CEVA (CEVA) is a fabless sensor, DSP (digital signal processor), AI and short-range connection chip producer which produces revenues through licensing and royalties. The company has been struggling a little the last two years:
It did very well until 2018, when the company hit a rough patch (mostly as a result of evaporating royalties from ZTE (OTCPK:ZTCOF) (OTCPK:ZTCOY), the Chinese handset maker as a result of a US blacklisting ZTE and the company buying back shares in order to compensate for this) from which it has yet to recover, but the signs are there that a recovery is in the works.
The company’s traditional stronghold is DSP chips for mobile handsets, in which it has a significant market share. Our two-part investment thesis is simply this:
- The handset and base station business will get a jolt from 5G.
- The company will benefit from the growth in other industries like IoT, automotive and industry 4.0.
Here is a nice overview of their TAM and the different markets they service, from the Investor Day Presentation:
The company has two segments, connectivity and smart sensing, with the first responsible for the main part of revenues (10-Q):
The company nicely summarized their growth opportunities, from the IR presentation:
In handsets, their customers’ handset shipments reached 169M units (58% of total shipments), which is quite an increase (38%) from the 122M units in Q2 but only a small increase (2%) from Q3 last year (165M units). That 169M units is almost 30% of the market, up from 23% in Q2 and management expects the rise to continue in Q4.
“…the base station, first of all, we are – we have customers shipping LTE for base station. And LTE is really important, because there is still dynamics as I referred in the handset side, upgrades, updates, improvement. Also, when it comes to 5G when it’s called – what is called non-standalone, which is the deployment – the first deployment of 5G will be a non-standalone, then the LTE is the backbone. So, people that are winning LTE deals will have a software upgrade to 5G.”
But 5G base stations is still ahead for the company as (Q3CC):
“Now, specifically to 5G, we have customers, and people know about them, that are in design. This is 5G design, chip design is a very complicated chip with the latest nodes and the IPs. And you have to be in this kind of things risk of that. So our customers in design, they are progressing. But we don’t have the visibility on when they reach the volumes there. We need to be patient, but they are on the way.”
And there are different kinds of products here (Q3CC):
“When people say base station, it’s not just 1 product. When you go to base station, you have in the – what is called BBU, which is the baseband side, then you have RRU, which is the DSP that goes in the antenna. You have small cells and you have fixed wireless, all these basically bundled in our base stations. So we have several customers. Some of them are going into BBU. Some are going RRU. Some are going to small cells.”
China is probably the first market here for 5G handsets and that’s going to ramp this year.
Automotive is another obvious growth area with the advent of connectivity. The company signed three strategic licensing agreements in Q3, one of which was with a name brand semiconductor company in the automotive sector, selecting CEVA’s CDNN AI processor technology and software framework (which was just announced last month) for its next generation ADAS chips. This adds to CEVA’s already strong position (Q3CC):
“This design win anchors our position in the automotive space and adds to our already key automotive related customer, which include ON Semiconductor, the industry leading supplier of ADAS image sensor and one of the world’s largest automotive OEM.”
The company has a comprehensive product portfolio for automotive (Q3CC):
“For automotive market, we have vision. We have AI. We have all sort of DSP for 5G connectivities. We have customer and offering for V2X.”
So this is set to be a growth market for them as well. Then there is the Bluetooth (or BLE, Bluetooth Low Energy), here is Retailnews Asia:
“ABI Research forecasts that Bluetooth Low Energy (BLE) devices will exceed 1.6 billion annual shipments by 2023. Growth in segments like smart home, beacons and asset tracking, emerging IoT applications, alongside growth in existing key markets and the emergence of audio over BLE will enable the technology to achieve a CAGR of 27% between 2018 and 2023, tripling in size.”
And out of the 14 new deals the company closed in Q3, 11 of these were Bluetooth related deals so the company is very well positioned here as well.
Management called Industry 4.0 the next big thing they are addressing and the company has a number of solutions for that like 5G and sensors.
The company is also benefiting already from the acquisition in June this year of Hillcrest Labs with its first sensor-fusion agreement. As SA contributor Donovan Jones has explained in more detail, Hillcrest provides software solutions for making sense of sensor data.
We like that acquisition as it moves the company from hardware to software and analytics platforms.
There was a nice $0.05 non-GAAP EPS beat which came in at $0.22 and a slight revenue beat, so results were good. Licensing revenue was up by 15% and royalty revenue was up by 5% y/y. That’s actually better than the other way around as licensing revenue is generally a precursor for subsequent royalties.
From the Q3CC:
“We concluded 14 agreements in the quarter, of which 13 were for connectivity and 1 for smart sensing. 5 of these agreements were with first-time customers. Customers’ target products include automotive ADAS, hearing aids, smart meters, true wireless stereo earbuds and a wide variety of IoT devices.”
But there is more to come, when asked how many customers are shipping products driving royalties, the CEO answered (Q3CC, our emphasis):
“I believe that they should be in the neighborhood of 40 to 50 customers, maybe even 1 or 2 new ones that we just saw, some new initial report this last quarter. And we probably have more than 60 companies in design, not including even the last recent ones in the last quarter.”
This is the basis for management to have confidence in their target for 2022 of doubling the 2018 royalty revenue and increasing the licensing revenue from there.
Management expects royalty income to increase 10% sequentially with non-GAAP gross margin to be expected at 90% and OpEx at $20M-$21M ($2.7M of which is share-based compensation and $0.9M amortization of intangibles) so non-GAAP OpEx will be similar to Q3 at $16.3M-$17.3M.
The GAAP OpEx came in at $21M but this contains $2.6M in share-based compensation, $0.8M of expenses due to the Hillcrest acquisition and $0.7M of amortizations resulting in non-GAAP OpEx at $16.8M with non-GAAP operating margin at 14%.
Despite that downturn in cash flow, the company has a very healthy balance sheet with $148M in cash and equivalents (down from $166M at the end of Q2, largely because of the acquisition of Hillcrest Labs and $10M for the exclusive licensing of Immervision wide-angle image processing technology).
The decline in profitability has buffeted the valuation multiples towards the low end of the last five years. Analysts expect a non-GAAP EPS of $0.51 this year rising to $0.53 next year.
We are inclined to say that the company is well positioned to benefit from the growth in the markets where it operates. However, there is a proviso, which is that the same thing could have been said two years ago and the company ran into a soft patch with the handset market stalling and the ZTE blacklisting.
While experiences like that can be repeated, the present sky seems to be rather blue with the coming 5G ramp which not only provides a big boost to demand for base station technology and handsets, it also stimulates many of the other segments in which CEVA clients are operative, like IoT, manufacturing 4.0 and automotive.
And in the meantime, the company has reinforced its market position with a couple of smart investments like the acquisitions of Hillcrest Labs and the $10M investment for exclusive licensing of Immervision wide-angle image processing technology.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in CEVA over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.