector median of ~14x :
However, for FY2024 - if sales growth continues and operating leverage increases (which I assume it will) - the EV/EBITDA multiple for FY24 should be 27.6x, which is far less than currently priced in.
Author's work, Seeking Alpha financial data
That's why I strongly recommend you keep an eye on PDFS stock, despite the company's fairly high valuation at the current price level.
Risks To Consider
What you read in the last part of my article on business valuation is largely counterintuitive - logic tells the rational investor to avoid overvalued companies. Especially when there is a recession coming , which could happen already this year.
If we look at the momentum of the stock, we can already see that this strong growth has partly absorbed the assumptions about the bright prospects from the AI hype around us - it is possible that in the future it will be difficult for PDFS stock to grow out of its valuation, as it has already been assigned a large number of hopes.
From the company's past financials, we see that PDFS has invested heavily in research and development and may need to invest no less in the future - this could change my rather positive predictions you can see in the table above.
Concluding Thoughts
Given the company's valuation and the macro perspective, it's a big risk that I'm taking by rating PDFS stock a "Buy" this time around - so be aware of that and make sure you do your due diligence.
But despite that, sometimes a high valuation does not stop a company from growing at all - especially if it's under a strong industry tailwind that can allow it to turn years of R&D investment into real bottom-line growth and eventually a major turnaround. I expect this to happen with PDFS - at least I hope so.
Thank you for reading!
For further details see:
PDF Solutions: High Valuation Shouldn't Scare You