IQE’s pre-close trading update notes a 16% year-on-year increase in wafer revenues in H117, driven by strong double-digit growth in photonics and currency tailwinds. Importantly, the photonics growth heralds the start of a mass-market ramp up in VCSEL (vertical cavity surface emitting laser) wafers for consumer applications, encouraging management to proceed with plans to substantially expand capacity ahead of anticipated demand in H218. We make modest upwards revisions to our estimates, noting the potential for further upgrades as there is greater clarity on photonics volumes.
The strong photonics growth noted since FY14 has continued into H117. Importantly, part of this growth is attributable to the onset of deliveries of VCSEL wafers for multiple, multi-year contracts addressing mass-market consumer applications. This is in addition to continued work on a range of programmes which also have potential to become volume contracts in future. This includes VCSELs for other consumer applications including 3D sensing, data comms and industrial applications such as heating; InP (indium phosphide) wafers for high-speed data networks and GaN (gallium nitride) wafers for radio frequency and power applications. The 16% y-o-y increase in total wafer revenues to c £70m during H117 was helped by a 10% currency tailwind caused by the devaluation of sterling last June. There was also c £1m licence revenue.
Noting higher levels of expected demand for H218 than it had initially anticipated, the board of IQE has committed to a capacity expansion plan. It is leasing new premises in South Wales and placed orders for the equipment that will initially be required. We note that if deliveries for the current volume VCSEL contracts do not ramp up as expected to utilise this capacity, it will be used to fulfil volume orders for other programmes as they reach the commercialisation phase.
The share price has doubled since the interims in March as investors have speculated on the potential impact of volume VCSEL programmes on earnings. As a result, the shares already price in further upgrades. Based on our updated estimates, IQE currently trades at a 2018e P/E of 29x vs a sector average of 19x. In our September results note we plan to present a detailed scenario analysis considering the impact of a faster ramp up in VCSEL volumes on earnings and profit related multiples.