During H118 IQE experienced double-digit sales growth on a constant currency basis in each of its three primary markets, although this was partly offset by a currency headwind. The investment in multiple VCSEL qualifications and the Newport foundry depressed margins, but underpins management’s expectations of a sustained photonics ramp-up in H218 and FY19. Acknowledging the currency headwind and one-off H118 photonics costs, we revise our estimates downwards.
As flagged in the pre-close trading update, total H118 revenues grew by 4% yearon-year to £73.4m, with the photonics segment growing by 30% in constant currency to 26% of the total. Adjusted profit before tax was depressed by several factors, falling by 21% to £7.6m. These include the currency headwind, the cost of multiple low margin VCSEL qualification programmes and the cost of staffing the new Newport facility prior to commencing production. Collectively, these one-off effects totalled £3.5m. If these costs are stripped out, adjusted profit before tax becomes £11.1m, a 14% improvement on the prior year period. Additionally, H117 benefitted from £1.0m licence revenues but there were none in H118. Net cash reduced by £5.0m during the period to £40.6m at the end of June, reflecting continued investment in multiple innovative technologies and capex for the new Newport foundry.
The recent work on VCSEL product qualifications has resulted in IQE being in mass production with eight VCSEL chip manufacturers and in final qualification stages with another four. Volumes for these programmes, which include production for Android OEMs, are already ramping up, underpinning management’s expectation of a photonics ramp-up in H218 and FY19. We adjust our estimates downwards in line with revised management guidance to reflect the currency headwind and one-off H118 photonics costs.
A comparison of IQE’s prospective P/E multiples against those of listed companies offering epitaxy for VCSELs (IntelliEPI, LandMark Optoelectronics and Visual Photonics) shows IQE trading towards the upper end of this sample. We believe this is reasonable given IQE’s strong market position. Taking this approach, the shares look fairly priced at current levels, although investors should note that we are modelling photonics revenue growth towards the lower bound of guidance.