Will 5G give IQE a new lease of life?

by Graeme Evans from interactive investor |

Despite a slowing smartphone market, there are reasons to think former AIM star IQE can return to form.

Despite a slowing smartphone market, there are reasons to think former AIM star IQE (LSE:IQE) can return to form.

Now that the stock market euphoria over semiconductor wafers firm IQE is well and truly over, today's annual results provide an opportunity to look afresh at this former AIM rising star.

The 2018 figures were predictably weak after Cardiff-based IQE shocked markets in November by reporting greatly reduced short-term demand for the Vertical Cavity Surface Emitting Lasers (VCSEL) wafer technology in which its photonics division specialises.

Facial recognition in mobile phone handsets is one potential use of VCSEL, alongside various Internet of Things applications. Compounding the supply chain disruption affecting demand for VCSEL has been softness in the smartphone market.

Just as excitement over IQE's role in the Apple (NASDAQ:AAPL) growth story helped shares soar 300% in 2017, so the stock has become the subject of volatility every time there are jitters or trading disappointments in relation to the tech giant.

Recent updates from the industry have raised questions over demand for Apple products, including the iPhone XR using face ID. The smartphone weakness triggered a sharp deterioration in the IQE share price from its peak of 174p in November 2017 to 56p a year later.

This was partly driven by short-sellers who viewed the stock as over-valued at a 30x price/earnings (PE) multiple. More than 8% of shares are currently out on loan, which is a significant level for an AIM-traded stock.

An 8% decline in photonics revenues meant sales overall for 2018 were only up 1.1% to £156.3 million, with profits before tax 43% lower at £14 million. Chief executive Dr Drew Nelson said this result "overshadows and disguises the excellent position and prospects of IQE".

He predicted a return to strong growth for the photonics business in 2019, with emerging opportunities in 5G technologies also contributing to an expected overall revenue increase this year. Operational improvements and capacity expansions that have been in progress for the last two years will also complete in the first half, Dr Nelson added.

Alongside its leadership position in VCSELs, IQE is at the forefront of the next generation of millimetre wave wireless communications technology for 5G infrastructure.

Source: TradingView (*) Past performance is not a guide to future performance

Dr Nelson said:

"The huge growth of mobile data and consumer demand for video streaming, along with the Internet of Things, driverless vehicles, virtual reality and a multitude of other emerging technologies are going to require fibre-quality data speeds delivered wirelessly and ubiquitously."

Wireless continues to represent the biggest slice of the group's revenues, accounting for 62% of total wafer sales. The company has an estimated 55%-60% share of the global market for compound semiconductor wafers for wireless applications.

Whilst smartphone sales volumes have declined recently, the relentless increase in data traffic continues to drive the need for more sophisticated wireless chip solutions in handsets.

IQE said this was anticipated to drive the market towards 5G connectivity "sooner rather than later", providing significant upside potential for the wireless business as the transition will require much more complex material technologies.

Short-term smartphone headwinds mean that IQE thinks the wireless division will see revenues decline 15% in the current financial year before a return to growth in 2020.

House broker Peel Hunt said the wireless guidance for 2019 was weaker than expected, reflecting the handset market and a 5G ramp that is more 2020 weighted. This reduced their overall revenues forecast by 7% and adjusted earning per share estimate for 2019 by 45%.

However, they add:

"We think much of the near-term risks are now in the numbers, and given nothing has changed structurally or competitively for the medium-term, we remain buyers of the stock."

The broker has a price target of 137p, based on a PE multiple for 2019 of 24.1x.

*Horizontal lines on charts represent levels of previous technical support and resistance. Trendlines are marked in red.

These articles are provided for information purposes only.  Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties.  The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.

get more news and expert articles direct to your inbox
Sign up for a free research account and get the latest news and discussion, and create your own Virtual Portfolio