IQE has acquired the third-party shareholdings in its CSDC joint venture in Singapore for a nominal fee. This gives it control of the operation, which is currently loss making, enabling it to restructure the business and focus it on emerging sales opportunities in Asia for molecular beam epitaxy (MBE)-based products. Short term, the deal has a negative impact on earnings. We reduce our FY19 and FY20 EPS estimates by 8% and 5%, respectively.
CSDC was formed in 2015 as a joint venture between IQE’s Singapore subsidiary (51% stake), WIN Semiconductors (25%) and Nanyang Technological University and related parties (24%) with the intention of developing and commercialising MBE technologies for sale to customers in Asia. The operation generated SG$8.9m losses (c £5.3m) in FY18 because of under-utilisation of assets, including MBE reactors, and property lease obligations. The acquisition is for a nominal fee of US$1 to WIN Semiconductors and each of the other third-party shareholders payable in cash. Net liabilities attributable to CSDC at end FY18 were SG$15.4m (c £9.2m).
As CSDC is loss making and needs to secure significant new business to become profitable, which will take time, we reduce our PBT estimates by £0.5m and £1.5m for FY19 and FY20 respectively. Nevertheless, we view the transaction positively. Firstly, it enables IQE to restructure the operation and reduce losses. Secondly, it enables IQE to focus the development and manufacturing assets on MBE opportunities in Asia that are emerging because of the localisation of Asian technology supply chains in response to the US-China trade war. This includes epitaxy for 5G applications.
If we restrict our peer-based comparison to the three listed companies (IntelliEPI, LandMark Optoelectronics and Visual Photonics) offering epitaxy for VCSELs, then IQE is trading below the mean for these three stocks with respect to Y2 EV/EBITDA (11.2x vs 13.5x) and above the mean with respect to Y2 P/E (26.7x vs 24.6x), although it is below Visual Photonics (26.7x vs 29.1x), despite having a much stronger market position. Taking this approach, we see scope for share price recovery once global semiconductor supply chains have stabilised and the current period of destocking in the wireless market is over.